While there’s no sign of anything specifically retirement-related in the materials shared thus far, the tax plan that President Joe Biden released April 28 would impose significant tax increases on high-income earners to pay for his $1.8 trillion American Families Plan.
Detailed in a fact sheet released ahead of his April 28 speech before a joint session of Congress, the tax reform plan includes proposals to eliminate the preferential tax treatment for capital income for those earning more than $1 million per year, as well as raising the top individual tax rate.
“The President’s tax agenda will not only reverse the biggest 2017 tax law giveaways, but reform the tax code so that the wealthy have to play by the same rules as everyone else,” the White House says, characterizing the tax changes as a way to reward work and not wealth.
Increase the Top Tax Rate
In what would be a reversal of the Tax Cuts and Jobs Act, the proposal calls for reinstating the top individual income tax rate from the current 37% to 39.6%. The White House argues that this change would apply only to the top 1% of taxpayers. The proposal does not specify what the new income thresholds would be, but President Biden has previously insisted that his tax changes would not affect those with incomes below $400,000 per year.
Tax Treatment of Capital Gains
Arguing that the current 23.8% capital gains tax rate—the 20% marginal rate plus a 3.8% levy to pay for President Obama’s expansion of Medicare—that “the wealthy pay” on capital gains and dividends is less than the tax rate that many middle-class families pay on their wages, the proposal would eliminate the preferential tax treatment for capital income for upper-income households, taxing those gains the same as ordinary income. Households making over $1 million—or what the administration refers to as “the top 0.3% percent” of all households—would pay the same 39.6% rate on all their income, equalizing the rate paid on investment returns and wages. Adding in the Obama tax levy, for those taxpayers the capital gains tax would rise from 23.8% to 43.4%. In much of the country, the addition of state and local taxes would bring that new top rate to more than 50%.
Inheritance Taxes
To ensure that the assets of so-called high-income earners do not escape taxation when passed down to heirs, the proposal would eliminate the practice of stepped-up basis for certain gains in excess of $1 million ($2.5 million per couple when combined with existing real estate exemptions). It also seeks to ensure that gains are taxed if the property is not donated to charity. While short on details, the White House further notes that these reforms “will be designed with protections” so that family-owned businesses and farms will not have to pay taxes when given to heirs who continue to run the business.
Carried Interest
By equalizing the treatment of capital gains and ordinary income, the plan would also eliminate the carried interest loophole so that private equity managers and hedge fund partners will pay taxes at ordinary income rates instead of at a lower capital gains tax rate. The White House also calls on Congress to go one step further by specifically addressing the preferential tax treatment of carried interest, making clear that such gains are to be taxed at ordinary income rates.
Additional Tax Increases
In what appears to be a reference to like-kind exchanges, the proposal would also end what is described as a special real estate tax break—that allows real estate investors to defer taxation when they exchange property—for gains greater than $500,000.
President Biden would also permanently extend the current limitation in place that restricts large, excess business losses, where 80% of the benefits go to those making over $1 million, according to the fact sheet.
As noted above, high-income workers and investors generally pay a 3.8% Medicare tax on their earnings, but the White House contends that application is inconsistent across taxpayers due to “holes in the law.” The proposal seeks to apply the taxes consistently to those making over $400,000 to ensure that “all high-income Americans pay the same Medicare taxes.”
Information Reporting and Enforcement
Citing a need to ensure that taxpayers are paying taxes they owe, the White House puts forward two proposals. The first would require financial institutions to report information on account flows so that earnings from investment and business activity are subject to more reporting, like that of wage income.
The second would increase the IRS’s enforcement budget by $80 billion over the next decade for tax compliance. Additional resources would focus on large corporations, businesses, estates and higher-income individuals, where the White House contends most underreporting and non-compliance is currently taking place. The IRS also would be given the authority to regulate paid tax preparers under the proposal.
Altogether, the White House estimates that the tax reforms focused on upper-income individuals would raise about $1.5 trillion over 10 years. This would help offset the American Families Plan, which reportedly includes $1.8 trillion in investments and tax credits for families and children over 10 years.
What’s Next?
While the proposals could have significant consequences for M&A transactions and wealth managers if they are enacted, the proposal does not include any specific tax increases affecting retirement plans.
Note also that these tax increases are separate from the corporate tax reforms that the White House has floated as offsets to the American Jobs Plan, which is the administration’s separate infrastructure and jobs package estimated at nearly $2 trillion. Among the various changes in that package are to increase the corporate tax rate to 28%.
Of course, this is just the first step in a long process. The Biden administration’s proposal will still have to go through Congress, and members of the House and Senate have their own priorities that they want addressed. Rep. Richard Neal (D-MA), chairman of the House Ways and Means Committee, has already released his own proposal to assist families, but it did not provide details on any tax changes he may be considering. Similarly, Senate Finance Committee Chairman Ron Wyden (D-OR) may want some of his own priorities addressed.
In addition, members from both parties regard some of the proposed tax increases in the Biden plan as non-starters; that will likely force changes, particularly in the evenly divided Senate.
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