The client’s capital gains would be taxed at their ordinary income marginal tax rate, which is 37% for 2021 but would rise to 39.6% in 2022 under the Biden budget plus the 3.8% Medicare surtax. That brings their total capital gains tax up to 40.8% in 2021 and 43.4% in 2021, from 20% currently.
A Multimillion-Dollar Sale in 2020
If the sale proceeds are being paid out in increments over several years, Rowling suggests the taxpayer elect out of the installment tax payment plan and pay the full tax liability this year. They have until Oct. 15 to do so. Even if the capital gains increase is retroactive, they would still save money because the capital gains would be based on a 37% marginal tax rate instead of 39.6%.
A Multimillion-Dollar Sale, No Date Set Yet
If the $1 million-plus earner is planning a big sale sometime soon, they should consider doing it this year instead of next year for the same reasons noted above for a 2020 sale paid in installments. That would save a taxpayer $260,000 on a $10 million sale.
The taxpayer should also use other traditional methods to reduce their tax liability including increasing retirement plan contributions, deferring other income, purchasing properties that can be expenses, harvesting tax losses and making charitable contributions, including securities, to a donor-advised fund.
“Use whatever trick you have up your sleeve to lower taxable income,” says Rowling. “That will lower the amount of capital gains subject to ordinary income taxes.”
A Multimillion-Dollar Sale This Year or in the Future
Rowling suggests structuring any such sale to keep as much as its proceeds, combined with a taxpayer’s income under $1 million for any given year to avoid the higher capital gains tax. A $10 million sale this year, for example, could be structured for a $5 million upfront payment this year, subject to the current 37% income tax rate plus Medicare surtax, and lower payments in subsequent years to hopefully keep total income under $1 million. The taxpayer could also contribute $1 million in securities, up to maximum 30% that can be written off, to a donor-advised fund this year to reduce the capital gains subject to the higher tax.
For future sales, they can string out payments, which, combined with other tax-saving moves, can help keep their income under $1 million and thus pay just 20% on their capital gains instead of their higher income tax rate.
The key is planning. “Even though Biden’s tax proposals are not certain to become law, the retroactive effective date of some of the provisions make planning essential,” writes Rowling. “Consider strategies that will not be disadvantageous should the proposals not be enacted.”