As it stands today, election night was approximately one month ago. We are beginning to see President-Elect Joe Biden naming cabinet members and contested states such as Michigan and Pennsylvania are certifying their results for Joe Biden. As a result, many are wondering how taxes will change under a Biden Presidency and how people will be affected?
There could be many important changes to taxes based upon Biden’s Tax Plan he unveiled during his Presidential Campaign. However, an important caveat, this plan has not been passed into law nor has it been introduced into the House of Representatives.
Prior to a new tax law passing, a Bill will need to be introduced into the House of Representatives and pass both Houses of Congress prior to becoming law. Currently, there is a run-off election in Georgia in the Senate for the final two seats which will determine control of the Senate. Therefore, many of these changes are subject to the acceptance of this plan in the House of Representatives and the Senate.
In reviewing Biden’s Tax Plan, the following are some of the changes that could be implemented.
Personal Income Tax Changes
Increase of the Social Security Payroll Tax: Biden’s Tax Plan proposes an additional 12.4% Social Security Payroll Tax for wage earners above $400,000. This increase would be evenly split between employers and employees. The Tax Plan has a payroll tax on income up to $137,700, and no additional payroll tax between $137,700 up to $400,000. Presently, there is a payroll tax of 12.4% on the first $137,700 in income. This tax is also evenly split between employer and employee. An individual who has an annual income of $550,000 per year could be faced with paying an additional $9,610 in Social Security Payroll Tax under Biden’s Tax Plan.
Top Individual Income Tax Rate Increases from 37% to 39.6%: Under the current tax law for 2020, those making more than $518,401 are taxed at a rate of 37%. However, Biden’s Tax Plan proposes increasing this tax rate for those making more than $400,000 to 39.6%. Therefore, a person making $550,000 per year in 2020 would be paying approximately $203,500 in taxes. In 2021 they would pay approximately $217,800 in federal income taxes under Biden’s Tax Plan.
Long-Term Capital Gains and Qualified Dividends Taxed at Ordinary Income Tax Rates: Biden’s Tax Plan proposes changing the tax rate on long-term capital gains and qualified dividends at the top ordinary income tax rate of 39.6% on income above $1 million. Under the current tax law, individuals making $0 to $78,749 pay capital gains at 0%, individuals making $78,750 to $434,550 pay capital gains at 15% and those making more than $434,550 pay long-term capital gains tax at 20%. However, Biden’s Tax Plan proposes a long-term capital gains rate of 39.6% for those making more than $1 million per year in income. For example, let’s say John makes $1.2 million per year in income. $850,000 is from his job in the form of earned income and $350,000 are from his investments that are taxed at capital gains rate. In 2020, John would pay capital gains tax on $350,000 at the rate of 20% and pay approximately $70,000 in taxes. However, in 2021 under the Biden Tax Plan, John would pay capital gains tax on $350,000 at the rate of 39.6% and pay approximately $138,600.
Elimination of the Step-Up Tax Basis: The Biden Tax Plan proposes an elimination of the Step-Up Tax Basis. This is a tax concept where a person who inherits an asset which appreciates in value after death will receive a stepped-up tax basis to the date of death value. For example, John buys 100 shares in ABC Company for $10,000 in 1985. In 2020, when John dies, the stock passes to his son, Ben, and the shares are valued at $1 million. Ben receives a step up in tax basis to the date of death value of $1 million and can sell those 100 shares for $1 million and owe no tax liability. However, under the Biden Tax Plan, if Ben sold those shares he would have a $990,000 taxable gain due to no step up in tax basis and be taxed at the top tax rate of 39.6% on the $990,000 gain. The gain is because Ben’s total gross taxable income from all sources likely exceeds $1 million.
Limitation on Itemized Deductions for Those Earning More than $400,000 Per Year: The Biden Tax Plan proposes a limitation on itemized deductions for those earning more than $400,000 per year to 28% of the value of those deductions. For example, let’s say John makes $550,000 per year and has $60,000 in itemized deductions. Under the new Biden Tax Plan, John’s $60,000 in deductions would be subject to only a $16,800 deduction. The new 39.6% tax rate on those earning more than $400,000 per year applied to the $60,000 in income comes to $23,760 minus the $16,800 deduction results in John paying an additional $6,960 in taxes under the Biden Tax Plan.
Phasing Out the Qualified Business Income Deduction: The Biden Tax Plan proposes phasing out the Qualified Business Income Deduction (QBI) under Section 199A for those individuals with taxable income over $400,000 per year. Under the current law, business owners of pass-through business entities, such as partnerships, LLCs, and S-Corps, are able to utilize Section 199A and deduct 20% of their business income. They will only be taxed on the remaining 80% of business income. However, for those earning more than $400,000 per year, under the Biden Tax Plan, the QBI deduction of 20% would not be available. The result is in an increase in tax due to a loss of the 20% business income deduction.
Expansion of the Child and Dependent Care Tax Credit: The Child and Dependent Care Tax Credit provides a tax credit that can be worth 20% to 35% of some or all of the dependent care expenses that you paid during the tax year with a maximum credit of $3,000. The Biden Tax Plan proposes to increase this tax credit from a maximum of $3,000 in qualified expenses to $8,000 or $16,000 for multiple dependents. Further, the proposal increases the maximum reimbursement rate from 35% to 50%.
First-Time Homebuyers’ Tax Credit: The Biden Tax plan proposes to re-establish the first-time homebuyers’ tax credit by providing up to a $15,000 tax credit for first time homebuyers.
Expands Estate and Gift Tax Rates and Exemptions from 2009: Under the Tax Cuts and Jobs Act, the current tax law exempts the first $11.58 million (or $23.16 million for married couples) of assets transferred at death from the estate tax. Those assets over and above $11.58 million are taxed at the top tax rate of 40%. The Biden Tax Plan proposes to reduce this exemption to $3.5 million for individuals (or $7 million for married couples) with a top tax rate of 45%. A person’s gross taxable estate includes all of their property including life insurance death benefits paid out at death. Therefore, this change under the Biden Tax Plan is likely to cause many families to update and change their estate planning strategies. These families will have to participate in tax planning that was previously not required under the Tax Cuts and Jobs Act.
Business Tax Changes
Increase of the Corporate Tax Rate: Under the Tax Cuts and Jobs Act, the current top corporate tax rate is 21%. However, the Biden Tax Plan proposes increasing this top tax rate to 28%. As a reminder, corporations are subject to double taxation. First, corporations are taxed at the corporate tax rate on their net revenue, and then the individual shareholders are taxed on distributions of profit to the shareholders. Due to the increase in capital gains tax rates to 39.6% for those earning over $1 million per year in income this could result in some corporations retaining more net profits and limiting distributions for tax planning purposes.
Minimum Tax on Corporations with Book Profits: The Biden Tax Plan proposes a minimum tax on corporations with book profits of $100 million or higher. Corporations which are subject to this will pay the greater of their regular corporate income tax rate or the 15% minimum tax while still allowing corporations to utilize Net Operating Loss (NOL) and foreign tax credits.
Manufacturing Communities Tax Credit: The Biden Tax Plan proposes a manufacturing tax credit to reduce tax liability of businesses that experience workforce layoffs or a major government institution closure.
Workplace Retirement Savings Plans: The Biden Tax Plan proposes tax credits to small businesses for adopting workplace retirement savings plans. The Biden Tax Plan would institute tax credits for each dollar saved for an employee’s retirement. It is estimated and projected that the Tax Plan would include a $0.26 credit for every dollar invested into an employer-based retirement plan. This would provide additional incentive for lower salaried workers to invest and save for their retirement.
Elimination of Real Estate Industry Tax Provisions: The Biden Tax Plan has proposed an elimination of specific real estate industry tax provisions which benefit the real estate industry. One involves eliminating the 1031 exchange. This is a tax concept under Section 1031 of the tax code. Section 1031 provides that a real estate investor who sells an investment property can reinvest the gain earned from the sale into another like-kind investment property and defer the capital gains tax due on the sale. The Biden Tax Plan proposes to remove this tax provision. The result would be those long-term capital gains being due immediately at 15%, 20% or 39.6% depending upon the individual’s gross income from all sources. Another aspect of the Biden Tax Plan proposes the removal of the ability to offset real estate gains with real estate losses.
As you can see, there are extensive changes which are being proposed as part of the Biden Tax Plan. However, as mentioned above, Biden’s Tax Plan will need to make it through both the House of Representatives and the Senate. Presently, the Democratic Party controls the House of Representatives. The control of the Senate is currently in doubt and awaiting a runoff election of two Senate seats in Georgia. A Democratic Party controlled Senate would certainly increase the likelihood that this Tax Plan will be approved and become law during the Biden Administration.
However, as it comes to tax planning, the worst time to engage in tax planning is when the taxes are due. The best time to engage in tax planning is to plan a year in advance so you can begin to implement your tax plan and reduce your taxable income. If you are concerned about the Biden Tax Proposals or you simply are worried about paying too much in taxes, please contact our office. We can review your current tax returns and propose changes and possible tax savings that could be of a substantial benefit.
For More Information
Please contact the Tax Attorneys at Aronoff, Rosen & Hunt at (513) 241-0400. You can also use the contact form to schedule a time to discuss the possible tax law changes and how you can implement a comprehensive tax plan so that you can avoid the payment of any unnecessary taxes. Our Tax Planning Attorneys look forward to speaking with you!