Pres. Obama’s Proposed Tax Increases on the “Rich”

In connection with his 2015 State of the Union Address, Pres. Obama proposed to increase taxes again on the “rich” in order to give new tax credits to the “middle class.”  Taxes would increase an estimated $320 billion over 10 years.

Increasing the Top Tax Rate on Qualified Dividends and Long-Term Capital Gains 

·       The current top income tax rate on qualified dividends and long-term capital gains is 20% for taxpayers with income above $413,200 (single) or $464,850 (joint).  In addition, a 3.8% net investment income tax (NIIT) created under Obamacare applies.

·       The President proposes to increase the top tax rate on qualified dividends and long-term capital gains to 28% for couples with income over about $500,000.   The February 2nd budget proposal clarifies that the 28% rate includes the 3.8% net investment income tax.

Treating Transfers of Property by Inheritance and Gifts as Taxable Events 

·       Under current law, most assets receive a new basis at death equal to the date of death value.  This allows heirs to sell inherited assets without a capital gain.  On the other hand, in the case of a gift, the donor generally does not realize any gain, and the donee generally takes a carryover basis, meaning the donee pays the capital gain tax when the asset is sold. 

·       The President describes the current law as “perhaps the largest single loophole in the entire individual income tax code.” 

·       The proposal treats bequests and gifts other than to charitable organizations as realization events.  A realization event means the property is treated as if it had been sold for its fair market value at the date of death or at the date of gift.  Treating death as a realization event is harsher than prior proposals to deny an increase in basis at death (carryover basis).  Under a carryover basis regime, the beneficiaries can defer the tax until they sell the appreciated assets.  It is unclear who would pay the capital gain tax upon a gift, but it would probably be the person making the gift.

·       Administration officials indicate that the capital gains tax paid at death may be deducted for estate tax purposes.  The combined estate, capital gain, and Utah taxes on appreciated property would amount to as much as 60%.

·       A spouse could inherit from a deceased spouse without immediate tax.  The tax would not be due until the death of the surviving spouse. 

·       There would be an exemption from capital gains tax at death of up to $100,000 per individual ($200,000 per couple).  Note that these figures are “gains” and not the fair market value of the asset.  Any unused exemption of one spouse would “port” to the surviving spouse.

·       In addition, capital gains of up to $250,000 per individual ($500,000 per couple) for a personal residence would be exempt.  This additional exemption would also be portable between spouses. 

·       Tangible personal property other than expensive art and similar collectibles would be exempt. 

·       No tax would be due on inherited small family-owned and operated business unless and until the business was sold.  A small family-owned business was not defined.

·       Any closely-held business would have the option to pay the tax over 15 years on gains.  A closely-held business was not defined.

Limiting Retirement Plan Contributions

·       The President proposes to prohibit contributions to and accrual of additional benefits to IRAs, 401(k)s, and pension plans when balances are sufficient to produce an annual distribution of $210,000 in retirement.

·       Under current assumptions, the permitted balance would be about $3.4 million.

Withdrawn:  Treating Section 529 College Savings Plan Distributions as Taxable.

·       Under current law, earnings on Section 529 college savings plans withdrawn to pay for qualifying college expenses are not taxable.

·       Last week Pres. Obama proposed to tax the earnings on new contributions even when spent on qualifying college expenses.  This proposal received a lot of push back, including from members of his political party.  Administration officials indicated on January 27, 2015 that this proposal is withdrawn.