Proposed legislation would increase individual income taxes

| 9/30/2021
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The $3.5 trillion tax and spending bill referred to as the Build Back Better bill passed by the House Ways and Means Committee would significantly increase taxes for higher-income individuals. Though the outcome of the legislation still is unclear, individuals should be aware of the following proposals.

Proposals

Increase in the top income tax rate

For 2022, the top income tax rate for individuals, estates, and trusts would increase from 37% to 39.6% for single taxpayers with taxable income of more than $400,000, for head of household taxpayers with taxable income of more than $425,000, and for married filing jointly taxpayers with taxable income of more than $450,000. The dollar amounts would be adjusted for inflation beginning in 2023. The 39.6% rate also would apply to taxpayers who are married filing separately that have more than $250,000 in taxable income and for trusts and estates with taxable income of more than $12,500.

The Tax Cuts and Jobs Act of 2017 (TCJA) lowered the top individual income tax rate from 39% to 37% for tax years beginning after Dec. 31, 2017, and before Jan. 1, 2026. The proposal would accelerate the expiration of this provision.

Increase in the top capital gains rate

The maximum capital gains tax rate for individuals, estates, and trusts would increase from 20% to 25%. The increased tax rate also would apply to qualified dividends. This rate increase would apply for purposes of regular tax and the alternative minimum tax. The increase in the capital gains rate generally would apply to tax years ending after Sept. 13, 2021. There are transition rules for 2021, including a requirement that gains and losses for the portion of the year on or before Sept. 13, 2021, be tracked separately from gains and losses after that date.

Impose additional 3% tax on high-income individuals, estates, and trusts

The proposal would impose an additional 3% tax on certain high-income individuals, estates, and trusts. Generally, the additional 3% tax would apply to modified adjusted gross income in excess of $5 million. For married individuals filing separately, the additional 3% tax would apply to modified adjusted gross income in excess of $2.5 million. For estates or trusts, the 3% tax would apply to modified adjusted gross income that exceeds $100,000.

Expand application of the net investment income tax (NIIT)

The proposal would apply the 3.8% NIIT to net income or gain regardless of whether an individual materially participates in a trade or business if that net income or gain is not otherwise subject to the Federal Insurance Contributions Act (FICA) or the Self-Employment Contributions Act (SECA). The proposal also would expand what net investment income is subject to tax to include income derived from the ordinary course of a taxpayer’s trade or business, without regard to whether the income is passive or is investment income. As a result, the proposal would subject to NIIT many S-corporation shareholders, limited partners, and LLC members that currently are not subject to NIIT, FICA, or SECA. The proposal would be effective for tax years beginning after Dec. 31, 2021.

Limit the qualified business income deduction

The proposal would add a dollar limitation on the deduction for qualified business income under IRC Section 199A. For individual taxpayers, the amount of the deduction for any taxable year may not exceed $500,000 for a joint return or surviving spouse, $250,000 for a married individual filing a separate return, $10,000 for an estate or trust, or $400,000 for any other taxpayer. The proposal would be effective for taxable years beginning after Dec. 31, 2021.

Make the limit on excess business losses permanent

The proposal would make permanent the limitation on any excess business loss of an individual taxpayer. However, a disallowed loss could be carried forward to the next taxable year. Currently, excess business losses are limited, but that provision is set to expire on Jan. 1, 2027.

State and local tax (SALT) cap

The TCJA enacted a $10,000 limit on the deduction for state and local taxes. This limit is scheduled to expire in 2026. The SALT cap was not addressed in the bill that was passed by the House Ways and Means Committee. However, there are ongoing discussions in Congress about providing relief.

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Looking forward

If all the provisions in the Build Back Better bill passed by the House Ways and Means Committee are enacted, higher-income individuals would see significant tax increases. Everyone’s circumstances are unique, so it is important to talk with tax advisers now to see if there might be ways to mitigate some of the negative effects of these provisions.

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Sarah Allen-Anthony
Sarah Allen-Anthony
Partner, Global Private Client Services Leader
Rochelle Hodes
Rochelle Hodes
Principal, Washington National Tax
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Lauren Shapiro
Washington National Tax