When Barack Obama was running for the highest office in the land, he promised-or threatened, depending on how you look at it-to raise taxeson America's wealthiest citizens. But when the economy deep-sixed, historians quickly drew comparisons to Herbert Hoover's Revenue Act of 1932, which dramatically raised income, estate and other taxes during hard times.
"Many people now think that was a big mistake and led to a deepening of the Great Depression," says Mark Luscombe, the principal federal tax analyst at CCH, a WoltersKluwer company in Riverwoods, Ill. "There is a general sense from a historical context that you don't raise taxes in a recession."
The recession has already caused Obama to backtrack somewhat on his campaign pledge to repeal the Bush administration's tax cuts for the wealthy. In late November, he hedged when asked when he would act on his pledge to raise taxes on those making more than $250,000, saying, "Whether that's done through repeal, or whether that's done because the Bush tax cuts are not renewed, is something that my economic team will be providing me a recommendation on."
How the economy will impact Obama's tax policies, and how Congressional Republicans will receive his proposals, are key questions going into 2009. Still, wealth advisors widely anticipate that any new tax legislation will carry January 1 effective dates. Many practitioners, therefore, spent the final weeks of 2008 scrambling to take advantage of tax opportunities the new administration might euthanize.
The 'Death Tax' Lives
"The
federal estate tax will almost certainly be significantly reshaped"
with Democrats in control of the White House and Congress, predicts
Gideon Rothschild, an estate planning attorney and partner at Moses
& Singer in New York. Obama has advocated maintaining the federal
estate tax at 2009 levels-a $3.5 million per-person exclusion coupled
with a 45% flat rate. As for the outright estate tax repeal sought by
the Bush administration the past eight years-forget about it.
"Clients who don't get serious now about estate planning are going to suffer a massive loss in assets when they transfer those assets down," says advisor William Jordan, president of The Sentinel Group in Laguna Hills, Calif. But don't get so focused on saving transfer taxes that you neglect money's psychological impact, Jordan adds. "The wealth should be used to incent the heirs to become productive members of society."
Rothschild believes certain techniques could be outlawed, including qualified personal residence trusts, family limited partnerships (unless an operating business is involved) and the popular zeroed-out grantor retained annuity trust (GRAT). Requiring a GRAT's remainder interest, which is a taxable gift, to equal at least 10% of the value of the property transferred to the trust is one option the new administration may explore, he says.
Income Tax Issues
On
the campaign trail, Obama aimed tax increases at joint filers earning
more than $250,000 and single taxpayers making above $200,000. He
proposed permanently rolling back certain Bush tax breaks to Clintonian
levels for these income groups. Top ordinary brackets of 39.6% and 36%
(versus Bush's 35% and 33%) and a 20% capital gains rate (compared to
15% currently) were put forth for these high earners, reports CCH's
Luscombe, along with full reinstatement of the itemized deduction and
personal exemption phase-outs. Should Obama decide to postpone these
promises until the economy improves, he could let them take effect
naturally when the Bush tax cuts expire at midnight on December 31,
2010.
On a positive note for affluent investors, the former Illinois senator indicated he would retain qualified dividends (which were introduced to the tax code by 2003's Jobs and Growth Tax Relief Reconciliation Act to mitigate the double-taxation of C corporation profits) and continue to tax them as capital gains. Even if that rate is 20% for high-income investors, it is still kinder treatment than current law portends for 2011 and beyond, when dividends revert to being taxed as ordinary income, Luscombe says.
Another break
likely to survive is the ability starting in 2010 for anyone,
regardless of income, to convert a traditional IRA into a Roth by
paying tax on the funds. However, if ordinary tax rates are raised by
then, the economics of this transaction suffer, points out Boston
attorney and CPA Michael L. Brown, a partner at UHY LLP.
"If the tax becomes too expensive, it will reduce the number of clients electing to convert their IRAs," Brown says.