How Will the Biden Tax Plan Affect Me?
The American Families Plan
As part of his presidential campaign, Joe Biden outlined his vision for tax restructuring. Now, as President, he has proposed a plan which reflects those ideas. The American Families Plan focuses on raising taxes on corporations, high income earners, and affluent families to offset the cost of his domestic agenda. While taxes will likely be raised on many at the top end of the earning spectrum, it is also expected that there will be increased tax credits for middle and low-income households.
On April 28, 2021, the White House released a fact sheet that walks you through the major components of the plan. We would like to reiterate here that no new tax laws have been passed, or have even been introduced as legislation yet. However, with a Democratic control of Congress, some of changes outlined have a reasonable chance of being implemented. So, with another round of significant tax law changes on the horizon, we’re taking a closer look at how it might affect you.
Do you have a child under the age of 18?
Biden proposed expanding the Child Tax Credit when he was campaigning, and this was recently accomplished, albeit temporarily, as part of the American Rescue Plan Act of 2021. The enhanced credits introduced as part of the stimulus bill would still apply, but they would now extend to children age 17.
The Child Tax Credit of $2,000 per qualifying child (fully refundable) is subject to phaseouts if your modified adjusted gross income (MAGI) exceeds $200,000 for single filers, or $400,000 if married and filing jointly (MFJ).
The additional Child Tax Credit of $1,000 for each qualifying child ($1,600 for children age 5 and under) is subject to phase out as your MAGI exceeds $75,000 for single filers or $150,000 if MFJ. The American Families Plan seeks to lock in these benefits through 2025.
Are you a first time home buyer?
If so, under Biden's tax plan, you could be eligible for a refundable and advanceable first-time homebuyer credit of up to $15,000.
Do you make pre-tax contributions to a traditional retirement account (401K, IRA)?
Under current tax law, your contributions are deductible, dollar for dollar, up to your annual limit: $19,500 per year, plus a $6,500 catch up for those over 50.
Under Biden's tax plan, you would instead receive a flat credit for contributions, at a rate of 26%. The credit would be deposited directly into your retirement account, and would be subject to existing contribution limits.
If this aspect of the plan is enacted, it may encourage a change in savings strategy. High earners will likely prefer funding a Roth 401(k) or a post-tax option since funding the pre-tax option will have decreasing tax benefits.
Do you hold appreciated assets with a low cost basis?
Under current tax law, if you hold the assets until your death, they will receive a step-up in basis to the fair market value on your date of death. This effectively eliminates the unrecognized capital gains and deprives the Treasury of significant tax revenue.
Under Biden's tax plan, the step-up in basis would be eliminated. This could result in your heirs taking carryover basis, or a significant tax-recognition event at death.
Using a lifetime gifting strategy, tax bracket management, and being more purposeful with tax loss harvesting in a taxable portfolio may become necessary under the new plan. Elimination of the step-up in basis at death would be a significant change in the tax code for all taxpayers, including for middle-class Americans.
Do you have a significant corporate ownership?
If so, Biden's tax plan could have a significant impact here as well, as the federal corporate tax rate is slated to increase from 21% to 28%. Additionally, a 15% minimum tax would be set for corporations with book income of $100 million or more.
If the corporation sends manufacturing and service jobs to foreign nations in order to market goods or services domestically, a 10% surtax would apply. The global intangible low-taxed income rate would double, and it would apply on a country-by-country basis.
To encourage domestic manufacturing and investment in renewable energy, Made in America tax credits may also be available for activities including the “onshoring” of jobs and research and development of clean energy production.
Are you a small business owner?
If so, the Biden tax plan is offering credits for adopting workplace retirement savings plans.
Do you earn wages greater than $400,000?
Under current tax law, wages up to the taxable maximum ($142,800 in 2021) are subject to the Social Security payroll tax. The tax is 12.4% in total, but it's typically split evenly by you and your employer.
Under Biden's tax plan, the taxable maximum would remain in place; however, when wages reach $400,000, they would again become subject to Social Security payroll tax. This would create a “donut hole” in the payroll tax schedule, but the noteworthy change is that after $400,000, Social Security tax would kick in again.
Does your household income exceed $400,000?
At $400,000, under Biden's plan, you will be in a new tax bracket, with increased rates. The top rate would revert to the pre-TCJA rate of 39.6%. You would no longer be eligible for a 1031 exchange, a huge hit for real estate investors. If you itemize, your deductions would be capped at 28% of their value.
Further, the Pease limitation (repealed by the TCJA) would be reinstated, capping certain itemized deductions (mortgage interest, state and local taxes, charitable contributions, among others).
If you are a pass-through business owner, the QBI deduction would be phased out.
Does your household income exceed $1,000,000?
At present, long-term capital gains and qualified dividends are taxed at preferential capital gains rates. Today the top rate is 20%. At income levels over $1,000,000 under Biden's tax plan, long-term capital gains and qualified dividends would be taxed at ordinary income tax rates. That nearly doubles the tax costs for capital gains to 39.6%.
According to the American Families Plan, households making over $1 million will pay the same rate, 39.6%, on all their income above that threshold. Plus, they will pay a 3.8% surcharge to help pay for the Affordable Care Act. This potential increase in the capital gains tax rate may induce a paradigm shift, particularly as investors evaluate concentrated positions in their accounts.
Does the value of your estate exceed $3.5 million ($7 million if married)?
Under current estate tax law, the federal estate and gift tax exemption amount is $11.7 million per person ($23.4 million for a married couple). This amount can be passed on to your heirs, federal estate tax-free, minus any use of your lifetime exemption.
Under Biden's tax plan, the exemption amount will be reduced. The new exemption could be as low as $3.5 million per person, or revert to the pre-TCJA amount of $5.49 million per person (indexed for inflation).
In addition, Biden's tax plan would increase the federal estate and gift tax rate from 40% to 45%.
The use of trusts and lifetime giving will become critical components of most client’s financial plans if we see a large drop in federal estate tax exemptions. The elimination of step-up in cost basis and the significantly lower estate tax exemption is a double whammy for families who may not consider themselves in the ultra-high net category.
Planning for tax changes
At the moment, President Biden’s tax plan is a wish list. Any recommendations or strategies at this point would be premature, as negotiations between Democrats and Republicans are just beginning. But we are monitoring the situation closely and will keep you updated about any developments that are likely to impact your financial situation. In the meantime, if you have any questions about The American Families Plan, don’t hesitate to reach out to us. We would be happy to answer any questions you have or discuss any issues you have concerns about.
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