With any new presidential administration come new financial priorities, and the Biden administration has been no exception. In 2021, we have some major overhauls to tax and estate law, including the expiration of many pandemic-related credit and assistance programs. Here, we'll summarize some of the major tax and estate law changes for the year and what we might expect looking forward to 2022.
Looking Ahead to 2022
While the Biden administration previously pledged to reduce capital gains and gift tax exemptions, the administration's sweeping proposed changes still surprised many. The administration released a 114-page document titled the General Explanations of the Administration's Revenue Proposals to further guide these proposals, also known as the Green Book. The Green Book explains the Biden Administration's plans to implement the American Families Plan and the American Jobs Plan in greater detail than we have seen in the past.
The Green Book proposals, effective dates, Treasury revenue estimates, and implementation of these policies change during the regulatory and legislative processes. Right now, with both parties at an impasse, the administration's proposed legislation seems to change daily. Still, the Green Book gives tax and estate planning professionals some guidelines for where tax policy is heading and allows them to help high-income clients protect their wealth. While any proposed changes to tax and estate law probably won't pass through Congress or go into effect until 2022, new laws could be retroactive to January of 2021 or make current estate planning vehicles obsolete as of January 1, 2022, making planning essential right now. By working closely with your estate and tax planning attorney, you won't be caught off guard and can plan for 2022 and beyond.
Major Tax Law Changes for 2021
While tax laws change nearly every year, 2021 will bring more sweeping changes with tax increases, changes to tax credits, the calculation of the alternative minimum tax, retirement plan contributions, distributions, and some expiring tax credits.
1. The Consolidated Appropriations Act
The Consolidated Appropriations Act went into effect in 2021 and contains several extensions of credits, deductions, and tax relief provisions that were originally part of the country's response to the pandemic and disaster relief declarations. The law includes:
· Advance payment of $600 credits for taxpayers, or $1,200 for married couples filing jointly, plus $600 credits for each child. The credit phases out gradually, beginning at $75,000 for single parents, $112,000 for a head of household, and $150,000 for married couples filing jointly.
· Extensions for tax credits allowing businesses to deduct 100% for some meal expenses.
· Clarification that expenses paid with forgiven PPP loan funds are deductible.
· Clarification that gross income doesn't include PPP loan amounts that were forgiven.
· Clarification that teachers can deduct PPE expenses as part of their $250 qualified educator tax deduction.
· Extends the $300 charitable donation tax deduction for taxpayers using the standard deduction, and this amount increases to $600 for married couples filing jointly.
2. Tax Increases for 2021
In 2021, income tax brackets, deduction and credit limits, and the standard deduction will increase inflation. However, tax increases will be calculated using “chained CPI” rather than the traditional consumer price index (CPI).
3. Earned Income Tax Credit Changes
The maximum earned income tax credit for single filers with no dependents will be $1,502 and begin to phase out at $11,610. For married couples filing jointly with up to three dependents, the maximum EIC will now be $6,728, with the credit completely phasing out at $57,414 of adjusted gross income.
4. Changes to the Alternative Minimum Tax
In 2021, the AMT exemption and phaseout amounts will now adjust for inflation. For 2021, the exemption will be $73,600 for single filers and $114,600 for married couples filing jointly. The AMT will begin to phase out at $523,600 for single filers and $1,047,200 for married couples filing jointly.
5. Changes to Retirement Plans
This year, we'll see changes to contributions and distributions for retirement plans. In 2020, under the CARES Act, taxpayers impacted by COVID-19 could take out up to $100,000 without paying the ten percent early withdrawal penalty. This exception will expire. Additionally, the phaseout amount for those eligible to contribute to IRAs will change. For those who participate in an employer retirement plan, phaseout amounts will happen between $66,000 and $76,000 for a head of household and single filers, while phaseouts for those who are married and filing jointly will be between $105,000 and $125,000. For those who don't participate in an employer plan, while their spouse does, the phaseouts will range from $198,000 to $208,000.
6. CARES Act Provisions Expired
As a result of the pandemic, Congress provided a great deal of financial relief to taxpayers through 2020. Now some of these provisions are expiring, including:
· $600 supplemental weekly payments to the unemployed;
· The Pandemic Emergency Unemployment Compensation, which extended unemployment benefits from 26 weeks to 39 weeks; and
· Pandemic Unemployment Assistance, which provided unemployment benefits to people who don't normally receive them, including independent contractors.
Biden's Proposed Tax Law Changes
Biden's proposed legislation will impact tax law if they go into effect, including long-term capital gains and transfer tax provisions.
1. Income Tax Changes
The proposed legislation would increase the top marginal tax rate from 37% to 39.6%, the level it was in 2017. The applicable income threshold will also decrease from $523,600 for individual filers and $628,300 for those married and filing jointly to $452,700 and $509,300, respectively. The proposal would also impose an additional 12.4% OASDI tax for income levels over $400,000. However, the new law would again allow filers who itemize their deductions to claim the full amount of state, local, sales, and property taxes paid in a given year.
2. Long-Term Capital Gains
Currently, taxpayers pay an income tax rate ranging from zero to 20% when realizing capital gains on assets held for more than 12 months. Under current proposals, the long-term capital gains tax would increase to the taxpayer's highest marginal tax rate of 39.6% for those with adjusted gross incomes over $1 million. If combined with the Net Investment Income Tax, taxpayers with an adjusted gross income over $1 million will face a long-term capital gains tax rate of 43.4%. The Net Investment Income Tax will also apply to all income over $400,000 that isn't already subject to FICA or self-employment taxes.
3. Transfer Tax Provisions
The Biden administration also proposes eliminating the “stepped-up basis” that happens with transferring assets from one generation to the next. Many high-income families avoid significant capital gains tax liability using this stepped-up basis. Still, it can also affect family-owned farms and small businesses, subjecting beneficiaries of these family businesses to significant estate taxes. We'll discuss the proposed stepped-up basis reform in our discussion about possible estate tax implications of the administration's proposed legislation.
Major Estate Law Changes for 2021
This year we're also seeing some changes affecting estate planning right now, including the estate and gift tax exemptions. But we're also reviewing the Biden administration's proposed policy changes for the future.
1. Federal Estate and Gift Tax Exemption Increases
This year the federal estate and gift tax exemption is going back up to $11.7 million for an individual and $23.4 million per couple. That means you can give away $11.7 or $23.4 million over your lifetime without incurring the federal estate tax. However, Biden administration proposals would roll back the estate and gift tax exemption back to 2009 levels as of 2022. The exemption would be $5.85 million per individual and $11.7 million per couple, adjusted for inflation. If the legislation goes into effect on January 1, 2022, you only have a few more months to take advantage of the larger estate and gift tax exemption. It may be time to “use it or lose it,” and you need to ensure your estate plan accounts for the possibility of a huge increase in the estate tax.
2. Grantor Trusts
The Biden administration's proposed plans would also eliminate grantor trusts and discounts on January 1, 2022. A grantor trust is considered separate from the trust contributor for estate taxes but is still “owned” by the contributor for income tax purposes. As a result, transfers between the grantor and the grantor trust are “disregarded” for income tax purposes.
So, with a grantor trust, the contributor/grantor can sell assets within the trust without triggering any income tax consequences. These trusts also allow the grantor to pay the income tax on trust assets on behalf of the trust beneficiaries. The payment of the income tax on these assets isn't considered a gift to the trust, allowing the trust to grow and reducing the grantor's taxable estate. The Biden administration's proposed legislation will seriously restrict the use of grantor trusts as of 2022. However, grantor trusts currently in place in 2021 will be grandfathered in, making it essential to discuss plans with your tax and estate attorney right away.
3. Eliminating the Step-Up in Basis
We all know that, typically, when you sell an asset, you pay taxes on any increase in the value of that asset over your purchase price or the “basis.” However, if you inherit an asset and decide to sell, you only pay taxes on the amount the asset increased while you owned it. You don't pay taxes on the increase in value while your benefactor owned it. You receive a “stepped-up basis,” which is the market value when your benefactor died. This stepped-up basis allows you to avoid a chunk of capital gains taxes on inherited assets.
For example, if you buy a piece of art for $100,000, your “basis,” and sell it ten years later for $200,000, you may owe capital gains taxes on your $100,000 profit. But if you bequeath that art, worth $200,000 at the time of your death, to your child, your child also inherits a “stepped-up basis” of $200,000. If your child sells the artwork a year later for $225,000, they will only pay capital gains taxes on the $25,000 increase in value while they owned the art. This stepped-up basis can dramatically reduce tax liability for inherited assets.
The Biden administration's proposed legislation would eliminate the stepped-up basis for capital gains over $1 million and increase the tax rate for a household making more than $1 million a year.
What Can You Do to Plan Ahead?
If you're concerned about how recent changes in tax policy and estate taxes could affect your finances, it's time to consult a professional. At Great Lakes Family Probate & Estates PLLC, our team is committed to helping you plan for the future, taking the uncertainty out of changes to tax, probate, and estate laws. Our attorneys have been helping Michigan clients with proactive tax and estate planning strategies for years, and we can help you too. Call us at 888-554-5373 or contact us online to set up your consultation today.