We’re back after our August hiatus, and Congress is as well, though not for long. The House of Representatives (House) has shortened its September schedule and will adjourn after this week, while the Senate is expected to remain in session through October 2. Following the midterm elections, both chambers will return for a lame duck session beginning November 9.
While focus is increasingly shifting to the midterm elections, policy developments are not on hold. Government funding has been pushed into the lame duck session, the U.S. Department of the Treasury (Treasury) and the Internal Revenue Service (IRS) continue to release guidance, economic and trade conditions face heightened uncertainty, and several important legislative and legal issues remain unresolved, giving taxpayers and businesses plenty to watch.
Publication Note: We've moved our Economic Outlook and Trade Policy sections up, given the pace of developments in both areas and their growing relevance to business planning. The remaining sections appear in their usual order.
Government Funding
Federal agencies will remain funded through December 11 under a recently enacted stopgap funding bill, leaving the difficult task of completing fiscal year (FY) 2027 appropriations for the lame-duck session.
The 2027 federal fiscal year (FY27) begins October 1, but lawmakers were unable to make meaningful progress on FY27 appropriations before the deadline. To avoid a government shutdown, Congress enacted a continuing resolution (CR) that generally funds the government at FY26 levels through December 11 with few policy changes. The measure keeps IRS funding at $11.2 billion, below FY25’s level of $12.3 billion but well in excess of the president’s budget request of $9.8 billion and House Republicans’ proposal of $10.2 billion.
Full Year Appropriations
The CR postponed the funding deadline but did not resolve many of the issues surrounding the full-year appropriations process. Lawmakers will return following the midterm elections with most of the funding agenda still unfinished.
To date, the House Appropriations Committee has completed all 12 FY27 appropriations bills, three of which have been passed by the full House. The Senate Appropriations Committee has yet to advance any regular appropriations legislation amid disagreements over spending levels and other partisan issues. Lawmakers will face a compressed timeline and competing priorities during the short lame-duck session.
FY26 Deficit
The Congressional Budget Office (CBO) now estimates that the FY26 federal deficit will total $2.1 trillion, approximately $200 billion higher than the agency's February projection and nearly 18% above FY25's deficit of $1.78 trillion.
The growing deficit adds to mounting fiscal pressures, with federal debt now exceeding $40 trillion and lawmakers facing difficult decisions on spending, revenues, and borrowing. As deficits and debt continue to rise, concerns about the government's fiscal path are evolving from a budget debate into a broader economic concern.
New Legislation
Earlier this month, President Trump signed the Doug LaMalfa Federal Disaster Tax Relief Certainty Act (H.R. 5366), which codifies and extends favorable disaster-related personal casualty loss rules along with the income exclusion for certain wildfire relief payments. Both now apply to qualifying disasters that occur or are declared through the end of 2026.
Potential Legislation
When Congress returns for the lame duck session, lawmakers will confront a crowded agenda. With relatively few legislative days remaining and a growing list of unfinished business, they will need to balance must-pass priorities against a range of other legislative items competing for attention.
The House and Senate are scheduled for 20 and 22 legislative days, respectively, during the lame duck session. Those limited days will need to accommodate a range of must-pass and expired/expiring items:
| Must Pass Legislation | Other Expired/Expiring Legislation |
|
• Government Funding |
• Section 702 of Foreign Intelligence Surveillance Act |
Lawmakers could also seek bipartisan agreement on several pending economic and business proposals, including digital asset legislation, sanctions on Russia, college sports legislation, tax administration measures and other proposals that could be attached to a year-end legislative vehicle.
In addition, Republicans, who will retain control of Congress during the lame duck session, could also prioritize additional party-line reconciliation legislation. Current discussions have focused on supplemental defense funding, agricultural relief, and election-related provisions, but lawmakers could seek to use reconciliation to advance other priorities, including tax legislation.
Prospects for Bipartisan Tax Legislation
Prospects for bipartisan tax legislation will depend on the post-election political climate, floor time available during the lame-duck session and the availability of a legislative vehicle. While several tax proposals have drawn bipartisan support, whether that support translates into legislative action remains an open question.
Potential candidates for a bipartisan tax package include:
- Tax administration legislation
- Taiwan double taxation relief
- Lapsed extenders, including the Work Opportunity Tax Credit
- Changes to the treatment of gambling losses
- Extension of the Section 48D Advanced Manufacturing Investment Credit
- Retirement legislation
- Digital asset taxation
Economic Outlook
The economic outlook remains uncertain. Economic data, Federal Open Market Committee (FOMC) expectations and bond market signals continue to send competing messages about the path forward.
Mixed Economic Data Continues
Recent economic data provides little clarity on the direction of the economy. Elevated inflation, uneven labor market trends, and softer-than-expected growth continue to paint a mixed picture.
- Inflation: Annual inflation, as measured by the Consumer Price Index for All Urban Consumers (CPI-U), eased slightly in July, declining to 3.4% and held steady at that level in August. Although inflation has eased from the 4.2% peak reached earlier this year, it remains well above the 2.4% reading at the start of 2026. Early expectations point to higher inflation in September as recent increases in oil prices begin to impact the broader economy.
- Employment: The U.S. economy added approximately 21,000 jobs in July (after a significant upward revision) and 162,000 jobs in August. Unemployment fell to 4.1% in July, mainly due to the decrease in labor force participation.
- Gross Domestic Product (GDP): The initial and second estimates of Q2 GDP both came in at 1.5%, below expectations and down from 2.1% in Q1. The third and final estimate will be released later this month.
Two other points add context to the headline numbers. (1) The labor force participation rate fell to 61.4% in July — the lowest in 50 years excluding the immediate aftermath of the COVID pandemic — meaning July’s drop in the unemployment rate reflected over 250,000 people leaving the workforce rather than finding jobs. (2) Although nominal wages continued to rise over the past year, prices rose faster. Real hourly wages, adjusted for inflation, fell 0.2% over the 12 months ending in July.
Federal Open Market Committee Expectations
All eyes are on the FOMC as policymakers convene September 15 – 16 to determine the immediate path of interest rates. The Committee has held the federal funds rate at 3.50% to 3.75% since December 2025, but the case for holding steady has weakened in recent weeks. Following the release of the August inflation report on September 11, financial markets were pricing in almost a 90% chance of a rate hike.
Inflation has remained above the Federal Reserve's target of 2% for five and a half years, with recent surges driven in large part by higher fuel costs stemming from the war in Iran. The labor market has been volatile, with hiring swinging from nearly flat in July to more than double expectations in August. But with unemployment still low at 4.1%, the FOMC appears to see inflation, rather than employment, as the greater risk.
Two other signals point to a potential rate hike. Three Committee members voted against holding rates steady at the July meeting, arguing for an increase. And in late August, Fed Chair Kevin Warsh cautioned that better summer inflation readings did not signal meaningful improvement in underlying inflation trends, stating: "We must be confident that underlying inflation is moving to our objective, clearly and at sufficient speed. Otherwise, we have work to do."
Because this issue publishes before the Committee announces its decision, the outcome remains open.
Bond Market Developments
While the FOMC often captures the market’s attention, recent moves in longer term Treasury yields are becoming increasingly consequential for the broader economy and financial markets. In recent weeks, the 10-year and 30-year Treasury yields have been trending higher in response to inflation concerns, the growing supply of government debt and increased competition for investor capital.
Treasury yields matter because they serve as the benchmark for borrowing costs across the economy. As long-term yields rise, the cost of capital increases for consumers and businesses alike.
In recent weeks, the 30-year Treasury yield climbed to a 19-year high, while the 10-year Treasury approached its 2023 peak. Though the FOMC hasn’t adjusted the federal funds rate in months, borrowing costs have continued to rise because the Fed influences short-term rates, but the bond market determines long-term yields. As investors demand higher compensation for holding longer-term Treasury securities, the cost of borrowing has increased across the economy.
The direction of the 10-year and 30-year Treasury yields will remain an important indicator in the months ahead.
Trade Policy
Trade policy remains one of the most volatile areas of federal policymaking. The landscape continues to evolve rapidly, with new tariff actions, legal disputes, and international responses reshaping the global trading environment and complicating business planning.
International Emergency Economic Powers Act (IEEPA) Refund Updates
As of August 21, 2026, U.S. Customs and Border Protection (CBP) had certified approximately $106.6 billion of the roughly $132.5 billion in IEEPA refund claims accepted for processing. According to CBP, the agency has temporarily delayed processing refunds for finally liquidated entries (Phase 3) while it develops additional system validations. CBP has not provided an estimated implementation date for Phase 3.
Section 301 Replace Section 122
The broad 10% tariff imposed under Section 122 of the Trade Act of 1974, implemented in response to the Supreme Court's decision invalidating the IEEPA tariffs, expired on July 24, 2026. By statute, Section 122 duties may remain in effect for no more than 150 days unless extended by Congress.
Following the implementation of the Section 122 tariffs, the Office of the United States Trade Representative (USTR) initiated multiple investigations under Section 301 of the Trade Act of 1974. On July 24, 2026, the same day the Section 122 authority expired, the USTR imposed Section 301 tariffs of 10% to 12.5% on the vast majority of U.S. trading partners based on findings that those countries failed to prohibit or effectively enforce restrictions on the importation of goods produced with forced labor. The new Section 301 tariffs apply to the top 60 United States’ trading partners and cover 99.4% of all U.S. imports.
Section 301 Investigations Outstanding
Additional Section 301 investigations remain pending. These include an investigation concerning structural excess manufacturing capacity across 16 economies, as well as a number of country-specific investigations. As these investigations progress, additional trade measures remain possible.
Section 338 Tariffs on Canadian Imports
On July 20, 2026, the Trump administration announced the imposition of 50% tariffs on certain Canadian imports under Section 338 of the Tariff Act of 1930, citing what it viewed as discriminatory Canadian measures affecting U.S. commerce. The tariffs, which apply to approximately $20 billion of Canadian imports, ultimately took effect on August 22, 2026, after the two countries failed to reach a resolution.
Section 338 authorizes the president to impose duties of up to 50% on goods from countries found to discriminate against U.S. commerce, or to bar those goods from entry altogether. Although the authority has been on the books for almost a century, no president had used it to impose tariffs until now.
In response, Canada announced retaliatory tariffs on a comparable value of U.S. goods, which took effect on September 8, 2026. The Trump administration has since imposed additional tariffs and other trade measures under Section 338, and has indicated that further measures may be implemented if the dispute is not resolved.
Proposed Russia Sanctions
Before recessing for August, the Senate passed the Lindsey O. Graham Sanctioning Russia Act (S. 5025) by a vote of 86-11. The bill, named for the late senator, would impose sanctions, tariffs and prohibitions related to Russia.
If passed by the House and signed into law, the legislation would authorize the president to impose tariffs of up to 500% on goods imported from Russia and up to 100% on imports from the top five countries importing Russian crude oil or natural gas — a list that currently includes China and India — or the top five facilitators of Russian sanctions evasion. The tariffs would stack on top of existing levies.
The House could take up the measure this week, before recessing for the midterms.
Implementing Tax Reform
Over the last two months, Treasury and the IRS have released a wave of guidance implementing the “One Big Beautiful Bill Act” (OBBBA, P.L. 119-21):
- Qualified Overtime Deduction: Fact Sheet 2026-13 supersedes and expands prior guidance on the deduction including the calculation of qualified overtime compensation, withholding procedures and reporting requirements. Beginning in 2026, employees can only deduct what is reported on Form W-2.
- Business Interest Expense Limitation: Fact Sheet 2026-14 supersedes and expands prior guidance on the Section 163(j) limitation, including returning to an EBITDA-based calculation of adjusted taxable income.
- Credit for Paid Family and Medical Leave: Notice 2026-28 provides preliminary guidance regarding the premium method of calculating the credit, including how to split a blended insurance premium, and notes the Treasury Department (Treasury) and IRS intend to issue proposed regulations.
- Employer Contributions to Trump Accounts: Proposed regulations (REG-101355-26) address employer contribution programs for Trump Accounts, including the tax treatment of employer contributions of up to $2,500 per employee. The package also includes the first guidance on nondiscrimination rules for dependent care assistance programs.
- Eligible Investments for Trump Accounts: Proposed regulations (CC-00349938-26) provide guidance on the investment options permitted for Trump Accounts, including eligibility requirements for mutual funds and exchange-traded funds. Both must track a qualified index and cap fees at 0.1%.
- Opportunity Zone Reporting: Proposed regulations (REG-116506-25) would implement new information return filing requirements and update certification and decertification procedures for qualified opportunity funds.
- Backup Withholding on Third-party Network Transactions: Treasury and the IRS finalized regulations (TD 10053) implementing changes to the backup withholding rules for third-party network transactions, with no changes from the proposed regulations. The rules align backup withholding with the restored $20,000 and 200 transaction thresholds for Form 1099-K.
- Vehicle Loan Interest Deduction: Final regulations (TD 10054) provide guidance on the temporary deduction of up to $10,000 of qualified passenger vehicle loan interest and implement new reporting requirements for persons engaged in a trade or business that receive over $600 or more in applicable interest.
- Foreign Tax Credit Allocation Rules: Proposed regulations (REG-115145-25) address the allocation of foreign taxes for specified foreign corporations required to change their taxable years following OBBBA’s repeal of the one-month deferral election and implement a new 10% credit disallowance on certain distributions of previously taxed earnings.
- Foreign Income Expense Allocation Rules: Proposed regulations (REG-117273-25) implement OBBBA changes affecting how interest expense and research and experimental expenditures are treated for foreign tax credit and Section 250 deduction purposes.
- Section 250 Deduction: Treasury and the IRS issued proposed regulations (REG-117130-25) that narrow foreign-derived deduction eligible income (FDDEI) by excluding gain from sales of intangibles and other depreciable property.
- Pro Rata Share Rules for Controlled Foreign Corporations (CFCs): Guidance in proposed regulations (REG-115646-25) reworks how U.S. shareholders determine their pro rata share of a CFC’s Subpart F income and tested income.
- Clean Fuel Production Credit: Notice 2026-53 provides guidance on emission rates under Section 45Z and clarifies certain OBBBA amendments to the credit.
New Regulatory Guidance
In addition to OBBBA guidance, several other regulatory developments over the past two months warrant attention. Highlights include:
- Beneficial Ownership Information (BOI) Reporting: The Financial Crimes Enforcement Network (FinCEN) finalized regulations (RIN-1506-AB67) that significantly narrow the scope of BOI reporting under the Corporate Transparency Act. The final regulations largely eliminate BOI reporting for U.S. entities and U.S. persons, leaving reporting requirements primarily applicable to certain foreign entities and their foreign beneficial owners. While the regulations provide substantial compliance relief, they may face continued congressional scrutiny and legal challenges.
- Saver’s Match Contributions: Notice 2026-48 previews guidance that Treasury and the IRS expect to include in proposed regulations addressing participant eligibility, qualifying contributions and program administration.
- Foreign Currency Gain or Loss: Treasury and the IRS issued proposed regulations (REG-103844-26) addressing the treatment of foreign currency gains and losses for qualified business units of CFCs. The proposal includes elective methods intended to reduce administrative burdens in situations where applying existing foreign currency rules can be particularly complex. Comments are due November 12.
- Refundable Credits: Proposed regulations (REG-119882-25) would make aliens who are not “qualified aliens” ineligible to receive the refundable portion of certain federal income tax credits, including the adoption tax credit, the American opportunity tax credit, the child tax credit and the earned income credit.
- Private School Tax Exempt Status: Treasury and the IRS released proposed regulations (REG-119986-25) that would amend existing regulations to exclude private schools from federal tax-exempt status if it “discriminates on the basis of race, color, or national or ethnic origin in administration of its educational, admissions, scholarship, athletic, or other policies.”
Tax Litigation
On August 12, 2026, the U.S. Court of Appeals for the Fifth Circuit (Fifth Circuit) withdrew its earlier opinion in Sirius Solutions LLLP v. Commissioner and issued a substitute opinion in the same case, now captioned K Alain LLLP v. Commissioner, that significantly changes the interpretation of the term “limited partner” under Section 1402(a)(13).
In its original January 16, 2026 opinion, the Fifth Circuit held that a “limited partner” is a partner in a state law limited partnership with limited liability. The substitute opinion instead defines a “limited partner” as “a partner who plays no significant role in managing or running a business.”
The substitute decision introduces additional ambiguity by replacing a bright-line test based on applicable state law with a fact-intensive look at a partner's role in managing or controlling the business. The Fifth Circuit provided little guidance on what constitutes a “significant role in managing or running a business” and vacated the Tax Court's decision, remanding the case for further proceedings under the new standard.
While the substitute opinion is generally less taxpayer-favorable than the Fifth Circuit's original limited liability-based test, it does not adopt the IRS's position that Section 1402(a)(13) applies only to "passive investors."
The decision binds only Fifth Circuit taxpayers — those in Texas, Louisiana and Mississippi. However, the issue remains far from resolved, as similar appeals are pending in the First Circuit in Denham Capital Management LP v. Commissioner and the Second Circuit in Soroban Capital Partners LP v. Commissioner.
IRS Updates
As discussed in the July Tax Policy Review, Treasury Assistant Secretary for Tax Policy Ken Kies abruptly departed the administration this summer. Since that time, Kevin Salinger has assumed the role in an acting capacity. Additionally, Jim Gadwood, President Trump’s nominee for IRS Chief Counsel, is scheduled for a Senate Finance Committee confirmation hearing this week.
Compliance and Enforcement Results
According to a Treasury Inspector General for Tax Administration (TIGTA) report, the IRS collected a record $5.3 trillion in tax revenue in FY25; however, enforcement revenue declined from $98.7 billion in FY24 to $93.8 billion in FY25. Examination-related revenue fell more sharply, dropping from $10 billion to $6.5 billion. TIGTA noted these declines coincided with a 27% reduction in examination and collection staff and the exhaustion of supplemental enforcement funding provided by the Inflation Reduction Act.
Control of Congress: 2026 Midterms
With fewer than 50 days remaining before the 2026 midterm elections, numerous House and Senate races remain highly competitive and have the potential to determine the balance of power in the 120th Congress. The election results could have significant implications for the tax legislative agenda, shaping the outlook for tax policy debates and legislative priorities for years to come.
For readers interested in the intersection of politics and tax policy, our 2026 Midterm Election resource center provides analysis of the evolving congressional landscape, potential election scenarios, and the implications of various outcomes for federal tax policy. The site includes dedicated resources focused on the House, Senate and broader tax policy considerations heading into the 2026 midterm elections.
Your Guide Forward
Cherry Bekaert’s Tax Policy group is committed to bringing you information on the latest tax policy developments and opportunities.
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