Forced recognition of gains in Democrats’ proposed tax changes


In our recent webinar with the Business Journal, we took an in-depth look at the major income tax and inheritance / gift tax changes proposed by the Biden administration and the Democratic Congress. We have noted the loss of the “increase” of the base on death, the reduction in the amount of a tax-free estate from $ 11.7 million to $ 3.5 million and the increase in the rate of income. capital from 23.8% to 43.4% for earnings over $ 1,000,000. In this article, I would like to highlight the last point of the webinar: the proposed recognition of gain on transfer.

Currently, if I gift an IBM stock to a child that I bought years ago for $ 10 and she immediately sells it for $ 110, she incurs long-term capital gains tax. over $ 100 per share. In other words, when we talk about donations, a donee takes the donor’s tax base, which is called the “carry forward” base.

On the other hand, under the current rules, if my daughter inherits IBM shares from me and immediately sells them for $ 110, she pays no tax because it receives an increase in the tax base to the fair market value of the share on my death. This healthy rule has been a mainstay of family business succession planning for generations. Indeed, one of the first things an estate planning lawyer will advise a corporate client is to place low-tax assets on behalf of the spouse with the shortest life expectancy, usually the husband.

Not only have Democrats proposed removing the deferral base and increasing the base on death, they also want to tax appreciated earnings to transfer. In the examples above, let my gift to my daughter or to my legacy for it would trigger the (greatly increased) tax on capital gains—whether my daughter subsequently sold the shares or not.

What about the transfer in trust? Let’s say a mother wants to transfer part of the family business into an irrevocable trust for her son, a minor who is not old enough to receive a gift. The new law would impose any appreciation of the company’s stock when it is transferred into the trust, and then (later, when Junior has reached the appropriate age) when it comes to outside and is given to him. What about shares that are already in trust? The House bill would tax appreciated assets in trusts every 30 years, the Senate bill every 21. Biden’s bill would trigger a tax for the first time in 2030.

What strategies are suggested if such a transfer tax is put in place? First, there is a tax exemption of $ 1,000,000 ($ 2,000,000 for a couple). This suggests that “smoothing” will become a key concept. For example, if a person sold a business for $ 4,900,000, they could structure the transaction as a 5-year installment sale, so that they would receive five payments of $ 980,000, rather than a single payment of 4. $ 900,000 (which would have triggered a 43.4% tax on the amount over $ 1,000,000).

With the transfer tax, a taxpayer would want to avoid the forced recognition of massive gains. This would recommend taking construction gains more frequently to inhabit lower tax brackets. This could be arranged by transferring to a controlled trust or to a family member.

Finally, when the patriarch / matriarch nears the end of his life, it may be prudent to organize an installment sale of appreciated assets in order to spread the tax on the appreciated assets over a number of years, rather than having to write a big check.

Legal Strategies is sponsored content produced by Johnson & Johnson Law Firm in Canfield.

Copyright 2021 The Business Journal, Youngstown, Ohio.

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