Tax Season is Behind Us: Five Areas of Opportunity to Consider for 2024 Planning and Beyond

By Gino C. Sasso & John M. Krambeer

April 16, 2024

It is that time of year when Ultra-High Net Worth (UHNW) families have been working closely with their financial and tax advisors to determine final 2023 federal and state tax liabilities and begin planning for 2024 and beyond. Against a backdrop of the sun-setting individual and business tax provisions enacted with the 2017 Tax Jobs & Cuts Act (TCJA) after 2025 and other economic and legislative uncertainties, individuals and family business owners should ensure they have a comprehensive multi-year tax plan with timely accounting and investment information.

Whether this comprehensive planning is accomplished with a single-family office staff, a multi-family office service provider, or a team of external professionals, both UHNW families and their service professionals should confirm that the planning supports the long-term family financial/cash flow, business, and investment management goals, and also helps preserve the family wealth for generations to come. This article covers five areas of opportunity that families should review with their advisors to optimize their integrated planning:

Go with the Flow (Through) – Pass through entity tax planning for individuals, trusts, and businesses

Character Matters – How the character and timing of income, gains, and losses impact the various taxes on individual and trust returns

Make Sure No Act of Kindness is Overlooked – Charitable giving options can both maximize tax benefits and also meet family philanthropic and legacy goals

Know When to Sweat the Small Stuff – Certain tax return disclosures may not impact taxes due, yet still have important filing implications and may mitigate risks

A Goal Without a Plan is Just a Wish – Significant changes may be coming to the estate tax laws in 2026; family groups may face “once-in-a-lifetime” multigeneration wealth transition events and decisions

Go with the Flow (Through)

Take advantage of pass-through entity tax planning for individuals, trusts, and businesses.

UHNW families and family enterprise groups typically have businesses, trusts, and investments structured with “flow-through” treatment for tax reporting and planning. These S corporations, trusts, and partnerships may have complex tax reporting and planning positions, yet at the same time, can provide a great amount of tax efficiency and flexibility to meet family member cash flow needs. In certain situations, family members use an “embedded family office” system with business resources to handle the owner’s financial affairs, such as accounting, investment, and tax functions. Although an embedded family office has many benefits, there are also constraints and risks that affect flow-through planning. Some key tax areas to consider:

  • State Tax Deductions: Various states have passed tax laws allowing pass-through entities (PTEs) to deduct state taxes paid on behalf of their owners. This is a “workaround” to the federal $10,000 state and local tax deduction cap enacted in 2017. These rules vary from state to state and require special elections and timely payments by the PTE. Depending on the fact pattern, family enterprise groups can claim federal deductions for state taxes paid above the $10,000 limit for an allocable share of income from owned businesses and other investment partnerships.
  • Real Estate Professional Benefits: Families owning real estate activities sometimes rise to the level of a trade or business over time and may qualify for tax benefits. In certain cases, individuals may qualify as Real Estate Professionals (REP) for tax purposes if they analyze the separate personal services rendered and document their time under the material participation tests. If the operations of a REP are considered an active trade or business, individuals will not be subject to passive loss limitations, allowing losses to offset other income. By making certain elections with respect to activities, taxpayers can also avoid the Net Investment Income Tax (NIIT) on the net income from real estate.
  • QBI (199A) Deductions: The Qualified Business Income Deduction (QBI or Section 199A Deduction) provides a deduction for pass-through trade or businesses to reduce the highest tax rate of 37%, on such income, down to approximately 29%. Some individuals with real estate activities and rentals to related parties may also qualify under special tests to claim the QBI deduction, regardless of whether they qualify as a REP. Business and real estate owners should analyze their separate business lines, wages paid, and various elections to maximize their QBI deductions at the individual level before they expire in 2025.
  • Business Loss Deductions Limits for Noncorporate Taxpayers: Section 461(l) limits the deduction of business losses incurred by noncorporate taxpayers. In the case of partnership and S corporation losses, the limitation is applied to the owner’s individual return. This provision limits the ability of taxpayers to use large business losses to offset other income in their returns, including capital gains, wages, dividends, and interest. Under the law, business losses more than business income plus $578,000 for joint filers are not deductible. The rule applies to controlled businesses and other flow-through investments, and the IRS has yet to issue guidance, which may make it challenging for taxpayers to do planning.
  • Flow Through Interest Expense Limits: With favorable interest rates over the past few years, business owners have been able to borrow and diversify investments. The 2017 tax law changes also imposed a limitation on flow-through business interest expense based on 30% of an individual’s adjusted taxable income, which may also apply to private equity investments. Debt-financed distributions from borrowings of controlled entities may also have unexpected tax consequences depending on whether the entity making the distribution is a partnership or an S corporation. Special debt and interest tracing rules apply to the individual level to maximize interest deductions.
  • Personal Aircraft Deductions for Business-Owning Families: Personal aircraft for travel can provide business-owning families with flexibility and strategic planning opportunities. The increased use of full ownership, fractional interests and flight cards could result in tax deductions, but the rules can be complex. The IRS recently announced a special audit initiative for private aircraft business deductions, which puts an emphasis on contemporaneous compliance documentation to support deductions.
  • Succession and Business Planning – Is It Time to Reconsider Overall Structure? : As families plan for significant transactions such as succession planning, business restructurings, and partial sales or full business exits, preparing detailed financial models at the individual-owner level of all flow-through income, deductions, and credits is key to minimizing overall taxes. After 2025, the C corporate tax rate is set to remain at 21%, while individual rates will go up significantly, especially with the elimination of the QBI deduction for pass-throughs. Based on a family enterprise group’s fact pattern and goals, over the next two years, they may consider changing the organization to a more tax-effective entity structure. With the sunsetting TJCA provisions, families should also consider how to maximize deductions for future investment management fees. Miscellaneous itemized deductions, such as investment advisory, legal and tax fees, and unreimbursed employee expenses, will be deductible again to the extent they exceed 2% of an individual’s adjusted gross income. Families with complex operations and business ventures with the right fact pattern and business purpose may want to consider actively managing their family office functions and investments as a “for profit trade of business” using a management holding company. Using such legal structures can be complex and should involve a thorough evaluation by family advisors. A family office structure may provide many opportunities, including cash flow planning, centralized investment management oversight, and tax efficiency. It will also allow families to implement formal governance and next generation development policies, which will enhance family harmony and legacy planning. Finally, families with operating businesses and trusts sometimes overlook state and local tax planning to take advantage of rules for allocating income and deductions, maximizing credits, as well as family member and trust situs state residency planning. Attention to integrated business, individual and trust federal and state planning could result in significant long-term savings and avoid either missed opportunities or last-minute tax filing surprises.

Character Matters

Work closely with investment advisors and consider how the character and timing of income, gains, and losses impact the various taxes on individual and trust returns.

Families with operating businesses, significant real estate and private equity investments should take extra care to understand the character of income and deductions flowing to their individual returns, which is another reason to work closely with tax and investment advisors throughout the year. To the extent it can be done, properly matching up the character of losses and income can result in timing or permanent tax savings and avoid filing underpayments and missed opportunities.

Clients with more sophisticated or complex investment strategies may particularly benefit from such analyses. Areas to note include private equity LP interests, derivative instruments, commercial, industrial, or residential real estate investments, Qualified Small Business Stock for early-stage companies (QSBS Section 1202 Stock), tax-efficient benchmark indexing, and investment interest expense.

Individuals can be subject to up to seven distinct types of income tax on their tax returns depending on the character of income and other income limits. This includes earned income, investment income such as interest, dividends, rents, royalties, capital gains, and certain income from passive investments in partnerships or other pass-through entities, as well as active income. Tests are applied at the individual level to determine the character of passive and active income, which apply to flow through tax items discussed in the previous section. Ordinary income from investments, including interest and short-term capital gains, is taxed at the highest rate of 40.8%, which includes the NIIT while qualifying dividends and long-term capital gains realized are taxed at 23.8%.

Investment income subject to the 3.8% NIIT falls into three categories. The first is traditional portfolio income such as interest, dividends, annuity income, royalties, and certain types of rental activities. The second is for trade or business income from passive investments, such as hedge funds. The third category is gains from the disposition of property, including capital gains from investment, such as limited partnerships. Like all taxes, there are exceptions and special elections which can help minimize or avoid the NIIT in these categories, including the sale of a business interest where the owners are active in management.

Investors may find it difficult to control the timing of income from private equity investments. However, working with your investment advisor to build a tax efficient allocation strategy to meet your tax situation should help increase your overall return. In addition to tax loss harvesting and planning for the wash sale tax rules, other strategies affecting how income is taxed may include – the timing of realized private company income and deductions, thoughtful allocations to tax-exempt securities, and use of proper asset allocation across both taxable and retirement accounts.

Make Sure No Act of Kindness is Overlooked

Philanthropy is usually a cornerstone of multigenerational family legacies and governance. Meaningful charitable giving goals allow next generation family members to live the family values in the community and continue the legacy of older family members. Families should routinely explore charitable giving options that could maximize tax benefits and, at the same time, meet these philanthropic goals and potentially create other cash flow benefits for family members.

Individuals with significant swings in the character of income, adjusted gross income, and one-time transactions are typical scenarios where the timing and use of the proper charitable giving techniques can result in greater tax benefits. There are different limitations on the ultimate tax deduction based on taxpayer income levels, the type of property contributed, and the charitable organization.

Gifts of appreciated property, including public and private company stock, require special attention in valuation. Some multigenerational families establish private foundations with specific charitable and family involvement goals. Under certain circumstances, deduction limits for contributions to foundations can be less than using other vehicles such as a donor advised or community fund.

Depending on the gifting goals, taxpayers may also be able to use specific trusts with partial or future interests, including charitable remainder trusts and charitable gift annuities which result in cash flow annuities to family members, as well as current or future tax deductions. Families considering major gifts in the upcoming years should also weigh the upcoming tax changes after 2025 and evaluate if a donation in 2026 would be more advantageous because of increasing tax rates. There are many elements to a family’s philanthropic objectives. Thoughtful tax planning will help families maximize their charitable intentions.

Know When to Sweat the Small Stuff

Certain tax reporting and disclosures may not impact income taxes due, yet still have important filing implications and may mitigate risks:

  • Foreign Filings & Disclosures: Family groups and high net worth individuals continue to make investments in the global economy, including through tiered private equity investments. For years, the US has had a system in place to report various transactions and flow through activity from foreign investments. Although the income tax consequences from these investments may be insignificant from year to year, the non-filing of the proper forms may be subject to penalties, especially if an individual has been in non-compliance over the years. This puts a premium on closely analyzing PE investments K-1s.
  • Corporate Transparency Act (CTA): Starting January 1, 2024, taxpayers could be subject to the new Corporate Transparency Act, which could require reporting of beneficial owners of family entities, including trusts and LLCs. The disclosure of this information will impact family privacy issues and could result in penalties for non-filing. These new rules have specific due dates and exceptions, and family groups are urged to seek counsel from tax and legal advisors to meet these new filing requirements in a timely manner.

A Goal Without a Plan is Just a Wish

Significant estate tax changes may be coming after 2025. Families should start the process of reviewing and updating their estate plans early in the upcoming year.

And finally, there has been much discussion about the changes coming to the estate tax laws in 2026, including the scale back of the lifetime exemption (set at $13,610,000 in 2024, and will increase in 2025). The federal government and IRS are also considering making other significant changes to trust tax planning strategies, which could result in higher levels of family estate taxes over the long term. Family groups may be faced with multiple “once-in-a-lifetime” multigeneration wealth transition events among family members. Several estate planning areas families should consider:

  • Detailed analysis of assets for overall tax efficient gifts, including income tax basis step-up benefit vs estate tax savings
  • Effective use of trust “swap powers” with specific assets
  • Use and forgiveness of intra-family loans
  • Gifts to existing trusts and establish net specific purpose trusts
  • Developing a plan for equalizing gifts among family members
  • Use of Spousal Limited Access Trusts as tax efficient asset protection
  • Gifts to family members with excess lifetime exemption

With the changing legislation on the horizon, individuals and family leaders should be in sync with their tax and investment advisors to ensure comprehensive tax and estate planning strategies. Whether coordinated with a single-family office, multi-family office service provider, or an external team of professionals, families should ensure they have a cohesive, multi-year financial plan to support their long-term family goals.

Connect with Validus to start a conversation about tax and family office planning for 2024 and the years ahead.

Validus Capital, Gino Sasso and John Krambeer do not provide tax, legal or accounting advice. The material in this article has been prepared for informational purposes only, and is not intended to provide, and should not be relied on as conclusive advice. You should consult your own tax advisor before engaging in any planning with the items discussed in this article.

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