Could we see tax law changes this year? Many tax law bills have been proposed, and President Joe Biden has indicated that he wishes to fund his spending packages by raising taxes on companies and on people earning over $400,000 per year, increasing capital gains taxes, and taxing more of the wealth that is passing to successive generations at death.
When this issue went to press, no significant tax changes have been enacted yet this year, but plenty of discussion is occurring in Congress. Below we have summarized the potential tax law changes that could impact your current planning such that you may need to consider altering a current tax strategy or amending your estate plan.
Payroll and Income Taxes
- Increase taxes in the following ways:
- Raise the income tax rate on income above $400,000 from 37% to 39.6%.
- Add a 12.4% Social Security tax on income above $400,000 (to be split evenly between employer and employee).
- Limit itemized deductions for those with income over $400,000 (including charitable deductions) to a 28% benefit.
- Reduce or remove the qualified business income deduction for those small business owners and eligible self-employed individuals with income over $400,000.
Capital Gains Taxes
- Raise the long-term capital gains tax rate on those with income above $1 million from 20% to a rate which could be as high as the new ordinary income tax rate (expected to be 39.6%). The 3.8% net investment income tax would also still apply making the top tax rate on this income 43.4%.
- Tax qualified dividends at the new ordinary income tax rate for those with income above $1 million.
- Eliminate 1031 exchanges on investment property for high earners (possibly the $1 million threshold, or a lower one) subjecting the investor to capital gains.
- Increase tax on carried interest payments from 20% to the new ordinary income tax rate.
- Raise the corporate tax rate from 21% to 28%.
- Create a 15% minimum tax on corporations with income above $100 million. This tax would work like an alternative minimum tax.
- Raise the tax rate on global intangible low-taxed income (GILTI) earned by foreign subsidiaries of US firms from 10.5% to 21%.
Wealth Transfer Taxes
- Reduce the estate, and generation-skipping transfer tax exemption amounts from $11.7 million to $5 million per person, adjusted for inflation. This would result in assessment of estate taxes on assets over $5 million ($10 million for a married couple) that are being passed to heirs.
- Reduce the gift tax exemption from $11.7 million to as low as $1 million per individual.
- Increase the estate and gift tax rate from 40% to a rate ranging from 45% - 65% depending on wealth level.
- Eliminate step-up in basis for assets passing at death. This change could result in heirs taking assets with basis carrying over from the decedent, or going a step further and requiring tax to be assessed on capital gains at the decedent’s death.
- Restrict the use of grantor retained annuity trusts (GRATSs) by increasing the minimum term to 10 years and/or by requiring the remainder interest to have a value that equals 25% of the original assets or a dollar amount, such as $500,000, whichever is higher.
- Limit the term of dynasty trusts by eliminating generation skipping transfer tax exempt status after a period of years. Some proposals even suggest that capital gains on assets in trusts should be taxed periodically (and payment plans set up to avoid the need to liquidate the assets to pay the tax).
- Restrict the use of valuation discounts, including discounts for lack of marketability or lack of control, when transferring family business interests.
- Cap annual exclusion gifts to $20,000 per year per donor. Currently a donor can gift up to $15,000 per year to an unlimited number of donees.
- Inclusion of grantor trust assets in the grantor’s taxable estate, eliminating the ability of a trust creator to pass assets to his or her children through trust while retaining the income tax burden.
Charitable Tax Deductions
A proposal has been introduced recently which would limit a donor’s ability to deduct the full value of a gift to a donor-advised fund, and would change the rules that govern taxes, distributions and donor privacy for private foundations. See our blog post on this proposal here.
Given how late in the year it is, it seems unlikely that tax law changes enacted in 2021 would be effective retroactive to January 1, 2021. However, it’s still possible that certain tax changes could be added to fast-tracked bills and become effective before the end of this year. In light of this uncertainty, you should consider now how the proposed changes listed above might affect you and whether it would be prudent to implement certain planning strategies sooner rather than later.