More Pain for the Gain

Investment Taxation under Biden’s “American Families Plan”

The Hard Love

In December of last year, with Biden still the President-elect, and control of Congress as yet uncertain, we published a Planning Bulletin entitled “To Be, or Not to Be? Biden proposals, capital gain tax, and what to do about it.” Since then Biden has become President, the Democrats have achieved control of Congress, Biden has raised corporate taxes, and we have been waiting for the other shoe to fall. In a speech to the nation on April 28th….it did. Much of what he proposed should not be news to the observant in that he has been saying he would do this since fairly early in his campaign. Notwithstanding, as proposals come closer to realities, it is worth taking another look. Focusing on how they would impact the American investor, there are a number of moving parts, and a meaningful uncertainty factor, as well as perhaps timing urgency. So, should you have significant unrealized long-term capital gains (LTCG), whether or not you choose to take an action step, you will want to understand the likely new environment. Here are the key points: 

  • President Biden has said that he would propose taxing LTCG1 as ordinary income for taxpayers with income over $1 million (almost certainly meaning 1040 taxable income of any variety). At the same time, he is proposing returning the top rate on ordinary income, from its current 37% to 39.6%. The current LTCG rates for a married couple filing jointly, are 0% up to $80,800; 15% from $80,800 to $501,600, and 20% over $501,600. There is also a tax on net investment income (NIIT) of 3.8%, which would continue to apply. Note well, this amounts to a whopping 82% increase in the LTCG rate (43.4%/23.8%)!
  • And this may well apply to all capital assets, not just financial ones. For example, the sale of an entrepreneur’s business, your personal residence, even the family farm. And it is crucial to realize that while you might not normally have taxable income of $1 million or greater, by selling those assets, you could easily push yourself over that level and into this higher tax regime.

 

The Bottom of Pandora’s Box

Having said all of that…. some hope remains. It is still a long way from a Presidential speech to a Joint Conference Committee Bill passed by both Houses of Congress and signed by that President. Along the way, I wouldn’t be surprised to see a number of modifications and carve-outs. For example, capital gains on the sale of family businesses, personal residences, entrepreneurial start ups, etc. either excluded entirely from this tax regime, or subject to liberal thresholds before they are. For example, capital gains on a personal residence would be subject to ordinary income taxation only on gains from the sale above $1 million, or even perhaps, not at all. 

Any Yet the Dilemma Remains

The question is, should draconian capital gains taxation be legislated, what would its effective date be? More to the point, if one wanted to take the obvious preemptive action of selling appreciated assets right now, to beat the sheriff, are they assuming too large of a risk that those changes are retroactive to a date at or before their date of sale (and include the type of asset that they sell), creating an unnecessary, and high, capital gains tax bill. On the other hand, if the law is not retroactive to the date of sale, they have indeed prevailed over the sheriff.

Under the banner of caveat emptor, and after consulting with your tax advisor, for those with high levels of unrealized capital gain…some thought should be given to this.