House Democrats Release Details of Proposed Tax Increase
Since the 2020 election, there has been much speculation about major changes to federal tax law. The scope of the potential changes began to take shape this week as the House Ways and Means Committee proposed legislation titled “Responsibly Funding Our Priorities,” that would implement income, estate and capital gains tax increases. The proposal includes changes to the way retirement accounts are taxed and in some cases funded. It is also important to note when each change would take effect as the proposed effective dates vary.
Termination of Temporary Increase in Unified Credit
The current proposal would essentially reduce the estate and lifetime gift tax exemption by one-half. A gift tax is imposed on certain lifetime transfers and an estate tax is imposed on certain transfers at death. There is also a generation-skipping transfer tax which is imposed on certain transfers, either directly or in trust, to a beneficiary who is a generation more than one generation below that of the transferor (i.e. a grandparent to a grandchild).
A lifetime exemption is available with respect to taxable transfers by gift and at death. Any amount of the exemption used during life to offset lifetime taxable gifts reduces the amount of the exemption available at death. The exemption amount has been temporarily increased since January 1, 2018 and is set to sunset or terminate, on December 31, 2025. For 2021, the exemption amount is $11,700,000.00 per person or $23,400,000.00 per couple. The current proposal accelerates the expiration of the temporary increase. As a result, for decedents dying (and gifts made) after December 31, 2021, the exemption amount would be reduced to $5,000,000.00, indexed for inflation. The Joint Committee staff currently estimates that the exemption would be $6,020,000.00 for 2022. The generation-skipping transfer (GST) tax exemption would continue to be equal to the estate tax exemption amount in effect for that year. The estate tax and GST tax rates will remain at 40%.
Other Estate and Gift Tax Changes
The proposal would change the way grantor trusts are treated by imposing transfer tax consequences on certain assets held in or distributed from a grantor trust. A grantor trust is a trust that can still be treated as owned by the person who established the trust. Grantor trusts would be included in a deceased individual’s taxable estate and all distributions (other than to the owner or the owner’s spouse), to a beneficiary during the owner’s life would be treated as a gift for gift tax purposes. The proposal is effective for trusts created on or after the date of enactment and any portion of a trust established before the date of enactment for contributions made after such date.
The proposal would also change valuation rules for certain non-business assets. The proposal would not eliminate the step-up basis on assets owned at death, which had been discussed by President Biden and others.
Increase in Corporate Tax Rate
Corporate taxable income is currently subject to a tax rate of 21%. The proposal would tax corporate taxable income under a three-step gradual rate structure. The proposed rate structure provides for a rate of 18% on the first $400,000 of “taxable income”; 21% on taxable income over $400,000 up to $5 million; and 26.5% on taxable income over $5 million. An additional 3% tax is imposed on corporate taxable income in excess of $10 million. The maximum additional tax is $287,000. Personal service corporations are not eligible for graduated rates and are taxed at a flat 26.5% rate. The proposal is effective for taxable years beginning after December 31, 2021.
Other Tax Increases for High-income Individuals
Increase in the top marginal individual income tax rate. The proposal would increase the top marginal individual income tax rate to 39.6%. This rate applies to married individuals filing jointly with taxable income over $450,000, unmarried individuals with taxable income over $400,000 and estates and trusts with taxable income over $13,450. These changes would take effect after December 31, 2021.
Increase in capital gains rate for certain high-income individuals. The proposal increases the top regular capital gains rate for individuals, estates and trusts from 20% to 25%. The increase in the top regular capital gains rate is effective for taxable years ending after the date of introduction (September 13, 2021) but a transitional rule would provide that the taxable preexisting rate of 20% would continue to apply for the portion of the taxable year beginning prior to that date.
Limitation on deduction of Qualified Business Income. A taxpayer other than a corporation generally may deduct 20% of qualified business income from a partnership, S corporation, or sole proprietorship for the taxable year. For any taxable year, qualified business income means the net amount of qualified trade or business of the taxpayer. Items that are treated as qualified items of income, gain, deduction and loss only to the extent are effectively connected with the conduct of a trade or business within the United States. The proposal amends section 199A by setting the maximum allowable deduction at $500,000 for joint returns, $400,000 for individual returns and $10,000 for trust and estate. These changes would take effect after December 31, 2021.
Please call a member of our Tax Department, George Riter, John McAneney, Kevin Birkhead, or Christina Snyder with any questions.
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