The so-called billionaire minimum tax contained in President Joe Biden’s fiscal year 2023 budget proposal rests on new and largely untested tax premises and principles, some tax experts said Tuesday.
The minimum tax was described in the president’s budget as necessary to offset the ability of wealthy taxpayers to cut their tax rates below those of middle-class taxpayers by exploiting “giant loopholes” in the Code and employing “sophisticated tax planning”. of the Treasury general explanations Budget revenue proposals, known as the Green Paper, include details on how the minimum tax will work.
“The proposal is problematic on many fronts,” said Roby B. Sawyers, CPA, Ph.D., professor of accounting at North Carolina State University in Raleigh. “It would be administratively difficult to enforce and a compliance nightmare for wealthy individuals with illiquid ‘non-tradable’ assets.”
Moreover, the proposal “would almost surely raise constitutional issues as well,” Sawyers said.
How the tax would work
Unlike most current tax provisions, minimum tax would be levied on unrealized and realized gains, both capital and ordinary. Normally, income is taxed only as it is earned or received, sometimes implicitly. Currently, the value of investments and other assets may rise in value untaxed until a realization event occurs, most commonly the sale of the asset or other disposition. Long-term net capital gains are currently taxed at a maximum rate of 20%, plus, for investment gains generally realized by taxpayers above a certain level of modified adjusted gross income , the net tax on investment income of 3.8%.
Under the president’s proposal, a minimum tax of 20% would be imposed on all realized and unrealized income, scaled to net worth between $100 million and $200 million. Despite its $100 million threshold, the administration fact sheet talks about “minimum income tax for billionaires”.
Taxpayers could try to avoid the threshold by borrowing or otherwise reorganizing their assets at the end of the year, Sawyers said. “It’s also unclear what happens when assets depreciate from year to year or when assets are subject to large but temporary increases in value at the end of the year,” he said. . The green paper does not describe any provision comparable to the alternative valuation date that can currently be chosen with respect to inheritance tax, he noted.
Unrealized capital gain payments would be distinguished so that the capital gain is not taxed a second time when the income is realized. These payments can also be deferred. The minimum tax payable for the first year could be paid in nine equal annual installments, and the minimum tax payable for subsequent years could be paid in five equal annual installments. The Greenbook refers to these payments as “uncredited prepayments”, which would equal the cumulative minimum tax payable for previous years (including future installments), minus any amount credited on gains made during those years. previous years.
Uncredited installments could be deducted from capital gains tax due upon realization of the gains, to the extent that the total of the uncredited installments, reduced by the cumulative amount of the unpaid installments of the minimum tax, exceeds 20 % of unrealized gains. This could result in a refund if such uncredited net prepayments exceed the long-term capital gains rate multiplied by the unrealized capital gains. Net losses and charitable donations could reduce those gains, says the Greenbook.
“While the proposal mentions unrealized gains and charitable donations affecting how prepayments and uncredited refunds are handled, we have no practical guidance as to what this means or how it would work,” said Sawyers.
Net Wealth Calculation
Basing an income tax on net worth rather than, as currently, on income, raises many considerations, some of which are addressed in the Green Paper. Perhaps the most obvious is the inherent difficulty in valuing many types of assets and liabilities to calculate net worth. To this end, the Green Paper distinguishes between tradable and non-tradable assets, but does not explain how these designations would apply to any particular type of asset. Existing regulations. Second. 1.170A-13(c)(7)(xi) provides a definition of publicly traded securities for purposes of charitable contributions, but it is not clear to what extent, if any, this definition would apply or could be considered analogous to marketable assets to the extent proposed.
According to the Greenbook, tradable assets under the proposed minimum tax could be valued by their market price as of December 31 of the tax year. These annual valuations should be reported to the IRS each year, separately by asset class and including the total base and the total estimated value at the end of the year.
Non-marketable assets would be valued at the higher of their original or adjusted cost base. Alternatively, non-marketable assets could be valued using the “last valuation event of investments, borrowings, or financial statements”, or another method approved by the IRS. Valuations of non-marketable assets would not have to be performed annually, but would be marked up by the five-year Treasury rate plus 2 percentage points for the periods between valuation events.
“While the proposal exempts illiquid assets from annual valuations, unless a taxpayer is willing to accept an automatic increase in value, a valuation would be prudent and necessary, especially in a declining market,” Sawyers said. .
A problem that estates of deceased persons sometimes encounter with respect to inheritance tax is being able to pay the tax when the assets giving rise to the tax liability are not liquid. The minimum tax recognizes this by allowing taxpayers whose marketable assets held directly or indirectly represent less than 20% of their wealth to elect to include only unrealized gains on marketable assets in the calculation of minimum tax payable. pay.
In addition, such “illiquid” taxpayers would pay a deferral charge of up to 10% of the unrealized gain on the non-tradable assets once the gains from the non-tradable assets are realized.
The Green Book explains, however, that minimum tax payable is not included in current or previous tax year tax payable for purposes of calculating estimated tax payments or underpayment penalties. payment of estimated taxes.
Uncredited installments of deceased persons
Another potentially puzzling question is addressed: what happens when a taxpayer dies while still having uncredited net installments of the minimum unrealized capital gains tax? In this case, the uncredited advance payments would be refunded to the estate of a single decedent, where they would be included in the decedent’s gross estate for estate tax purposes. In the case of a deceased with a surviving spouse, they could be transferred to the spouse. Again, this could raise conundrums not explored in the Green Paper, such as whether advance payments would be immediately refundable if the surviving spouse is not an applicable minimum tax taxpayer.
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