The 2020 election has come and gone, which means uncertainty about the changing tax landscape. Michael McBratnie joins Chas to discuss what-if scenarios based on the Georgia runoff elections, as well as potential changes that may be occurring in tax law in 2021 and beyond and some ways to prepare for them.
Today, I’m very pleased to welcome back Mike McBratnie with Fox Rothschild. Mike is a tax planning and tax law expert, practicing for more than 30 years outside of Philadelphia with Fox Rothschild. Today we’re going to discuss the potential changes to the tax law under the Biden plan as a result of the election. So hope you enjoy the show.
Mike, welcome back to The Wealth Cast. So glad to have you join us again and to talk about the election, the changes in the potential tax code as a result of the Biden plan and get your take on what the issues may be, or what the changes might look like in the future.
Glad to be here, Chas, and thanks for having me.
You’re very welcome. So I know that you created a list of about a half a dozen items, Mike, but before we go into that list, can you share the sort of big picture with the listeners, as to where we find ourselves?
I know, for example, that the Trump tax plan is going to expire at any rate in 2026, I believe. Are there implications of that? Sort of put things in context before we get into the details.
Sure thing. Well Chas, as you know, they say, “May you live in interesting times,” and we certainly do. That would be the understatement of the day.
But you know, as a result of the recent election, the big question is, will President Biden raise taxes? And the answer is, it depends.
As you know, the president can influence tax legislation, but the president doesn’t write tax legislation—that’s done in the House through the House Ways and Means Committee, and through the Senate, in the Senate Finance Committee. So until we know the results of the Georgia runoff election, we really don’t know what’s going to happen.
But let’s say the Republicans maintain control of the Senate, which would mean all they need to do is win one of the seats in Georgia: a major tax increase is probably not very likely, with the current makeup of the Senate. I think what happens in Georgia on—I think it’s January 5th—is going to tell a lot. If the Democrats win control of the Senate as a result of the runoff elections in Georgia, then I think a major tax increase is very likely.
So therefore, what happens in Georgia is really going to tell us a lot about, you know, what the tax picture is going to look like in the near future. But remember, as you mentioned at the top of the show, President Trump’s tax cuts, they expire—the ones that affect individuals expire in their own right, on January 1 of 2026. So regardless of what happens in Georgia, I mean, let’s say the Republicans maintain control. After all, it’s a historically red state, and they only have to win one of those seats. There’s going to be something that’s going to be happening in the future when the Trump bill would expire, assuming there’s gridlock in Washington, which is probably a pretty good assumption, right?
Yes, I think it’s a good assumption.
So let’s say just hypothetically that the Democrats win the runoff election, what are some of the things in President Biden’s tax plan that may very well go through and affect our listeners?
I think one of the big points that President[-Elect] Biden has made is that he wants to increase corporate tax rates. As you may recall, President Trump reduce the corporate tax rate from 35% down to 21%. But then there was a debate as to how low It should go. President-Elect Biden would like to see that go up from 21% to 28%. Okay, so that would be one of the first major changes.
On the individual side, President-Elect Biden has made it clear he will increase rates for individuals making over $400,000. So what would happen there is right now, the top marginal rate is 37% under the Trump plan, but under a Biden elect plan, should it go through, it would go up to 39.6% for individuals making over $400,000,
And then no change for those below currently proposed?
No, but interestingly, if he just repealed the Trump bill—and this is a nuance that was going on, in one of the debates—Trump lowered the rate from 39.6% to 37%, but there were also some other rate reductions for people under four [hundred thousand]. But you know, Biden’s made it clear. And we know from the first President Bush, where he said, “Read my lips, I won’t increase taxes,” and then he did, but [Biden] says, “If you make under $400,000, your taxes won’t change.” So it would not just be a repeal of Trump, it would be a raising of the rate for $400,000 and up.
So the other interesting change President-Elect Biden has in his tax plan would be to increase the long term capital gains rate, which is currently 20%, to the 39.6% for individuals with income over $1 million. So if you sold your business in a given year, for more than a million dollars, you’re immediately thrust into making over a million dollars. And then let’s say you sold stock because you were wanting to get the capital gains rate—it really wouldn’t give you much benefit, because you’d be taxed at ordinary rates.
What do you think, Mike, the practical implication of that would be in terms of deal structure? Any idea how people would structure deals to try to avoid that? Or is there—in your understanding—is there no way to avoid it?
I think what would happen is—the opposite is true now. Every seller wants to sell stock, every buyer wants to buy assets.
So now, that tension between the two would not necessarily exist if the sale price was over a million dollars, and this went through. So you know, maybe a seller could command a little bit more as an asset sale, which is what the buyer wants, in exchange for a higher purchase price. But generally, we’ve always seen where a seller takes a little bit less in the purchase price, they more than make up for it with the favorable tax rate at 20%. I mean, that’s a very low rate.
So it’ll be interesting to see how deal structures change, but I think from the buyers perspective, they’ll continue to want to buy assets, and now the seller won’t be able to negotiate a stock sale at a cheaper price, because it really won’t benefit the seller.
Gotcha. Understood. Thank you.
Next item, which is an interesting one, would be to impose a 12.4% payroll tax on earned income above $400,000. Right now, that payroll tax phases out once your earned income is $137,000, give or take. And so what this would do is it would introduce an additional payroll tax for those individuals that have earned income or W-2 wages, if you will, above $400,000. So I think the idea would be that it would help fund social security for people that make $400,000 and up,
There’s also in his proposal, a repeal of like-kind exchanges of real estate. That’s known sometimes as a 1031 exchange, or like-kind exchange. That’s basically where you can exchange properties and defer your gain if you buy like-kind property that’s the same as the sale price or more. That would go away—again, for individuals making more than $400,000.
So interestingly, this $400,000 threshold—those individuals have really been, you know, spotlighted as they’re the people that President-Elect Biden would like to pay more of a fair share of tax in his opinion.
And I think the big one that is near and dear to my heart, Chas, because I’m in the estate planning arena, is that President-Elect Biden would return the estate tax exemption to 2009 levels.
So what does that mean? In 2009, an individual could leave $3.5 million to their heirs free of tax. Under President Trump’s bill, which was passed at the end of 2017, effective January 1 of 2018, you can now leave $11,580,000 to your heirs. So that is a significant change that may require people to do a lot of planning.
What that equates to for spouses is that under the current Trump law, a couple can leave $23,160,000 to their heirs tax free, while under the Biden plan, it would be $7 million.
Whether that would be indexed for inflation, like the Trump plan, and like President Obama had negotiated with the Republicans back in 2010—that remains to be seen. Presumably it would but, you know, we’re talking about a major reduction in what our clients will be able to leave their heirs tax free under a Biden plan.
Now remember that under the Trump plan, that reduces in half in 2026 anyway, and that would then, you know, the $23 million would be cut down to the $11.5 [million] per couple.
Okay. Thanks for that recap of the major changes.
Mike, what do you think the timeframe would look like if if this comes down to the runoff elections that are happening in Georgia in January, and something gets passed later in the year as a result of that. Let’s imagine the Democrats take control of Georgia and it gets passed later in the year? Do you think it would be retroactive to the beginning of the year, or would it come into effect the following year? What’s your gut feeling on that?
That’s a great question, and typically, tax laws have not been retroactive. They may be retroactive to the point where they were introduced either in the House Ways and Means Committee or Senate Finance Committee, but there’s also been some retroactivity where it would be a benefit.
So let’s say that the Democrats take both of these seats in the Senate and in the first 100 days, President Biden wants to repeal the Trump tax bill. There’s a good chance that could be retroactive to January 1—at least with the income tax rates. Maybe the particular capital gains, sales—dates would be whatever date, it’s typically the date it was introduced into the legislation, even if the legislation is passed at a later date.
So let’s put it this way: At 2022, probably definitely they would be an effective date, and whether things would go back effective to 2021, that remains to be seen. I think that would be a tough road to hoe because, you know, people need to plan and retroactivity is kind of draconian, and you are asking people to pay more, in this case.
If it was everybody was getting $1,000 credit, a COVID credit, or something, those types of things tend to be retroactive, because everybody’s benefiting from that. But in this case, some taxpayers would really be hamstrung on a particular transaction, if they don’t have the certainty, if they were operating under a certain set of rules, and then Congress changed them retroactively. So I would say 2022, definitely, maybe some parts could be retroactive to 2021.
So for clarity: In a normal environment in which the all the elections would have would have been decided on election day, and these two are sneaking into next year, because they’re runoffs—but in that kind of environment, we would expect a lot of sort of fast-forward planning at the end of the year to try to take advantage of the existing code and what we think the changes might be. That’s made harder by the fact that this election is going to happen in January in Georgia correct?
[bctt tweet=”“For the very, very wealthy, taking advantage of the Trump estate and gift exemption of $11,580,000…if you’re at that high level, and you don’t need it, why wait to give it away? Lock it in, get it out of your estate.” – Michael McBratnie” username=”IndependenceAdv”]
Most definitely. Like typically, you would defer income and accelerate deductions. This year, you may want to accelerate income to be taxed at the 37% rather than the 39.6. But you’re really reluctant to tell people to accelerate income into 2020 if they’re not going to do a retroactive tax change until, you know, in 2021, because then you’re basically telling people to pay their taxes a year early.
Where that differs, though, Chas, I think is on the gifting piece. I do think for the very, very wealthy, taking advantage of the Trump estate and gift exemption of $11,580,000—because if you were going to do that gift in 2021, and you can do the gift in 2020, we know that’s going to expire anyway. So presumably, if you’re at that high level, and you don’t need it, why wait to give it away? Lock it in, get it out of your estate, let it start appreciating outside of your estate.
So that would be the one area where you might want to do something before the end of the year, rather than the classic [choice]. And maybe you would just, you know, talk to your tax advisor, but probably the typical deferring income accelerate deductions probably still make sense in light of this January 5th runoff and the unlikely retroactivity of tax increases.
Yeah, it’s just another wrinkle in an otherwise already wrinkly situation, right? It just adds a little bit additional layer of complexity.
Yeah. One year-end planning thing that might make sense is charitable giving.
Under the Trump tax laws as they exist today, I believe that the adjusted gross income threshold for making a large charitable gift is a little more generous than it would be if that tax bill was repealed. There’s also talk of President-Elect Biden wanting to return to, if you make over a certain amount of money, your itemized deductions are capped at 28%. So if you were having a large transaction this year, a very good year, making a large gift to a charity—a donor advised fund, private foundation type of thing, might still make sense before the end of the year, because A. You’re accelerating a deduction anyway, you’re getting it at presumably the 37% rate, and not a later reduced rate. And then [B.] If you have a donor-advised fund or foundation, you can still give that out over time in a thoughtful manner, but you can lock in your deduction now.
That makes sense. So there are some things that donor-advised or the charitable giving isan obvious one, that those folks that are fortunate to be in that position should be considering, regardless, right?
Things will become more clear in the beginning of January about what the likely direction of the tax law changes are going to be. And I expect that we can revisit the topic, perhaps as early as January 6th, unless there’s some crazy recount, and have maybe another conversation about, “Alright, now that we have more information, what is the likelihood of of the change going to be—what are we looking at?”
So I’m looking forward to being able to revisit the topic with you, Mike, if you’d be so kind and we’ll get an update from you later in the winter and see where we stand then!
Be happy to do so.
Thanks so much for taking the time, and I look forward to the next time we have a chance to chat.
My pleasure Chas, thank you.
Thank you for joining Mike McBratnie and me today for discussion of the Biden tax plan. I hope you found the podcast helpful. Visit our website to see the show notes for today’s episode. Thanks very much. Have a great day.
Michael McBratnie is a partner with Fox Rothschild, LLP, specializing in taxation and wealth planning matters, including family
Michael McBratnie is a partner with Fox Rothschild, LLP, specializing in taxation and wealth planning matters, including family business and succession planning, federal estate and gift tax planning, trust and estate law and administration and probate litigation. He joined Fox Rothschild in 1990, and currently co-chairs the firm’s Family Business and Succession Planning Practice Group. He is also a member of their Executive Committee and formerly chaired their Taxation & Wealth Planning Department.
Michael graduated from Villanova University in 1981 with a Bachelor of Arts in Economics. He attended the Quinnipiac School of Law, receiving his Juris Doctorate in 1984. He completed an LLM in Taxation at Temple University in 1988.
Original Release Date: December 23, 2020.
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