During his recent State of the Union address, President Obama discussed a number of proposed changes to the federal tax code that he is in favor of making. Later the President released his federal budget which shed additional light on several of these proposals. Though many of the items outlined face a high hurdle in passing a Congress in which both chambers are now held by the Republicans, the president’s proposals do provide some insight on the thinking in Washington D.C. at this particular moment.
Let’s unpack some of President Obama’s wish list and see how it might affect taxpayers, and also their prospects for becoming law.
- Capital gains/dividends – Under the president’s plan, the top capital gains rate would rise to 28% (24.2% plus 3.8% net investment income tax), applicable to couples with total income above $500,000 a year. The top capital gains rate was already increased during previous financial standoffs with the GOP, and they’re not in a mood to give more in this area.
- Stepped-up basis “loophole” – Under current law, capital gains on bequests to heirs go untaxed, and the basis of inherited assets is immediately increased (“stepped up”) to the value at the date of death. The president proposes to require payment of capital gains tax on the increase in value of securities at the time of inheritance. The budget does provide some exceptions for the sale of small closely held businesses, personal residences and tangible personal property. Again, Republicans will oppose this.
- Cut corporate tax rate and broaden tax base – This has long been a bipartisan goal as part of a comprehensive tax reform deal, so there’s actually a chance the GOP and Obama could find middle ground. The president’s plan would lower the top corporate rate from 35% to 28% (25% for domestic manufacturing). However, he wants to have a one-time 14% tax on profits held abroad by multinationals, plus 19% on future foreign earnings. Republicans will most likely oppose that part.
- SE Tax on Professional Service Firms – The President’s proposal would treat owners of pass-through entities providing professional services (such as S-Corp’s and partnerships) consistently for self-employment tax purposes, regardless of how they are legally formed. This would close certain loopholes that allow professional service businesses the ability to avoid self-employment taxes on a portion of their income.
- Research and experimentation tax credit – Obama proposes to simplify the research and experimentation credit by making the alternative simplified research credit (ASC) permanent, and increase the rate from 14% to 18%, plus other changes. The research and experimentation credit has received bi-partisan support in the past.
- Section 179 deduction – Obama proposes to permanently extend the Section 179 expensing provision and allow small businesses the ability to write off up to $1 million of fixed asset investments on an annual basis.
- Limits on deductions – The president would limit itemized deductions and other tax preferences to 28% for individuals with incomes over $200,000, or $250,000 for couples. The limit would apply to all itemized deductions as well as other tax benefits, including tax exclusions for retirement plan contributions, employer sponsored health insurance, and tax-exempt interest. His plan, sure to be nixed by the GOP Congress, would also establish a 30% minimum effective tax rate for the wealthy, aka “The Buffet Rule.”
- Retirement plan contributions – Obama’s proposal would prohibit additional contributions to tax-preferred retirement plans and IRA’s once an individual’s balance reaches approximately $3.4 million (or enough to provide an annual income of $210,000 in retirement).
- Cash accounting – This proposal would let businesses with gross receipts under $25 million – the vast majority of companies in the U.S. – dispense with more complex tax rules and pay their taxes on the simpler “cash” method of accounting.
- Basis fees for financial firms – Obama wants to impose a seven basis point fee on the liabilities of large domestic financial firms in an effort to discourage excess borrowing. This one’s dead in the water for the GOP.
- Child care tax credit – The president’s plan would increase the tax credit for child and dependent care to as much as $3,000 per child under the age of five, capped at a household income of $120,000. This could benefit millions of families, and Republicans have expressed support for increasing this credit in the past.
There are many other aspects of President Obama’s tax proposals, but these are some of the highlights.
If you’d like to hear a more detailed rundown of how this proposed budget could affect you, or if you need any tax planning advice, please call Nick Hopkins in our Tax Services department at (317) 608-6695 or email [email protected].