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Review Your Financial Planning Opportunities For Any Presidential Election Outcome By: John Welsh, J.D.
October 15, 2020

As Director of Commerce Family Office, John Welsh, J.D., specializes in counseling individuals and families on the development and implementation of estate, wealth transfer, philanthropic, and a variety of other related wealth planning matters. In this thought-provoking CTC commentary, John explains how the outcome of the upcoming presidential election on Nov. 3 may bring the potential for major tax changes. Individual, estate and corporate taxes may be under the microscope. While the details of any possible legislative tax changes are unknown at this point and subject to many political influences yet to be determined, we did want to make you aware of some of the potential planning opportunities that could become important in the coming months. It is never too early to thoughtfully plan for potential outcomes. 

If for a moment we could rely less on making predictions about the election, we can instead more productively focus on the planning opportunities that may present themselves as a result of the election next month. 

If there is a complete sweep of Congress and the White House by the Democrats, it is fair to say that individual, estate and corporate taxes may be the first areas under review by an incoming new administration. 

On a macro level, one could conceivably believe that a Biden presidency and Democrat-controlled Senate and House, if it occurred, would use their leverage to enact policies raising corporate and individual taxes, including a repeal of existing gift/estate tax guidelines. While there are no shortage of pundits predicting the results of the election next month, it is not recommended that taxpayers make any sweeping “sail changes” based on the predictions; best to wait until the results are known. 

However, because the results of the election may not be known until December, it is imperative that taxpayers begin the planning process now so that any changes may be made prior to year-end. To help guide taxpayers with the changes that may impact them and the potential planning ideas they should consider, we have focused on some of the most important potential changes and ideas below. But remember, these changes are only likely to occur if the Democrats sweep the Senate, House of Representatives and the White House. 

SO, LET’S START WITH INDIVIDUAL TAXES.
One of the main changes the Biden-Harris campaign has discussed is the top marginal tax rate for individuals. Currently, the top rate is 37% for income over $518,400 for single rate taxpayers and $622,050 for married couples filing jointly. The Biden proposal reportedly would increase the top bracket to 39.6% on income above $400,000 while keeping the rest of the brackets the same.

Additionally, a unified Democrat government could increase the top long-term capital gains rate from 20% to the top rate of 39.6% for income above $1 million (these capital gains would also most likely be subject to the additional 3.8% Net Investment Income Tax, bringing the top rate to 43.4%).

If these rate increases were to be implemented, what can an investor do to offset the impact? One strategy that may make sense for individuals earning a high rate of income is to accelerate the realization of that income into  2020 to take advantage of lower tax rates.

For instance, if you hold a stock in your portfolio with significant unrealized long-term capital gains and are planning to sell that stock in the near future, it may make sense to sell those positions prior to year-end and immediately buy them back so as to realize the embedded gain and pay tax at a significantly lower rate (e.g., 20% versus 39.6%).

Other possible strategies concerning the timing of recognizing income and deductions become paramount. An investor might consider moving up an annual bonus if they have control of their compensation or delay the decision to defer compensation into future years until the election results are known . Investors may also want to analyze the impact of converting various amounts to a Roth IRA now rather than paying taxes in future years at potentially higher rates. One might also consider delaying deductions into 2021, including charitable gifts, capital losses, property tax payments, and state and local estimated tax payments. However, one must consider other potential changes, such as the limiting of itemized deductions, to determine whether it would be beneficial to defer these deductions.



NOW, LET’S LOOK AT ESTATE TAXES.
The estate tax is a tax on the transfer of property at your death. Under current law, the exemption amount is $11,580,000 per person (combined that is $23,160,000 per married couple), meaning essentially you pay no federal estate taxes on amounts gifted to your heirs below these exemptions. Barring further legislation, the exemption amounts are scheduled to increase with inflation each year until reverting to 2017 levels of $5 million per individual, adjusted for inflation, at the end of 2025.

If a sweep of Congress and the White House does occur next month, a more accelerated reduction of the exemption amount is possible. Moreover, the Biden-Harris campaign has proposed eliminating the step-up in basis on estate-included assets. Current law allows for most assets in one’s estate to receive a step-up in basis to the fair market value of the asset at the date of one’s death, which generally means that those who receive those assets can immediately sell them without incurring any capital gains tax. The Biden-Harris campaign proposes eliminating this benefit. However, it is not clear whether the proposed elimination of the step-up in basis would result in a capital gains tax imposed at one’s death, or require the beneficiaries of the asset to take the decedent’s tax basis for inherited assets and pay tax when he or she sells those assets. 



WHAT CAN INVESTORS DO TO ADDRESS THESE POTENTIAL CHANGES?
First, if one has remaining exemption, it might make sense to use that amount so as not to lose it should the exemption amount be decreased in 2021. Note that it might be appropriate for one of the spouses to make a gift using only his or her exemption amount. The reason is that if both spouses were to make a $5.5 million gift, using that amount of exemption each and the exemption amount later decreases to $5.5 million or less per individual, the couple now has no exemption left between them. If they utilize the strategy of one spouse using his or her entire $11.58 million exemption amount now and the exemption amount decreases to $5.5 million or less, they will still have the other spouse’s entire exemption amount remaining.

Next, any such elimination of the step-up in basis would impact taxpayers intending to avoid significant capital gain tax by holding onto assets until they pass away, allowing their heirs to receive these assets with no unrealized gain. If the elimination of the step-up treatment moves forward, the tax on the gain would no longer be eliminated at death by the step-up in basis. In this situation, it may be wise for certain taxpayers to incur capital gains at today’s lower rates. 

Lastly, one should review the impact of any trust maintaining grantor trust status, which requires the grantor, typically the individual who created the trust, to pay the trust’s taxes. While this is a powerful and efficient estate planning strategy, if the grantor is impacted by potentially higher income and capital gain rates, they should determine whether the grantor trust status should be “turned off”, or if the trust should consider selling appreciated assets now to pay taxes at lower rates. It may make sense to have the trust pay its taxes or to sell assets, pay the tax and repurchase the asset. Note that these decisions require an in-depth analysis of the tax impact each plan would have on the trust and grantor’s taxes.*


FINALLY, LET’S ADDRESS CORPORATE AND BUSINESS TAXES.
One of the biggest changes brought about by the Tax Cuts and Jobs Act of 2017 was the cutting of the corporate tax rate from 35% to 21%. Additionally, this change is one of the few provisions of the Tax Cuts and Jobs Act that is permanent and does not revert to prior law in 2026. Much of the individual and estate tax changes are temporary and revert to prior law at the beginning of 2026. 

The Biden-Harris campaign has stated that it would raise the corporate tax rate to 28% and would enact a minimum tax on large companies, such that all large companies pay a minimum tax according to their book income, not just taxable income. While the impact these changes would have on the economy and markets is unknown, many corporations will be deciding whether it will be beneficial to accelerate income into 2020 and defer deductions or expenses until 2021 to offset the potentially higher tax rate. 

Additionally, for years it was typically more beneficial from an overall tax perspective to be a pass-through entity compared to a corporation because earnings accrued inside a corporation and then distributed out to its owners are essentially taxed twice. This differential between pass-through entities and corporations was narrowed for many taxpayers as a result of the Tax Cuts and Jobs Act. If there are changes to the corporate tax rate, individual tax rates and pass-through taxing structure like we saw in 2017, this analysis may again be altered, for better or for worse, and would require companies and taxpayers to again analyze its choice of entity.



COMMERCE TRUST CLIENTS ARE WELCOME TO CONTACT THEIR PRIVATE CLIENT ADVISOR WITH ANY QUESTIONS ABOUT THESE STRATEGIES.

*Always consult with your CPA and professional advisor on matters involving taxes. 

Commerce does not provide tax advice or legal advice to customers. While we may provide information or express general opinions from time to time, such information or opinions are not offered as professional tax or legal advice. Consult a tax specialist regarding tax implications related to any product and specific financial situation. 

Past performance is no guarantee of future results, and the opinions and other information in the commentary are as of Oct. 13, 2020. This summary is intended to provide general information only, may be of value to the reader and audience, and may include the opinions of Commerce Trust Company, which are subject to change.

This material is not a recommendation of any particular security or investment strategy, is not based on any particular financial situation or need, and is not intended to replace the advice of a qualified attorney, tax advisor or investment professional. Diversification does not guarantee a profit or protect against all risk.

Data contained herein from third-party providers is obtained from what are considered reliable sources. However, its accuracy, completeness or reliability cannot be guaranteed, and is subject to change rapidly as additional information regarding the conditions which impact the represented subject matter may change.

Commerce Trust Company is a division of Commerce Bank.

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ABOUT THE AUTHOR

John Welsh, J.D. Senior Vice President, Director, Commerce Family Office at Commerce Trust Company Commerce Trust Company
John is a managing director of Commerce Family Office in St. Louis. He collaborates closely with clients on strategies for addressing the complex personal, family, and financial challenges that can accompany significant wealth and often impact current and future generations.

John works to help clients integrate core values into wealth planning and decision making, translate vision and mission statements into actionable solutions, implement successful family communication strategies, and establish effective family governance structures and processes.

Prior to joining the Commerce Family Office team, John was a Family Wealth Strategist in Chicago, where he worked with families and individuals on the development and implementation of estate, wealth transfer, philanthropic, family education and fiduciary planning activities, as well as a variety of wealth planning matters. Prior to that, John was an attorney where he was a part of the Private Client group providing wealth and estate planning services to ultra high net worth individuals, families, family offices and foundations.

John earned his Bachelor of Business Administration from the University of Notre Dame and his Juris Doctor from Northwestern University School of Law.
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