President Trump’s tax plan centers around extension and/or permanency of the Tax Cuts and Jobs Act (TJCA). The legislation, which eased taxes for many, was originally enacted in 2018 and is set to expire at the end of 2025.
Candidate Biden’s proposal suggests significant changes aimed at eliminating many of the TJCA provisions, including many adjustments impacting high-income individuals and families, with increases to income tax rates, more phaseouts and limitations on deductions, as well as higher estate and gift taxes.
Below, we compare some of the more significant tax policy items that are slated for change if we see a Biden administration in 2021:
| Tax Policy Issue | Current Law | Trump Proposal | Biden Proposal |
|---|---|---|---|
| Tax rate on ordinary income | Top marginal rate is 37% until 2026 (if current law expires, top marginal rate reverts to 39.6% beginning in 2026) | Make current law permanent | Restore top marginal rate to 39.6% for taxpayers with over $400,000 of taxable income (it’s not clear as to how this relates to filing status) |
| Tax rate on long-term capital gains & qualified dividends | 0% rate (income between $0 and $40,000) 15% rate (income between $40,001 and $441,450) 20% rate (income above $441,450) |
Make current law permanent | Tax capital gains and dividends at 39.6% for taxpayers with over $1 million of taxable income (and potentially for all taxpayers) |
| Tax rate on carried interests | If held at least 3 years, taxed at long-term capital gain rates | No current proposed change | Tax as ordinary income |
| Itemized deduction cap | Itemized deduction limit repealed (the current law expires in 2026 and the “Pease” limitation is reinstated) | Make current law permanent | Cap value of itemized deduction at 28% (rather than the then top 39.6%), and reinstate the Pease limitation for those with income above $400,000 |
| High-income Social Security payroll tax | No Social Security payroll tax on income above $137,700 (indexed) | No current proposed change | Expand the 12.4% (6.2% for the employer and 6.2% for the employee) Social Security payroll tax to income in excess of $400,000 |
| Pass-through trade/business income (§ 199A) | 20% deduction | No current proposed change | Implement a new phaseout for income over $400,000 |
| Estate tax | 40% estate, gift and generation-skipping tax; basic exclusion is $11.58 million in 2020 (continued indexing); expires at the end of 2025 | No current proposed change | Return the exclusion to pre-TCJA amount of $5.49 million as adjusted for inflation (or possibly down to $3.5 million) Repeal stepped-up basis at death |
| GILTI rate | 10.5% rate | No current proposed change | Double rate to 21% |
If the White House changes control and Biden’s proposals are put into place, you should plan for higher taxes in the future. Many wealthy individuals are not waiting for the results in November and have already started preparing for one of the most impactful areas with estate tax planning. Below are a few strategies that are worth consideration.
Ordinary income – With income over $400,000 moving from the 35% and/or 37% marginal brackets to a 39.6% marginal tax rate, consider accelerating income that would fall into those lower brackets into 2020 and deferring deductions that could provide a more valuable shelter for income at a higher rate in future years. This could include items like bonuses, exercising options (maybe), and liquidation of investments with passive losses.
Long-term capital gains and dividends – The potential increase from the base tax of 20% to 39.6% on long-term capital gains and qualified dividends is a significant and fundamental shift that practically doubles the tax on this category of income for taxpayers with over $1,000,000 in income. If you expect to fall into this category in future years, you may want to consider accelerating capital gains into 2020 to take advantage of lower tax rates on gains this year; you can then repurchase the same or similar assets with the new higher basis after 30 days.
Also, it may make sense to defer recognizing losses to future years to allow for the offset of future capital gains at the higher tax rate. These strategies must be reviewed to ensure the lower tax rate paid now offsets the benefit of tax deferral at a higher future rate. Gifting of appreciated securities to lower income individuals becomes even more attractive now, as they will incur half the tax liability upon sale.
Itemized deductions – The general advice for taxpayers was to accelerate deductions and defer income, but the new advice is to time your deductions based on your individual year-to-year circumstances. The higher your income, the more the Pease limitation, if reinstated, affects your ability to benefit from itemized deductions in future years, so careful consideration and projections for the next few years can be extremely valuable. Your advisor may suggest bunching your deductions to minimize the impact of the Pease limitation, which reduces the value of itemized deductions by 3% for every dollar of taxable income above a certain threshold ($254,200 single; $305,050 married), with the phase-out capped at 80% of the total value of itemized deductions.
Retirement – A lot of people focus on pre-tax savings for retirement, but there are other considerations as well. With rates potentially rising in the near future, now is a great time to study moves that could take advantage of the current lower rates. Here are a few strategies to review:
Estate tax – Between the TCJA sunset provisions and the current political environment, some taxpayers are struggling with using the exemption before it is significantly reduced and giving up both access and control of that same property. Depending on your overall net worth and personal situation, there are several options that could be explored to ensure that you don’t lose the historically large estate tax exemption, which is slated to revert back to $5 million in 2026 or could go even lower under the Biden administration.
In addition to the reduction in the lifetime exclusion, Biden has also proposed eliminating the basis “step-up” to fair market value at death, which allows for a deferral of gain until the beneficiaries ultimately sell an asset. We do not know, under his proposal, whether the original basis would simply be carried over or if there would be tax due at death on the capital gains or during lifetime at the time a gift is made. This will completely change the approach to estate planning and wealth transfer, and a careful review of your current plan could result in a great deal of tax savings over your lifetime.
Don’t wait until December to formulate your plan, as you need time to analyze scenarios and options with your advisors in advance. Although these are the initial proposals, and we don’t yet have additional details, a new administration could push some of these changes through quickly. With the election rapidly approaching and 2021 on the horizon, regardless of who you believe will win, now is the time to be proactive in planning for income taxes, as well as transferring wealth.
September 10, 2020
