President Biden is expected to outline tonight in an address to a joint session of Congress his "American Families Plan," which includes significant tax changes that would harm real estate. The White House projects that these tax changes will raise $1.5 trillion over 10 years; $700 billion of that would come from increased IRS enforcement and additional information reporting requirements from financial institutions.
Although the Democrats control the White House and Congress, moving a plan as ambitious as this will prove very difficult. No Republicans are expected to support any of the proposed tax increases, and with the narrow margin of control in the House and Senate, this ambitious proposal may collapse under its own weight. Of the tax hikes proposed, several directly target real estate. The administration is proposing to:
- Increase the top marginal rate from 37% to 39.6%, and also lower the income thresholds for that rate.
- Tax long-term capitals gains as ordinary income for taxpayers earning more than $1 million. This would effectively increase the capital gains tax rate from a maximum of 23.8% to 43.4% (39.6% top marginal rate plus 3.8% net investment tax).
- Eliminate stepped up basis under the estate tax. Rather, the proposal would exclude gains up to $1 million from the estate tax. This effectively creates an estate tax gains exclusion of $2.5 million per couple, when you consider the $500,000 gains exclusion on a principal residence, which is not changed in the proposal. The plan also references unspecified protections for small businesses and farms to ensure they are not taxed if the heirs continue to operate the business.
- Eliminate carried interest, which would negatively affect multifamily real estate.
- Limit like-kind exchanges. Deferral of capital gains on a 1031 exchange would be limited to a maximum of $500,000. The plan to does not specify if this is an aggregate or per-transaction limit.
- Make permanent limitations imposed as part of the 2017 Tax Cuts and Jobs Act on the percentage of taxable income that can be offset by net operating losses.
- Modify the net investment tax of 3.8% to ensure it applies to all capital gains for everyone earning in excess of $400,000.
- Section 199A deduction for pass-through businesses
- Estate tax rate or exemption amounts
- Itemized deductions
- State and local deduction limit