The Estate, Legacy and Long-Term Care Planning Center of Western NY
Financial Advisor in Rochester, NY
How To Deal With Biden Tax Hikes
So now the presidential race really begins. With the Democrats nominating Joe Biden last week and the GOP this week re-nominating President Donald Trump, it’s instructive to look at what the future could be financially under each man. And one thing presidents can do is change the tax code—with the caveat that Congress has a lot to say about what an administration proposes. Today, we get the assessment on Biden’s tax plan, and how to plan for it, from the ever-astute Rick Kahler, president of Kahler Financial Group in Rapid City, S. D.:
Larry Light: While we don’t know the makeup of Congress next year, it sounds prudent to examine what each candidate wants to do with taxes. Tell us about Biden.
Rick Kahler: Although U.S. Presidents’ influence on the economy is limited, their tax plans can affect Americans’ personal finances. Given Biden’s current lead in the polls and the real possibility of Democrats gaining control of the Senate, his tax plan may eventually be passed by Congress. Regardless of your political views, it’s not too soon to consider the possible implications for your own financial planning.
Light: The Trump tax cuts have an expiration date anyway, right?
Kahler: The Trump individual tax cuts are set to expire in 2025 unless extended by Congress. Not only is an extension looking doubtful, but the cuts may well be rolled back next year under a Democratic-controlled White House and Congress. That would increase all marginal tax rates, with the top marginal rate going back to 39.6%.
Light: And small business owners would be especially impacted, I understand.
Kahler: The proposal includes a 12.4% payroll tax on any earned income over $400,000, with no cap. This would leave a “donut hole” with no Social Security payroll tax for wages between the current $137,700 cap and $400,000. This is a huge tax increase that would especially hit small business owners. When you combine the 39.6% federal rate and the 12.4% payroll tax, the effective top federal tax on earned income could be 52%. Add any state income tax, like California’s 13.3%, and the top marginal rate for a small business owner could be over 65%.
The bad news for higher-income individuals doesn’t stop there. Biden also intends to eliminate capital gains on taxpayers who earn more than $1 million, effectively doubling the capital gains tax rate. Corporate income tax rates would rise from 21% to 28%, and minimum corporate taxes would be imposed.
Light: What are some steps to minimize the impact before any such plan starts?
Kahler: If you own a small business, you may want to consider pushing earned income and capital gains into 2020 to take advantage of the current structure. This could save you a significant amount. For 2021 and beyond, the new tax code would encourage taxpayers to keep their salary under $400,000 and divert any additional cash flow into dividends, rent, or other non-earned income.
Light: What about passing along your money to your kids or others?
Kahler: Estate planning would also change for many Americans. The Democratic plan would repeal the step-up in basis, meaning those inheriting a parent’s appreciated property would be hit with capital gains or ordinary income taxes. This could reduce some inheritances by up to 40%. In addition, a parent currently can bequeath $11.6 million with no estate tax, which many Democrats favor reducing to $3.5 million. The estate tax on amounts over the limit, currently 40%, could be raised up to 77%.
Light: Give us an example.
Kahler: Assume Mom left her four children an estate worth $10 million, with a basis of $5 million. Today, with no tax due, each child would get $2.5 million.
If the cap were reduced to $3.5 million, there would be an estate tax of at least $2.6 million, plus capital gains taxes of at least another $1.2 million. Each child would receive almost $1 million less. That’s significant motivation to reconsider your estate plan as soon as possible.
The bottom line: The potential increases could especially affect taxpayers who have estates with appreciated assets, earn over $400,000 a year, or anticipate selling an appreciated asset in the near future.
Light: How can affected people get ahead of this?
Kahler: If any of these apply to you, it would be a good idea to meet with your financial planner, accountant, and estate planning attorney. There are planning techniques that could save you and your heirs a significant amount of money in the event that the Biden tax increases come to fruition.
Light: When should one act?
Kahler: According to Paul Freidel, whose accounting firm is Freidel & Associates, here in Rapid City: “Estate planning advisors will be buried at the end of this year if Biden wins and the Democrats sweep Congress, so waiting until after the elections may be too late to accomplish anything in 2020.”