The Biden administration has announced details regarding two major legislative initiatives. The tax proposals would impact individual, corporate, and international taxes. A challenging legislative process is expected as Congress begins deliberation of these proposals. Learn more.
How did we get here?
Following the enactment of the American Rescue Plan Act in early March, it was anticipated that the Biden administration would turn its attention to longer-term spending programs funded with various tax increases. These proposals were expected to incorporate key programs from then-candidate Biden’s campaign platform. However, the scope of those programs, combined with procedural considerations in Congress, necessitated the separation of programs into multiple legislative packages.
Each proposal includes a spending component and a revenue-raising component. Thus, the American Families Plan imposes $1.5 trillion in taxes on higher-income individuals to fund $1.8 trillion of spending on programs that will benefit middle- and lower-income individuals, both amounts measured over 10 years. Similarly, the American Jobs Plan and Made in America Tax Plan imposes $2.3 trillion in taxes on corporations and multinational businesses over 15 years in order to fund a corresponding amount of infrastructure investments over the next eight years.
President Biden addressed these plans in additional detail to a joint session of Congress on April 28, and a broader campaign is expected to follow. However, the focus now turns to Congress where negotiations will begin in earnest and are expected to result in meaningful changes to the legislative plans.
Keep reading for the full alert. To navigate to a specific section, click one of the links below:
- American Families Plan and individual tax changes
- American Jobs Plan and corporate and international tax changes
- Tax enforcement proposals
- What’s next for the legislative process?
The American Families Plan and individual tax changes
On April 28, the Biden administration released the first details of the American Families Plan. This plan would fund expanded social and educational programs through the imposition of additional taxes on higher-income taxpayers.
Social and educational spending programs
In broad terms, the American Families Plan includes new spending in three broad categories: (1) education, (2) support for families and children, and (3) tax incentives for lower- and middle-income families. The education provisions include universal access to two years of prekindergarten and two years of community college, in addition to increased college tuition support to low- and middle-income families, increased teacher training, and increased support for minority-focused colleges and universities. The families and children provisions include subsidized childcare, increased training and wages for childcare workers, national paid leave programs of 12 weeks for new parents and three days for those who lose family members, and increased access to nutrition assistance for low-income students. While additional details will be needed, it appears that the leave programs may be structurally similarly to the paid leave and credit programs enacted in response to the COVID-19 pandemic in 2020 rather than government-administered programs. Namely, employers may be required to provide expanded paid leave, but may be eligible for payroll tax credits to partially offset the cost.
The primary items that implicate taxes are the incentives for families. Those will largely follow the model of the ARPA and will extend the broadened child tax credit, earned income tax credit, child and dependent care credit, and Affordable Care Act (ACA) insurance premium subsidies.
Tax increases on individuals
The American Families Plan follows the Biden campaign platform and targets tax increases for individual taxpayers over certain income thresholds. Depending on the program involved, the thresholds are anywhere between $400,000 and $1 million, but key definitions are yet to be determined. Here are the key tax increases that have been proposed:
- Individual tax rate – The plan would increase the top individual tax rate from 37.0 to 39.6%. It’s currently unclear whether this plan would make any adjustments to the income threshold at which the top rate applies. In 2021, the top tax rate of 37.0% begins at $523,601 for single individuals and $628,301 for married taxpayers filing jointly.
- Capital gains and dividends – The plan would subject capital gains and dividends to the 39.6% income tax rate for “households” earning over $1 million. The 3.8% net investment income tax (NIIT) would continue to apply this income as well, bringing the total rate to 43.4%. It’s currently unclear if the term “household” would apply the same threshold to single taxpayers and married couples filing jointly. It’s also unclear how this tax rate would coordinate with the existing long-term capital gain tax brackets. In 2021, the 20% rate applies to gains beginning at $445,850 for single individuals and $501,600 for married taxpayers filing jointly (with 0 or 15% rates applied at lower-income thresholds).
- 3.8% NIIT – The plan would impose the 3.8% NIIT “consistently” to taxpayers with income over $400,000. No further details are provided, but this may include an imposition of the 3.8% tax on all income in excess of that threshold, including active business income. Presumably, this would be coordinated with the excess Medicare tax on wages, which already applies a 0.9% surcharge to earned income in excess of $200,000.
- Step-up at death – The plan proposes the elimination of the “tax-free” basis step-up at death by subjecting unrealized gains to tax if they are in excess of $1 million or $2.5 million per couple. It also describes a guardrail to “make sure” that gains are taxed unless the property is donated to charity. Finally, the plan refers to an exception to this rule for family-owned businesses and farms that continue to be operated by heirs. Given the significance of that exception, many more details will be needed.
- Phaseout of like-kind exchanges – The plan describes the elimination of tax-deferred exchanges under Section 1031 for gains in excess of $500,000. Section 1031 was restricted to real property exchanges as part of the Tax Cuts and Jobs Act (TJCA) effective in 2018, and this would be a further narrowing of the tax benefits for like-kind exchanges.
- Excess business losses – The plan would make the excess business loss limitation permanent. That provision limits the ability of individual taxpayers to use business losses to offset nonbusiness income. It was originally enacted as part of the TCJA to be effective in 2018 with an expiration in 2025, was then deferred by the Coronavirus Aid, Relief, and Economic Security (CARES) Act until 2021, and was then later extended one year until 2026. Therefore, this provision wouldn’t really have an effect until 2027 as compared to current law.
- Carried interest – Finally, the plan says that it calls upon Congress to eliminate the favorable tax treatment of carried interest. No further details are provided, but this could involve modification of Section 1061. For example, the three-year holding requirement could be removed while retaining the standards for distinguishing profits interests that are subject to the rule from those that aren’t (e.g., traditional profits interests in an operating business). Over the past decade, several other carried interest proposals have been put forward so it’s also possible that one of those would be resurrected.
What’s not included in the American Families Plan?
Several other individual tax changes have been discussed over the past several months that are excluded from this plan. Those items could always be added during congressional negotiations. However, for the moment, the following items have not been explicitly targeted:
- Estate and gift tax changes – Beyond the reference above to the step-up at death, broader changes to estate and gift taxes weren’t included. However, other proposals have been recently introduced in the Senate that would target these taxes.
- Qualified business income deduction (QBID) phaseout – The Biden campaign promoted a complete phaseout of QBID for taxpayers with income of over $400,000, rather than only applying the phaseout to certain service business income. If QBID is maintained, the 20% deduction could effectively reduce the 39.6% tax rate on business income to 31.7% (or reduce a tax rate that includes the NIIT from 43.4 to 34.7%). That provision has been excluded from this plan, but it could easily be revisited in the future as either a part of this plan or as part of the infrastructure bill.
- FICA tax reintroduction – Additionally, the Biden campaign proposed applying the 6.2% Federal Insurance Contributions Act (FICA) tax, and 12.4% portion of the self-employment tax, on earned income over $400,000. However, it wasn’t included in this proposal.
- State and local tax deduction limit – The plan doesn’t address a repeal of the $10,000 limit on the deduction for state and local taxes. Several congressional Democrats from high-tax states have publicly demanded a repeal or relaxation of this limitation in any tax bill, so it’s expected that this will be revisited to some degree.
The American Jobs Plan and corporate and international tax changes
On March 31, the Biden administration outlined plans for a sweeping infrastructure spending bill that would be funded through corporate and international tax changes. This includes two integrated plans, The American Jobs Plan and the Made in America Tax Plan. The American Jobs Plan focuses on the $2.3 trillion of infrastructure spending programs over the next eight years while the Made in America Tax Plan includes $2.3 trillion of tax increases over the next 15 years that are intended to fund the new spending.
This plan takes an expansive view of infrastructure and would include substantial investments in the following types of projects:
- Transportation infrastructure – The proposals include new funding for highways, bridges, ports, airports, and public transportation systems.
- Water, electric, and internet infrastructure – The plan would upgrade water systems, including replacing lead pipes, improve the electric power grid, and expand nationwide broadband internet coverage.
- Facility improvements – The plan includes investments in commercial buildings and affordable housing, as well as improvements to schools, colleges, and childcare facilities.
- Care economy – Proposals to create jobs and increase pay for essential home care workers are also included.
- Research and development and workforce development – Finally, the plan includes support for research and development, improvements for manufacturers and small businesses, and new workforce development programs.
Corporate tax and multinational business tax increases
The proposals included in the Made in America Tax Plan would significantly alter the amount of taxes paid by certain businesses, most notably corporations and businesses with international operations, including pass-through businesses. The Treasury Department recently issued a report describing the reasons for these tax proposals in greater detail.
- Corporate tax rate increase – The proposal would increase the corporate tax rate from 21 to 28%. Prior to 2018, the top corporate tax rate was 35% but was reduced to 21% by the TCJA. The Made in America Tax Plan doesn’t describe any graduated tax rates, so it’s anticipated that this would retain the flat rate structure that currently exists.
Any change in the corporate rate would cause businesses to reevaluate entity choice considerations and the changes proposed by the American Families Plan will be critical to this decision. Globally active businesses will need to revisit tax planning and modeling to determine the impact of the increased rates on their overall global effective rates and structuring decisions.
- Increasing global intangible low-tax income (GILTI) – The proposal includes three significant changes to the current GILTI tax regime:
- GILTI tax rate increase – The GILTI tax rate would increase to at least 21%. This would be achieved through reduction of the Section 250 deduction to 25% of GILTI income for corporate entities. If the Section 250 deduction were repealed completely, the tax rate on GILTI income could be high as 28%.
- Elimination of QBAI – The proposal eliminates the qualified business asset investment (QBAI) exclusion. That exclusion helps shelter the income of foreign entities from GILTI in an amount equal to up to 10% of qualified business assets. If eliminated, every dollar of income in a foreign subsidiary may be subject to GILTI.
- Per-country calculation – The proposal would require GILTI to be calculated on a per-country basis. This would prevent a loss in one country from offsetting income in another country to limit the amount of the U.S. owners GILTI inclusion.
Taken together, these proposals would largely roll back the “hybrid-territorial” system put in place under the TCJA, leaving very little opportunity for deferral of foreign subsidiary earnings.
- Elimination of foreign-derived intangible income (FDII) deduction – The FDII regime was meant to provide an incentive to develop more intangibles in the United States and “export” the value of those intangibles. This functions through a multistep calculation to determine a deduction that was meant to reduce the effective tax rate on export income. The proposal would eliminate the FDII deduction entirely.
- Foreign tax credit changes – The proposal would move to a country-by-country determination for foreign tax credits. The Biden administration believes this would aid in discouraging profit-shifting to low-tax jurisdictions by making it more difficult to blend foreign taxes from both high- and low-tax rate jurisdictions against a single pool of foreign income. Paired with the proposed changes to the GILTI regime, the introduction of country-by-country reporting would further hamper the ability of corporations to manage their global effective tax rates. This would be especially true if the present rules are maintained that prevent any carryover of foreign tax credits on GILTI income.
- Repeal and replacement of the base-erosion anti-abuse tax (BEAT) regime – The BEAT operates as a minimum tax on U.S. businesses, whereby an alternative tax rate is applied to a corporation’s taxable income after certain foreign-related party deductions are added back. The administration asserts that the BEAT “[has] no teeth” and proposes to replace it with the stopping harmful inversions and low-taxed development (SHIELD) regime. The SHIELD more closely follows proposals among a variety of countries, whereby deductions would be disallowed for payments made to related entities in jurisdictions not meeting a global minimum tax threshold. There are some indications that the target rate would be the same 21% targeted for GILTI income. However, it’s likely that U.S. congressional action will advance more quickly than broader international negotiations which could complicate this proposal.
- Minimum tax on global book income for very large businesses – The proposal would impose a 15% minimum tax on the book income of corporations showing more than $2 billion of book income. It’s expected that this would function as an alternative minimum tax with corporations calculating both their 15% tax on book profits and their regular tax liability of 28% of U.S. taxable income. Credits would be provided for taxes paid in excess of the minimum book tax in prior years as well as for foreign taxes paid. The coordination of other tax credits and other differences between book and tax income are yet to be determined.
- Other tax changes – The Biden plan proposes changes to tax incentives that generally reduce those available to the legacy energy industry and increase programs for renewable energy. Specifically, it would reduce tax incentives for fossil fuel businesses, extend production and investment tax credits for clean energy generation and storage, created a new tax incentive for long-distance transmission lines, expand tax incentives for electrical storage projects, extend the existing advanced energy tax credit, create tax incentives for carbon capture/sequestration, and provide tax incentives for individuals to purchase electric vehicles and appliances. It would also disallow deduction for offshoring jobs while providing a tax credit to bring jobs back to the United States.
Other related proposals
The proposals offered by the White House are the starting point for legislative negotiations, but members of Congress have also offered their own proposals. On the Democratic side, Ron Wyden, Sherrod Brown, and Mark Warner proposed their own framework for international tax changes. Those proposals are similar to the Biden proposals but include key differences. Republican Senators Shelley Moore Capito, Roger Wicker, Pat Toomey, Mike Crapo, and John Barrasso have offered their own infrastructure roadmap, which includes significantly less spending but doesn’t directly address revenue. That plan indicates that the cost of the spending would not be funded through debt but specifically excludes corporate or international tax increases. Moving forward, it’s expected that more proposals will be offered by members of Congress.
Tax enforcement proposals
Considerable attention has recently been paid to the enforcement activities of the IRS. For example, the Treasury Department Inspector General for Tax Administration issued an audit report highlighting the growing amount of uncollected taxes from high-income individuals. That report drew the focus of Democratic leadership on the House Ways and Means Committee and Senate Finance Committee.
Both the American Families Plan and Made in America Tax Plan include provisions dealing with tax enforcement. The American Families Plan would increase IRS funding by $80 billion over the next 10 years to support collection activities against high-income individuals. This unprecedented funding would increase the annual budget of the IRS by about two-thirds, but the funding is anticipated to collect at least $700 billion in additional tax revenue over the next 10 years by enforcing existing tax laws. To aid in those efforts, the plan will also increase the reporting requirements by banks and financial institutions to provide more transparency to IRS examiners. The Made in America Tax Plan similarly includes a new initiative to ensure corporate tax compliance by increasing audits.
What’s next for the legislative process?
As Congress begins the legislative process related to these proposals, there are several factors to be considered.
- Timing – The first consideration is timing. Speaker Nancy Pelosi has pledged to get the American Jobs Plan and Made in America Tax Plan through the House by July 4, but it’s not clear how the American Families Plan might integrate with those efforts. Given the nature of the tax increases involved and the scope of the spending programs, it’s expected that considerable lobbying pressure will be applied. This will likely result in adjustments to many programs. That suggests that the developments will occur over months, rather than the period of weeks that was common with COVID-19-related legislation.
- Balance of spending and funding – A second consideration is how much of the new spending must be paid for with revenue-raising provisions. The initial proposals from the Biden administration and Democratic senators include revenue-raising programs intended to offset most, if not all, of the new spending. However, nontraditional approaches have been taken by, for example, having eight years of spending in the American Jobs Plan offset by 15 years of revenue generated by the Made in America Tax Plan. It’s likely that the extent and scope of spending and revenue raising will be altered during congressional negotiations.
- Procedural considerations – Finally, the legislative process that’s utilized will impact what can be included in any legislation. Initial indications are that at least some of these proposals will advance through the budget reconciliation process, which only requires a simple majority vote in the Senate. As Democrats effectively control 51 votes in the Senate, this can provide a path to get legislation approved but would still require every Democratic senator to approve it. While the Democratic party is generally aligned on the overall goals of these plans, there is certainly not agreement on the details. However, the budget reconciliation process imposes limitations on the types of spending that can ultimately be included in any bill, which could cause a variety of programs to be narrowed or eliminated. An alternative may be to pass programs with bipartisan support, such as traditional infrastructure, through a traditional legislative process and then advance the other programs through budget reconciliation. However, Republicans in the Senate have generally indicated that they may not be receptive to this type of split approach.
While it’s expected that the final bill will be different in many respects from the proposed American Families Plan, American Jobs Plan, and Made in America Tax Plan, the proposals do set an initial anchor point for negotiations. As such, the core aspects of at least some of the proposals will likely carry through to a final bill.
The legislative process to take up this plan is expected to take several months and will be subject to many legislative procedural hurdles. Recent experience from 2017 with the enactment of tax reform through the TCJA illustrates that significant tax legislation is possible with a single party having a slim majority in Congress, but it’s far from smooth sailing.
Continued negotiations and fine tuning of these proposals will complicate tax planning in the coming year as it will be difficult for many businesses to commit to strategies without knowing what tax regime will be in place in the future. In addition, it’s possible that the effective dates of certain proposals could still apply to 2021 activity, further complicating planning.
Still, many individuals and businesses are considering ways that they may be able to accelerate income and defer deductions in case tax rates do increase in the future. These opportunities have the potential to save significant tax dollars if executed properly. However, the most powerful strategies often take some lead time so the businesses that implement them most successful have often planned far in advance. Many businesses are also revisiting their international structures in order to be ready to implement changes under various scenarios. Stayed tuned to plantemoran.com for continued thought leadership on the types of strategies that you should be considering in the coming months.