President Biden’s administration has given us the first look at tax proposals for the fiscal year 2022 budget. There are quite a few changes listed and most of them as you might expect are increases targeted to high-income taxpayers. Here is a summary of some provisions that may affect individuals:
- 1. Increase the top marginal income tax bracket for high income taxpayers
The top income tax rate is presently 37% and will revert to 39.6% in 2026. This rate applies to taxable income over $523,600 for a single taxpayer and $628,300 for a joint taxpayer. The administration proposes to increase the rate to 39.6% starting in 2022 for single taxpayers with taxable income over $452,700 and for joint taxpayers with taxable income of $509,300. Those amounts would be indexed for inflation after 2022.
- Increased top rate for qualified dividends and long-term capital gains
The top income tax rate the administration proposes to change that to a top rate of 37% per taxpayers will with income over $1 million to the extent taxpayers income exceeds $1 million. This proposal would be effective after the date of announcement, which would make it impossible for taxpayers to try to change their portfolios prior to bill actually becoming law.
Retroactive tax increases are unusual but they are legal. Therefore, if Congress passes this increase, taxpayers will need to find other ways to shelter income. We will have some suggestions in future articles.
- Transfers of appreciated property
Currently there is, generally, a carryover basis for lifetime gifts and a step up in basis for transfers at death. The administration proposes to treat transfers of appreciated property either by gift or at death as a taxable event. This means that a trust or estate would have to find the cash to pay the tax. If the estate was subject to an estate tax the capital gains tax at death would be deductible.
Transfers to a spouse would not generate taxable income but would get a carryover basis. The tax law would still apply the exclusion of gain on the sale of a principal residence. Certain other limited exclusions would also apply.
There would be $1 million per person exclusion for property transferred by gift or by death which would be indexed for inflation. If one spouse failed to use the $1 million exclusion their exclusion could be used by the surviving spouse.
There are certain exclusions for family-owned and operated businesses and for installment payments of tax on appreciated assets that are not easily liquid.
4 Net investment income and self-employment taxes
Some income can avoid both self-employment tax and the net investment income tax depending on the choice of entity and amount of compensation. The administration has proposed subjecting all pass-through business income of high-income taxpayers to either net investment income tax or self-employment tax.
- Repeal of section 1031 exchanges
Tax law currently allows taxpayers to avoid immediate recognition of gain if they exchange one piece of appreciated real estate for another. The administration is proposing to limit this tax-free exchange so that you can defer only up to $500,000 per taxpayer or $1 million on a joint return.
These obviously are significant changes which could significantly raise income taxes for high net worth or high-income taxpayers. These are not all the proposed changes but these are some that are most noteworthy for individuals.
Certain items were not included in the revenue proposal including changes to the federal estate tax, repeal of the section 199 A deduction or repeal of the $10,000 limit on reduction of state and local taxes. However, there are some proposals for changing the federal estate tax.
We will continue to monitor the progress of any tax bills and let you know when something passes Congress. Nothing has passed the present. We recommend you think about future planning so you can be ready when something does pass.