Will Biden Raise Your Taxes?

My first blog post of 2021! We’re only a month into it, and this new year has already brought a lot of changes, including a new president. I’ve been receiving questions about what the change in government will mean for investors. Specifically, what changes should we expect with President Biden and a Democratic Congress?

To be honest, I really struggled with whether or not I should write this post. I typically try to stay away from guessing what is coming in the future. I prefer to plan conservatively with all of the information we know today and be prepared to shift if and when things change in the future.  Also, I don’t want to write something you could look up on Google and find the same answer.  For that reason I generally stay away from technical posts about detailed planning.

However, this blog post passed my biggest test: I asked Kaimey if she would be interested in reading it, and she said yes. She was probably just trying to be nice, but I wrote it anyway.

So today I am going to recap some of the tax law changes that President Biden is likely to propose during his term. This is based off things he said during his campaign. And I’ll give you a quick spoiler – most of the big changes only affect those making over $400,000 per year.

Tax increases affecting those making over $400,000 per year

• Raising the top tax bracket from 37% to 39.6%. This was actually the top tax bracket before President Trump took office. Fun fact – the top tax bracket was 91% for most of the 1950s.
• Expand Social Security payroll taxes. Right now you pay a 6.2% social security tax (and your employer pays 6.2% also) on your wages. However, you only pay that on the first $142,800 of wages (2021 limit). Everything above that avoids Social Security taxes.  President Biden wants to keep that rule, but start charging the Social Security tax again on any wages above $400,000. Does this seem strange that you would pay the tax up to $142,800, then pay no tax from $142,800-$400,000, then pay the tax again above $400,000? It is strange, but there are other areas in the tax code with similar “donut” limits.
• Cap the benefit you can receive from itemized deductions. There used to be limits like this, and Biden wants to reimpose some of those. Specifically he doesn’t want people above the 28% tax bracket to be able to benefit more than everyone else.
• Other changes won’t affect as many people and are related to more technical tax planning like PEASE limitations and the 199A deduction.

Potential tax increase for those making over $1,000,000 per year

• If you sell an investment for a gain and have held it longer than one year, you get to pay a special (lower) tax rate on the gain. These are called Long Term Capital Gains. The rate you pay depends on how much other income you have. The current rates are either 0%, 15%, or 20%. President Biden would like to add another rate on here, which would presumably be 39.6% for those making over $1 million.

Eliminate the step-up in basis on inherited assets

• In my opinion, this is the biggest proposed change. Right now if you pass away and leave assets to your heirs, they get to increase (or “step up”) the basis of those assets to the value on the date of your death. Suppose your uncle passed away and left you $100,000 of stock. Under current tax law, you could sell the stock right away and pay no tax on the gain. However, under Biden’s proposed rules you would have to keep the basis (or purchase price) that your uncle paid and pay tax when you sell it. There’s some debate on whether or not you would have to pay any tax in the year of the inheritance or if you could wait until you sell the asset. There could be a situation in the future, though, where a son inherits a family home but has to sell it right away to have enough money to pay the taxes due on it. And what if the son doesn’t know what his parents paid for the home 40 years ago? How do you calculate the taxable gain then?

Institute a flat retirement contribution credit

• There is an argument that retirement accounts like 401(k)s provide much more benefit to the wealthy. I can see this argument. If you are taxed at 37%, every dollar you put in your 401(k) saves you $0.37. However, if you are only taxed at 10%, your 401(k) contributions are much less valuable. Biden is proposing that we set a flat 26% tax credit for retirement account contributions.

Reduce the estate and gift tax limit

• If you pass away in 2021 you can leave up to $11.7 million to your heirs with no estate tax due. We all expected this number to change. The amount is double what it used to be and was already scheduled to go back to the original limit in the year 2025. Biden just wants to change it back sooner.

There are multiple other changes that Biden has discussed. The above are just the major ones.

It’s good to keep these in mind as you are working through your financial planning. However, I am not making big changes with my clients until we know how these are really going to shake out. It seems clear that right now our leaders have a lot more important things to deal with than tax law changes.

If you have questions about how these may impact you or want updates as new tax laws come out, let me know! Creating a financial plan is not just a one-time event. It helps to have someone on your side who is evaluating changes like this and how it affects your specific situation.