The Democratic Party will hold the majority votes in both the house and senate after the January 20th inauguration. This will make any tax-proposals from the incoming Biden administration more likely to pass with the needed votes. Here are ten of the proposed changes, how they could affect your tax situation, and strategies to minimize your tax bill.
Higher Maximum Tax Rate
Proposal to raise the top individual federal tax rate on ordinary income and net-short term capital gains to 39.6%, the rate that was in affect before the Tax Cut and Jobs Act (TCJA) lowered it to 37% in December 2017.
Itemized Deductions
The proposed plan would eliminate the $10,000 cap for itemized deductions on state and local taxes instated by the TCJA.
The new administration plans on limiting the tax benefit of itemized deductions to 28 cents on every dollar of allowable itemized deductions.
For upper-income individuals, the proposal would reinstate the tax provision that reduces total allowable itemized deductions by 3 cents for every dollar above a certain income threshold.
Tax Tip: It may be beneficial to make additional expenditures in the form of prepayments, to increase your itemized deductions (to exceed a standard deduction). This could lower the current year’s tax bill. Some deductible expenses to consider include mortgage payments, larger charitable deductions, state and local income taxes, and property taxes.
It is important to note that:
There is a cap on the amount you can deduct for state and local taxes
Prepaying state and local taxes may not be a good idea if you pay the Alternative Minimum Tax (AMT). Write-offs from state and local taxes are disallowed under the AMT.
Increased Maximum Rate on Long-term Capital Gains
Under the Biden plan, net long-term gains collected by those with incomes above $1 million would be taxed at the same 39.6%rate that is proposed for ordinary income and net-short term capital gains. This rate would increase to 43.4%with the 3.8% Net Investment Income Tax (NIIT) add-on (this tax only applies to individuals with net investment income that exceeds the MAGI threshold). This would be a significant increase from the current affective maximum rate of 23.8%
Tax Tip: Individuals should evaluate the tax advantages of selling appreciated securities. It may be beneficial to shelter to short-term capital gains with capital losses. Otherwise, these short-term gains will be taxed at your ordinary tax rate (plus NIIT). If an individual has on overall net capital loss, they can shelter this loss up to $3,000 of 2020 income.
Higher Social Security Taxes for High Earners
Currently, the 12.4% social security tax is applied to the first $137,700 of 2020 wages or self-employment income. For 2021 this ceiling is raised to $142,800. The new administration plans would restart an additional tax on income over $400,000.
Elimination of Step-Up in Basis
A step-up basis is the readjustment of the value of an appreciated asset for tax-purposes upon inheritance. It reflects the changed value of an inherited asset. The value of the asset on the day the owner dies becomes the cost-basis on the asset. Consequently, if heirs sell an inherited capital-gains asset, they only owe federal capital gains tax on post-death appreciation. This tax provision has been criticized as a way for the wealthy to avoid paying taxes on their investment earnings. The incoming administration plans to eliminate this tax-saving provision.
Elimination of Real-Estate Tax Breaks
The new administration proposes eliminating the following:
$25,000 exemption from the passive loss rules for rental real estate losses incurred by middle-income individuals,
Section 1031 like-kind exchanges that allow the deferral of capital gains taxes on exchanges of “like” property,
Rules that allow for quicker depreciation write-offs for certain kinds of real property
Qualified Business Income (QBI) deduction for profitable rental real estate activities.
Increased Child and Dependent Care Credits
Currently, parents can collect a credit up to $2,000 for each qualifying child under age 13. Another credit of up to $2,100 is available to cover care expenses for a qualifying dependent or up to $4,200 for two or more dependents. The Biden Administration would increase the child credit to $4,000 for one qualifying child or $8,000 for two or more qualifying children. These credits would start to phase out for families making $125,000 and completely phase out for families making over $400,000. Biden would also establish a credit of up to $5,000 for informal caregivers.
New Credits for First-Time Homeowners and Renters
The Biden Administration would create a new re-fundable tax credit of up to $15,000 for eligible first-time home purchasers. The credit may be collected when the home is purchased. The proposal would also establish a refundable tax-credit for lower-income renters that is designed to hold rent and utility payments to 30% of monthly income.
“Green Energy” Tax Changes
The new administration has proposed to expand tax incentives for reducing carbon-emissions and other ecofriendly efforts. To align with these efforts, Biden plans would also eliminate federal income tax deductions for oil and gas drilling costs of depletion.
Changes to Corporate Tax
The Biden plan would increase the current corporate tax rate (a flat tax of 21%) to 28%. This would result in an estimated $1.1 trillion in tax revenue over the next decade. The plan would also impose a 15% minimum tax on corporations with at least $100 million in annual income that pay little to not income tax under current rules. A corporation that meets these requirements would pay the greater of their regular income tax bill or 15% of reported book income.
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