Alongside the release of President Biden’s budget proposal, the Department of Treasury has published its “Green Book” – comprised of insights into the tax proposals that make up some of the line items of the budget. While the President’s budget proposal has no effect of law, its details do typically shape conversations going forward.
“This is an annual rite of passage detailing how a president would like things to run, and there are always pieces that don’t go anywhere, while other pieces will begin to take shape on Capitol Hill,” says Brian Kuehl, director of government and public affairs at K·Coe Isom. “This is the starting point, and we’ll continue to do analysis and provide updates on the potential impacts for businesses as they move further along.”
Below, K·Coe’s advisors have compiled the key tax changes to watch as budget legislation is negotiated and works its way through Congress.
Key Tax Changes to Watch
Tax Rate Increases
- Increase corporate income tax rates to 28% effective January 1, 2022. Fiscal year taxpayers will have a blended tax rate – income earned in calendar year 2021 will be taxed at 21%, and income earned in calendar year 2022 will be taxed at 28%.
- Increase the top marginal rate to 39.6% for “high-earning” individuals
- Begins at $509,300 taxable income for MFJ, $462,700 Single, $254,650 MFS
- This will result in a nearly 5% tax increase for some taxpayers whose top marginal rate is currently 35%:
- Single individuals with taxable income between $462,700 and $523,600
- Married couples with taxable income between $509,300 and $628,300
- Ordinary income tax rates for capital gains for taxpayers with AGI in excess of $1M, but only to the extent the taxpayer’s income exceeds $1M
Impacts on Small Business Owners
Net investment income tax and self-employed contributions act (SECA taxes) changes – subjects all owners of passthrough entities, including S Corporation shareholders, to either Medicare tax or SECA tax. Currently, limited partners, some LLC members, and S Corporation shareholders do not pay net investment income tax on their share of income or gains, and do not pay self-employment taxes. This would eliminate those planning opportunities typically capitalized on by farm operations.
Elimination of Like-Kind Exchange Deferrals
Under current law, taxpayers can defer an unlimited amount of gain by trading their real estate for other real estate. The administration’s proposal eliminates the unlimited deferral of gain in like-kind exchanges. Gains in excess of $500,000 per person per year would be subject to tax.
Capital Gains Tax Reform
Under current law, no capital gains taxes are assessed on certain transfers of appreciated property – gifts, contributions to partnerships, contributions to trusts, and the owner’s death. Many family businesses utilize tax-free gifts to transfer ownership of operations and business property to the next generation. It is quite common for family members to contribute appreciated assets – equipment, land, inventory – to new partnerships.
Administration’s Proposal
The Administration’s proposal represents a full reform of the capital gains tax system. Tax would be assessed on the fair market value of appreciated property when it is:
- Gifted
- Transferred to an irrevocable trust
- Contributed to a partnership (or other non-corporate entity), or
- Owned at death.
The new capital gains system would make partnerships extremely unattractive vehicles for business ownership. Contributions to controlled corporations would remain tax-free.
Limited Exceptions
Only limited exemptions to the realization of capital gains on death, gift, contribution to trust, and contribution to partnerships would apply:
- Transfers to charity
- Transfers to surviving spouse (but gain is recognized on their death, unless transferred to charity)
- Tangible personal property and household furnishings are exempt (but collectibles are not)
- $250,000 per person personal residence exclusion
- $1M per person gain exclusion for property transferred by gift or bequest, indexed for inflation after 2022; portable to surviving spouses
The administration has included its promised “family business” and “family farm” exemption. The proposal provides for a deferral of tax upon an owner’s death for family-owned and -operated businesses. Payment of the tax assessed on the owner’s death would not be due until the business is sold or ceases to be family-owned and -operated. It allows a 15-year payment plan for heirs when the property becomes subject to tax.
Tax on appreciated property owned by certain entities
The new system requires capital gains tax to be paid on appreciated property owned in trust, partnership, or non-corporate entity at least every 90 years, beginning in 2030. This will impact multigenerational farms, which may have been held in trust or partnership for a century or more.
Negotiations will continue on these items throughout the Summer, and K·Coe advisors will provide updates as they take shape – expected as early as July in the House, and as late as September/October in the Senate (following the August Congressional recess).
Should you have questions regarding potential impacts and tax strategies, contact a K·Coe advisor.
