Biden’s Tax Plan Takes Some Radical Departures

Joe Biden commendably intends for his American Families Plan to be paid for. That requires raising taxes. His plan "doesn't add a single penny to our deficits", is his claim.

The infrastructure plan being worked out in rare cooperation between 22 Republicans and Democrats is another matter. The question of how to pay for their $1.2 trillion "framework" is for another day. Senate Minority Leader Mitch McConnell has decreed that the 2017 tax cuts under the Trump administration are sacred
no matter how unpopular they were with the public. The question of where does the money come from prompts vague notions of selling roads to private corporations that would presumably charge tolls, or the fuzzy concept of a federal infrastructure bank. The plan does not even venture to raise the gasoline and diesel tax to what it should be today had it been indexed to inflation back in 1993.

For the American Families Plan no bipartisan deal is possible. It contains greatly expanded entitlements that those on the right consider virtual socialism. It can therefore only be passed by the reconciliation process, which disallows the Senate's filibuster for bills affecting the budget and requires only 51 votes. It is in Families that Mr. Biden and the Democrats will insert the tax hikes to pay for it and reverse what they consider to be the abomination of the 2017 tax cuts that reduced the corporate profits tax by 40% and gave 52.2% of the benefits of the individual tax rate cuts to the top 5th of income earners.

There is no guarantee that the Families Plan will pass even using reconciliation. The Democrats can lose no more than four votes in the House and none in the Senate, yet there again are Senators Joe Manchin of West Virginia and Kyrsten Sinema of Arizona with their numerous misgivings as well as the rumblings of some other Democrats wary of losing votes by raising taxes. There is also the intransigence of House Speaker Nancy Pelosi, who says she will not bring the infrastructure bill to the floor for a vote until after the Senate has passed Families by reconciliation.

But what if all goes well for the president? What should we think about the tax changes he proposes?

 Corporate:   The tax rate on profits would go to 28% from 21%. Various credits, accelerated depreciation, immediate write-off of capital investment, carried-forward losses, can sharply reduce a corporation's taxable profits (infamously to 0% for some of the biggest companies), so Biden wants all corporations with a net income of $2 billion or more to pay a minimum 15% on "book" profits — the profit calculated before such deductions. The Treasury Department estimates that would ensnare only 180 companies and only 45 of those would owe the minimum — quite a drop from the $100 million income threshold proposed in 2019 that would have netted 1,100 companies in the U.S. to be tested for the minimum tax.

 Individuals:  The top bracket would revert from Trump's 35% to Obama/Biden's 39.6%. That's a rather timid increase, though, considering that progressives such as Ms Ocasio-Cortez, influenced by the Berkeley school of Emmanuel Saez and Gabriel Zucman, had been clamoring for as high as 70%.

Trouble is, these modest increases are wholly inadequate to the president's goal of his Family program not adding a penny to the nation's debt. He also works against himself with his foolish pledge that those earning $400,000 or less will not see their tax bill rise a penny. The median household income in the U.S. was $78,500 in 2020 according to the Department of Housing and Urban Development which confirms the obvious, that $400,000 a year is a whopping big number. In his search to find money to fund his program, Biden would exempt all but the mere 1.8% of American households that earn this much and more, foregoing, say, the 10% all households were he to lower the bar to all who earn $300,000 or more.

 Capital Gains:  In contrast, Biden's plan for capital gains goes for broke. He wants to change the tax on profits from the sale of assets — stock, boats, art, etc. — from a flat 20% to as much as 39.6% for individuals earning $1 million or more (and retroactive to April 2021 to prevent a deluge of asset sales were a date to be set in the future).

This is overboard. It shows no recognition that there's a 3.8% surcharge that Obamacare applies to the investment income of those with higher earnings; that there is a state, and in a few cases, local tax; that there are risks in investing. When so high a tax burden awaits, leaving so diminished a margin of gain, investors will ask why take that risk? Those holding assets will hang onto them rather than sell and pay a high tax.

Congress’s Joint Committee on Taxation has studied such behavior and judges the revenue maximization point to be a tax rate of 28%; as the tax rate climbs above that, the government starts losing revenue, is their finding. Someone needs to make the point with the president.

The government taxes our profits immediately at a preferential rate, but allows no more than a $3,000 deduction from income in a year when capital losses exceed capital gains. That asymmetry is at least somewhat balanced. But does Biden's "fair share" plan stay stuck at that absurdly inadequate deduction while taxing full throttle? We tracked that $3,000 as far back as 1980. It may be older still, but it has never been adjusted for inflation. The $3,000 of 1980 would be over $9,600 today.

Then too, unlike the immediate taxing of the current year's income, taxing profit on stock and other assets sold today that may have been bought years, even decades, ago does not take inflation's erosion of profit into consideration at all. Capital gains taxed at a lower rate than income at least compensates somewhat for the tax code pretending that inflation's erosion doesn't exist.

Take those numbers above as example. Say you had invested $3,000 in a stock an 1980 and just sold it for $9,600. You didn't make a dime. Today's $9,600 has no greater buying power than the $3,000 of 1980. How can Mr. Biden justify raising the capital gains tax to the same rate as current dollars earned without allowing taxpayers to adjust the cost basis of an investment for inflation, a change long overdue anyway? Instead, the government grifts easy money from investors' pockets.

 Carried interest:  The fraudulent claim of capital gain known as carried interest has been emblematic in the public mind that the tax code is stacked against them. The "2 and 20" scheme of hedge fund managers usually makes for the clearest example. They are paid an annual fee of 2% of the value under their management, and 20% profit — often profit exceeding some threshold.

On their tax returns they are allowed to declare their earnings as capital gains, subject to the 23.8% rate rather than as much as 43.4% were their take be considered ordinary income, even though (a) it is typically not their money that is invested, (b) they are therefore not at risk, and (c) their pay is for their work, and should be taxed like the rest of us.

Obama thought this scam should end but did nothing about it. Trump thought its practitioners were "getting away with murder" and promised to end it. He not only did nothing but signed the 2017 tax law that exempted from taxes 20% of the income passed-through to his personal earnings from his hundreds of Subchapter S companies.

But Biden needs the money for his programs. The American Families Plan is slated to put an end to this subterfuge, but the lobbyists will swarm to remind Congress members where campaign money comes from.

 Estate Tax:   It was already a huge giveaway to the moneyed class when in the Tax Cuts and Jobs Act the Trump administration unconscionably doubled the amount that a wealthy person or family can transfer to inheritors tax free. While paycheck employees are taxed from the first dollar earned each year, the estates of those with accumulated wealth indefensibly paid no tax at all on the first $5.5 million of an individual's wealth transferred in 2017, an amount which after doubling by the 2017 act has since grown to $11.7 million for 2021. And that's per person. Double that again to $23.4 million for a married couple who transfer their estate before death. Above that threshold the tax is on a sliding scale with a maximum of 40%.

That change in 2017 could not have been any clearer that Republican leadership in Congress is in the service of their rich patrons, favoring them above the common folk, and in the case favoring McConnell himself. He is married to Elaine Chao, heir to a major Taiwan shipping company, and might have his own family assets in mind. McConnell in May said, “We’re not interested in reopening the 2017 tax bill. We both made that clear to the president. That’s our red line,” and Kevin McCarthy echoed, “Raising taxes would be the biggest mistake you could make.”

First, the president would slash the tax-free allowance to a lifetime $1 million of unrealized gains ($2 million for a married couple). He also wants to subvert the second outrage of inheritance: If an asset was once purchased for $1 and its market value has risen to, say, $5 when it is transferred to a family member such as son or daughter, the cost basis is "stepped-up" to $5 for no reason whatever and without any payment of a tax. The step-up costs the government $40 billion a year according to the Joint Committee on Taxation.

If ever sold, the asset's new cost basis will someday be subtracted from the proceeds of its sale to arrive the taxable gain (or loss) — whatever gain has occurred above $5 rather than $1 had there been no step-up. Biden's plan has something else in mind. It would tax at the moment of transfer as if the asset had actually been sold. And the tax would be at his elevated capital gain rates, imposing a tax of as much as 39.6%.

There would be temporary exemptions for assets that can't be readily sold to the degree needed to pay a tax — primary residences, farms, family-owned businesses — and the rest of the law would be left in place, but capturing taxes on the gain of liquid assets at the point of transfer very cleverly validates the step-up. Put differently, that $5 cost basis for the inheritor to claim is now justified because the tax has been paid.

It won't all be windfall for Mr. Biden though. Families who intended to transfer assets before death will hold off, waiting for Republicans to take over and line their nests again.

The Republican increase of the free transfer allowance isn’t permanent. The 2017 tax cuts act was passed (without a single Democrat voting for it) by reconciliation. But reconciliation measures expire after 10 years according to the "Byrd Rule", conceived by longtime Senator Robert Byrd from West Virginia, if their continuance after 10 years contributes to a budget deficit. The Trump tax act is set to expire in 2026. You can assume that if the Republicans are then in control of the House and Senate, they will move to make their tax act permanent and Democrats will wish for the filibuster then if they somehow manage to banish it now.

 State and Local Taxes:   The administration is carefully non-committal on where it stands on the 2017 tax law's $10,000 annual limit on deductions of state and local income and property taxes from income known by the acronym SALT. In this case, it's the Democrats furiously pressing for its repeal, notwithstanding that it makes badly needed money to fund Mr. Biden's costly ambitions. The wealthy, accustomed to subtracting the full SALT menu of taxes to minimize taxable income, are irate, especially in the states with the highest income and property taxes — New York, California, New Jersey, in particular — all Democrat-majority states — and they expect their Democratic representatives in Congress to hold out for the cap's elimination. Get rid of it and the Tax Policy Center says that almost everyone making over $1 million a year would benefit by an average of over $44,000 a year.

"No SALT, no deal", says Representative Tom Suozzi of New York. Biden may have to relent and Republicans will come down hard accusing cronyism.

Democrats constantly preach that the wealthy should pay their fair share in taxes, which always somehow translates as they should pay more. Fair share defies formulating; who is to say? A letter from Bob Sepich of Cary, North Carolina, in The Wall Street Journal, makes that point:

"According to the National Taxpayers Union, in 2018 based on adjusted gross income, the top 10% of taxpayers paid 71.37% of total federal income tax collected. The bottom 50% of taxpayers based on AGI paid 2.94% of federal tax collected. Why is it that progressives never define what a 'fair share' would be?"

Others express outrage that the 10% or 5% or 1% pay such an outsize share of taxes. They don't get it that the wealthy are paying according to the very same tax brackets as everyone else. The reason they pay so much as a percentage is they make such colossal (obscene, if you like) amounts of money. The richest 1% of Americans gained $7 trillion in wealth in 2020. The 15 richest Americans gained $400 billion since the market bottomed out in March 2020.

The overall tax rate for the 400 wealthiest households in the U.S. wasn't the top federal rate of 37%. It was — including federal, state, and local — just 23%. Saez and Zucman say that, — because their income is totally exposed — "For the first time in the past hundred years, the working class today pays higher tax rates than billionaires": 25% vs. 23%.