On November 19th, the House passed the Build Back Better (BBB) tax and spending proposal by a narrow 220 to 213 vote, almost exclusively along party lines. According to the Congressional Budget Office, the Bill increases the deficit by $367 billion over 10 years. The Budget Office’s analysis doesn’t take into consideration an estimated $127 billion of additional revenue from increased tax enforcement. Remember, this is only the House version of the bill, so it will be interesting to see what happens in the Senate. It appears that Sen. Joe Manchin of West Virginia is holding the cards. It seems the current bill is much more benign for most individual taxpayers and investors than previous proposals, with no change in the capital gains rates or individual tax rates, except for high-income taxpayers.
Here’s a quick summary of some of the relevant tax provisions. Numbers are from the CBO:
Minimum Tax on Book Income: This part of the proposal, which could be called the ‘Amazon Tax’, is to impose a 15% minimum tax on corporations with book income of over $1 billion. Accounting principles allow differences in what is reported for book purposes and what is reported for tax. These are largely timing differences, and the company must account for the deferred taxes. However, this acceleration of tax would raise tax revenue by about $320 billion. This would reduce the cash flow of the 1,000 or so companies with book income over $1 billion.
Surtax on Corporate Buybacks: For 2021, share buybacks are close to the record pace set in 2018. When a company buys back its own shares, the stock price generally increases, creating a form of dividend that isn’t currently taxed. Apple
Global Intangible Low Income Tax (GILTI): This could be called the ‘Apple Tax’ since Apple famously moved intellectual property to Ireland at a remarkable 2% tax rate. BBB proposes to enforce and increase the GILTI tax and reform international taxation. GILTI seems to affect about 120 of the S&P 500, primarily technology and finance companies. This change raises $280 billion.
High-Income Surtax: Brand new tax on people with incomes over $10 million. BBB proposes to add a 5% surtax on Adjusted Gross Income (AGI) over $10 million and an additional 3% tax on incomes over $25 million. According to the IRS, in 2018, there were 21,112 returns with AGI over $10 million. This provision is set to raise $230 billion of tax revenue.
Net Investment Income Tax (NIIT) Expansion: This provision will affect many pass-through entities, like Subchapter-S corporations and LLCs. The legislation expands the NIIT of 3.8% to income from those businesses. This means business owners of pass-throughs will now need to carefully review how they take their funds, notably compensation versus distributions. This increases taxes by $230 billion.
State and Local Taxes (SALT): The Tax Cuts and Jobs Act (TCJA) restricted the deduction of State and Local taxes to $10,000 for a married couple filing jointly. BBB proposes to increase the deduction allowed to $80,000. This is an itemized deduction for real estate taxes, personal property taxes, and state income taxes. State taxes are disproportionate, with some states having no income taxes and other, like New York, or California, have substantial income taxes. According to the Tax Foundation, New York has the highest burden, with 14.1% of all income in the state going to state and local taxes. Alaska, by comparison is the least-burdensome state with 5.8%. This provision will provide a tax cut to upper income families in high tax states. Alternately, it may re-activate the Alternative Minimum Tax (AMT). Also, because of weird nuances of reconciliation bills (notably they only last 10 years), the TCJA limit on SALT deductions would expire in 2026, so the deduction would be unlimited after 2025. The BBB would keep the $80,000 limit until 2032, thereby increasing taxes on very high-income taxpayers from 2026 until 2032, then reinstates the $10,000 limit in 2032. It’s complicated to say the least since the Increase cuts taxes by abut $275 billion through 2025 and raises taxes by $290 billion after that.
Extend Child Tax Credit: This extends the Enhanced Child Tax Credit by one year. This is a credit for $3,000 per child aged 6 to 17 and $3,600 per child under 6. This credit is fully refundable, which means taxpayers doesn’t need to pay income taxes to get the credit. The credit for 2021 is for eligible families with Adjusted Gross Income under $150,000 (Married Filing Joint), $112,500 (Head of Household) or $75,000 (Single). This provision provides about $190 billion of benefits to families.
IRA Changes: The BBB puts some limits on IRAs. Notably, no contributions can be made to a Roth or traditional IRA if it would cause the total value of the IRA and Defined Contribution accounts to exceed $10 million. The limit would only apply to taxpayers with income over $450,000 (married), $425,000 (head of household) or $400,000 (single). BBB also proposes to require minimum distributions on combined IRA and defined contribution balances over $10 million if the taxpayers’ income is above the income thresholds. There are substantial distribution requirements on IRAs above $20 million. The Bill also closes the ‘back-door’ Roth strategy to get around the income limitations on Roth contributions, as well as the in-plan ‘mega-Roth’ after tax conversion. The same income limits apply.
Other Stuff: There are additional tax items in the BBB, including a nicotine tax (warning to vapers), more funding for the IRS, and repeals of drug rebates.
Bottom Line: This bill is off to the Senate. We could see some significant changes, particularly in paid family leave (it wasn’t in the House version). Some provisions seem to ‘stack up’ against some companies (like big Tech with share buybacks and high book income) and some individuals (high income and big IRAs). The devil is in the details. As always, I’ll try to answer e-mailed questions: [email protected]