Issue 29: 2015

Insights

Reviewing Obama’s 2016 Tax Proposals

So many proposals in the Administration’s fiscal 2016 budget, but do any of them stand a chance of passing?

Photograph by Andy Ryan

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This past February, President Obama and his Administration released their fiscal 2016 budget. Along with spending priorities are numerous revenue proposals, several related to income and transfer taxes. It’s important to emphasize three things: they are only proposals; while some of them are new, many have been proposed before; and given the Republican majority in Congress, their chances of becoming law are extremely low, in our view.

Still, they’re worth tracking as they provide insight into the President’s overall plan for tax reform (and it is possible that one or more could be incorporated into future legislation).

 

 

Proposed Fiscal 2016 Tax Reforms

Tax Reforms for Families and Individuals:

  • Facilitate the portability of annuities. A 401(k) plan participant would be able to take a distribution of an annuity, or lifetime-income investment, through a direct rollover into an IRA, if the annuity is no longer authorized to be held under the 401(k).
  • Simplify minimum required distribution (MRD) rules. This would exempt someone from the MRD rules if the aggregate value of the individual’s IRA and tax-favored retirement plan accumulations does not exceed $100,000 — indexed for inflation. It would also generally treat Roth IRAs the same as other tax-favored retirement accounts, and require distributions to begin shortly after age 70½.
  • Provide a second-earner tax credit.
  • Extend exclusion from income for the cancellation of certain debt related to home mortgages.

Reforms to capital gains taxes and tax benefits for the wealthy:

  • Reduce the value of certain tax deductions and exclusions from adjusted gross income (AGI) and all itemized deductions. This limitation would reduce the value to 28% of the specified exclusions and deductions that would otherwise reduce taxable income in the 33%, 35% or 39.6% tax brackets. A similar limitation would apply under the alternative minimum tax.
  • Reform the taxation of capital income: higher rates and sales. The proposal would increase the highest long-term capital gains and qualified dividend tax rate from 20% to 24.2%. A 3.8% net investment income tax would continue to apply, so that the maximum total capital gains and dividend tax rate would be 28%. In addition, noncharitable transfers of appreciated property generally would be treated as a sale of the property, so that the donor or deceased owner would realize a capital gain.
  • Implement the “Buffett Rule” by imposing a new Fair Share Tax (FST) on high-income taxpayers. The tentative FST would equal 30% of AGI — less a certain credit for charitable contributions. The amount of FST payable would be phased in starting at $1 million AGI and would be fully phased in at $2 million AGI. (In the case of a married individual filing separately, the phase-in would be between $500,000 and $1 million.)
  • Treat profits as ordinary income. The proposal would tax as ordinary income a partner’s share of income on an investment services partnership interest (ISPI), regardless of the character of the income at the partner level. An ISPI is a carried interest in an investment partnership that is held by a person who provides services to the partnership. Accordingly, such income would not be eligible for the reduced rates that apply to long-term capital gains.
  • Required distributions. Non-spouse beneficiaries of deceased IRA owners (including Roth IRAs) and retirement plan participants would be required to take inherited distributions over no more than five years.
  • Limit the total accrual of tax-favored retirement benefits. A taxpayer who has accumulated amounts within the tax-favored retirement system in excess of the amount necessary to provide the maximum annuity permitted for a qualified defined benefit plan (currently an annual benefit of $210,000 payable in a joint and survivor benefit commencing at age 62) would be prohibited from making additional contributions. Currently, the maximum permitted accumulation for an individual aged 62 is approximately $3.4 million.
  • Limit Roth conversions to pre-tax dollars. The proposal would permit amounts held in a traditional IRA to be converted or rolled over to a Roth IRA only to the extent a distribution of those amounts would be includable in income if they were not rolled over. Therefore, after-tax amounts held in a traditional IRA could not be converted to a Roth IRA. Since after-tax contributions could, in some cases, be made to Roth IRAs tax-free from a 401(k) plan, a similar rule prohibiting tax-free conversions from retirement plans is also being proposed.

Selected Estate and Gift Tax Provisions:

  • Restore the estate, gift and generation-skipping transfer (GST) tax parameters from 2009. The top tax rate would be 45%, and the exemption amount would be $3.5 million for estate and GST taxes, and $1 million for gift taxes. There would be no indexing for inflation. Provisions for portability would be included.
  • Require consistency in value for transfer and income tax purposes. The basis of property received by reason of death must equal the value of that property for estate tax purposes. The basis of property received by gift during the life of the donor must equal the donor’s basis.
  • Modify transfer tax rules for grantor retained annuity trusts (GRATs) and other grantor trusts. The proposal would require that a GRAT have a minimum term of 10 years and a maximum term of the grantor’s life expectancy plus 10 years. Among other stipulations, the proposal would prohibit any decrease in the annuity during the GRAT term, and would prohibit the grantor from engaging in a tax-free exchange of any asset held in the trust.
  • Limit duration of generation-skipping transfer tax exemption. The proposal would provide that on the 90th anniversary of the creation of a trust, the GST exemption allocated to the trust would terminate. Since contributions to a trust from different grantors are deemed to be held in separate trusts, each separate trust would be subject to the 90-year rule.
  • Simplify gift tax exclusions for annual gifts. The proposal would eliminate the present interest requirement for gifts that qualify for the gift tax annual exclusion. Instead, there would be a new category of transfers (without regard to the existence of any withdrawal rights) with an annual limit of $50,000 (indexed for inflation) per donor. Any transfers a donor makes in the new category in a year that exceed $50,000 would be taxable, even if the total gifts to each individual donee did not exceed $14,000.

For more details, consult your U.S. Trust advisor.

IMPORTANT INFORMATION

Any information presented about tax considerations affecting client financial transactions or arrangements is not intended as tax advice and should not be relied upon for the purpose of avoiding any tax penalties. Neither U.S. Trust and its representatives nor its advisors provide tax, accounting or legal advice. Clients should review any planned financial transactions or arrangements that may have tax, accounting or legal implications with their personal professional advisors.

Always consult with your independent attorney, tax advisor, investment manager and insurance agent for final recommendations and before changing or implementing any financial, tax or estate planning strategy.

This past February, President Obama and his Administration released their fiscal 2016 budget. Along with spending priorities are numerous revenue proposals, several related to income and transfer taxes. It’s important to emphasize three things: they are only proposals; while some of them are new, many have been proposed before; and given the Republican majority in Congress, their chances of becoming law are extremely low, in our view.

Still, they’re worth tracking as they provide insight into the President’s overall plan for tax reform (and it is possible that one or more could be incorporated into future legislation).

 

 

Proposed Fiscal 2016 Tax Reforms

Tax Reforms for Families and Individuals:

  • Facilitate the portability of annuities. A 401(k) plan participant would be able to take a distribution of an annuity, or lifetime-income investment, through a direct rollover into an IRA, if the annuity is no longer authorized to be held under the 401(k).
  • Simplify minimum required distribution (MRD) rules. This would exempt someone from the MRD rules if the aggregate value of the individual’s IRA and tax-favored retirement plan accumulations does not exceed $100,000 — indexed for inflation. It would also generally treat Roth IRAs the same as other tax-favored retirement accounts, and require distributions to begin shortly after age 70½.
  • Provide a second-earner tax credit.
  • Extend exclusion from income for the cancellation of certain debt related to home mortgages.

Reforms to capital gains taxes and tax benefits for the wealthy:

  • Reduce the value of certain tax deductions and exclusions from adjusted gross income (AGI) and all itemized deductions. This limitation would reduce the value to 28% of the specified exclusions and deductions that would otherwise reduce taxable income in the 33%, 35% or 39.6% tax brackets. A similar limitation would apply under the alternative minimum tax.
  • Reform the taxation of capital income: higher rates and sales. The proposal would increase the highest long-term capital gains and qualified dividend tax rate from 20% to 24.2%. A 3.8% net investment income tax would continue to apply, so that the maximum total capital gains and dividend tax rate would be 28%. In addition, noncharitable transfers of appreciated property generally would be treated as a sale of the property, so that the donor or deceased owner would realize a capital gain.
  • Implement the “Buffett Rule” by imposing a new Fair Share Tax (FST) on high-income taxpayers. The tentative FST would equal 30% of AGI — less a certain credit for charitable contributions. The amount of FST payable would be phased in starting at $1 million AGI and would be fully phased in at $2 million AGI. (In the case of a married individual filing separately, the phase-in would be between $500,000 and $1 million.)
  • Treat profits as ordinary income. The proposal would tax as ordinary income a partner’s share of income on an investment services partnership interest (ISPI), regardless of the character of the income at the partner level. An ISPI is a carried interest in an investment partnership that is held by a person who provides services to the partnership. Accordingly, such income would not be eligible for the reduced rates that apply to long-term capital gains.
  • Required distributions. Non-spouse beneficiaries of deceased IRA owners (including Roth IRAs) and retirement plan participants would be required to take inherited distributions over no more than five years.
  • Limit the total accrual of tax-favored retirement benefits. A taxpayer who has accumulated amounts within the tax-favored retirement system in excess of the amount necessary to provide the maximum annuity permitted for a qualified defined benefit plan (currently an annual benefit of $210,000 payable in a joint and survivor benefit commencing at age 62) would be prohibited from making additional contributions. Currently, the maximum permitted accumulation for an individual aged 62 is approximately $3.4 million.
  • Limit Roth conversions to pre-tax dollars. The proposal would permit amounts held in a traditional IRA to be converted or rolled over to a Roth IRA only to the extent a distribution of those amounts would be includable in income if they were not rolled over. Therefore, after-tax amounts held in a traditional IRA could not be converted to a Roth IRA. Since after-tax contributions could, in some cases, be made to Roth IRAs tax-free from a 401(k) plan, a similar rule prohibiting tax-free conversions from retirement plans is also being proposed.

Selected Estate and Gift Tax Provisions:

  • Restore the estate, gift and generation-skipping transfer (GST) tax parameters from 2009. The top tax rate would be 45%, and the exemption amount would be $3.5 million for estate and GST taxes, and $1 million for gift taxes. There would be no indexing for inflation. Provisions for portability would be included.
  • Require consistency in value for transfer and income tax purposes. The basis of property received by reason of death must equal the value of that property for estate tax purposes. The basis of property received by gift during the life of the donor must equal the donor’s basis.
  • Modify transfer tax rules for grantor retained annuity trusts (GRATs) and other grantor trusts. The proposal would require that a GRAT have a minimum term of 10 years and a maximum term of the grantor’s life expectancy plus 10 years. Among other stipulations, the proposal would prohibit any decrease in the annuity during the GRAT term, and would prohibit the grantor from engaging in a tax-free exchange of any asset held in the trust.
  • Limit duration of generation-skipping transfer tax exemption. The proposal would provide that on the 90th anniversary of the creation of a trust, the GST exemption allocated to the trust would terminate. Since contributions to a trust from different grantors are deemed to be held in separate trusts, each separate trust would be subject to the 90-year rule.
  • Simplify gift tax exclusions for annual gifts. The proposal would eliminate the present interest requirement for gifts that qualify for the gift tax annual exclusion. Instead, there would be a new category of transfers (without regard to the existence of any withdrawal rights) with an annual limit of $50,000 (indexed for inflation) per donor. Any transfers a donor makes in the new category in a year that exceed $50,000 would be taxable, even if the total gifts to each individual donee did not exceed $14,000.

For more details, consult your U.S. Trust advisor.

IMPORTANT INFORMATION

Any information presented about tax considerations affecting client financial transactions or arrangements is not intended as tax advice and should not be relied upon for the purpose of avoiding any tax penalties. Neither U.S. Trust and its representatives nor its advisors provide tax, accounting or legal advice. Clients should review any planned financial transactions or arrangements that may have tax, accounting or legal implications with their personal professional advisors.

Always consult with your independent attorney, tax advisor, investment manager and insurance agent for final recommendations and before changing or implementing any financial, tax or estate planning strategy.