No good assessment can begin without first laying out a disclaimer. In this instance, I must remind us that the campaign season has ended and that this article’s role is not to engage in advocacy for one administration’s ideas over another’s. However, an important aspect of our role as attorneys at this firm is to stay up to date on any change in the wind which could affect our clients and be prepared to advise them accordingly. This task is one we take on with extra focus as we observe the transition from one administration in Washington to the next. President Biden will bring with him a host of new policies and goals as his administration takes their position in 2021.
As is so often the case, what is said on the campaign trail may not be what is ultimately written into the final law that a President signs. The scope of this article is to contend with some of the proposed changes to the laws concerning retirement and taxes. Proposals of this type could significantly impact the way that we assess our client’s circumstances and account for future implications for their assets, income, and retirement.
Some of the highlights that have come from Biden’s tax related proposals are:
- Repeal the components for high-income filers under the Tax Cuts and Jobs Act
- Impose 12.4% Social Security payroll tax for wages above $400,000
- Temporarily increase the amount of the Child Tax Credit and Dependent Credit
- Increase the corporate income tax to 28%.
- Payroll tax, individual income tax, estate and gift tax changes
- A reduction of the exemption amount for the estate and gift tax
- Provide a tax credit to caregivers of a spouse or parent
How could new policies affect what is taxed from the gifts I give and the estate that I leave behind?
When it comes to the estate and gift tax, the incoming administration has proposed reducing the estate tax exemption amount to $3.5 million, while increasing the top rate for the estate tax to 45%. This is a 5% decrease from the current top estate tax rate of 40% and an exemption reduction that stands in sharp contrast to the current exemption limits the IRS has in place for 2021 of $11.7 million for an individual and $23.4 million for a married couple. This also ties into Biden’s proposal to lower the gift tax exemption to $1 million as opposed to the gift tax’s current exemption amount, which also currently sits at $11.7 million. This would expose a lot of previously exempt estate and gift amounts to new tax liability.
It is also important to note that even if you read those numbers and think they could never apply to your own circumstances, the increased exposure to tax liability is important to consider for a broader spectrum of individuals than you may think at first glance. These exemption values pertain to the entire value of your assets, and it does not simply mean cash or money that is stored in personal bank accounts. This amount includes the sum of all your estate, which critically could include the home that you live in, any other land or real property, the value of retirement accounts, and other personal property such as your vehicles. Additionally, a forward thinking approach should consider the possibility that these exemptions could decrease even further as the incoming administration moves forward on other policy goals. This could be an area where additional taxes are levied in order to satisfy calls for a more balanced budget in response to the aid packages of this past year. So, even as we assess whether these proposals in their current form may affect you after their implementation, it is an important time to take stock of your situation and plan accordingly with the possibility of sustained change on the horizon.
Can planning ahead improve my ability to limit the tax burdens on my estate and my gifts?
Yes! Initially, it is important to clarify that the gift tax exemption is a lifetime limitation. This is important because through some advanced estate planning, you can identify the appropriate time to make a gift and the amount of that gift to best benefit your overall estate planning goals.
For instance, there is a $15,000 annual limit for gifts made to any one recipient. This means that the first $15,000 that you give to someone is an annual exclusion that is not taxable. However, once your gift exceeds the $15,000 threshold in one year, then the remainder of your gift counts against your exemption for both the gift tax and the federal estate tax. So, if you gifted someone $30,000 in one year, the first $15,000 would not be taxed but the remaining $15,000 would count towards your lifetime gift tax exemption and also towards your federal estate tax exemption. This would mean that any money in excess of your remaining exemption would be subject to federal taxes.
Additionally, there are multiple estate planning options available to individuals for preparing to handle a change to the estate and gift tax exemption levels. One avenue towards achieving that goal is to rely on certain types of tools like trusts or annuities. These are legal vehicles that may allow you to preserve more of the benefits of assets which are placed into a trust or an annuity. This strategy functions very specifically given an individual’s unique situation and advice varies depending on those facts. One of our attorneys would be happy to assess your current estate picture to advise on whether one of these tools would be a good approach for your estate plan.
With the right planning and knowledge, you can take steps to prepare for any decrease to the estate and gift tax exemptions. You can then have the peace of mind that you have minimized your potential liability that could result from an enactment of any of these legislative proposals and instead passed those benefits on to those that you love.
How could my income be affected?
Current proposals from the incoming Biden administration indicate that income earned above $400,000 could be affected in multiple ways. One proposal is to implement a 12.4% payroll tax on income earned above $400,000 that would be evenly split between employees and their employers. This would be earmarked as an Old-Age, Survivors, and Disability Insurance payroll tax, otherwise known as Social Security. Under current regulations, only wages up to the amount of $137,700 are subject to this tax. So the current proposal would leave wages earned above $137,700 and below $400,000 without an additional tax levied against those wages.
Another proposed change in tax to income above $400,000 is to return the top individual income tax rate to 39.6% from its current level of 37% that was enacted under the Tax Cuts and Jobs Act of 2017. This would result in a 2.6% income tax increase to any amount earned above the threshold of $400,000.
In addition to the proposals that would affect the tax levied on income earned above $400,000, there are also proposals that would affect what an individual earning that amount would be able to take in itemized deductions. The proposed cap would limit itemized deductions to 28% of value for filers earning more than $400,000.
Long-term capital gains and qualified dividends would also likely see some changes. The proposal in this area is to tax those sources at the ordinary income tax rate of 39.6% for individuals with incomes above $1 million, while also eliminating the availability of a step-up in basis for capital gains taxation.
At the same time, there are proposals to expand tax credits such as the Earned Income Tax Credit for childless workers over the age of 65 and for individuals utilizing renewable energy. Additionally, there is a proposal to expand the Child and Dependent Care Tax Credit (CDCTC) to $8,000 ($16,000 for multiple dependents) from its current maximum of $3,000. The maximum reimbursement associated with the CDCTC is currently set at 35% while Biden proposes raising it to 50%.
New proposals also involve the popular Child Tax Credit. This proposal is specifically meant for 2021 and would continue as long as economic conditions require it. Under this, the maximum value of the credit would increase from $2,000 to $3,000 for children age 17 and younger. It would also provide for a $600 bonus credit for children under the age of 6. Another aspect of the proposal calls for the Child Tax Credit to be made fully refundable and remove the $2,500 reimbursement threshold and the 15 percent phase-in rate that currently exist.
A few other increases in tax credits may come in the form of a proposal to reestablish the First-Time Homebuyers’ Tax Credit, this would provide up to $15,000 for an individual purchasing their first home. Or it may come in the form of a proposed $5,000 tax credit for caregivers that are looking after their spouses or parents. Although this tax credit might be a great resource for individuals providing care, it is important to note that the proposal would likely require that a health care practitioner verify that you are providing care to meet specific needs in addition to providing receipts of any care related expenses.
Can estate planning provide any benefits when it comes to my earned income?
Yes! Although one typically associates the term estate planning to mean planning that is concerned with what you leave behind, planning for the here and now is a vital part of the work as well. Aside from the benefits that come from simple awareness of regulation changes, so that you can be on the lookout for tax credits for specific activities that would benefit your returns, there are opportunities to plan ahead regarding your income as well.
Some important tools mentioned above, such as trusts, can come into play with preparing for where and how your income is claimed on your taxes. Some trusts can work to your advantage where that legal tool can displace the ownership of some earned income to spread around the tax liabilities. With the foresight of possible income tax increases, you can proactively set up structures that work for you or the business that you run. Armed with the knowledge that a certain bracket of your income is about to be taxed at a higher rate, or that the profits of your business are going to be treated differently, you may be able to structure your sources of income in a manner that maximizes what benefits you are preserving for yourself and your family.
It is true that some of these legal tools can be very fact specific and a plan needs to be customized to properly address your own situation. However, that is exactly one of the services that our attorneys are here to provide. Our role is to advise you on your specific situation and work with you to plan for all of life’s twists and turns, not only those that come from a new administration in Washington. Our goal is that you will be able to make fully informed decisions that benefit not only you in this year, but that reverberate into the future to benefit those that you love as well.
If you or your loved one has questions we would be glad to extend a FREE CONSULT to answer those estate planning and elder law questions and get your affairs in order. Let the experienced attorneys at McIntyre Elder Law help. Call (704) 259-7040.
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