What You Need To Be Aware Of

It’s important for you to know about Biden’s Capital Gains Tax proposals, even if you think they don’t apply to you because they might one day. You see, it has always been widely accepted (not only in the USA but in many countries around the world) that capital gains taxes merit a LOWER TAX RATE vs INCOME made from employment (wages) & that heirs that INHERIT from their loved ones, are able to do so WITHOUT paying capital gains taxes until those assets were later sold.

Now, we need to understand how Biden’s new tax proposals (of course they still have some way to go before becoming law & will likely change) can have a domino affect, not only on US citizens but on anyone who invests in US stock markets and/or has other investments & assets there.

Let’s start with Capital Gains….

Capital gains is the PROFIT made from the sale of assets and investments (profit being the price where you sold MINUS the price where you purchased). Currently in the USA, capital gains tax rates vary by the amount of time you hold an asset. For instance, if you hold stocks/financial assets for LESS than a year, then it is taxed in accordance with your income tax bracket. If you hold the asset for MORE than one year, the capital gains tax depends on your taxable income & filing. In a nutshell, the Federal MAXIMUM one would pay would be a 20%, plus a 3.8% Medicare surtax. So, the current maximum Capital Gains Tax in the USA = 23.8%.

HOWEVER, if President Biden’s recently announced tax proposals are approved, it means that the rate would almost double to 43.4% (highest rate of ordinary income will be 39.6% + 3.8% Medicare) for taxpayers with income of USD 1 million or more (this would include couples filing jointly). Side note: the highest rate is 37% as of 2020, but if his proposals go through the highest rate will increase to 39.6% (not including state taxes).

What does this mean?
It means that for individuals with income over USD 1mm (although it’s not clear if the income limit is adjusted gross income or taxable income), long-term capital gains would be taxed at ordinary income tax rates. Boom!

My thoughts on this (even if you do not earn $1mm+):

1. If you were planning on selling any investments or businesses that could raise your total income over that threshold, speak with your tax/accountant specialists and consider doing it this year (if proposals come into effect, it seems they would be for the 2022 tax year).

2. Investors who put substantial amounts of money into the USA stock market or real estate markets may need to reconsider. Especially, if there is a wave of panic or forced selling from those affected by the proposals if made reality.

3. Consider maxing out your contributions to tax-advantaged vehicles like 401(k), IRA, ROTH IRA before investing via a Taxable Account. Why? Tax-Advantaged vehicles allow our investments to grow tax-free ( we pay taxes upon withdrawal in retirement except for ROTHs).

4. If you are a retail investor who recently started dipping their toes in trading (via brokerage account or app) in a non-tax-efficient vehicle, be mindful. Especially if you are investing in Crypto for the quick “bang for your buck” trade (I personally champion long-term investing). Remember, Cryptocurrencies are ASSETS according to IRS (and HMRC in the UK) and therefore fall into the capital-gains taxes rules (even now).

5. Think about investing in Dividend income stocks vs Growth stocks, this may be worth it if the proposed Capital Gains Tax changes go through & the dividend tax-rate stays at 20%.  As a reminder, Dividend income stocks are those that pay regular dividends, they are also called high-yielding stocks. An example is AT&T (T) with dividend yield over 6.5%.


Inheritance & Capital Gains

There are other Biden tax proposal discussions that may lower the estate tax exemption from USD 11.98 million per person to USD 3.5 million and the gift tax exemption to $ 1 million. However, the vital part to know is how taxes on capital gains will affect ESTATES.

You see, currently when HEIRS INHERIT ASSETS they do NOT need to pay capital gains taxes until those assets are sold. Additionally, the amount due is based on the difference between where an heir inherited the asset and the price at which they sell it. In tax lingo, this is known as the “tax-free step-up in basis” & has been in the tax code since 1921. This is separate to Estate Tax, which is calculated on the net worth of assets upon the owner’s death.

Under the new proposals, this would NO longer be the case.

Yep…that’s right! Ouch.

In fact, what would happen is that upon a person’s death, their appreciated assets (property, houses, businesses, and investments in taxable accounts) would be treated “like a sale” – with a $1 million per-person exemption (there are many other details about portability between spouses, principal residences etc but I won’t go into detail here for sake of time).

In essence, any unrealized gains on an asset would TRIGGER TAXES upon the death of the person who owned them (minus the exemption amount) – although I can’t even wrap my head around how they will be able to calculate the basis for the taxation in so many cases…

Anyhoo, for people that have worked a lifetime to build GENERATIONAL WEALTH, this is a BIG DEAL! Think about farmers, manufacturers, family businesses, elderly who own highly appreciated homes, etc. Many of these individuals tend to have ASSETS but not necessarily long CASH, so upon selling the assets or passing (and leaving it to their heirs), there will be some serious financial consequences.

What to do: Start speaking with your tax and estate planning specialists if you think theses proposals (if made law) could effect you! Also, consider upping your life insurance (if needed to cover your inheritor’s potential tax liabilities). And even if they don’t, it’s important for you to know. Why? Because it may effect the price & performance of certain assets if there is any forced selling. Also because you may very well fall into this category even unknowingly (especially as an heir) one day.

Hope you found this article helpful!

As always, remember to Wear Your Money Crown & Rule Your Finances!

XOXO,

Anna

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