#13 Musings Beyond the Bunker (Friday April 30)
Good morning!
There are big plans to provide more early childhood education, free two-year college education and major infrastructural expansion (in addition to other stimulus measures and, yes, some payola to traditional Democratic constituencies like teachers’ unions). We are now getting the details from the Biden administration regarding how the stimulus package and infrastructure initiative will be funded. Much of it is modifications to the U.S. Tax Code targeted at high income earners. The battle lines are being drawn. No doubt the real estate and hedge fund industries will pull out all the stops.
Earlier this week, President Biden called for over $80B to be allocated toward IRS tax enforcement against recalcitrant high net worth tax payers (or, perhaps more correctly, “high net worth tax non-payers!”).
On Wednesday the president unveiled a number of proposed changes to the Tax Code, as part of the “American Families Plan.” Here are a few of its provisions:
Repeal of the tax deferral currently allowed for gains realized from like-kind exchanges (“1031 Exchanges”) of real estate investments – this repeal would apply for gains greater than $500.000
Repeal of the capital gains tax benefits for U.S. carried interest programs
Repeal of the favorable capital gains tax rate for households earning more than $1 million – in other words, all income will be taxed at the 39.6% highest marginal tax rate
Increase the top marginal tax rate from 37 to 39.6% - this was the rate in place pre-2017
Apply the 3.8% net investment income tax consistently to taxable income over $400,000
Limit “carryover basis” on death to $1MM plus up to $500K for a couple’s primary residence.
Here are my thoughts on these proposals:
1. The 1031 exchange game has been a giveaway to the real estate investment community for a long time. Contrary to what some more conservative economists may say, I predict no material change in the velocity of transactions in the real estate market. Most average folks aren’t exceeding the $500K gains threshold anyway. And the cries that “we won’t transact as much business and won’t make as much money” will fall on unreceptive ears.
2. Capital gains treatment of carried interest probably never made sense (why should some people pay a lower tax rate on what essentially is the primary income generator for labor in certain industries).
3. I would have increased the capital gains rate but not all the way to 39.6%. Of course let’s remember it’s only for those making more than $1MM per year. That said, I would have gone to 30% to mollify those whose votes may be needed. There are arguments, somewhat specious, that keeping capital gains rates lower will spur economic activity, so why not just go to 30%? Plus, together with the “net investment income tax” the federal rate is a staggering 43.4% (increased from the current combination of these two taxes of 23.8%).
4. The increase in the marginal tax rate just goes back to the status quo ante. It was good enough for the George W. Bush era. It’s not a big move.
5. The net investment income tax is stupid and should be eliminated… It is a disguised increase in tax rate.
6. The decrease in the step-up basis on death seems appropriate. Why we forgive taxes on death and don’t treat inter-generational transfers as the opportunity to tax gains often earned over decades makes little sense. Just because someone dies, particularly someone wealthy, is no reason to forgive taxation on a gain. Yes, I know there is the argument that assets will have to be sold to pay the taxes but it’s hardly a reason to provide a tax subsidy to a wealthy heir. I understand there is an issue of the transfer of family farms (though this is a small group now, with the industrialization of farming in this country). And I understand there is an issue with the transfer of small businesses. Limited exceptions can be worked out. Plus, many of the wealthy already purchase “second to die” insurance to cover the liquidity event on taxation on death. There are ways to plan ahead.
7. As part of the plan, I also would lower the mortgage interest deduction from $1MM down to $500K. There is little argument for paying people to own homes. This is, after all, a federal subsidy. Why subsidize single family homeowners to the detriment of renters? To be fair, one would subsidize rent as well (as we effectively did during COVID). Government support of renters actually would have a greater societal benefit than subsidizing homeowners. Yes, I know, those in the industry, particularly brokers, will see this as having a chilling effect on home ownership. But the limitation to $1MM of deductible mortgage interest was decried at the time but has had seemingly little effect on the rise in home prices and the velocity of sales.
8. I’d allow deductibility of all state and local taxes to return (we’ll see how that goes; I think it will return). It seems crazy to tax people on the taxes they pay. The elimination of the deductibility of state and local taxes really was a Trump-era thinly veiled means of collecting more taxes from blue state earners by eliminating the deductibility of taxes. Yes, I understand the argument that the federal government “doesn’t want to fund inefficient and expensive taxes.” But we all know this was not much of an explanation.
GAME TIME
People love their games. Here are a few additions:
· From Harvey Englander, “Boom Again” (geared to a particular generation)
· From Mark DiMaria, “Pente” (which we last played in college)
· From PJ Lewis (who ran games at Mattel for a while), he points out UNO. I am dutifully humiliated not to note this classic, which celebrates its 40th birthday this year. He also says Blokus is great after a glass or wine or two (and he promises me a copy).
· From Parke Skelton, who notes this is a Eurocentric list. It should have included GO, which is played in packed clubs, open all night, across LA’s Asian immigrant communities. He claims it is played world wide more than chess.
· Jason Kern suggests Ticket to Ride (which was recommended by others as well). Trying to build long train connections.
· Bill Johnson suggests the ever-popular, totally inappropriate, Cards Against Humanity.
· Diego Cartagena supports Catan as great. He also likes Pandemic, where players work cooperatively to prevent a pandemic spreading across the globe (of course we are seeing lack of cooperation to slow a real pandemic playing out every day!).
· Peter Bain believes the Game of Life had a hidden social policy to drive a big house and have lots of kids. Social engineering in action...
Best, Glenn