President Biden has, on Wednesday, 28 April, set out his American Families Plan to invest in children, families and US workers. To partially help pay for the plan, President Biden is proposing to fundamentally change the way Americans are taxed by eliminating basis step up upon death for gains in excess of $1 million ($2.5 million per couple when combined with existing real estate exemptions) and ‘making sure the gains are taxed if the property is not donated to charity.’ Protections would be provided for family owned businesses and farms left to family members who continue to run the business.
Under current law, the US does not generally impose capital gains tax on appreciated assets when people die or make lifetime gifts. Rather, assets gifted during lifetime generally take over the transferor’s historic basis in the property and assets transferred by reason of death generally receive a basis step such that when the recipients later sell the inherited assets they measure their taxable gains by the value of the date of death market value of the inherited assets (rather than the decedent’s original acquisition cost).
Interestingly, no mention is made of exactly when capital gains tax would apply to assets transferred to heirs. Presumably assets passing at death would be taxed at that time. But what of lifetime gifts? The proposal’s wording is vague enough that it could possibly also apply to trigger capital gains tax on lifetime gifts. As gifted assets take a ‘carry over’ basis, rather than receiving the ‘stepped up’ basis that generally applies to assets inherited at death, there would seem to be less of a policy rationale for applying a capital gains tax at the time of the gift (e.g. the recipient of the gift eventually would be fully taxed on all historic appreciation when they eventually sold the asset). Nevertheless, the vagueness of President Biden proposal’s calls the point into question, particularly given Senator Van Hollen’s recent STEP Act proposal explicitly including a capital gains tax on lifetime gifts. For details of Senator Van Hollen’s proposal click here.
To the surprise of many, President Biden’s proposal does not suggest headline changes to the current estate and gift tax regime generally allowing US citizens and green card holders to pass their first $11.7 million of assets free of gift and estate taxes (and in unlimited amounts to US citizen spouses) and then taxing the excess at 40% of market value.
Other proposed headline tax changes include:
- increasing the top income tax rate from 37% to 39.6%
- increasing the top tax rate for capital gains and qualified dividends to 39.6% for those with income over $1 million (the existing 3.8% additional tax on investment income would presumably also continue to apply)
- taxing ‘carried interest’ at ordinary income tax rates, rather than capital gains rates
- limiting special rules allowing real estate investors to defer capital gains tax when they exchange properties so that gains over $500,000 are taxed
President Biden’s proposal also would provide the IRS with additional resources to focus on large corporations, businesses, estates and higher-income individuals. Altogether, the plan is projected to raise an additional $700 billion in tax revenue over the next 10 years.
The full proposal is available on the White House website here. No mention is made of proposed effective dates. Further details of the tax proposals should be released by the Treasury Department in due course, perhaps in a month or so.
If you would like to discuss how these proposals might affect you and your planning opportunities speak to your usual Withers contact or the author of this article.