This week the House of Representatives Ways and Means Committee introduced their tax proposals for next year. So far, they seem to be more relaxed than what the Biden White House had floated earlier in the year.
For investors, the biggest news by far is the increase in the tax rate on long-term capital gains and dividends. The rate now is 20% for individuals earning over $400,000 and married couples earning over $450,000. The rate will be jumping to 25% and if you consider the 3.8% Obamacare surcharge on investment income that is already being paid, the total rate jumps to 28.8%.
Another notable change will be the top rate on ordinary income. It will revert to 39.6% from the 37% rate that was set in the Tax Cut and Jobs Act of 2017. This increase is being viewed as less painful, especially since the original Biden plan wanted to tax capital gains and dividends at the proposed 39.6% ordinary-income tax rate for earners over $1 Million. In addition, the estate tax exemption would roll back from the current $11.6 million per individual to about $6 million. This would be a jump start of the cut that is already slated to take place in 2026 under the Tax Cut and Jobs Act of 2017.
Having said all this, the Ways and Means Committee left some large items off their proposal. The most notable one is the elimination of the step-up in cost basis for estates or the proposals to tax unrealized capital gains. The approach now allows assets to be passed on to future generations without being taxed on their appreciation during the investor’s lifetime. The step-up feature has often been criticized for creating and promoting inequality. However, forcing the taxation at death of assets such as an inherited home would be arduous to families who might be in a lower economic status than the deceased.
Another curious omission was any changes in the $10,000 ceiling on state and local tax deductions, often referred to as SALT, which was imposed in the 2017 tax act. We might see a small increase in the cap from $10,000 to $15,000, but full elimination of the ceiling is extremely unlikely.
These are just some of the changes that have been proposed and it seems like there is still much work to be done on Capital Hill to get this package approved and delivered. Ironically, the key for the entire massive tax and spending package may be the mysterious matter of the debt ceiling. If Republicans vote not to raise the debt limit, Democrats will have to do it themselves through the reconciliation process, which requires only a simple majority in the Senate. That in turn will make the debt ceiling part of the big budget reconciliation measure, which includes the ambitious plan called the Build Back Better Act. This could lead to a compromise with a smaller bill with fewer tax hikes like mentioned in this article. Maybe the Ways and Means Committee knows something we don’t. We’ll just have to wait and see how it all plays out. It will certainly be an interesting chess match.