The proposed $1.8 trillion American Families Plan (AFP) would represent a sweeping overhaul to the US tax system that could impact individuals.
Unveiled by President Joe Biden on April 28, 2021, the plan is part of the Build Back Better policy initiative, joining the $2.3 trillion American Jobs Plan (AJP) and the Made in America Tax Plan (MATP) that could impact corporation and businesses with international operations.
While these plans are simply proposals with legislation yet to be drafted, they propose significant investments in domestic policy initiative and warrant monitoring further developments. An overview of the notable potential impacts of the proposals follows.
Individual Tax Proposals
The proposed laws contained in the AFP could have significant implications for select taxpayers.
Certain individuals could face an overall tax rate that tops 50% when combining the increase in capital gains, broadening of the net investment income tax (NIIT), and increase in ordinary rates.
As proposed, the AFP would reverse several provisions promulgated by the 2017 tax reform law, commonly referred to as the Tax Cuts and Jobs Act of 2017 (TCJA), and other parts of the tax code that benefit taxpayers in higher income brackets. Subject taxpayers could be impacted by the following changes.
Individual Tax Rates
The AFP proposes to return the tax rate for the top income bracket to Obama administration levels, from the current 37% to 39.6%; however, it isn’t clear if the income tax brackets will be adjusted along with the rate.
For reference, in 2021 the top tax rate begins at $523,601 for single taxpayers and $628,301 for married taxpayers filing jointly.
Capital Gains and Qualified Dividend Income
As proposed, the AFP would tax long-term capital gains and qualified dividend income as ordinary income if the taxpayer has more than $1 million in income during the taxable year.
As mentioned above, the proposed highest ordinary individual tax rate is 39.6%, therefore, capital gains and qualified dividends would be taxed at that higher rate. Long-term capital gains and qualified dividends are currently taxed at a top rate of 20%, depending on taxable income and filing status.
Net Investment Income Tax (NIIT)
NIIT generally applies to investment income where a taxpayer’s modified adjusted gross income exceeds:
- $200,000 for single tax filers
- $250,000 for joint filers
- $125,000 for married taxpayers filing separately
The AFP proposes to broaden the application of the NIIT by applying it to all income over $400,000 rather than solely investment income.
Stepped-Up Basis for Property Inheritance
Generally speaking, where property is inherited, the tax basis of the property gets a so-called step up in basis; this means that upon the decedent’s death, the property takes on a fair market value (FMV) basis rather than maintaining the decedent’s original basis in the property.
This arrangement is generally seen as advantageous because the gain on appreciated assets isn’t subject to taxation if the heir disposes of the assets at death.
As proposed, AFP imposes limits on stepped-up basis. Specifically, it ends the practice for gains that exceed $1 million, or $2.5 million per couple when combined with existing real estate exemptions.
However, it’s been indicated that the proposal could have exceptions for property donated to charities and family-owned businesses and farms.
As proposed, so-called carried interest—a hedge fund manager’s contractual right to a share of a partnership’s profits—would be subject to ordinary tax rates.
Currently, carried interest is taxable at the capital gains rate under certain conditions.
Generally, Section 1031 exchanges, also known as like-kind exchanges, allow a taxpayer to defer the recognition of a gain on the exchange of real property held for investment to use in a business where the property is exchanged solely for similar property.
The AFP proposes to end the deferral of gains of more than $500,000.
Child Tax Credit (CTC)
In March of 2021, the American Rescue Plan Act (ARPA) temporarily increased the CTC from $2,000 to $3,000 for certain taxpayers for each child age six through 17, and credits of $3,600 for each child under age six. It also makes the credit fully refundable in most cases.
As proposed, the AFP would extend these CTC increases through 2025 and allow the credit to be fully refundable on a permanent basis.
Child and Dependent Care Tax Credit
Under the ARPA, taxpayers may temporarily claim a refundable 50% credit for up to $8,000 in care expenses for one child or dependent and up to $16,000 in expenses for two or more children or dependents.