One issue that is certain to dominate this year’s debate over tax and spending policy is progressivity. In other words, beneath every fiscal policy discussion this year will be the question of how much tax and spending policy should increase the burden on high-income households, and how much those policies should benefit low-income households.
President Biden has laid out an ambitious policy agenda that includes increased spending on such programs as childcare, infrastructure, health care and climate change. The Committee for a Responsible Federal Budget estimates that these new programs total more than $10 trillion over the next decade. Biden has proposed to offset this new spending with higher taxes on wealthy taxpayers and corporations, an action that would raise an estimated $3.3 trillion over the next decade.
Taken together, Biden’s spending and tax plans would clearly make the federal fiscal system more progressive and redistributive by increasing the tax burden on high-income taxpayers and channeling those revenues to households down the income scale.
Another factor that will spark a debate is the soaring
budget deficits generated by the extraordinary relief measures needed to deal with the Covid-19 pandemic. These deficits are currently estimated to be in excess of $30 trillion, and it is uncertain whether additional relief measures will be needed this year. Where to find new tax revenues to reduce the mounting national debt will certainly be a backdrop to those discussions.
Old law: The Tax Cuts and Jobs Act lowered individual and corporate tax rates. Individuals were capped out at 37 percent, or 29.6 percent for owners of S corporations or partnerships that were eligible for the Section 199A deduction. Corporate tax rates were capped at 21 percent.
Proposed law: President Biden’s plan would be to increase the top marginal rate back to 39.6 percent, the maximum rate before the TCJA took effect. The change would also increase the capital gains rate from 15 or 20 percent to 39.6 percent for taxpayers earning more than $1 million, and eliminate the 20 percent Section 199A deduction for business owners with more than $400,000 of net income.
These tax-rate changes are just proposed now and have not yet been added to legislation. We likely will see
increased tax rates under the Biden administration, but the extent is difficult to determine now.
Regardless, tax rate changes are rarely retroactive. This reality gives business owners time to perform tax-planning activities this year. Items to consider would include investing in more capital assets such as buildings and equipment (accelerated depreciation studies, such as a cost segregation study, can provide large deductions to offset income in future years); claiming an R&D tax credit for expenses related to product or process development; considering a change to your method of accounting to accelerate income into 2021 at a lower rate; and accelerating accounts receivable while delaying accounts payable to 2022.
Supply Chain Incentives
Old law: There are few tax incentives for U.S.-based manufacturing activities. Although the IC-DISC provides a beneficial structure for the export of U.S.-made goods, there are few incentives for domestically made and sold goods.
Proposed law: President Biden has proposed a new incentive known as the Made in America credit. This credit would have two components to incentivize U.S. companies to shift their supply chain to U.S.-only products. First, there would be a 10 percent credit for producing goods in the United States; and second, there would be a 10 percent penalty tax on services and sales to U.S. customers from a U.S. company’s foreign affiliate.
Takeaway: This proposal presents an exciting opportunity for marine manufacturers. According to the National Marine Manufacturers Association, 95 percent of all boats sold in the United States are built here. This new incentive helps offset the potential change in tax rates and encourages investment in U.S. manufacturing.
Uncertainty exists around the 10 percent penalty, and whether companies will need to allocate profit to certain foreign-made goods, such as outboards or electronic systems. If the Made in America credit becomes law, companies might want to evaluate suppliers to shift as many components and raw materials as possible to U.S. suppliers.
Old law: The existing estate tax laws were significantly enhanced under the TCJA. Specifically, there’s a current estate tax exemption of $11.58 million, and there’s a step-up in basis rule: It allows for beneficiaries to inherit assets at their fair market value at the time of inheritance, further reducing the tax owed on the assets if sold at a future date.
Proposed law: The Biden tax plan would reduce the estate tax exemption by around 50 percent to the $5 million pre-TCJA amount. The proposed change would also eliminate the step-up in basis rule. This would significantly change the tax associated with both the estate and the tax owed by the beneficiaries.
Takeaway: Taxpayers whose estate surpasses the $5 million threshold should consider doing as much tax planning as possible this year. Consider gift assets or shares of the business in 2021; have a valuation done to determine the fair market value of gifts; and consider different trust entities to gift shares while maintaining control.
Research and Development Expenses
Old law: Starting in 2022, companies are required to capitalize and expense over five years any costs related to the development or improvement of new products or processes, regardless of whether or not they claim the research-and-development tax credit. This law change, which was part of the TCJA that President Trump signed in 2017, was viewed as unfavorable to taxpayers for two main reasons: Delayed deductions result in higher tax bills now, and taxpayers would have to track R&D expenses separately, a higher cost of compliance.
Proposed law: A bipartisan effort led to the creation of House Bill 1304, the American Innovation and R&D Competitiveness Act, which would repeal this provision to promote investment in research and development. Also, a companion Senate bill is expected to be introduced in the next few weeks. President Biden has indicated he supports both bills.
Takeaway: This provision, if passed, would be extremely beneficial for marine manufacturing and technology companies. Companies would be able to deduct expenses as they are incurred, and would still be able to claim the R&D tax credit. n
Michael C. Laur (firstname.lastname@example.org), Jaime Garcia de Paredes (email@example.com) and Ronald G. Wainwright (rwain firstname.lastname@example.org) are managers and leaders at Cherry Bekaert’s Specialty Tax Group, with expertise in income tax deductions and more for multinational, public and closely held companies.
This article was originally published in the April 2021 issue.