When President Biden delivered this year’s State of the Union address, he laid out a vision for changes he’d like to make to the federal government’s tax code. In the speech, he proposed three major changes:
- Raise taxes on stock buybacks
- Implement a “Billionaire” Minimum Income Tax
- Expand the child tax credit
Let’s take a closer look at each of the proposed changes to see who they would impact and how.
Raise Tax on Stock Buybacks
As the name suggests, a stock buyback is when a corporation buys shares from shareholders at market value, then reabsorbs the shares, decreasing the total number of shares in circulation. The end result is to increase the value of the remaining shareholders’ stake in the company, as well as the amount they are due from future dividends. In recent decades, stock buybacks have overtaken dividends as a preferred way to remunerate shareholders. One reason is because dividends are taxed as income, while buybacks generate no tax bill for the non-selling shareholders and the shareholders who sell generally only pay the lower, long-term capital gains tax.
The tax scenario for stock buybacks changed with the passage of the Inflation Reduction Act. Effective in August 2022, Congress authorized a brand-new 1% excise tax on stock buybacks by corporations. The legislation requires the corporations that are buying back the stock to pay the tax. President Biden’s latest proposal would increase the tax corporations pay to 4%.
There are mixed views on how taxing buybacks may affect investors. According to the Wall Street Journal, the 1% excise tax hasn’t slowed down buybacks so far, but a 4% tax might. Since the tax has only been in place for a few months, its impact is not clear.
Implement “Billionaire” Minimum Income Tax
The proposed Billionaire Minimum Income Tax would require America’s wealthiest households to pay a tax rate of at least 20% on their full income. While it’s described as a tax for billionaires, it actually kicks in for households whose net wealth exceeds $100 million. One key feature of the proposal is that income would include unrealized capital gains from assets such as stocks, bonds, or privately held companies of high-net-worth individuals.
The idea of a minimum income tax for billionaires gained popularity after it was publicized that some of America’s richest billionaires, including Jeff Bezos, Elon Musk, and Michael Bloomberg, paid no federal income tax. The tax is designed to impact the ultra-wealthy, who constitute 0.01% of the U.S. population.
The way it would work is that households who meet the threshold would calculate their effective tax rate for the minimum tax. If the rate falls below 20%, the household will owe additional taxes to bring the effective rate up to 20%. Under the proposal, households would owe taxes on capital gains each year, even if assets have not yet been sold, with the amounts paid treated as prepayments of future capital gains tax liabilities.
Increase and Expand Child Tax Credits
While the first two proposals are geared towards raising revenue, President Biden’s last proposal attempts to reduce taxes for all households with children under 18 by increasing child tax credits (CTC).
A tax credit reduces taxes by subtracting, dollar for dollar, from the income taxes owed. Tax credits are actually better than tax deductions because they reduce the tax due, not just the amount of taxable income. The CTC helps families with qualifying children get a tax break. Legislation determines who qualifies and the size of the tax break they receive.
Under the current version of the CTC, the credit is capped at $2,000 per child and there is a phase-in to the credit based on the taxpayer’s earned income. President Biden proposes returning to the expanded CTC that was available in 2021, when the maximum benefit was $3,000 for children between the ages of 6 and 17 and $3,600 for each child under the age of 6. Biden’s proposal also eliminates the phase-in, so everyone, regardless of income level, would qualify. Finally he calls for permanently making the child tax credit fully refundable, which means people would still be eligible even if their tax liability was less than the credit amount.
In 2021 Congress temporarily expanded CTC as part of the American Rescue Plan legislation, which was credited with reducing child poverty by 46%. Opponents argue the proposal is too costly and discourages parents from working.
Changes This Year are Unlikely
Despite the President’s wishes, the probability of these tax changes becoming law this year is low. Republicans are opposed to the President’s proposals, and since they hold the majority in the House of Representatives, it’s unlikely Congress will pass any tax legislation this year.
At Hare CPA, by keeping current on potential changes to the tax code, we’re always prepared to minimize your tax liability. If you have questions about your tax situation, call Hare CPA. We are experienced partners who are committed to looking out for your best interests.
