Dear Clients, Friends, and Colleagues;
Happy New Year! I hope you and your loved ones are healthy and looking forward to the end of this pandemic (fingers crossed!). As we begin the new year, there are myriad new tax changes that may come to fruition that could affect your tax structure as well as what you pay in tax. This year, more then in previous years, I am stressing the importance of activating an updated plan once the new laws pass so that I can continue to save you money and mitigate your overall audit risk. Not to scare you, but in addition to tax increases, President Biden is throwing billions of dollars into the audit function of the IRS. It is more important then ever to make sure that audit risks are reduced by an effective and efficient tax plan. However, that does not mean you have to give up tax benefits as I will continue to use the code’s intricacies to save tax. As an old law professor used to tell me…there are over 80,000 pages to the code and many of those hide secret savings that only the tenacious will find.
So, what is the government planning to send our way? Congress is still considering a large package of tax changes that could increase taxes in 2022 for wealthier taxpayers as well as small businesses while potentially reducing taxes for low‐income taxpayers. Referred to as the Build Back Better Act, the details are still subject to substantial change as legislators continue to negotiate.
The Build Back Better plan proposes a larger tax burden for individuals and estates and trusts with high income. These proposals include:
- an increase in tax rate for all taxpayers over a certain threshold income level.
- Elimination of the favorable tax rates on capital gains.
- Capital gains are the gains on sales of stock, real estate, businesses etc.
- an additional tax of five percent that would apply to the modified adjusted gross income of a joint filer, single filer, or head of household in excess of $10 million ($5 million for a married taxpayer filing separately, $200,000 for an estate and trust). An additional three percent tax that would apply to the modified adjusted gross income of a joint filer, single filer, or head of
household in excess of $15 million ($12.5 million for a married taxpayer filing separately, $500,000 for an estate and trust). The surcharge would apply in tax years beginning after 2021.
- new limits on the favorable tax rules for investment in qualified small business stock. Possibly retroactive to the sale or exchange of qualified small business stock after September 13, 2021,
favorable rules will not apply to any taxpayer with adjusted gross income of $400,000 or more, or any estate or trust.
- wash sale rules may apply to a wider range of investments including foreign currency, cryptocurrency, and commodities.
- The biggie on the business side is a completely new tax on S‐Corp and LLC income. These businesses are referred to as pass‐through entities. Owners of pass‐through businesses may be
impacted by an expanded application of the 3.8 percent net investment income tax. A modification to the net investment income tax starting in 2022 would classify pass‐through income as investment income subject to the NIIT even if the taxpayer materially participates in the business. This is an additional 3.8% tax on top of the ordinary income tax you pay on this income and is a first in tax history!
- Currently scheduled to expire after 2025, the disallowance of excess business losses may be made permanent. An excess business loss is the amount by which the total deductions attributable to all of the taxpayer’s trades or businesses exceed their total gross income and gains attributable to those trades or businesses plus a threshold amount adjusted for cost of living. For tax years beginning in 2021, the threshold amounts are $262,000 (or $524,000 in the case of a joint return).
- Under current law, a tax credit may be available in 2021 for a taxpayer who places a new qualified plug‐in electric drive motor vehicle in service. The maximum credit is $7,500 and is reduced once a manufacturer sells 200,000 eligible vehicles for use in the United States. Under proposals in the Build Back Better Act, there may be an additional $5,000 credit.
- A corporate interest deduction limit may be imposed on certain members of international financial reporting groups effective in tax years beginning after December 31, 2022.
- Research and experimental expenditures. Under old law, research and experimental expenditures were deductible in the year paid or incurred or at the taxpayer’s option, amortizable over a period of not less than 60 months beginning in the month that benefits are first realized from the expenditures. Beginning in 2022, research and experimental expenditures performed in the United States are required to be amortized ratably over five years and over fifteen years for foreign research. Taxpayers may want to consider the implications of the upcoming changes in 2022 tax year.
- Effective in tax years beginning after December 31, 2022, the Section 250 deduction may be reduced from 37.5 percent of the foreign‐derived intangible income plus 50 percent of the global intangible low‐taxed income amount (if any) included in the gross income for the tax year to 24.8 and 28.5 percent respectively.
What Do We Do If this Passes?
In three words: prepare, strategize, and act! There is no one size fits all for tax planning and any strategy may have unintended consequences if your situation is not evaluated holistically considering changing landscape. However, there are a ton of things we can do to make sure your effective tax rate does not jump up due to these tax hikes. Being the tax nerd that I am, I am excited to see what comes out of the new tax law. I have been practicing tax law for over thirty years and every time politicians try to increase taxes; I can always find some nuance in the law that can benefit my clients.
Here’s to what will hopefully be a better 2022! Thank you so much for allowing my firm to work for you!
Very Truly Yours,
Michael T. McCormick