Could Capital Gains Look Like IRAs?

One of the Biden tax proposals is actually a two for one deal. Increase ordinary income rates to 39.6% and raise capital gains rates to ordinary income rates on income over $1,000,000.

So does this mean well paid taxpayers will immediately pay more tax? Not necessarily.

With IRAs (and other defined compensation plans) we already have a corner of the non-compensation income universe subject to ordinary income tax rates. Though the options to reduce the tax hit from IRAs are limited, they inform how capital gains planning might look at the higher proposed rates.

The name of the game with IRAs is D-E-F-E-R-R-A-L.

Say that three times and you’re half way there. The game would the same for capital gains at the proposed higher rates.

The Internal Revenue Code includes many deferral options for capital gains. Assuming these do not change substantially, they will find heavy use under higher capital gains rates.

For example, one can defer capital gains in most installment sales. In addition, charitable remainder trusts allow charitably inclined taxpayers to gift capital assets to the trust and defer any gains until the trust pays back an annuity payment (or percentage of the trust) over time.

1031 exchanges (also on the Biden hit list) allow real estate gains to be deferred if properly flipped into like kind real estate investments.

Opportunity Zone Funds also afford deferral (and potential reduction) of capital gains that is invested (with any cash, not necessarily the cash from the sale) in the fund.

While not an exhaustive list, and each technique must be structured properly to work, this list gives some context to the kinds of moves that would find broader appeal in a high capital gains environment.

The bottom line is higher rates, in combination with ample ability to defer paying the tax, do not necessarily translated into higher taxes paid.

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