During his campaign, President-Elect Joe Biden proposed significant income tax changes for individuals with a stated goal of helping the economy, reducing taxes on the middle class, and closing tax loopholes for taxpayers with incomes over $400,000. Here we summarize the proposed tax changes impacting individuals which could potentially result under a Biden presidency, as well as the likelihood of the implementation of these proposals.
$400,000 Income Threshold
Most of the tax changes impacting individuals focus around the $400,000 income threshold. Specifically, the Biden campaign said that the changes will not increase taxes for those with income less than $400,000. The proposed changes involve a combination of (1) increasing revenue by increasing the top tax bracket and limiting itemized deductions, and (2) increasing expenditures by increasing and adding credits.
Income Tax Rate
The proposed change to the tax rate would apply only to individuals in the top tax bracket. Currently for 2020 the top tax bracket is 37%, and this bracket applies to individuals who have taxable income over $518,400 if filing as Single, $622,050 if Married Filing Joint, or $311,025 if Married Filing Separately. Biden’s proposal would change the tax rate in this bracket from 37% to 39.6%.
Investment Tax Rate
The tax rate applicable to investments would also change for individuals who have income over one million dollars. For these taxpayers, the proposed tax changes would result in their investment income being taxed at the same rate as their ordinary income. Given that these taxpayers are in the top income tax bracket, this would be a significant increase, nearly doubling the current capital gains rate of 20% to the proposed top tax bracket rate of 39.6%.
Individuals with incomes over $400,000 would also see their itemized deductions limited with the resurrection of the Pease limitation. Currently, apart from limitations on specific deductions such as the $10,000 cap on state income and real estate taxes, taxpayers are not limited to the total amount of their itemized deductions. Prior to the 2017 Tax Cuts and Jobs Act (TCJA), however, itemized deductions were phased out once a taxpayer reached a certain income threshold. Under the proposed Biden changes, individual taxpayers with taxable incomes over $400,000 would again have their itemized deductions phased out over this threshold and would also be limited to a 28% benefit on their itemized deductions.
Qualified Business Income (QBI)
Similar to the itemized deductions, the 20% QBI deduction would also be subject to a similar phasing out for income over $400,000 under the proposed tax changes.
In addition to the changes in tax rates, there are proposed changes in credits available to taxpayers. The Child Tax Credit (CTC) would be expanded during the current crisis, increasing from $2,000 per child, to $3,000 per child for children 6 to 17 years old, and $3,600 for children under the age of 6. The CTC would also be refundable under the proposal. Credits related to caring for dependents and loved ones would be increased under these proposals. The childcare credit would be increased to $8,000 and the credits for caring for elderly relatives would be expanded.
Additional tax credits were also mentioned during Biden’s campaign. Two of these include tax credits related to insurance spending . In an effort to offset the price of health insurance premiums, a refundable health premium tax credit is proposed to limit the percentage of income spent on health insurance. Another proposal is to provide additional tax benefits for elderly purchasing long-term care insurance.
Two other credits proposed relate to renting and purchasing homes. The first is a tax credit to reduce money spent on rent to 30% of income. The second is a $15,000 tax credit for first time home buyers which would not only be permanent, but it could also be advanced to the taxpayer as opposed to waiting for their tax return to be filed in the subsequent year.
The proposed tax changes would also affect those individuals who earn over the current income threshold for Social Security contributions. Currently the maximum amount of an individual’s earnings that are subject to Social Security tax is $137,700. The 12.4% tax is split between the employer and employee, each paying 6.2% on the earnings.
Under Biden’s proposal, while the tax rate would remain the same, the threshold would change. Earnings up to the threshold would remain subject to the Social Security tax and earnings between the threshold and $400,000 would remain not subject to Social Security tax, but earnings over $400,000 would now be subject to Social Security tax. This would affect individuals with earnings over $400,000 as well as their employers, both of which would now owe 6.2% Social Security tax on these earnings.
Estate tax proposals include reverting the current tax rate from 40% to the 2009 level of 45%, as well as reducing the exemption amount from the current $11.58 million to the 2009 level of $3.5 million. However, another proposed tax change would deal with how the assets in estates are taxed. The current system allows for heirs to acquire assets from an estate with a “stepped-up” basis which equals their fair market value. Therefore, the appreciation of these assets is not taxed upon the decedent’s death. Under the proposed changes, however, the appreciation of assets would be taxed at the death of taxpayers with income greater than $400,000.
Lastly, there are Biden tax proposals meant to equalize the tax benefits related to retirement contributions. These would apply to defined contribution plans to provide a tax benefit for taxpayers who are in lower brackets and currently don’t receive as high of a tax benefit compared to someone in a higher tax bracket. The proposals would allow for individuals who are not receiving wages, such as caregivers, to make catch up contributions and save for retirement while receiving tax breaks which they are currently ineligible for.
While President-Elect Biden proposed significant tax changes during his campaign, there remains the question as to the likelihood of their implementation. Although Democrats currently have a majority in the House of Representatives, the outcome in the Senate is still uncertain. Therefore, a sweeping comprehensive tax reform is unlikely to happen in the next term. It is more likely that we will see targeted cuts and raisers being passed. However, the remaining two seats in the Senate will determine the likelihood of even these being passed.
Currently both remaining seats will be determined in the Georgia runoff election. If either seat results in a Republican senator, it is unlikely that these tax proposals will be passed given that the Republicans will retain a Senate majority. If, however, both seats in the runoff election are won by Democrats then the Senate would effectively be a 50-50 split. In this case, a limited tax reform package may have a greater likelihood of passing through a budget reconciliation, given the Democrats would have the Presidency, majority in the House of Representatives, and a potential split vote in the Senate, the deciding vote being cast by Vice-President-Elect Harris.
Therefore, while the proposed tax changes are quite significant and would impact individuals, as well as Social Security and Estate taxes, it remains to be seen how many of these proposed income tax changes the Biden administration will be able to pass.
Selden Fox will continue to monitor the status of these tax proposals as well as any new proposals that come forward as the Presidential transition progresses. If you have questions about the information outlined above or need assistance with another tax or accounting issue, Selden Fox can help. For additional information call us at 630.954.1400 or click here to contact us. We look forward to speaking with you soon.