Less than two months after his inauguration, President Joe Biden had moved significantly forward on the three key elements of his Build Back Better program, all of which are funded by notable changes in tax law. This article outlines the key elements of the Biden tax plan and clarifies which parts have been enacted and which are still in the proposal stage.
Note that all the changes—except those that already passed as part of the American Rescue Plan—would need to be enacted by Congress to become law. Any of the provisions discussed here could be revised or eliminated. With the Democratic victories in the Georgia Senate runoff races, the congressional tax-writing committees are now both chaired by Democrats. Rep. Richard Neal of Massachusetts leads the House Ways and Means Committee again, and Sen. Ron Wyden of Oregon has become the new chair of the Senate Finance Committee.
Biden’s Three-Part Program and Tax Policy Changes
Here’s a brief summary of the tax provisions in the three plans, followed by a more detailed discussion of the tax changes, both enacted and proposed.
The American Rescue Plan (enacted)
On March 11, 2021, Biden signed into law the American Rescue Plan Act, which provided cash payments to individuals and included a number of individual tax law changes benefiting lower-income individuals and families that were part of his election campaign tax policy. These changes are time-limited, designed to be temporary remedies for problems that were worsened by the pandemic.
- The changes to certain individual tax credits generally will expire at the end of 2021. The 2021 child tax credit of $3,600 per child under age 6 and $3,000 per child ages 6 through 17 is fully refundable and payable in advance. It will revert for 2022 to $2,000 per child under age 17 unless extended by legislation.
- Similarly, the child and dependent care tax credit is more generous for 2021 than for later years. For 2021, the maximum credit for one individual is $4,000 and $8,000 for two or more qualifying individuals and is refundable for some taxpayers.
- The earned income credit (EIC) was extended to workers under age 25; for 2021, individuals as young as age 19 are eligible and are entitled to apply the credit to more earned income and benefit from a higher phaseout level. The law permanently eliminated the maximum age for eligibility.
- The premium reductions for Affordable Care Act (ACA) health insurance coverage that were enacted in the American Rescue Plan through the application of premium tax credits are effective for two years.
The American Jobs Plan (proposed)
On March 31, 2021, Biden proposed the American Jobs Plan, which would increase income taxes on corporate profits. The increased taxes were to help fund the plan’s infrastructure improvement goals, estimated to cost $2.3 trillion. The details of the corporate tax changes are discussed below and include a higher corporate tax, as well as new minimum taxes on book income and profits of multinational corporations.
The American Families Plan (proposed)
On April 28, 2021, Biden announced the American Families Plan with an estimated cost of $1.8 trillion. The plan includes proposals to increase taxes for wealthy individuals, including a substantially higher capital gains rate, to help pay for the plan’s programs. These programs would provide American children four additional years of free education—two years of free prekindergarten for 3- and 4-year-olds, and two years of free community college; would assist colleges and universities serving minority groups; and would support paid family and medical leave, nutrition programs, expanded child care and the extension of currently enhanced ACA subsidies and individual tax credits enacted in the American Rescue Plan set to expire after 2021.
The Biden administration also aims to reverse years of underfunding the Internal Revenue Service (IRS), which has reduced auditing and enforcement efforts and personnel and has cost the government substantial tax revenue. The Biden proposals would increase IRS funding to ensure enforcement of tax law compliance by corporations and high-income individuals. Increased auditing and greater enforcement are projected to enable the IRS to recover hundreds of millions of dollars in tax liabilities that currently go unpaid due to under-enforcement resulting from inadequate funding. In addition, strengthened government oversight of paid tax-return preparers is proposed.
Now, let’s look at these proposed tax changes in detail.
- The top individual federal income tax rate would rise from 37% to the pre-Trump rate of 39.6%.
- The corporate rate would rise from 21% to 28%; a 15% minimum tax would apply to corporate book income.
- American corporations’ foreign income generally would be subject to a tax of 21%.
- The top individual income tax rate would increase to 39.6%.
- Taxpayers with incomes over $1 million would pay a tax of 43.4% on capital gains.
- An extension through 2025 is proposed for the 2021 increase in the fully refundable child tax credit from $2,000 per child to $3,600 for children under age 6 and $3,000 for children ages 6 through 17.
- Extensions beyond 2021 also are proposed for the increase in the maximum Child and Dependent Tax Credit from $3,000 to $8,000 ($16,000 for more than one dependent); the expansion of, and increase in, the earned income tax credit for younger workers; and the premium tax credits that reduce ACA health insurance premiums.
- The step-up in basis on death and carried interest loopholes would be eliminated.
- Caps would limit tax deferral for realty exchanges and deductions for excess business losses.
Tax Increases to Fund Infrastructure Program
Corporate tax proposals included in the American Jobs Plan, the administration’s infrastructure proposal, advance tax policies promoted throughout Biden’s presidential election campaign. The plan’s corporate tax policy goals include incentivizing job creation and investment in the U.S., stopping corporate profit-shifting to tax havens, and ensuring that large corporations pay their fair share of taxes.
The Biden administration’s tax proposals would raise the corporate tax rate, impose new minimum taxes to prevent profitable U.S. businesses from escaping taxes through aggressive tax planning, repeal incentives for offshoring jobs, end preferences for the fossil-fuel industry, and strengthen corporate tax law enforcement by the IRS.
The corporate tax changes in the American Jobs Plan would raise tax revenue to help pay for the plan’s programs and investments in infrastructure, which range from transportation and roads to broadband, water resources, healthcare facilities, education, and more. The estimated $2.3 trillion cost of the American Jobs Plan, the scope of the investments proposed to be made over 10 years, and the tax increases intended to support it have generated substantial policy and political debate.
Corporate Tax Changes
Biden has proposed increasing the corporate income tax rate from the 21% level in effect since 2018 to 28%. A 28% tax rate would be significantly lower than the top corporate effective rate of 35% that applied from 1994 to 2017; nonetheless, the increase has drawn opposition and prompted suggestions for a compromise rate.
Reacting to an independent study finding that 91 of the Fortune 500 companies paid no U.S. corporate income tax in 2018, the Biden administration has recommended a new corporate minimum tax of 15% on book income to prevent profitable companies from avoiding U.S. taxation. The plan would repeal the current exemption for the first 10% return on foreign investment and would end the preferential tax rate of half the 21% domestic rate on the remainder of foreign profits. Thus, the U.S. would levy a minimum tax of 21% on multinational corporations’ income. This minimum tax would apply on a country-by-country basis to ensure that profits in tax havens are taxed. Deductions for the expenses of “offshoring” jobs would be eliminated and tax credits would be granted for “onshoring” expenses.
A particular goal of the Biden plan is discouraging U.S. corporations from moving intangible assets and related profits abroad to controlled subsidiaries in countries with lower taxes rates than those in the U.S. The plan’s 21% tax is particularly focused on global intangible low-taxed income, called GILTI, realized by shifting profits from easily moved assets, such as intellectual property rights, to low-tax jurisdictions. In addition, the Biden administration is seeking through multilateral negotiations to have other countries join in establishing a global minimum tax to prevent countries from seeking a competitive advantage by cutting corporate tax rates.
Individual Income Tax Proposals
In addition to the corporate tax changes in the American Jobs Act, the American Families Plan would make significant changes in the taxation of high-income taxpayers. The tax changes would help fund extensive programs to assist individual Americans. It would provide free education from prekindergarten for 3- and 4-year-olds through two years of community college; assist Historically Black Colleges and Universities (HBCUs), Tribal Colleges and Universities (TCUs), and institutions such as Hispanic-serving institutions, Asian American-, Native American-, and Pacific Islander-serving institutions, and other minority-serving institutions (MSIs); and support paid family and medical leave, child nutrition, expanded childcare and the extension of currently enhanced ACA subsidies. Biden has also asked Congress to extend expiring individual tax credits enacted in the American Rescue Plan.
The Biden proposals on individual taxation are designed to avoid increasing taxes on individuals with annual incomes below $400,000; to create benefits, largely in the form of refundable tax credits, such as the already enacted earned income and child tax credits, for the poor and those with low and moderate incomes; and to target any tax increases for the wealthy.
Tax Increases for the Wealthy
The Biden administration’s proposed top income tax rate would increase the present law’s 37% rate to 39.6%. According to the White House, this increase will affect only the top 1% of taxpayers. The top rate on long-term capital gains would almost double, rising from 20% to 39.6%. In addition, the current net investment income surtax of 3.8% imposed on high-income taxpayers likely would continue to apply. Thus, the new top federal tax rate on capital gains would total 43.4%, almost double the top combined rate of 23.8% under present law.
Biden administration representatives indicate that only taxpayers whose incomes exceed $1 million would be subject to the higher tax on capital gains. However, it is not clear if the $1 million threshold would apply per individual taxpayer or per return; on a per-individual basis, the threshold for a joint return would be $2 million. When state tax laws are applied, the impact of this change would vary because some states have no income tax at all, some states exclude capital gains or tax them below regular income tax rates, and some states tax capital gains at their regular, ordinary-income tax rate. With the top state capital gains rate estimated at 5.2%, the combined average federal and state tax rate on capital gains for high-income taxpayers would be 48.6%.
The Biden capital gains proposal would almost double the federal tax currently imposed on long-term capital gains. However, the White House estimates that the increase in the capital gains tax rate will affect only 0.3% of taxpayers, or approximately 500,000 households.
Opponents of the tax increase on capital gains warn that it could have an adverse effect on the stock market. Other commentators discount this criticism. They believe that the majority of U.S. shareholders will be unaffected by this change because approximately 75% of U.S. stock owners bought their shares through 401(k) plans, individual retirement accounts (IRAs), and other types of nontaxable accounts, whose distributions ultimately are taxed at ordinary income rates.
Extension of Individual Tax Benefits
Several of the tax law changes in the American Rescue Plan Act, particularly the increase in certain individual tax credits, will expire at the end of 2021. The 2021 child tax credit of $3,600 per child under age 6 and $3,000 per child ages 6 through 17 is fully refundable and payable in advance. It will revert for 2022 to $2,000 per child under age 17 unless extended by legislation. In the American Families Plan, Biden proposes extending the increase in the child tax credit through 2025 and make its full refundability and advance payment features permanent.
Similarly, the child and dependent care tax credit is more generous for 2021 than for later years. For 2021, the maximum credit is $4,000 for one qualifying individual and $8,000 for two or more qualifying individuals and is refundable for some taxpayers. Unless amended in the interim, in 2022 the credit would become nonrefundable with maximums decreasing to $1,050 for one qualifying individual and $2,100 for two or more. Similarly, the earned income tax credit was increased and expanded for childless workers for 2021 by the American Rescue Plan Act. The American Families Plan would make the expansion of—and increases in the allowances for—these tax credits permanent. These credits have been estimated to reduce childhood poverty by 50%.
The Biden administration also proposes to make permanent the premium reductions for ACA health insurance coverage that were enacted in the American Rescue Plan and made effective for two years through premium tax credits.
The repeal of the step-up in basis rule could prove very costly over time to heirs of appreciated property at all income levels, not just the wealthiest.
Additional Proposals: Step-Up in Basis, Carried Interest and Real Estate Exchanges
The American Families Plan includes additional tax proposals to counter “loopholes” that generally, but not exclusively, benefit higher-income individuals and were criticized by candidate Biden during his presidential election campaign. The plan would repeal the “step-up in basis” rule that enables families to pass property down from one generation to another without ever paying any tax on the increases in the property’s value over time. However, the Biden administration has announced that family-owned farms passed down to family members who will operate the property will be protected with respect to this change. Additionally, gains will not be taxed when appreciated property is contributed to a charity.
The Biden plan also would close the “carried interest” loophole that partners who are employed by private equity and hedge funds, as well as other investment partnerships, claim allows them to receive their partnership interests tax-free and to pay only capital gains tax when they dispose of their interests, thereby never paying ordinary income tax rates. In addition, the plan would limit the present law real estate tax break for “like-kind exchanges” that allows real estate investors to defer taxation when they exchange real property. Under the plan, the deferral would end for capital gains in excess of $500,000.
In addition, the 3.8% Medicare tax on earnings, which currently does not apply consistently to all high-income workers and investors, would be revised to apply more consistently to taxpayers making more than $400,000 annually. The Biden tax plan also would make permanent the 2021 rule that allows individuals’ deductions for excess business losses to offset only their gross income and business profits plus $250,000 ($500,000 for joint returns).
The Bottom Line
The Biden administration has outlined extensive revisions to the Internal Revenue Code, with many details yet to be announced. Many of the proposals were introduced earlier, during Biden’s presidential election campaign. His administration projects that the tax law revisions and the return on the investments authorized in the American Jobs Plan and the American Families Plan will cover the cost of both plans over 15 years.
Biden administration officials view their tax proposals as increasing fairness in the tax system by imposing less of the tax burden on low-income Americans while requiring the wealthy to pay a proportionately greater share. The White House emphasizes that its tax increases would affect only the top 1% to 2% of individual taxpayers.
Frequently Asked Questions
Will the Biden tax plan increase my taxes?
That depends. Under the Biden plan, the tax rates on individual incomes of $400,000 or less would not increase. New and expanded tax benefits, including the child tax and earned income credits as well as provisions for child and dependent care and health insurance premiums, likely would reduce taxes for average families.
However, the Biden tax plan would increase taxes for corporations and for most taxpayers with incomes over $400,000. It would reinstate the pre-2017 top marginal, individual tax rate of 39.6%. Equity and hedge fund managers would be subject to ordinary income rates on “carried interests.” In addition, the step-up in basis at death for appreciated assets would be repealed.
What is a tax credit?
A tax credit is a direct offset to the amount of taxes owed by a taxpayer. It is a dollar-for-dollar reduction in tax liability. Unlike deductions, which reduce income, tax credits provide the same amount of benefit to all taxpayers regardless of tax bracket. Some tax credits are “refundable” and thus particularly benefit taxpayers who owe less in taxes than the credit amount. Those taxpayers get a refund of the balance.
A 20% tax credit for an eligible expenditure of $100 will reduce taxes by $20 for every taxpayer regardless of income level or tax bracket. On the other hand, an exclusion, exemption, or deduction reduces income and thus provides a larger benefit to taxpayers in higher tax brackets. Some examples:
- For a taxpayer in the 37% marginal tax bracket, a deduction of $100 will save the taxpayer $37—i.e., 37% of the $100.
- For a taxpayer in the 24% marginal tax bracket, the savings for a deduction will be lower: $24—i.e., 24% of $100.