Tax professionals indicate that high-income earners might benefit from a set of tax reductions in the most recent House agreement. However, there’s a possibility that these individuals could also experience a modest tax alteration that might affect their ability to make charitable contributions and utilize other deductions.
The House Ways and Means Committee released a proposal this week aimed at extending the 2017 tax reductions for high-income individuals, including a relatively low 37% tax rate. For the moment, this plan seems to counter President Trump’s earlier suggestion to increase tax rates for those earning more than $2.5 million.
Wealthy families stand to gain from new or enhanced benefits as well. The proposal suggests a permanent increase in pass-through income deductions from 20% to 23%. Consequently, the effective tax rate for such income would hover around 28.5%, compared to the highest personal tax rate of 37%. This increase particularly favors affluent taxpayers who make a lot of money through sole proprietorships, S-Corps, and partnerships.
As for changes relating to state and local taxes (SALT), the impact on top earners may be minimal. The House plan proposes raising the cap on SALT credits from $10,000 to $30,000 but only for individuals with adjusted gross incomes below $400,000. For those earning above this threshold, the cap will gradually revert to $10,000 as income increases.
One significant aspect of the tax landscape in this proposal is the real estate tax. Under the current regulations, properties valued up to $13.99 million (or $27.98 million for couples) are exempt from this tax. The proposal aims to elevate this exemption to $15 million, with provisions for automatic increases in line with inflation moving forward. Tax advisors state that making these tax exemptions permanent can help lessen some of the recent uncertainties surrounding tax planning.
David Handler from Kirkland & Ellis LLP expressed, “All that offers certainty, I’m all for it. Please tell me what the rules are and don’t let them expire.” However, heirs to wealthy families might not share this sentiment. The potential expiration of the existing exemptions has prompted many affluent families to gift substantial amounts to their children, a strategy now complicated by the new rules.
Beyond tax savings, the draft also hints at effective tax hikes for seniors who itemize many deductions. The standard deduction stands at $15,000 for single filers and $30,000 for couples, impacting only about 10% of Americans under this new plan. Many high-income individuals typically detail their deductions for charities, mortgage interest, and various expenses. The proposal appears to restrict the advantages of these deductions through intricate calculations.
Kyle Pomerleau, a tax expert, noted that taxpayers in the top bracket (individuals earning above $600,000) would have to reduce the value of their deductions. For every dollar deducted over a certain amount, they would lose approximately 2/37th of its value. Essentially, this adjustment means that high earners will gain only 35 cents in deductible savings per dollar, instead of 37 cents.
Some voices suggest large charitable donors might scale back their contributions due to diminishing tax benefits, leading to a potential reduction in charitable giving overall. Pomerleau commented that this change could raise costs for those considering donations. It may also limit profits from mortgage deductions, which could impact high-end property purchases; though in many cases, these individuals tend to pay cash.
Additionally, the proposed taxes on private foundations could indirectly increase tax burdens for the affluent. The House plan includes a 5% tax on the investments of foundations with assets ranging from $250 million to $1 billion and a 2.8% tax for those holding between $50 million and $250 million. These taxes may significantly lower after-tax investment returns and, consequently, the funding available for charitable initiatives.
Despite the rise of donor-advised funds among wealthy donors, the role of foundations in philanthropy remains crucial. Handler remarked on the hope that government funding reductions might be supplemented by private sector contributions, though he acknowledged potential setbacks for private foundation departments.
