There’s an ironclad rule for clients trying to follow proposed federal tax legislation moving through Congress: Don’t!

Most proposed tax legislation never makes it past the congressional cutting room floor, and whatever does survive the trim and tuck of the tax committee surgeons is often wildly at variance from the original. It therefore makes little sense to devote time, effort and memory cells to learning information that has a high likelihood of becoming totally irrelevant. After all, your brain is already clogged with useless information about Henry VIII’s six wives and the War of the Spanish Succession. At least that stuff might one day show up as a question on Jeopardy! But never-passed tax legislation is as valueless as your old BlackBerry charger, the key to your college dorm room, or the players that the Boston Red Sox got in exchange for trading Andrew Benintendi.

The far better approach—tried and true—is to wait until faux tax legislation becomes actual tax legislation, at which time you can pick up the new law, read it studiously, inhale deeply all the new ideas and then exhale them out in the next breath to clients and friends.

So why write this article about the pending federal tax proposals from the Biden administration? For one thing, it is just about the only thing that anyone is talking about. For another, there is probably still time to do something about it. In homage to the Titanic, you may want to consider a change in navigation before the icebergs appear.

Biden Income Tax Proposals
The White House has advanced an ambitious agenda of income tax changes targeted at U.S. corporations and individuals making more than $400,000 a year.

Several administration proposals were published in the U.S. Treasury’s “Green Book” on May 27 of this year. One was that the U.S. corporate income tax rate would increase from the current 21% to 28%. With an average state corporate income tax in the 7% to 9% range, the combined corporate tax rate would rise to 35% or higher, placing the U.S. near the top when it’s compared with other countries.

The individual income tax rate would increase under the proposals from a maximum of 37% to 39.6% for those making $400,000.

The Old-Age, Survivors and Disability Insurance (OASD) component of Social Security taxes, which currently phases out at $142,800 of wage income in 2021, would resume at $400,000 of wages (and also count pass-through income). The hospital insurance component of 2.9% would rise to 3.8% for incomes above $250,000). This makes the effective marginal federal tax rate on income 39.6% + 12.4% + 3.8% = 55.8% for income above $400,000. Add a state income tax (say the one in Massachusetts, which is 5%) and the total tax would be 60%.

The Biden administration also proposes turning death into a taxable event—meaning that the estates of taxpayers would recognize a deemed sale of all appreciated assets they hold when they die, with a corresponding deduction allowed for federal estate tax purposes.

Biden proposes limiting the tax benefit of itemized deductions to 28% for those whose income is more than $400,000, even if their marginal tax rate is (far) higher.

The administration would also tax long-term capital gains and qualified dividends at the ordinary income tax rate of 39.6% for people making income above $1 million. When you apply the net investment income tax (3.8%) and state capital gains tax rates (which are 13.3% in California), the effective rate could be over 50%.

Like-kind exchanges under Section 1031 of the Internal Revenue Code would be limited to $1 million of gain per year per taxpayer.

The deduction for unlimited state and local taxes (SALT), however, would be restored under the “Green Book” proposal. Meanwhile, carried interest, a common arrangement in hedge funds, would be treated as ordinary income rather than as a capital gain.

Estate And Gift Tax Proposals
The administration has decided not to push an expansion of the estate and gift tax regime, at least during its first round of tax hikes. Instead, the president is proposing what might be termed the “Canadian” alternative, which is to tax all appreciated assets held by a taxpayer on the date of his or her death as if they were sold for fair market value.

However, estate tax “reform” (i.e., hikes) is far from dead. President Biden advanced four proposals during his 2020 presidential campaign.

The first was to eliminate the step-up in tax basis for somebody’s assets when they die. The next was to lower the lifetime credit equivalent amount (for tax-exempt gift and estate transfers) from its current $11.7 million per person to $3.5 million. (The credit for couples would fall from $23.4 million to $7 million.) The third proposal was to reduce the lifetime gift tax exemption to $1 million and decouple it from the estate tax exemption.

Finally, Biden proposed increasing the estate tax rate from 40% to 45% on larger taxable estates (as a result of reductions in the estate tax and gift tax exemptions).

When Will The Iceberg Arrive?
The immediate question—and the justification for this timely if conjecture-filled article—is, “When will this legislation, if enacted, become effective?”

First, here’s a scary observation: The Wall Street Journal published an article on May 27, 2021, revealing that the Biden administration intends to increase the federal capital gains tax to 43.4% … and that this would be retroactive to April 28, 2021.

Can they do that?! The short answer is, yes they can. In 1993, the Clinton administration signed a dramatic increase on income taxes, from 31% to 39.6% for individual taxpayers, on August 3, 1993, that was also retroactive for the entire calendar year. The U.S. Supreme Court later upheld the idea and the tax meter started running for January 1, 1993.

Many proposed tax changes are effective on the date the proposal is reported out of the tax committee—meaning that by the time you hear about the change, it is too late to plan for it.

But if taxes are retroactive, you may not even have until the end of 2021 to get your estate and wealth plans in order.

Today is the first day of the rest of our fiscal lives, and it may make sense to do immediately things that would be helpful in all cases and that might not be permitted later. The planning opportunities discussed here are practical strategies that work today—and are likely to be respected even if the U.S. Congress later enacts some or all of the Biden tax agenda.

Summer Of 2021—Tax Planning At The Beach
The grand strategies listed here can be grouped into categories. The first group of strategies take advantage of low interest rates. The second group deal with pre-empting the Biden tax package—getting it all done before the wrecking ball drops.

Low-Interest-Rate Planning Strategies
1. Loans to Family Members
The current long-term applicable federal interest rate (AFR) is 2.08% compounded annually (as of June 2021). The midterm rate (for loans of three years to nine years) is 1.02% compounded annually. The short-term rate (for loans up to three years) is 0.13%.

These low rates mean you can loan as much as you want, for as long as you want, to children at relatively miniscule interest rates.

2. Grantor Retained Annuity Trusts (GRAT)
The GRAT is interest-rate sensitive and works well in a low-interest-rate environment. The mechanics are as follows:

The grantor transfers assets to a trust, but retains the right to be paid back an annuity equal to the value of the property transferred plus an annual economic return equal to the Internal Revenue Code Section 7520 rate, which is an interest rate (rounded to the nearest two-tenths of 1%) equal to 120% of the midterm AFR.

Note that the 7520 rate is 20% higher than the midterm AFR rate, and this will be a factor in choosing strategies as this discussion progresses.

Under the so-called “Walton GRAT” that runs for a fixed term with annuity payments reverting back to the donor’s estate if the donor dies during the term, the remainder beneficiaries of the trust (for example, the children) are deemed to receive a $0 gift so long as the annuity payable to the donor is equal to the amount contributed plus the 7520 rate.

3. An Intentionally Defective Grantor Trust
An intriguing alternative to a GRAT, with many important similarities and a few key differences, is an installment sale to an intentionally defective grantor trust.

The transaction involves a sale of property that is expected to generate significant cash flow that can then be used to satisfy the installment sale obligations—properties such as stock in a family-owned S corporation or membership interests in a family-owned LLC. These assets can also be eligible for “fragmentation” discounts for those owners who lack control over them or the ability to liquidate or market them.

The tax consequences of an installment sale to an intentionally defective grantor trust are remarkably similar to those of a GRAT: The donor transfers the property into the trust and receives back payments of principal plus interest.

One significant difference is that, in the case of a sale to this type of trust, the required minimum interest rate is the AFR rate and not the Section 7520 rate (which is 120% of the midterm AFR rate). This means that the required interest rate to be charged (i.e., the “hurdle rate”) is lower when a short-term or midterm AFR loan is used, and therefore the amount of wealth transferred to the beneficiaries will be correspondingly higher.

The second significant difference is that if the grantor dies while the transaction is still open, the assets subject to an intentionally defective grantor trust sale are not “clawed back” into the estate of the decedent. Therefore, a defective grantor trust sale is “permanent,” whereas the GRAT term depends on the survival of the grantor.

4. The Charitable Lead Trust
This type of trust is sometimes described as a GRAT in which a charity holds the annuity instead of the grantor. The annuity is paid to a designated charity (often a family foundation created by the grantor for charitable purposes), and the beneficiaries enjoy the remainder interest after the annuity has been paid to the charity over what can be a fixed term of years, the lifetime of an individual or the joint lifetime of two or more individuals.

By choosing an appropriate payout rate based on the Section 7520 rate, it is possible to “zero out” a charitable lead annuity trust (CLAT) in much the same way that a “Walton GRAT” can be zeroed out.

5. Refinanced Residences
Given the current low mortgage rates, this is a great time to refinance your mortgage.

Beat Biden To The Punch
6. Lifetime Unified Credit And Generation-Skipping Transfer Taxes
Clients can use up their soon-to-be-gone lifetime unified credit and generation-skipping transfer exemptions by making transfers in trust … so the gifting of assets into a trust for children, grandchildren and future descendants seems like a good thing to consider starting today, if not sooner.

There are valid reasons not to overfund transfers to heirs at the economic expense of the parent generation. Our recommendation is to protect the parents during their lifetimes first, then worry about the next generation. But be aware that the clock may be ticking loudly on large gifts.

7. Spousal Lifetime Access Trusts
Another thing to strongly consider is spousal lifetime access trusts. These offer a way to use up the full lifetime gifting capacity of a taxpayer without giving it all away to children. Instead, it’s a sideways transfer to a donor’s spouse and is often accompanied—in a delicate procedure—with a return gift at some point from the spouse in trust for the original donor. The trusts cannot be “reciprocal,” but they are often “not dissimilar.”

Take, for example, a husband who puts stocks and bonds representing his current exemption amount of $11.7 million into a trust for the benefit of his wife, daughter and all future descendants. An appropriate number of months later, the wife puts $11.7 million of real estate and valuables into a trust for the husband. The terms of these two trusts vary sufficiently in material ways to avoid the reciprocal trust doctrine.

Steering The Titanic
Benjamin Franklin said, “In this world, nothing can be said to be certain, except death and taxes.” Will Rogers retorted that even if that were true, at least death doesn’t get worse every time Congress reconvenes.

Now comes Joe Biden, advocating to make death a taxable event that triggers recognition of all appreciation in taxpayers’ assets during their lifetimes. So Will Rogers may be proved wrong: Death may actually get worse the next time Congress meets.

Joseph B. Darby III, Esq., is an adjunct professor at the Boston University School of Law and the founding shareholder of Joseph Darby Law PC, a law firm that concentrates on sophisticated tax and estate planning for individuals and businesses.