The Proposed “Build Back Better Act” Could Dramatically Impact Your Tax Planning
If you have not heard already, the proposed Build Back Better Act (the “Act”) was recently revealed in Washington. If passed, the Act would mean significant changes to income, estate and gift taxation and, potentially, to your estate planning. The following is a brief synopsis of some of the current proposed changes of this budget reconciliation bill as they relate to your estate and related planning. As with all proposed legislation, it is important to note that the Act could undergo revisions along the path to becoming law, and may not become law at all.
Gift and Estate Tax Exemptions
The current federal estate and gift tax exemption is $11.7 million and is set to be reduced in 2026 to $5 million (adjusted for inflation). However, the Act as proposed accelerates the reduction to become effective January 1, 2022. The reduced exemption would be approximately $6.2 million. Furthermore, although this provision would become effective January 1, 2022, other provisions, such as those proposed for grantor trusts (discussed further below), would become effective immediately upon the date of enactment, which at this point is unknown. On a brighter note, the 40% estate and gift tax rate is not proposed to be changed in the current version of the Act, and the estate and gift tax changes are not anticipated to be retroactive.
Individual Income Tax Rates
Unmarried individuals with taxable income of $400,000 or more and married individuals filing joint tax returns with taxable income of $450,000 or more will see their individual income tax rate increase to 39.6%. Moreover, the Act provides an additional 3% tax on a taxpayer’s modified adjusted gross income in excess of $5 million for married taxpayers filing joint returns for a total of 42.6%. These proposed changes would apply to tax years after December 31, 2021. Therefore, it may be beneficial for high income tax payers to realize income in the current year so that they can be taxed at 35% rather than the 42.6%.
Capital Gains
The Act increases the current capital gains tax rate from 20% to 25%. It also adjusts the top capital gains tax bracket to $400,000 for single filers, $425,000 for head of household filers, and $450,000 for joint filers. The change would generally apply to capital gains and dividends recognized after the date of introduction, September 13, 2021.
Net Investment Income Tax (“NIIT”)
The proposal expands the 3.8% NIIT to apply to all active business income for taxpayers with more than $400,000 of income for single filers, $250,000 for married couples filing separately, and $500,000 of income for married couples filing jointly. The change would apply to tax years after December 31, 2021 but would not apply if the business income was already subject to self-employment tax.
Section 199A
The 2017 Tax Cut and Jobs Act provided a deduction of 20% of income for qualifying business income. The Act would limit the deduction to a maximum of $400,000 for single filers, $500,000 for joint filers, and $10,000 for trusts and estates. The change would apply to tax years after December 31, 2021.
Business Losses
Currently, pass-through business net losses can offset non-business income up to $250,000 for single filers and $500,000 for joint filers. The Act would permanently eliminate net business deductions in excess of business income for non-corporate taxpayers. The change would apply to tax years after December 31, 2021.
Individual Retirement Accounts (“IRAs”)
The Act would prohibit individuals from contributing to their IRAs and other retirement assets when their balances reach $10 million at the end of the previous tax year and taxable income exceeds $450,000 for married couples filing jointly or $400,000 for single or married taxpayers filing separately. It would also accelerate required minimum distributions for these taxpayers in an amount equal to 50% of the value that exceeds $10 million, plus 100% of any amount in excess of $20 million. The Act also proposes changes to similarly situated taxpayers that would prohibit conversion to a ROTH IRA, which is a popular planning technique under current law.
Grantor Trusts
For income tax purposes, “grantor trusts” are irrevocable trusts that are created so that income is taxed to the grantor or the person who created the trust rather than the trust itself, but when the grantor dies the assets held by the grantor trust are considered outside of the grantor’s estate. The Act provides that any grantor trust created on or after the date of enactment would be included in the Grantor’s estate. Grantor trusts created before the date of enactment would be “grandfathered” in and not included in the Grantor’s estate. However, any assets added to a grandfathered grantor trust after the date of enactment would be included in the Grantor’s estate.
While it is generally wise to review your estate planning documents periodically, it is important to review them when legislation, such as the Build Back Better Act, could potentially change the tax rules and regulations upon which your existing documents were based. It is even more important to consult a Trusts & Estates attorney when you own significant assets and have no estate planning documents in place. We at Pashman Stein Walder Hayden, P.C. have assisted many individuals in structuring their estate plan and documents. If you would like to consult with us to determine how the Build Back Better Act may affect your estate, please contact us.
