Federal Tax Proposal – A Summary

TAX

The Biden administration recently announced a number of tax proposals to fund new government investments. The current version may not be the final form, but many of its features are likely to become law. Below is a summary of what is most likely to impact families.

Income Tax Rates

  • Increase in the marginal tax rate: The top marginal tax rate would increase from 37% to 39.6% for income greater than $400,000 if you file as single and $450,000 if filed as married filing jointly (MFJ). These changes would go into effect for the 2022 tax year.

 

  • Increase in the top long-term capital gains rate: The highest marginal long-term capital gains rate would increase from 20% to 25% for incomes higher than $400,000 (single) or $450,000 (married filing jointly). The change in rate to 25% would be effective as of September 13, 2021 unless a sale was already under contract prior to that date.

 

  • S Corporations: Business profits from S corporations will be subject to a 3.8% surtax for taxpayers with Modified Adjusted Gross Income (MAGI) above $400,000 (single) and $500,000 (MFJ).

 

  • Section 199A QBI Deduction: To be phased out for those earning over $400,000 (single) or $500,000 (MFJ).

 

  • Additional 3% surtax on ultra-high income: An additional flat tax of 3% would be applied on any MAGI above $2,500,000 for individuals filing as married filing separately or above $5,000,000 for MFJ or single.

Retirement Strategies and Plans

  • Roth conversions will no longer be allowed for high income individuals:
    • New rules would prohibit all Roth conversions for taxpayers in the highest ordinary income tax bracket (39.6%) beginning January 1, 2032.
    • Roth conversions of after-tax funds will be prohibited for ALL taxpayers beginning January 1, 2022. This would eliminate backdoor Roth as a planning strategy.

 

  • Restricts contributions to IRAs or Roth IRAs for high net worth individuals if:
    • Taxable income is greater than $400,000 (single) or $450,000 (MFJ) AND the total value of IRA and defined contribution plans exceed $10,000,000.
    • The limitation does not apply to contributions of employer plans such as a 401(k), SEP IRA, or pension plan.

 

  • Change in Required Minimum Distributions (RMD) for individuals whose aggregate retirement account size exceeds $10,000,000:
    • Imposes RMDs on large retirement account balances if:
      • Taxable income is greater than $400,000 (single) or $450,000 (MFJ), AND
      • The total value of IRA and defined contribution plans exceed $10,000,000

 

  • If combined balance is between $10,000,000 and $20,000,000, the owner must distribute 50% of the amount of the account balances in excess of $10,000,000.
  • If the balance is greater than $20,000,000, the RMD would be 100% in excess of $20,000,000, plus 50% of any amount over $10,000,000.

Additional Changes

  • Wash Sale rule: This will be expanded to include cryptocurrency and other digital assets, commodities, and foreign currencies.

 

  • Estate Tax Exemption would be reduced: Would revert back to $5,850,000 per person and $11,700,000 per couple. This was scheduled to happen in 2026, but under the new proposal, it would get accelerated to 2022.

 

  • Increased child tax credit and monthly advance payment extended until 2025: Monthly advance payments of $250 per qualifying child aged 6-17 and $300 per child below the age of 6 would continue.

 

  • Assets held within grantor trusts may become part of taxable estate: This would potentially eliminate the benefit of certain estate planning techniques, namely Irrevocable Life Insurance Trusts (ILITs).