Biden's Tax Plan: What's Law & What's Proposed

A new presidency always comes with new policies around the tax code, and President Joe Biden entering office was no different.

Biden's plan all along was to ensure the wealthy are paying their appropriate share of the tax bill. In particular, he proposes that individuals with incomes over $1,000,000 pay ordinary income tax on capital gains versus the current capital gains rate.

What the heck is a capital gain?

In case you don't know (and didn't want to ask), a capital gain is essentially the profit from selling an asset: stocks, real estate, collectibles, or personal property to name a few.

Under current law, capital gains are treated as such:

1. The maximum tax rate on capital gains is 20% compared to 37% for ordinary income. There is an additional 3.8% tax on investments as part of the Affordable Care Act.

2. Gains are not taxed when they accrue, but rather, are taxed when the gain is realized

3. Income tax on capital gains can be eliminated completely for an individual taxpayer if they are passed down generations through a bequest. (Basically, your heir could step-up the basis of the investment to the value at death, thus eliminating the capital gain altogether)

There are three parts to Biden's tax policy changes:

1. The American Rescue Plan (enacted)

2. The American Jobs Plan (proposed)

3. The American Family Plan (proposed)

The American Rescue Plan

Early March, Biden signed The American Rescue Plan into law to provide immediate relief to Americans during the pandemic. This relief included:

• $1,400 stimulus checks (more on that here)

• an increase in unemployment benefits while allowing for the first $10,200 of unemployment income to be tax-free for people with less than $150,000 of income

• an increase in the child tax credit to $3,000 per child over the age of six, and $3,600 for children under the age of six

• an increase in the Child and Dependent Care Tax Credit to $4,000 for one qualifying individual and $8,000 for two or more

This plan also included small business support through emergency grants, lending, and investment to businesses hit hard by the pandemic.

The American Jobs Plan

A recent study found that 91 of the Fortune 500 companies paid $0 in federal corporate income taxes in 2018. This proposed plan is aiming to ensure large corporations are paying their fair share of tax. The plan also incentivizes corporations to create jobs in the US and it aims to prevent them from shifting profits to tax havens. This plan includes the following proposed changes:

• increase the corporate tax rate from 21% to 28%

• increase the minimum tax on US Corporations to 21% and calculate it on a country-by-country basis so it hits profits in tax havens

• eliminate deductions for offshoring jobs and credit expenses for onshoring

• Enact a 15% minimum tax on corporations' book income

The American Family Plan

As part of President Biden's quest to make sure the highest income individuals pay their fair share, he has proposed the American Family Plan. This plan includes the following proposed changes:

• restore the top individual tax rate from 37% back to the pre-2018 rate of 39.6%.

• He further wants to prevent the tax-free bequests by closing the step-up basis loophole, by taxing all unrealized gains at death (more on that below).

• Taxpayers with over $1,000,000 would pay tax of 43.4% on capital gains (39.6% top tax rate + 3.8% net investment income tax).

The Biden administration estimates that the new capital gains tax rate will only affect 0.3% of taxpayers or 500,000 households.

Step-Up in basis, Carried Interest, and Real Estate Exchanges

I wanted to highlight this as these are common loopholes that the ultra-wealthy use to maintain their wealth and keep it in the family. Everyone should know these rules.

Under current law, families can pass property down from one generation to the next without ever paying any tax on increases in the property's value over time. Essentially, the heir of the property steps-up their basis in the newly acquired property to the fair market value at the time of acquisition, thus avoiding paying tax on the increase in value.

For example, let's say you buy a commercial building for $1MM in 2010. In 2040, the property is now valued over $15MM. Rather than pay tax on the $14MM gain, the owner can pass the property to their child and their child's basis in the property can now be the current market value of $15MM. No tax paid. Only when they liquidate the property will taxes be paid.

However, Biden's administration has announced that family-owned farms passed down to family members who actually will continue operating the farm as normal will be protected from this change. Also, gains will not be taxed if the appreciated property is contributed to a charity.

The plan would also limit the current tax break that real estate investors get for "like-kind exchanges" that allows investors to defer taxation when they exchange real property. The plan proposes taxing these exchanges for capital gains in excess of $500,000.

Plan Ahead

Things are changing quickly, as they always do with new leadership. Subscribe to my blog below to stay in the know, and reach out if you'd like a personalized tax strategy for your business or family.