By: Derek Gray, CPA, Director
Before departing for Europe to attend the G20 Leaders’ summit and climate talks at the COP26 summit, President Biden announced that Congress had agreed to the framework for the President’s Build Back Better (BBB) plan. Months of discussions and negotiations appear to be leading towards passage of a spending bill that has been whittled down to a projected price of $1.85 trillion.
Even though the BBB plan is much smaller than many progressive Democrats wanted, it will still provide for historic levels of social spending, including investments in children and caregivers, efforts to combat climate change, an expansion of affordable healthcare, and measures to reduce costs for and strengthen the middle class. It’s expected that this bill, if passed in its current form, will be fully paid for, largely through tax increases on profitable corporations and individuals making more than $400,000 annually.
Middle Class Tax Incentives in the Build Back Better Plan
Not all the tax components in the BBB plan are centered around raising taxes. In fact, many middle-class families will see significant tax decreases as part of the bill.
The framework extends the enhanced Child Tax Credit (CTC) by extending the current provision through 2022. As part of the American Rescue Plan enacted earlier this year, the CTC provides $300 a month for each child under the age of 6 and $250 a month for children ages 6-17. This measure applies to households earning up to $150,000 annually and is expected to impact more than 35 million households. The CTC will also be made permanently refundable.
Like the CTC, the BBB framework extends the enhanced Earned Income Tax Credit (EITC) measures enacted earlier this year. Among the extended changes are those that temporarily expand the EITC for families that are not raising children and an increase to the credit percentage from 7.65% to 15.3%. The framework also increases the income at which the maximum credit is reached, as well as increasing the income range over which the credit is phased out.
Corporate Tax Increases in the Build Back Better Plan
As you might imagine, it’s hard to have a $1.85 trillion spending package without tax increases. Approximately $800 billion of the package will be paid for by tax increases on corporations.
In a measure expected to raise $325 billion over 10 years, the BBB framework introduces a new 15% minimum tax on companies with financial statement income with over $1 billion in profits. Interestingly, this tax will be computed not on taxable income, but rather on what income is reported to shareholders. If a corporation has a foreign parent, the income threshold drops to $100 million. This measure is expected to apply to approximately 200 companies.
Another new provision creates a 1% surcharge on repurchases of publicly traded corporate stock, also known as a stock buyback. Advocates of this measure have long thought that stock buybacks were most advantageous to high-earning company employees, many of whom receive large amounts of stock or stock options as part of their compensation package. This measure is expected to raise approximately $125 billion.
Additionally, the BBB bill will enact another 15% global minimum tax for corporations, as was agreed upon by 136 countries as part of the Organization for Economic Cooperation and Development (OECD). As part of the OECD agreement, U.S. companies will pay at least 15% in each country in which they operate. To achieve this, there will be changes to several existing international tax laws. The details of the proposed changes are beyond the scope of this article, but they will modify laws related to Foreign Derived Intangible Income (FDII), Global Intangible Low-Taxed Income (GILTI), the Base Erosion and Anti-Abuse Tax (BEAT), and foreign tax credits. The international provisions of the framework are expected to raise $350 million over 10 years.
Finally, research and experimental expenditures, currently deductible in the year incurred, were set to become costs required to be capitalized and amortized over 5 years for tax years beginning after December 31, 2021. In a taxpayer-friendly change, the BBB framework keeps the change but defers the enactment to tax years beginning after December 31, 2025.
Individual Tax Increases in the Build Back Better Plan
Enacted in 2010, the Net Investment Income Tax (NIIT) applies an additional tax of 3.8% on a high-earning taxpayer’s net investment income. Originally, this tax applied only to investment or passive income – interest, dividends, capital gains, income from pass-through investments, etc. Currently, however, there is an exclusion from the 3.8% tax for any business in which the taxpayer actively participates. Under the framework, the exclusion for active participation will be removed for any single taxpayer earning more than $400,000 or a married couple making more than $500,000.
Under the Tax Cuts and Jobs Act in 2017, taxpayers now must limit any deduction for losses from a trade or business to $250,000 for a single filer and twice that for a couple filing jointly. This limitation was set to expire on December 21, 2025, but will now be permanent.
A surcharge for high-income individuals has been proposed under the framework. The amount of the additional tax will be based on income levels, with married couples making more than $10 million in adjusted gross income (AGI) being taxed at 5% on the excess, while an additional 3% tax will apply on the amount by which a married couples’ AGI exceeds $25 million. It’s important to note that because of the unique distinction as a surcharge, rather than an income tax, the base for calculation is AGI, rather than taxable income.
The individual tax increases mentioned above are expected to raise $650 billion over 10 years, with $250 billion coming from the NIIT, $170 billion from limiting business losses, and the remaining $230 billion from the surcharge on high-income individuals.
Other Tax Provisions in the Build Back Better Plan
IRC Sec. 1202 provides for an exclusion of up to $10 million of gain on the sale of qualified small business stock that has been held for more than 5 years. Due to some limitations on the use being lifted several years ago, this exclusion has become more popular in the last decade. The BBB plan will prevent taxpayers with more than $400,000 (excluding the gain on sale) in income from utilizing this exclusion. Similarly, trusts and estates will also be prevented from using the exclusion. At the time of publishing, no revenue estimates have been released on this provision.
The framework will invest an estimated $80 billion in the IRS over the next 10 years. High net worth individuals are likely to be targeted with increased audits and criminal investigations, and more monitoring of crypto-currency transactions will be done. The IRS will also invest in modernizing its technology and add to its fleet of automobiles used by agents. The investment in the IRS is expected to return an additional $400 billion in revenue.
What’s Not in the Build Back Better Plan
Just as notable as some of the new proposals introduced by the framework, it’s perhaps what’s not included that will have many taxpayers talking. An increase in the corporate tax rate, which many long believed would be in any legislative package, is nowhere to be found. There is no increase to capital gains rates, nor is there a limitation on the deduction for qualified business income. Potential changes to the estate and gift tax regime have kept many an advisor busy this year, but that also appears safe…for now.
To quote Yogi Berra, “It ain’t over ‘til it’s over.” Both the House and Senate are in recess until November 1, leaving many members of Congress disappointed that a vote on President Biden’s infrastructure wasn’t taken before the break. Will that sting cause some to re-think their position? With margins so slim in both chambers, we’ve seen that any one Democrat Senator essentially carries veto power, and it won’t take but a few dissenting Representatives in the House to achieve a stalemate. As Congress digests the framework over the weekend, there are sure to be questions about certain provisions. Other measures that weren’t included in the framework (i.e., increasing the deduction for state and local taxes) could very well be negotiated into the package before it is voted on. In other words, things can and very likely will change by the time a bill gets to President Biden’s desk.