Potential Global Trends and Impacts of a New Administration
This has been a volatile and transformative year for the global economy. The COVID-19 pandemic has affected individuals and companies. We have seen that the effects of the pandemic and current recovery have not affected all equally as well. Looking forward there seems to be an expectation that there will be some lasting changes as a result.
Looking at some high-level thoughts provided by Barclays1 they believe the trend of de-globalization will accelerate. First, they believe that globalization may have contributed to income inequality as the US was able to outsource jobs overseas and increase profits, to the detriment of US workers. Additionally, global supply chains have been stressed in the COVID economy and many companies depend on supplies from China. As a result, companies may look to bring business operations back to their respective home countries. Secondly, they expect less global mobility in general and more people to leave cities. These two factors may drive up supply/labor costs which in turn could lead to an acceleration of automation and digitization to control these costs, with the continued potential to hurt less-skilled workers.
Our Federal Reserve Chairman, Jerome Powell, echoed these sentiments2 and believes that we will never return to the previous economy as we knew it. “The pandemic has accelerated existing trends in the economy and society, including the increasing use of technology, telework and automation,” he said. This will have lasting effects on how people live and work.
Long term, these changes may benefit society, but near-term can cause pain. Any easy example is found in the retail and restaurant space. Workers that depend on face to face interaction have suffered during COVID, and many may continue to feel a burden after the end of the pandemic due to stores not reopening, or increased automation to lessen the need for human interaction. As a result, post-COVID-19 there could be a considerable amount of people that will continue to need support as they transition to a new economy. This could lead to higher taxes to fund training/social programs or additional stimulus.
These changes to the tax code will be decided by our government as they look to implement the fiscal changes needed to achieve their goals. Now that it appears a transition of power is underway (pending any unforeseen surprises), we can start to look forward to these changes that may affect our clients. During the campaign trail, Joe Biden proposed a tax plan that differs from the Tax Cuts and Jobs Act (TCJA). This plan is meant to increase tax revenue and address financial inequality in America. The proposed plan will create a much more progressive tax system than we have today, keeping taxes at the current level for incomes under $400,000 but raising tax rates for incomes above that threshold.
Below are a few key aspects of Joe Biden’s proposed plan3:
Personal tax items:
• Increase the marginal bracket for individuals making over $400,000 to the pre-TCJA rate of 39.6% and maintain all brackets for incomes below that $400,000 threshold
• Cap the value of the rate of itemized deductions to 28%
• First-time Homebuyer Credit would be reintroduced as a refundable and advanceable credit up to $15,000
• Create a Caregiver Credit, which would provide $5,000 for informal long-term caregivers
• Increase the current Child Tax Credit from $2,000 to $3,600 for children under 6 and $3,000 for all other children under 17
• Increase the Child and Dependent Care Credit from $3,000 to $8,000 for one child and from $6,000 to $16,000 for two or more
Business related items:
• Implement a new additional 12.4% social security tax on incomes above $400,000 (split between employers and employees)
• Eliminate the Qualified Business Income tax deduction for pass-through business owners whose income is $400,000 or more
• Increase the corporate income tax rate from 21% to 28%
Retirement related items:
• Create a flat retirement contribution credit as a specific percentage currently anticipated to be 26% of the contribution amount
• Increase long-term capital gains and qualified dividend tax rates to ordinary income tax rates for income over $1 million
Estate planning items:
• Eliminate the step-up in cost basis rules that apply to inherited assets in taxable accounts
• Reduce the current federal estate exclusion amount from $11.58 million to $5.79 million
From an investing and planning standpoint, another thought is that higher capital gains rates and the removal of a step up in basis may incentivize investors to take capital gains before the tax code changes. While it is smart to look ahead, we likely still have some time before these changes are implemented.
From a political standpoint, a divided Congress will make this difficult to pass. Both the Senate and House of Representatives are needed to pass the bill. Currently, ballots in the House are still being counted and though the advantage is shrinking, the Democratic party is expected to keep a majority in the House of Representatives for the foreseeable future.
The Senate is where the situation is less clear. Before the election, the Senate had 53 Republicans, 45 Democrats, and 2 Independents. With the election results, Republicans still have 50 seats, but 2 seats are up for grabs with races still pending in Georgia (election day Jan 5). If the Democrats win both seats, they can bypass the 3/5 majority needed using a process called budget reconciliation, that requires 51 out of 100 votes to pass. If Democrats can get a tie, the deciding vote goes to the Vice President, Kamala Harris, who will vote with her party.
The problem for the Democrats is that winning both seats is not guaranteed, which could keep gridlock intact until the end of 2022, when additional Senate elections will give the Democrats a chance to gain a simple majority. On the other hand, some Republicans may be open to proposed changes and we cannot blindly assume that members of Congress will vote along party lines. In addition, these proposed changes and legislative actions may take a back seat to other priorities. One example could be solving logistical changes associated with delivering vaccines.
The outlined changes to the tax code are not an all-encompassing list, and these proposed changes will have an impact on households across all income ranges, though impacting higher earning households and individuals more than others. Though timing is uncertain, legislation has yet to be passed, and would most likely look different once it is signed by the President, there are action items you can start to consider and discuss with your Wealth Advisor to potentially lessen your future tax burden.
• Max out retirement accounts, especially if your marginal bracket is above 24%
• Accelerate Roth conversion amounts in 2020 if you are currently projected to be in the 35% or 37% brackets throughout retirement
• Accelerate gifting to your beneficiaries to take advantage of the current $11.58 million estate and gift exemption in anticipation of this lifetime amount decreasing
• If your future income is anticipated to be above $400,000, accelerate deductions and income into 2020 if possible, to take advantage of the lower income tax rates and current available deductions
Like we addressed in the 3rd Quarter Market Commentary4, economies and markets are complex, and Presidents’ policies are not the only factors that have an effect. A new administration is expected to have some impacts, likely on the wealthiest Americans, but the impacts may not be as large as you might initially expect for some Americans. In addition, markets can be volatile, but betting against the market over many years has been a losing proposition.
Regardless of how these changes impact us all, we will be here working our hardest to navigate this complex environment and find solutions that are tailored to your financial needs.
1https://www.investmentbank.barclays.com/our-insights/The-post-COVID-economy.html
2https://edition.cnn.com/2020/11/12/economy/economy-after-covid-powell/index.html
3https://taxfoundation.org/joe-biden-tax-plan-2020/
4https://sandbox.themathergroup.com/insights/market-updates/market-update-third-quarter-2020
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