In his widely-watched address accepting the Democratic presidential nomination, Joe Biden said last week that if elected he plans to end President Trump’s “tax giveaway” to the “wealthiest one percent.”
For wealth managers across the country who represent clients in Biden’s crosshairs, the devil is in the details. And those details were absent from a speech long on policy themes but short on specifics. With just 10 weeks before Election Day, advisors concerned about financial planning for their clients in the event of a Biden victory can only rely on a patchwork of previously released plans from Biden’s campaign and analysis from Washington-based think tanks such as the Tax Foundation and Tax Policy Center.
“The uncertainty of it all is causing people a lot of angst,” says Brian Weiner, managing partner at Audent Family Wealth Advisors. “There are still a lot of unknowns.”
Several financial advisors contacted by RIA Intel are telling their clients to take a wait-and-see attitude, arguing that it could be folly to alter their investment portfolios and estate plans given all the uncertain outcomes.
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For one, Biden, whose lead in the polls has narrowed a bit in recent weeks, could lose the race to an incumbent who defied the odds four years ago and who has no intention of raising taxes. Even if Biden wins, and the Senate returns to Democratic control in a so-called blue wave, it’s not clear that some of Biden’s most far reaching tax goals – such as sharply increasing capital gains and dividend taxes on the wealthiest Americans or raising taxes on inherited assets – will win the support of some Democrat senators.
One particularly controversial measure would eliminate a “step-up in basis,” which currently allows many Americans to pass capital gains to heirs with little to no tax. If such a proposal became law, it would negatively impact children and other inheritors of small businesses, family farms, modest stock and art portfolios, and other assets – not just the one-percent crowd.
Still, some advisors say that there are investment and estate planning steps that are sensible whether the tax code changes or not. For example, clients can take advantage of the generous “Unified Credit” that currently exempts $11.58 million from combined gift and estate taxes by establishing irrevocable trusts and other vehicles for making big gifts to heirs during one’s lifetime ahead of a possible dramatic cut in the “Unified Credit,” should the Democrats take control. To avoid estate taxes for higher net worth clients, advisors should start to set up trusts soon, as they can take a few months, and many new tax laws may be retroactively applied to Jan. 1, even if agreed upon in the spring or summer.
There may even be an argument for taking capital gains on bid-up stocks this year on the chance that the law changes for the 2021 calendar year.
Among Biden’s proposals, those that stand the best chance of becoming law mirror the terms that will occur anyway when certain features of the 2017 Tax Cuts and Jobs Acts sunset in 2025, says Bill Smith, managing director of the national tax office of CBIZ MHM, an advisory firm to mostly privately-held businesses. That includes bumping up the top marginal rate on individual income from 37% to 39.6% for individuals making more than $400,000 a year. It also means that Congress would be inclined to cut the Unified Credit on estate and gift taxes roughly in half.
However, Smith and some wealth managers interviewed wondered whether even a Democratic-controlled Congress – especially if the Senate only has a slight Democratic majority – will go along with Biden’s proposal to overhaul how long-term capital gains and dividends are treated so that those earning $1 million or more a year would be taxed as if the capital gains and dividends were ordinary income. That would effectively raise the tax rate from 23.8% to 39.6%.
“Changing the capital-gains treatment isn’t as politically charged as eliminating the step up” in basis on inherited assets, says Smith. “But there are Democrats in Congress who get donations from people who have income of more than a million dollars. Once you start hitting your own financial base so to speak, there is going to be pushback.”
As part of a compromise, an increase in the capital gains rate for the wealthy could be paired with an increase in the ability for taxpayers to take deductions on state and local taxes, says Steven Skancke, the Washington-based chief economist with Keel Point. “I don’t think there’s a great probability of eliminating the capital gains preference unless it’s tied to some sort of giveaway.”
In the same vein, Smith thinks a sizable number of congressional Democrats could resist a Biden proposal to end the step-up, which effectively values the tax cost of an inherited asset at the current market value as of the date of death, rather than at historical costs, for tax purposes.
“Everybody, particularly small business owners, would be negatively affected by this elimination of the step-up,’’ Smith said. “You could have a dry cleaner business that is profitable but if you lose the step up in basis, if the kids decide to sell, there are paying capital gains from the day mom and dad got the shop, as opposed to when they got the shop.”
Meanwhile, advisors and their clients don’t have to wait around for tax laws to change. There are steps that can be taken in the coming months, in addition to the making sizable gifts to heirs through trust vehicles.
Though it’s far from certain that Congress will end up hiking capital gains taxes, there’s an argument for taking some gains now. “The old tax expression is ‘defer, defer, defer’ – you never accelerate taking gains,” says Smith. “But this is a time where people should be considering taking gains.” For example, he says, a high-income investor can sell a bid-up stock and pay a long-term capital gain this year at a rate of 23.8%. “The wash sales rules only apply to losses, not gains, so you don’t have to worry about having to delay buying the stock back by 30 days,” he points out. “If Biden gets elected and you are subject to 39.6% on income over a million, your basis has at least been increased to where it was when you sold it. Instead of all of the gains being taxed at 39.6%, you have taken out a tranche at 23.8%.”
In addition, high-income investors concerned about a big hike in the dividend tax might consider using their retirement accounts rather than their taxable accounts for the purchase of high-yielding stocks, says Patrick Fruzzetti, a managing director at the Rosenau Group, a national investment advisory firm that works through the HighTower platform.
But Audent’s Weiner sees nothing wrong with taking it slow when it comes to making moves ahead of an election that may not pan out the way many expect. “To make knee jerk reactions to the possibility of what a Biden presidency may do could be foolish.”