Tax policy used to be pretty boring and predictable. But over the past decade it has gotten dynamic in a way that accountants don’t like: it changes with the political party in power.
This means that it is becoming increasingly difficult for individuals to make long-term decisions about their income, savings, and donations. And counselors will likely provide clues as to what is the best decision right now because the future is too blurry.
Shortly after Joseph R. Biden Jr. was named president-elect in November, I wrote a column on the opportunity cost of tax decisions. It was not easy then to know the best tax strategies.
At the time, the determining factor was whether the Democrats would gain control of the Senate through two runoff elections in Georgia. Few were ready to predict that both Democrats would beat incumbent Republicans, but that is exactly what happened. And their victories gave Mr. Biden a clearer path to carry out his agenda.
The question for taxpayers is now: what if Mr Biden can make changes to tax policy?
“It’s really hard to predict how Congress will react on tax policy. It’s especially difficult to predict this year, ”said Howard Gleckman, a senior fellow at the Tax Policy Center, a joint venture between the Urban Institute and the Brookings Institution. “But I have a feeling that in the current political dynamic, it will be easier to get the tax cuts he was talking about than the tax increases.”
The caveat is that pre-tax Biden government has many things on its agenda, namely the coronavirus pandemic and getting the vaccinations in place, as well as propping up the shaky economy and stabilizing the uneven recovery in jobs.
“We won’t see massive tax changes as there are more pressing concerns here,” said Brian Glavotsky, tax partner for family office services at Wiss & Company, an accounting firm.
Other analysts suggested that tax changes could be addressed when the pandemic looked better by the end of summer.
With that in mind, it might be best to consider what to do in 2021 as your short, medium, and long-term thinking about what to do. There’s a lot to think about, so I’ll split this topic into two columns. This week I’ll be looking at long-term issues. next week I will deal with the more immediate tax issues that could bubble up this year.
The biggest potential long-term change concerns inheritance tax. However, unlike previous changes, the tax code could be changed to affect anyone who has something of value to leave to the heirs.
For decades, assets were valued at the time of the owner’s death, even if their value had increased. This so-called step-up-in-base rule works like this: if a stock bought for $ 1 is worth $ 10 when the owner dies, the profit is $ 9. However, if this asset is passed on to the heirs, the embedded profit will be wiped out as the base value is now $ 10 and no capital gains tax is due.
This treatment applies to all assets from liquid stocks and private investment partnerships to single-family homes. If the total estate value is below the current exemption level of $ 11.7 million for an individual or $ 23.4 million for a couple, no estate tax would be payable.
A Biden administration can change this for logical and revenue reasons. At one point, raising the base made sense. Imagine trying to figure out the capital gains on AT&T stock your grandmother bought in 1943 when the record was made in pencil and paper. Basic cost information can now be accessed in seconds.
However, two different groups of people have expressed concerns about closing the gap: the very rich and the moderately rich.
If you’re Jeff Bezos or Elon Musk, the two richest people in the world, having your long-term stakes in Amazon and Tesla topped up is a huge capital gains tax saving because they’ll do so regardless of paying estate tax.
But for people with more modest wealth, say someone lucky enough to inherit a home or stock portfolio, the loss of the top-up could be even more significant.
Robert S. Seltzer, founder and president of Seltzer Business Management in Los Angeles, said when his mother died he inherited her home at the top of the real estate bubble. The original cost in the 1970s was less than $ 70,000, but the house was valued at around $ 500,000. When he sold the house in 2010, it was worth $ 200,000 less.
“I actually got a capital loss when I sold it,” said Mr Seltzer. Without the increase in the base tax benefit, I would have paid capital gains of $ 350,000 to $ 400,000 by inheriting my parents’ base of $ 70,000.
For the black community, the prospect of an heir paying capital gains tax on inherited property could help maintain the racial wealth gap, said Calvin Williams Jr., chief executive officer and founder of Freeman Capital. He noted that the average black family gave $ 38,000 on to heirs, while the average white family gave $ 140,000 on.
Losing the base top-up would have an even bigger impact on efforts to fill the black wealth gap, Williams said.
“We need every penny to make this transfer,” he said. “I understand and appreciate what they’re trying to do, but it’s pretty big right now. If it were more focused it would be more beneficial to the communities. “
If that change happened, people of greater wealth could switch the assets they trust, said Edward Reitmeyer, partner in tax and corporate services at Marcum, an accounting firm. People with access to more sophisticated planning could invest assets with larger embedded capital gains in a trust and leave others – like cash – straight to the heirs.
This strategy would minimize the capital gains tax their heirs would pay. However, it’s not hard to see how people without access to sophisticated tax planning would be affected by the tax.
For the very rich, the concern about inheritance and gift taxes is that the federal tax exemption will be reduced – Mr Biden also said this – and that the tax rate could be increased.
With Democratic control over the legislature and executive, there is concern that the exemption could drop to $ 5 million or even $ 3.5 million when President Barack Obama took office. (The current level, set by the 2017 tax overhaul, is expected to expire in 2025.) For the richest in the country, the tax rate itself is the bigger problem. It’s at 40 percent now, but it was as high as 55 percent in 2001.
Possible changes in the exemption rate have weighed on affluent Americans, who are faced with a choice of whether to take the tax break now to give a big gift before changes become law or wait to see how the year goes.
Some wealthy people fear that a Biden government could make the estate and gift tax changes retroactive to Jan. 1, said Marya P. Robben, partner at Lathrop GPM law firm. In anticipation of this, they want to give big presents now to benefit from the gift tax exemption.
“If I hadn’t revealed earlier, I should do it now,” said Ms. Robben of her customers’ mindset. “If the change in inheritance tax isn’t retroactive, I’m better off. If it’s retroactive, I’m no worse off than I am now. “
Others, however, are betting against a retrospective change in estate and gift taxes. “Congress can do what it wants, but Congress rarely applies tax increases retrospectively,” Gleckman said.
Mr. Reitmeyer said the Democrats’ tight control over the Senate would also serve as a bulwark against retrospective change. “I think there are a lot of centrists out there who really don’t want that,” he said.
How the votes in Congress play out, particularly in relation to short and medium term strategies, will be the focus of next week’s column.