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HOUSE WAYS & MEANS COMMITTEE TAX PROPOSALS - A FIRST LOOK

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As author John Dufresne has written, “The purpose of the first draft is not to get it right, but to get it written.” In that spirit, we cannot say if the House Ways and Means Committee “got it right,” but we can say that we have a first draft. On September 13, 2021, the House released its highly anticipated, much contested draft tax legislation, which was approved by Committee on the 15th.

The 880 pages of legislative recommendations related to “Funding our Priorities” are estimated to raise $2 trillion in revenue over the next 10 years. This would partly pay for the $3.5 trillion in spending priorities outlined in White House’s 2022 budget. To be clear, what the committee released is a draft proposal—it is headed to the Senate for debate and amendment. However, since Budget Reconciliation resolutions can be adopted in both the House and Senate under Democratic control, a simple majority vote could send the Bill to the White House.

The proposed legislation coming out of the House sets forth, in part, the following major changes:

Personal Income Tax Provisions

  • Personal Income Tax – The highest marginal tax rate would increase to 39.6% from the current 37%. In addition, the tax bracket ranges themselves will be adjusted slightly, causing taxpayers at the upper ends of their marginal tax brackets to be bumped up. These changes would take effect beginning January 1, 2022.
  • Capital Gains Tax Rate and Qualified Dividends – The maximum tax rate for capital gains and qualified dividends would increase to 25% from the present 20%, starting on September 13, 2021 for income levels over $400,000 (single) and $450,000 (joint).
  • Net Investment Income Tax (NIIT) – The application of this 3.8% tax rule would widen to encompass all pass-through income over $500,000 for joint filers, $400,000 for single filers, and $13,050 for estates and trusts.
  • Introduction of a New 3% Surtax – A new surtax aimed at those earning an Adjusted Gross Income of $5,000,000 or more jointly and trusts and estates earning $100,000 or more annually has been introduced.

Estate & Transfer Tax Provisions

  • Federal Estate & Gift Tax Exemption (Unified Credit) and Generation Skipping Transfer Tax Exemption – The lifetime estate and gift tax exemption and the generation skipping transfer tax exemption is slated to reduce to roughly $6,000,000 per person (i.e., $5,000,000 indexed for inflation) from the current $11,700,000 – to be effective after December 31, 2021.
  • Grantor Trusts – The advantages and effectiveness of Grantor Trusts would be severely restricted. Trust assets would no longer be separated from the owner’s estate upon death, transfers made between the owner and the Trust would no longer be “disregarded,” and Trust distributions would now be considered as gifts. These changes may also impact the usefulness of related strategies, such as Qualified Personal Resident Trusts (QPRTs), Grantor Retained Annuity Trusts (GRATs), and Charitable Lead Annuity Trusts (CLATs). The provisions allow for existing Grantor Trusts to be grandfathered in if they were funded before enactment of the legislation.
  • Non-Grantor Trust Income Tax – Trust income tax rates would be subject to the same increase in tax rates as individuals in the highest income tax bracket up from the current 37% to 39.6%.
  • Valuation Discounts – Valuation discounts that are typically taken for lack of marketability or lack of control would be eliminated on passive “non-business” assets. 

Individual Retirement Account Provisions

  • IRAs in Private Investments – IRAs would lose their tax exemption status if they hold private investments whose sponsors require them to be accredited investors. This would take into effect after December 31, 2021, and investors would be given a two-year transition period to divest.
  • Control Investments in IRAs – If an individual uses an IRA to invest in entities in which they have a control position or an ownership interest of 10% or more (currently 50%), the IRA would lose its creditor protection status. This change would take into effect over a proposed 2-year transition period to accommodate for IRAs currently invested in these entities.
  • New Limitations on Retirement Accounts – Individuals with an aggregate balance of $10,000,000 or more in their IRAs and retirement plan accounts by the end of the taxable year would be restricted from making subsequent contributions to their retirement accounts if their taxable annual income is $450,000 or more filing jointly or $400,000 or more filing single. In addition, the owners of these substantial accounts would be subject to a new required minimum distribution equal to half of the difference between their aggregate retirement balance as of prior year’s end and $10,000,000.
  • “Backdoor Roth” – The loophole that allows high-income earners to fund Roth IRAs by first transferring funds from a Traditional IRA and then paying income taxes on them would be limited to allow only those earning less than $450,000 jointly or $400,000 single.

Corporate & Other Miscellaneous Tax Provisions

  • Corporate Tax Rate – The current flat corporate tax rate of 21% would be replaced with graduated rates of 18% on the first $400,000, 21% on the marginal income up to $5,000,000, and 26% on income over $5,000,000.
  • 199A Deduction – This qualified business income deduction would adjust from 20% to a maximum of $500,000 for married filing jointly, $400,000 for single, and $10,000 for estates and trusts.
  • Increased IRS Budget – Notably, there is also a plan to provide $78.9 billion in funding to the IRS for increased compliance and enforcement for taxpayers earning more than $400,000 per year.

In order to pass without Republican backing, the legislation will need votes from every member of the Senate Democratic Caucus and nearly all Democrats in the House. While not an insurmountable feat, the realities of political compromise appear to have already led to the dropping of certain items from the Democratic wish-list, such as an increase in the previously lowered State and Local Tax deductions. During the reconciliation process, further revisions may occur; on the other hand, a simple majority rule may see this version approved, whether or not the Ways and Means Committee got it “right.”

At WMS, we have been reminding clients to discuss any open planning items with your advisory team since early 2020. Again, we recommend doing so. For some clients, it may make sense to try and utilize the gift tax exemption levels before they decrease, implement certain types of trusts, or discuss other tax plans. Unfortunately, the time to plan for some of these items is running short; nevertheless, these conversations should begin with all due haste.

Please note that the above information is being provided for informational purposes only. WMS is neither a law firm or accounting firm, and none of the above information should be viewed as legal, tax, or accounting advice.

 

 

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