On Wednesday, September 15, the House Ways and Means Committee (Ways and Means), chaired by Congressman Richard Neal of Massachusetts, completed its markup of proposed legislation (the plan) that could bring significant tax changes (positive or negative based upon perspective) to individuals and businesses as part of a budget reconciliation bill referenced as the Build Back Better Act.
September 15 was the self-imposed deadline by the Democratic Party for 13 House and 12 Senate committees to write their portion of the reconciliation bill under a blueprint advanced in August. The markup now moves to the Budget Committee, which will assemble all the other committees’ markups into one piece of consolidated legislation. From there, it will head to the House Rules Committee before it can be brought to the House floor for a vote. Any bill approved by the House will also need the approval of the Senate.
Ways and Means is overseeing the proposed tax changes to pay for President Biden‘s social spending plans (to address climate change and extend benefits for workers and families). The mark-up was approved mostly along party lines 24-19 (one Democrat voted no with concerns over the proposed cost of the bill).
Earlier in the week, the proposed tax-related bill language was released and exceeded 850 pages of text.
Below are some (subjectively) selected proposals contained in the plan that may be of most interest to many of our clients and friends:
The top “C” corporation tax rate would be 26.5%; this is an increase from the existing flat 21%rate. Additionally, a graduated corporate tax would be reintroduced to the Internal Revenue Code as illustrated below.
Taxable income not over $400,000
Taxable income over $400,000 but not over $5,000,000
Taxable income over $5,000,000
For corporations with taxable income over $10,000,000, an additional 3% tax is imposed not to exceed $287,000; this additional tax eliminates the benefit of the lower tax rates.
The top individual ordinary income tax rate would be 39.6%. The top tax rate, excluding the surtax discussed below, would apply to taxpayers married filing joint (MJF) with taxable income exceeding $450,000 and single with taxable income exceeding $400,000.
A new “surtax” is proposed on high-income individuals, estates, and trusts. This tax would be 3% on taxpayers with modified adjusted gross income (as defined) above $5 million which applies to both single and married taxpayers ($2,500,000 for married filing separate). The tax applies to estates and trusts with income exceeding $100,000.
Top capital gain tax rate of 25% for high-income individuals. The rate would be retroactive to the date after the introduction of the Act (September 13). This rate is significantly lower than the rate originally proposed by President Biden earlier this year.
Significant expansion of the net investment income tax. This change would now apply the tax to active business income of “S” corporation shareholders and partners. This tax would apply to taxpayers with taxable income exceeding $400,000 single and $500,000 MFJ.
The Qualified Business Income deduction would be limited to $500,000 MFJ, $250,000 single and $10,000 for estate and trusts.
Limitations on the use of excess business losses are proposed. Section 461(l) would become a permanent part of the Internal Revenue Code and would not expire in 2026 as originally provided under The Tax Cuts and Jobs Act enacted during the Trump administration. The losses would no longer be treated as a net operating loss in future years; there would need to be active business income to deduct losses in excess of the $500,000 limitation ($250,000 for single taxpayers) provided.
The effective date of this provision is currently noted as for years beginning after 12/31/2020 (and not 2021).
Valuation discounts would not be allowed for certain non-business asset transfers. The effective date of this proposal is the date of enactment.
The ability to exclude gain from certain small business stock under Section 1202 would be severely limited and would apply to exchanges after September 13, 2021. For qualified small business stock acquired any time after February 17, 2009, taxpayers with adjusted gross income (AGI) equal to or greater than $400,000, as well as all trusts and estates, may only exclude 50 percent of the gain for income tax purposes from the sale of qualified small business stock. AGI for this purpose is determined without regard to the exclusion for the gain. This provision applies to exchanges on or after September 13, 2021, unless a written binding contract exists in effect on September 12.
The unified gift and estate tax credit would be reduced to $5,000,000 per individual adjusted for inflation after 2011. The Joint Committee staff currently estimates that the basic exclusion amount under the proposal would be $6,020,000 for 2022.
Certain grantor trusts could be pulled into grantor’s estate (but only applies to future trusts and future transfers). The proposal generally is intended to more closely align the income tax and transfer tax (Federal estate and gift tax) rules for grantor trusts by imposing transfer tax consequences on certain assets held in or distributed from a grantor trust. Further, in the case of any transfer of property between a trust and a person (whether or not the grantor) who is a deemed owner of the trust (or portion thereof), the proposal provides that the person’s treatment as the owner of the trust is disregarded in determining whether there is a sale or exchange for income tax purposes. As a result, such a transfer might now result in the realization and recognition of gain.
The proposal is effective for (1) trusts created on or after the date of enactment and (2) any portion of a trust established before the date of enactment that is attributable to a contribution made on or after such date
A temporary rule allowing any “S” corporation existing on May 13, 1996, and at all times thereafter, to reorganize as a partnership without triggering tax. This provision would apply during the two-year period beginning on December 21, 2021.
Deductions for Qualified Conservation Easement contributions would be limited to 2.5 times the sum of each partner's adjusted basis in the partnership. This rule is proposed to be retroactive to 2016. Not clear how this would work for taxpayers whose years have already closed.
Almost as important as items included in the proposed plan are items that are currently not included. These include:
The proposed repeal of the like-kind exchange rules for real estate proposed by President Biden earlier in the year is not in the current draft before the ways and means committee.
Eliminating the step-up on basis of inherited assets is also absent from the current plan.
A SALT deduction is not in the current version of the plan. However, Chairman Richard Neal of Massachusetts joined other Democrats in releasing a statement that the SALT cap would be addressed later in the legislative process.
Repeal of favorable tax deductions for the oil and gas industry has not been included in the current plan. Good news for the industry though environmentalists will continue to push for limitations.
In addition to the above items, there are numerous other provisions including significant proposed changes to both in-bound and out-bound international transactions, significant extension and expansion of business and energy credits, and other proposals to individual retirement plans.
This is major tax legislation; these proposals still have significant legislative processes to pass before they would become law though. There will likely be additions and/or deletions to plan over the next weeks or months.
We will continue to monitor developments as these proposed changes move through the legislative process. Additional articles and analyses will be provided in the coming weeks. In the meantime, if you have any questions, please reach out to your Schneider Downs tax consultant or contact us at [email protected].
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Material discussed is meant for informational purposes only, and it is not to be construed as investment, tax, or legal advice. Please note that individual situations can vary. Therefore, this information should be relied upon when coordinated with individual professional advice.