Prior to the election in November 2020, former Vice President Joe Biden released a series of tax reform measures he would pursue if elected. At the time this post is being written, President Donald Trump continues to challenge the results of the election in several states, and control of the U.S. Senate will come down to two run-off elections in Georgia. Moreover, any change to the tax code will require compromises to get through Congress, adding to the uncertainty of what the future holds. Nevertheless, having a sense of the proposed changes will help in following the debates to come.

This is the first of two posts in which we’ll review several proposals that would impact charitable planning by individual taxpayers. Today we’ll touch on changes regarding taxes people pay on revenue – income and capital gains taxes. Next week, we’ll address proposed changes to taxes imposed when wealth is transferred to friends and family – gift tax and estate taxes.

Biden Tax Proposal #1

Increase the top income tax rate on taxpayers making more than $400,000 per year from 37% to 39.6%. Like several of the proposals discussed below, this would be a “rollback” of changes enacted through the Tax Cuts and Jobs Act of 2017.

Charitable Planning Impact: Generally speaking, increasing income tax rates makes charitable giving more tax-efficient because the resulting charitable income tax deduction allows the donor to avoid paying tax at that higher rate. In essence, it makes charitable gifts cheaper. 

For example, if a taxpayer with a high income donates $100,000 and claims a tax deduction for that amount, she can avoid paying tax on that $100,000. If her top tax rate is 37%, then she would avoid taxes equal to $37,000 (37% of $100,000). The actual cost of her gift would be $63,000 ($100,000 – $37,000 in tax savings). However, if her tax rate is 39.6%, she would save $39,600 and the after-tax cost of her gift would be $60,400.

In theory, then, increasing this top tax rate would increase the incentive for charitable giving among high-earning philanthropists. Some analysts argue, however, that an increase in tax liability decreases interest in philanthropy because taxpayers simply have less disposable money to contribute.

BIDEN TAX PROPOSAL #2

Increase the capital gains and dividend tax rates for taxpayers earning more than $1,000,000 per year to 39.6%.   

Charitable Planning Impact: Donating appreciated investment assets (e.g. stock) to a public charity –like Duke – can have two powerful tax benefits. The donor can:

1. claim an income tax deduction equal to the full value of the asset; and
2. avoid taxes on the appreciation embedded in the asset.

Generally speaking, the donor must own the asset for at least one year, and the asset must be unencumbered by debt or transfer restrictions.

Under current law, the capital gains tax that is avoided has a maximum rate of 20%. Changing that maximum rate to 39.6% for certain taxpayers would mean that significantly more tax could be avoided through a charitable gift, greatly incentivizing gifts of these appreciated investments. Such a change would also encourage gifts to charitable remainder unitrusts and gift annuities, which provide an opportunity to liquidate appreciated assets, provide an income stream and a current tax deduction for the donor, and defer capital gain recognition – possibly for many years.

Biden Tax Proposal #3

Impose a 28% limit on charitable deductions on taxpayers making more than $400,000 per year.

Charitable Planning Impact: As noted above, a charitable income tax deduction makes charitable gifts cheaper because, by reducing the amount of income that is taxable, it reduces a donor’s overall tax bill. With this proposal, donors making more than $400,000 – who would pay a top income tax rate of 39.6% – would not avoid income taxation at that rate, but at a rate of only 28%.

In other words, while a charitable income tax deduction would still reduce the cost of making a gift for high-earning donors, it would not reduce the cost as much. This would discourage charitable giving to some extent. We note that the Obama Administration proposed this change as well, but it was never enacted into law.

Biden Tax Proposal #4

Add a Social Security tax to income above $400,000.

Charitable Planning Impact: Currently, Social Security tax is levied on the first $137,000 of income. This proposal would apply the tax again on income over $400,000, creating a “donut hole” between $137,700 and $400,000 where no such tax would be due. Imposing this tax on income above $400,000 would incentivize taxpayers to contribute such income to charity.

Biden Tax Proposal #5

Reduce itemized deductions by 3% for some taxpayers making more than $400,000 per year. 

Charitable Planning Impact: If this measure sounds familiar, that’s because it used to be in the tax code but was repealed in 2018; it was commonly referred to as “the Pease Amendment.” It would reduce itemized deductions to the extent a taxpayer’s income exceeded a certain threshold.

Because it would reduce itemized deductions, it sounds like this proposal would dis-incentivize charitable gifts, but that’s not necessarily true. Because the reduction would often be absorbed by reducing deductions claimed for mortgage payments or state and local income taxes, it would usually leave the deduction for charitable giving intact. In our experience, though, the Pease Amendment caused a lot of confusion, acting as a sort of “soft” disincentive.

In our next blog post, we’ll discuss how the Biden campaign’s tax proposals would – if enacted – change rules related to gift and estate taxes, and how those changes could impact charitable planning.

For more information, please visit the links below.

Forbes: What Does A Biden Presidency Mean For Your Tax Bill?

Tax Foundation: Unpacking Biden’s Tax Plan for Capital Gains

Tax Foundation: Details and Analysis of President-elect Joe Biden’s Tax Plan

Tax Policy Center

About the author

Jeremy Arkin

jeremy.arkin@duke.edu

With more than 20 years of experience in gift planning and development, Jeremy helps Duke alumni, parents and friends find ways to support Duke that complement their larger personal and financial goals. He understands the ins and outs of giving techniques that involve tax, retirement, and estate planning. He also develops strategies for donating complex assets such as real estate and private business interests. Jeremy lives a few blocks from East Campus with his wife and their pup, and when he’s not at work he plays the double bass in the Durham Medical Orchestra.