Obama Tax

Summary:

Hopefully we are entering a new chapter in American
history. This chapter will undoubtedly be marked by change. The tax system will
be changed. Tax changes will require a high wire balancing act: raise funds
from those that can reasonably afford to pay them to address the deficit and perhaps
expanding government programs, while simultaneously not choking off economic
incentives and exacerbating current economic problems. It’s still premature to
really call those changes. Even though proposals have been put forth much
detail, and the inevitable political horse-trading remain. Here are some
thoughts (and wild guesses) on some of the changes, what they might mean to
your planning, and steps you might consider taking.

◙
General
Thoughts on Obama Tax Legislation.

GW’s tax bennies expire at the end of
2010 so President Obama will have to address tax legislation before then. Most
administrations are reluctant to enact tax increases. Letting some of the
bennies expire, or perhaps making them permanent in a less generous form, might
be a politically palatable way to raise revenues.  The alternative minimum tax (AMT) remains problematic and
will have to be addressed. The need to periodically enact patches to prevent
the AMT from applying to a broad swath of taxpayers desperately needs to be
addressed. The AMT could be modified so that it only serves the purposes it
intended, or something more substantial might be undertaken (although with the
tough agenda facing the Obama administration simpler fixes may be preferred).

◙
Tax
Rates.

Progressive is in! Expect higher personal income and capital gains
taxes for higher earning tax rates. Before getting too bent out of shape,
remember that progressive tax rates for wealthier/higher income taxpayers have
been part of our tax system for lots of years. The new relationship between the
highest marginal ordinary income tax rates and capital gains rates might also
be a factor affecting future planning (e.g., the bigger the spread the more worthwhile
the alchemistic techniques of transforming ordinary income into capital gains).
Expect lots of small dollar tax benefits with low threshold phase-outs to help
moderate and lower income taxpayers.

◙
Obama
Estate Tax.

The word is a $3.5 million exclusion and 45% rate. However,
taxing income above $250,000 puts a much higher percentage of income earners in
the maximum bracket then $3.5 million does to the estate tax. If Obama tax
legislation made the same percentage of taxpayers subject to the estate tax as
would be subject to the income tax, the $3.5 million exemption could be
lowered. Portability might be in! If you die, your surviving spouse, if he/she
doesn’t remarry could take advantage of your unused exemption. That effectively
would give married couples $7 million of exemption before an estate tax kicked
in. Portability makes ignoring planning seductive in that you can avoid tax on
up to a $7 million family net worth without the need to re-title assets and
include a bypass trust in your will, complications required under the current
estate tax. Caution: Bypass trust planning to protect assets from new
spouses, claimants, appreciation above the exclusion and more will remain
important. Don’t be lulled into inaction if portability is enacted. (Bypass
trust and related planning will also remain important for your estate planner
reaching his retirement goals, but we’ll assume that doesn’t motivate you to
plan more).

◙ Will you have to Kiss Favorite Estate
Tax Acronyms Goodbye?
OK, so we all argue with the IRS that those 65%
discounts on family limited partnerships (FLPs) with marketable securities are
eminently reasonable (with a straight face no less). The reality is the income
tax laws have included restrictions on related party transactions for a long
time. Legislating away discounts on family transactions might eliminate one of
the most significant estate tax reduction mechanisms the wealthy have used to
minimize gift, estate and GST tax. While their at it, the Obama tax writers
might just deep six grantor retained annuity trusts (GRATs) as another wealthy
taxpayer technique that has some inherent unfairness to it (heads the taxpayer
wins, tails the taxpayer doesn’t loose). What about those annual demand powers
in trusts that rich folk have used to shift large chunks of value out
purportedly for the benefit of every descendant, niece, nephew, and third
cousin on Uncle Joe’s side? Some folks have just abused the technique. Perhaps
they’ll bite the tax planning dust too. Tip: The early tax plan catches
the tax benefit worms. Move now!