BACKGROUNDER - Tax Policy Group March 4, 2021
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BACKGROUNDER – Tax Policy Group March 4, 2021 1. Welcome / Introduction of Members & Online Portal (5 minutes: 3:00 p.m. – 3:05 p.m.) You have been selected by Board Chair ML Mackey and President Todd McCracken to serve on the Taxation Policy Group this year based on your knowledge, expertise and your ability to take appropriate policy positions regarding the issues in this jurisdiction on behalf of NSBA. For 2021, your policy group is chaired by Malcolm Prouty (malcolmprouty@systemsandmaterials.com) and Jody Milanese (jmilanese@nsba.biz) will be the primary NSBA staff contact. NSBA staff has developed a one-stop-shop Webpage for the Taxation Policy Group. Here, you will find the agendas and background documents for each meeting as well as: supplemental documents, Taxation issue briefs, meeting document archives, all Taxation Policy Group members, the meeting schedule and video conferencing information and a variety of important links to the NSBA website. This website is ONLY for this committee and is password protected. 2. Policy Group Overview and Expectations (Role, Guidelines, Process, and Requirements) from Vice Chair for Advocacy Bob Treiber (5 minutes: 3:05 p.m. – 3:10 p.m.) 3. NSBA’s Top Priorities for the 117th Congress – Tax Purview (20 minutes: 3:10 p.m. – 3:30 p.m.) No. 5 - Enact Tax Reform That Prioritizes Simplification The NSBA Tax Reform Brochure President Joe Biden would like to see Congress make significant changes to the tax code, including changes to the corporate tax rate and to the top tax rate for individuals. Further, President Biden has indicated that he would like to see the reduction or elimination of the tax cuts made by the TCJA. He believes that the tax system should be changed to ensure that large corporations and high-net-worth individuals pay their "fair share” of taxes. For individuals, President Biden has proposed increasing the top income tax rates and expanding the Social Security tax base, as well as curtailing or eliminating various incentives that are currently available to high income taxpayers. If these plans are implemented, roughly $4 trillion would be raised over the next 10 years, as reflected in estimates obtainable through the Tax Policy Center and the Tax Foundation. The additional tax revenue would be used to pay for spending initiatives to improve the nation’s infrastructure, developing alternative energy sources and building up the U.S. manufacturing sector.
To be successful in implementing proposed changes, the timing of any future tax increases will need to be balanced against the need to keep the economy strong and resilient at a time when the country is trying to address the economic slump that was brought about by the coronavirus pandemic. Individual Income Tax Rates Current law provides for a progressive income tax rate system, which means that tax rates increase as taxable income increases. Under the seven-bracket system, tax rates for ordinary income start at 10 percent and increase to 37 percent for taxable income of $622,050 for individuals filing joint income tax returns in 2020, and $518,400 for individuals filing as single taxpayers. Under Biden’s plan, the TCJA tax cuts likely would be repealed and the top federal income tax rate of 39.6 percent would be reinstated. Business Income from Pass through Entities (Partnerships, S Corporations and Sole Proprietorships) Under current tax law, many businesses qualify for a qualified business income deduction of up to 20 percent, which can lower the effective tax rate on the business income of individuals from a high of 37 percent to as low as 29.6 percent for qualifying businesses. President Biden would like to phase out the tax benefits associated with the qualified business income deduction for individuals making more than $400,000 a year, thus effectively raising the business income tax rate from 29.6 percent to 39.6 percent. Corporate Tax The Tax Cuts and Jobs Act (TCJA) reduced the corporate income tax rate to a flat 21 percent rate from a progressive rate of up to 35 percent before 2018 and abolished the corporate alternative minimum tax. President Biden recommends raising the corporate tax rate from 21 percent to 28 percent, a middle ground between the top rate of 35 percent under the Obama administration and the current 21 percent rate. He also would put in place a new form of corporate alternative minimum tax that essentially would require corporations to pay the greater of their regular corporate income tax or a new 15 percent minimum tax on worldwide book income. Payroll Taxes A 6.2 percent Social Security tax and a 1.45 percent Medicare tax currently are imposed on both the employer and the employee. While the wage base for the Medicare tax is unlimited, there is a cap on the Social Security tax base equal to the first $137,700 of employee wages (increasing to $142,800 for 2021).
In addition to the Medicare tax rate, which totals 2.9 percent for the employer and the employee, an additional 0.9 percent Medicare tax is levied on employees with wage and self- employment income above the same thresholds that are applicable in the case of the net investment income tax ($250,000 or more for joint returns or a surviving spouse, $125,000 or more for a married taxpayer filing a separate return and $200,000 in all other cases). This effectively increases the collective employer/employee rate or self-employed rate to 3.8 percent (1.45% twice + 0.9%), which would raise the Social Security and Medicare tax rate for self- employed individuals to 16.2 percent (12.4% + 3.8%). President Biden has indicated that he would remove the cap on the wage base for the Social Security tax for high earners, defined as those making more than $400,000. These changes to the Social Security and Medicare taxes would apply to employees and self-employed individuals that have sole proprietorships or are partners in a partnership. It is uncertain whether wages between $142,800 and $400,000 would be subject to the additional income tax, or whether there would be a so-called “donut hole” before the higher rate kicks in for individuals with taxable earnings in excess of $400,000. This would raise the overall income tax rate on some businesses to as high as 55.8 percent (39.6% + 16.2%) before taking into account state income taxes. Estate Tax The estate tax rate currently is subject to a progressive rate scale up to 40 percent. The estate tax is imposed upon the death of a taxpayer after an exemption allowance of up to $10 million per taxpayer, as indexed for inflation (currently $11,580,000 per taxpayer ($23,160,000 per married couple for 2020)). In addition, beneficiaries are entitled to a step-up in the tax basis of all inherited assets based on the date of death valuation or the alternative valuation date. President Biden would reduce the exemption amount to pre-Obama levels of $3.5 million per taxpayer, while increasing the top estate tax rate to 45 percent. He has also suggested eliminating the regime that allows for a step-up in tax basis on the date of death or alternative valuation date. Investments into Distressed Areas The TCJA introduced significant incentives for investments in qualified opportunity zones (QOZs). These rules allow taxpayers to defer recognition of capital gains where the proceeds are reinvested in a property directly or a QOZ fund property within 180 days. The capital gains deferral exists until the earlier of the time the QOZ property is sold or December 31, 2026. In addition to the deferral, there is a 10 percent tax reduction if the fund is held for five or more years, a 15 percent reduction in tax if the property is held for seven or more years, and if the investment is held for 10 or more years, the appreciation of the QOZ fund investment (not the original gain but the post-acquisition gain) qualifies for a step-up in tax
basis, essentially excluding the appreciation from gross income. In addition to QOZs, a new markets tax credit is available to investors that inject capital into community development entities. The credits are progressive and vest with each year of expenditures and can equal up to 39 percent of the cost of the new markets tax credit project. President Biden has indicated that he would like to continue both programs and may be willing to expand and make the new markets tax credit program permanent. Manufacturing and Business Incentives Tax incentives currently are available for low-income housing, reducing fossil fuels and using alternative energy, as well as employer incentives for hiring individuals that qualify for the work opportunity tax credit and for hiring individuals with disabilities. Tax credits also are available to employers for providing child-care facilities on their premises so that working parents can continue working. President Biden supports these programs but would like to add a tax credit for manufacturing goods in the U.S. He also has proposed imposing a tax penalty on corporations that ship jobs overseas in order to sell products back to the United States. No. 11 – Support Fair and Simple Capital Gains Taxes Under current law, capital gains are taxed as income. A capital gain is a profit from the sale of a capital asset—such as a house, stock, bond, or jewelry— from the time that asset is acquired until the time it is sold. The price at which an asset is purchased is called the asset’s “basis,” and taxpayers pay tax on the difference between an asset’s basis and its sales price when they sell, or realize, that capital gain. For capital gains realized on assets held for less than one year (short-term capital gains), taxpayers pay taxes according to their ordinary individual income tax rate, ranging from 10 percent to 37 percent. For assets held longer than one year (long-term capital gains), taxpayers pay a reduced tax rate, ranging from 0 percent to 20 percent, depending upon a taxpayer’s income. Individuals with Modified Adjusted Gross Income surpassing $200,000 ($250,000 for married couples) pay an additional 3.8 percent tax on net investment income. Currently, when a person dies and leaves property to an heir, the basis of that property is increased to its fair market value. This “step-up in basis” means that any capital gains that occurred during the decedent’s life go untaxed. When the heir sells that property, any capital gains taxation will be assessed based on the heir’s new basis. Step-up in basis reduces the tax burden on transferred property, as the total value of transferred property is already taxed by the estate tax. Senate Finance Committee Chairman Ron Wyden (D-Oregon) Proposal
Senate Finance Committee Chairman Ron Wyden (D-Oregon) has proposed a plan that would tax the capital gains of the highest-earning taxpayers annually, at ordinary income tax rates. Known as “mark-to-market” taxation, this plan would eliminate the “lock in effect” by eliminating deferral, but it would also increase the tax burden on saving and make the tax code more complex. Wyden has previously proposed taxing some investment income under mark-to-market taxation. He introduced a bill in the 115th Congress focused on transitioning the treatment of financial derivatives to mark-to-market. Specifically, his 2017 bill would have required derivatives traders to value their swaps, options, and forwards contracts at their market rate and report them to the IRS annually for taxation. While the details of Wyden’s newest plan are not fully fleshed out, there are a few things about mark-to-market taxation of capital gains to consider. This would be a noticeable tax increase for some taxpayers and raise additional revenue. Under Wyden’s plan, all capital gains owned by the top 0.3 percent of taxpayers would be taxed annually at ordinary income tax rates (ranging from 10 percent to 37 percent), excluding primary residences and 401(k) plans. Currently, long-term capital gains—or those held for longer than a year— are taxed at a lower rate, ranging from 0-23.8 percent (short-term capital gains held for less than a year are taxed as ordinary income tax rates). By removing deferral, Wyden’s plan would eliminate the lock-in effect for some taxpayers. Individuals subject to Wyden’s proposal would no longer have a choice over when they paid taxes on capital gains. As a result, there would no longer be an incentive to hold on to these assets. Even so, the proposal would also increase the tax burden on savings by accelerating taxes on capital gains and could have an impact on the incentive to save. President Joe Biden’s Proposal President Joe Biden’s plan would first raise taxes on capital gains by treating them as ordinary income for those earning more than $1 million. Further, he has said he would also raise the top rate on ordinary income back up to 39.6 percent from the 37 percent rate put in place by the Tax Cuts and Jobs Act. As such, the top rate on long-term gains would nearly double from 23.8 percent to 43.4 percent. Biden cites a Joint Committee on Taxation report on tax expenditures which estimates that the special lower rate on capital gains and dividends reduces federal revenue by $127 billion each. While the expenditure estimate implies that the government loses a lot of revenue from the lower rate on capital gains, it is highly unlikely that the federal government could get this much revenue from just raising the rate. Research from the Congressional Budget Office (CBO) and the Joint Committee on Taxation (JCT) shows that capital gains realizations are very sensitive to taxation. This is because taxpayers can time when they want to realize their capital gains in order to minimize their tax bills. Specifically, the CBO and JCT estimate that the elasticity of
realizations to the tax rate is -1.2 in the short run and -0.79 in the long run. Specifically, a 1 percent increase in the capital gains tax rate would result in a 0.79 to 1.2 percent drop in capital gains realizations. In practice, this means that proposals to significantly raise capital gains tax rates, with no other changes, can lose federal revenue. Using CBO data on capital gains realizations and these elasticities, the Tax Foundation estimate that raising the top rate to 43.4 percent (39.6 percent statutory rate plus the 3.8 percent Net Investment Income Tax) could lose about $2 billion each year. However, Biden is not simply proposing to raise the top rate on capital gains. He also proposes eliminating step-up basis in capital gains. According to the JCT, not taxing gains at death results in a loss of about $40 billion each year. Again, this is a tax expenditure estimate and not a revenue estimate, and the amount of revenue Biden’s proposal would ultimately raise would depend on how he structures the elimination of step-up in basis. He could require heirs to take on the decedent’s basis when they receive an asset, known as carryover basis, but still allow heirs to defer realization of that inherited asset’s capital gain. This would raise much less than making death a taxable event—and even then, proposals to tax capital gains at death can have many exemptions. It is also worth noting that these two proposals interact in two important ways. Since Biden is raising the tax rate on capital gains, the value of the tax expenditure for step-up in basis will mechanically increase. This is because the rate at which these gains would otherwise be taxed at would be higher. In addition, eliminating step-up in basis at death reduces a taxpayers’ incentive to defer realizing gains. Part of the reason why there is such a strong incentive to defer the tax on capital gains is that if an individual defers long enough, the tax on the asset will eventually be forgiven. Without step-up in basis, a taxpayer has a greater incentive to realize during their lifetime. As such, eliminating step-up in basis can indirectly boost revenue from capital gains. 4. New Item – Legislation (10 minutes: 3:30 p.m. – 3:40 p.m.) a. Carried Interest Fairness Act of 2021 (H.R. 1068) This is an actionable item for this Policy Group. Using the four issue filters, the Policy Group will need to decide whether NSBA should weigh-in on this bill, and provide a letter to the sponsors. House Ways and Means Committee member Bill Pascrell (D-N.J.) and Democratic Reps. Andy Levin of Michigan, and Katie Porter of California introduced legislation on February 16 that generally would end capital gain treatment for income from carried interests. According to a news release from Pascrell, Levin, and Porter, the Carried Interest Fairness Act of 2021 would tax certain carried interest income at ordinary income tax rates and subject it to employment taxes. Capital gain treatment would continue to apply for individuals “who truly put money at risk, such as private-equity partners who invest their own money in their funds,” but “all income from managing a firm’s assets would be taxed at ordinary rates,” the release said.
Under current law, gains on certain carried interests that have been held for more than three years generally are taxed at long-term capital gain rates. An official revenue estimate for the proposal is not available yet, but the bill’s sponsors note in their news release that a December 2018 report from the Congressional Budget Office on options for reducing the deficit estimates that taxing carried interest income as ordinary would increase federal receipts by $14 billion over 10 years. Co-sponsors of the measure include House Democratic taxwriters Don Beyer of Virginia, Tom Suozzi of New York, Earl Blumenauer of Oregon, and Judy Chu of California. A companion proposal has not been introduced in the Senate. Rep. Pascrell sponsored similar legislation in 2019. His bill is generally based on a proposal introduced in the 115th Congress by then-Ways and Means Committee Chairman Sander Levin (D-Mich.). President Biden campaigned for office in part on a promise to tax carried interests at ordinary income tax rates. 5. Outstanding Issue / Ongoing Discussion (10 minutes: 3:40 p.m. – 3:50 p.m.) a. Small Business Economic Growth Package As an outstanding issue from the 2020 Policy Group, Chairman Prouty and Vice Chair for Advocacy Treiber will provide an update surrounding Reimagining the Post-Pandemic Economic Future. As the COVID-19 crisis continues, policy makers are challenged to emerge from it in a way that lays a foundation for a stronger, healthier economy in the long run. NSBA is working to formulate a nonpartisan strategy to respond and reinvigorate our economy with a pro-jobs, pro-growth and pro-business approach. The COVID-19 pandemic has threatened not only our healthcare systems, but our livelihoods and the stability of our economy. The U.S. has responded with unprecedented levels of both fiscal and monetary stimulus to blunt the economic impact of the crisis. Yet, tremendous uncertainty remains about what to do next. NSBA’s aim is to focus on how best to restart the economy and outline a nonpartisan approach we can move forward—to secure the future health, safety and prosperity of all Americans. Please read and review all of the comments provided and be prepared to share what you consider the top 3-4 themes, overarching ideas/concepts from the collected responses. These topics will be discussed and a consensus will determine the Tax Policy Group’s starting point for the creation of a White Paper. On the microsite, please click on the Committee Comments on Post-COVID Economic Growth Strategy. This links to the OneDrive document where you can input comments on a shared document that the entire committee can see.
Directions for Commenting on OneDrive Documents: 1) Click on the link to open the document in OneDrive 2) Click on the “Edit” button toward the top-right (a new screen will open) 3) Next, input your comments in one of two ways: a. Highlight the text relative to your comments and a pop-up will appear i. Click on the “New Comment” button on the far right of that pop-up. ii. A box on the right will appear. iii. Enter your name here FIRST, then add your comments. iv. Once finished, click on the blue arrow/airplane icon to make your comment public. b. Click on the “Comments” button at the top and enter general comments if not related to a specific piece of text. i. A right-hand sidebar will appear with everyone’s comments. ii. Enter your name here FIRST, then add your comments. iii. Once finished, click on the blue arrow/airplane icon to make your comment public. 4) You can also respond to comments you see in the right sidebar. 5) Once you have entered your comments, you do NOT need to save – everything is automatically saved in the document. 6. NSBA Coalition Letter to Hill / Policy Group Member Action (5 minutes: 3:50 p.m. – 3:55 p.m.) a. Main Street Tax Certainty Act The letter can be found here: https://s-corp.org/draft-199a-trades-letter_main-street-tax- certainty-act/ Reps. Jason Smith (R-Mo.) and Henry Cuellar (D-Texas), as well as Sen. Steve Daines (R-Mont.) are planning to reintroduce their Main Street Tax Certainty Act. The Main Street Tax Certainty Act prevents the 20 percent small business tax deduction from expiring after 2024. This bi- partisan approach provides long-term certainty for small businesses and coincides with the need for Congress to immediately provide COVID-19 liability protection and additional financial aid for employers whose survival is on the line. According to Tax Foundation estimates, the extension of lower small business rates will increase long-run GDP by 2.2 percent, long-run wages by 0.9 percent, and will add 1.5 million jobs. With the acknowledgement that Section 199A isn’t set to expire until another few years, NSBA signed onto a coalition letter of support. We figure the issue is likely to come up between now and 2025, and having a letter with broad backing to point to should be helpful. NSBA encourages members of this Policy Group to craft a similar letter to your own lawmakers asking them to cosponsor the measure upon introduction. 7. Other Issues (2 minutes: 3:55p.m. – 3:57 p.m.) 8. Adjourn (4:00 p.m.)
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