Wealth planning under the Biden administration

MICHAEL PELZAR:  Hi, everyone, and thanks for joining us today. I'm Michael Pelzar, Head of Trust Services for Bank of America, and I'm looking forward to our discussion today entitled, Wealth Planning Under the Biden Administration. Today, we'll have a discussion featuring some of Bank of America's foremost thought leaders on public policy in wealth and estate planning. And we'll discuss how to adapt in this ever changing environment. For our discussion, I'm joined by Jim Carlisle, Public Policy Executive and Bank of America's closest executive to the happenings on Capitol Hill. We also have Mitch Drossman, head of National Wealth Strategies from the Chief Investment Office at Merrill and Bank of America Private Bank. And finally, Nancy Kistner, head of Wealth Planning Business Strategy for Bank of America Private Bank. We'll start with some high level context around financial wellness and how the pandemic has reshaped the way people are approaching wealth planning. We'll then move into a discussion of the Biden legislative agenda, including spending proposals, potential tax changes and the path for enacting legislation. Keying off of these potential legislative changes, we'll then segway into what this means for wealth planning and how individuals can prepare and plan. The bottom line in this uncertain environment is that it's better to plan than predict. Now to set the stage, at Bank of America we've seen a tremendous increase in wealth and estate planning interest. We've observed this both across the industry and among our own client base. For example, Google searches for trust and estate planning are more than double their pre-pandemic levels and every month continue to set all time highs. Visits to the Private Bank's Trust and Estate Planning website are up more than 400 percent year over year. And according to a recent industry study, fully 96 percent of wealthy clients expect to receive planning and trust services as part of their wealth management relationship. If you look at our own wealth strategists, client conversations are up more than 40 percent over pre-pandemic levels. So let's start with some quick observations on what we're seeing from a financial hygiene perspective in light of the pandemic. Nancy, maybe you can kick us off. We've seen a shift in people's behavior and their lifestyles. Tell us a bit about what this has meant for people's approach to wealth planning.

NANCY KISTNER: Sure thing. Thank you, Mike. Well, certainly the pandemic heightened awareness and brought perspective on what's important. It also presented an opportunity to address financial hygiene amidst all of the uncertainty. And it's really that uncertainty that drove families to revisit their family values, to prioritize health and wellness and security. Also to reevaluate the purpose of their wealth, to reset goals, to plan ahead and really protect, preserve and grow their wealth tax-efficiently. So whether it was from maintenance to housekeeping to clean-up, not only of the house, but also the financial house, the past year was a time to get things in order on the planning front. In addition, we saw a big shift toward getting the whole family, including the next generation, more engaged in wealth planning discussions, especially given that more adult children and even grandchildren have been closer to home. And as I think about it, some of the key themes of those discussions included things like factoring in the family dynamics, which may have changed in light of the pandemic. In addition to talking through the composition of the family's assets, which may have their own complexities, especially if they include family businesses and real estate, as well as addressing concerns on the tax front and the impact of what rising taxes might look like on the family's wealth. So these considerations became increasingly important and continued to remain relevant as we think about wealth planning not only in this current environment, but as we anticipate what's ahead. So some of the lessons learned as we look back and steps that were taken and quite frankly, steps probably that may need to still be taken include updating the balance sheet of the family's assets and liabilities, really thinking through liquidity and running scenarios to ensure cash flow needs were met. And also gifting strategies could be made of family entities and interests in family businesses, also titling of assets and structuring wealth entities, tax efficient entities and moving assets into those entities as well as setting up wills or even updating wills, if already set up, durable powers of attorney, health care proxies and also beneficiary designations, much of which were executed with remote signing of documents which really transformed the way we do business and moved us toward digital. We also saw an increase in creating trusts and estate and philanthropic plans that actually included more flexible language in the documents in light of the uncertainty that's ahead. So many of these actions became important to get the financial house in order, And they continue to be key areas of focus for families, particularly as we move slowly through this pandemic into a recovery and anticipate potential changes to tax legislation. And then one final note is around the idea that the pandemic also brought to light issues and considerations that we never thought would be relevant. Yet they are still on our minds as we move forward, things like working from home and remote working in general and what that looks like going forward, in addition to dual residency. The pandemic really transform the way we live and work. And these new arrangements, they may be temporary or may become more permanent. For some home may be their usual residence. For others, it means their vacation home or even their parents' home. And this change raises some important tax issues, including state tax residency for a full or even a partial year. And there's no one rule that applies regarding states. In fact, several states work a bit differently. There are a number of rules that may apply. Some states actually tax individuals if they're domiciled in the state, while others if they are statutory residents, and in some cases, if the worker is there just for a few days. So it's important to keep in mind the tax implications that are involved in moves. And in addition, I would mention that we saw the acquisition of second residences and even reevaluation of domicile as really hot topics. Many clients are thinking about or have even made decisions to acquire second residences if they win the bidding wars that are going on. And they're also reevaluating where they may live going forward for quality of life and or tax reasons or other reasons. So if you want to make a move and you want to save on taxes with a change in domicile, generally meaning the place where you intend to make your home permanent, you must meet the taxing authority's requirements regarding your former state and prove that you have met them. So you bear the burden of proof on that. So as we move forward toward the re-opening phase, some of these issues will continue to remain relevant and they have tax implications that need to be considered.

MITCH DROSSMAN:  Nancy, let me pick up on that. As we reopen and as we move forward, indeed, many of those issues are going to remain relevant, particularly change of domicile. But it also, as we move forward, it will give the White House the ability to pivot and focus on a new priority. And that's the president's agenda. And that is infrastructure and the tax hikes that are needed to support that spending for the infrastructure. I want to turn to Jim and hopefully he could share with us some of the key priorities of the president.

JIM CARLISLE:  Thanks, Mitch. So there are really two components of the president's infrastructure plan. The first is called the American Jobs Plan. And think of physical infrastructure: spending on roads, bridges, broadband, also a renewable energy investment component to that. And that plan would be financed by corporate tax increases as proposed by the President. The second plan, the second component, is called the American Families Plan, and that's what I call human infrastructure. So it includes proposals like universal paid leave, free community college and expansion of refundable tax credits. All told, these two plans total more than four trillion dollars of new spending, and unlike the pandemic relief bills, the CARES Act, where we had, you know, roughly five trillion dollars in spending responding to the pandemic, which was not offset, the White House is proposing to offset all of the cost of these two packages with revenue raisers. So Mitch, that is sort of the context of the tax proposals that we're going to talk about.

MITCH DROSSMAN:  Great. OK, so now let's focus. Maybe we'll go dig a little bit deeper on these tax proposals. Jim, what are they proposing on the corporate side?

JIM CARLISLE:  So for corporations, the corporate rate would be increased from 21 percent to 28 percent. So that's half way back to the 35 percent corporate rate that was in effect before the 2017 tax reform bill. That's, I think, the largest corporate raiser. And then the other two sort of key parts, one would be a minimum tax on corporate income that would be based on your gap earnings. So if your book profits, it would be a 15 percent tax on your book profits. If you're not paying cash tax up to 15 percent of your gap earnings, there would be a top up tax until you reached 15 percent. And then there would be proposals that would apply to US multinationals that have foreign subsidiaries and would increase the taxes that would be imposed on foreign earnings of your subsidiaries. Those rules are pretty complicated and are a concern for US multinationals right now.

MITCH DROSSMAN:  Perfect. Thank you. So let me share with you a little bit about what some of the proposals are on the individual side. And as Jim mentioned, those are in the American Families Plan. In aggregate, the President is proposing one and a half trillion dollars of tax increases. And there's a common theme around these tax increases. And that is that they all focus on upper income taxpayers and they all aim to achieve the administration's social justice goals, which is narrowing the gap on income and wealth inequality. The proposals range from the following: bumping up the top marginal tax rate from 37 to 39.6. That would apply at roughly 500 thousand dollars for a married couple and about 450 thousand for an individual. Also, a near doubling of the capital gains rate for this year, up to 37 percent from the current 20 and next year up to 39.6. Of course, on top of that is an additional 3.8 percent surtax. And that would apply if and only to the extent that income or gains would exceed one million dollars. It's also really kind of a fundamental departure, or maybe brings us back to nearly 35 years ago when capital gains and wage income were taxed at the same rates. And again, it satisfies the administration's goal of having wealth taxed just like wages. In addition, there's the elimination of the free step up in basis. That is a departure of nearly 100 years of tax policy that allowed for a so-called free step up in basis on assets when somebody passes away. Instead, this would do a nearly 180 degree turn and rather impose a deemed gain when an asset is transferred by way of gift, or if an asset is retained upon death it would be a deemed gain. Of course, there would be some exclusions and some exemptions, particularly if you make a transfer to charity or transfer to spouse and there would be special rules for family businesses. The bite here is actually worse than the bark. That provision goes on to say that if you have an asset inside of an entity other than a corporation, so it would apply to an S corporation, a partnership, an LLC, a trust, and if that asset had not been sold in the last 90 years, they would be a deemed gain every 90 years. The starting point would go back to 1940 for the first time that that deemed gain could occur is only a short nine years from now in 2030. Also transfers in and out of those entities, trusts and partnerships would also trigger a gain. So really, again, the bite here is far worse than the bark for this provision. The proposals go on, expanding the 3.8 percent health care surtax to a wider variety of income, capping the gains that can be deferred from certain sales of real estate. What's likely what's known as a like-kind exchange. And then finally, the administration is proposing much stricter rules in terms of tax enforcement, hiring a greater number of IRS employees, having audits targeted to upper income taxpayers, new reporting requirements for crypto currencies and reporting requirements for financial institutions to report all transfers in, transfers out, and deposits and withdrawals for all individual and business bank accounts.

JIM CARLISLE:  So Mitch, one thing the White House did not get into was the state and local tax deduction, which was capped at 10,000 dollars in 2017. And so for whatever reason, the White House did not have a proposal to address the broad concern among Democrats about the impact of the SALT cap on blue states. I think when we get into the actual legislative process, that issue is going to have to be litigated. There are moderates, moderate Democrats from Northeast states who have conditioned their vote for any infrastructure package on addressing SALT. On the other hand, you have progressive Democrats who view the state and local deduction as a benefit, you know, tilting towards the wealthy, not a comfort level with repealing it. Unclear how that is going to be resolved. You know, there have been proposals to increase the cap, the 10,000 dollar cap to say 20,000 dollars, 25,000 dollars. But so it's not included in the administration's proposals. But it's, I think, certain to be discussed and debated.

MITCH DROSSMAN:  Right. Well, as long as we're talking about a couple of things that I didn't mention, let me let me mention a couple of others. The modifications to the estate tax law's phase out of itemized deductions, elimination of the deduction for qualified business income and reimposing FICA taxes. These were all proposals that Biden had made in the past. But now apparently they may be off the table in this round of new proposals. So it seems like the administration has backed away from those changes. So all of this really begs the question Jim, is where do we go from there and how does this get done?

JIM CARLISLE:  So the only scenario for enactment of tax increases, the type that you've talked about on the corporate side that I've talked about, is if Democrats utilize the budget reconciliation process and that is the vehicle under which it can move in the Senate, be passed in the Senate with a bare majority vote. So right now, the Senate is split 50-50. All 50 Democrats can vote for a reconciliation bill. You get the tie breaking vote of the Vice President and that's how a reconciliation bill could get done. I mean, I start from the premise that Republicans, you're not going to get any Republican support for raising the corporate rate, raising individual rates. So to get this done, it's going to have to be on a reconciliation vehicle and it's going to have to include, it's going to have to get unanimous Democratic support in the Senate. And there is precious little wiggle room in the House for Nancy Pelosi to move a package through. I think there are two scenarios here. One, if you've been reading the paper, the White House and Senate Republicans are trying to find a compromise on infrastructure. And what they're discussing is physical infrastructure. So traditional roads, bridges, highways. And if we get an agreement there to move forward with a bipartisan physical infrastructure package, it is presumably not going to be a vehicle for tax increases because that's off the table for Republicans. That could take some months if that gets off the ground. That could take some months to process. That would sort of move back the timetable for consideration of what's left over from the administration's agenda, which could move later in the year in a reconciliation bill. Alternatively, if these bipartisan talks collapse and they can't reach agreement on how to deal with the cost of these proposals, they can't reach agreement on the size of a package, then I think Democrats are ready to just move immediately to a reconciliation process. I say immediately, but it actually takes some steps before you can get a reconciliation bill on the floor. Congress first would have to pass a budget resolution which sets topline budget targets and which has to enable or authorize the development of a reconciliation bill. That could take weeks and weeks, could take, you know, up until, let's say, the August recess to try to process a budget resolution which would push, you know, development of the reconciliation bill for consideration until later in the third quarter, if not, and maybe more likely the fourth quarter of the year. But I think one thing immediately to watch is, are we first going to have a stab at a bipartisan infrastructure bill with a subsequent consideration of a reconciliation bill with these tax proposals, or the Democrats just move right there immediately if these talks fizzle out.

MITCH DROSSMAN:  OK, so Jim, let me bring up that element of timing that you said some of this could kind of go on till after the August recess. There are two elements of timing. There is timing around the passage of a bill and there's something around another element of timing that's very important to clients and to all taxpayers, which is effective dates. The White House, in their latest proposal, is generally proposing an effective date, the beginning of next year, January 1, 2022, for almost every provision in this under these proposals, with the exception of capital gain, which is a generally kind of more nuanced. And they're saying date of introduction or date of announcement, rather. Jim, you want to tell us a little bit about what that cryptic language means?

JIM CARLISLE:  Yeah, it is cryptic. I think the presumption is that the American Families Plan, which was the administration proposal that included the capital gains proposal, that that was the administration's announcement of its plan to increase the top capital gains or increase the capital gains rate at higher income levels. That date, the date that it was announced was April 28. So the presumption is that the White House means April 28. But they didn't actually say that. It could potentially be the date that the administration released its budget, which was May 28, or it could potentially be, you know, the date that, you know, Congress might act on the provision or a bill could be introduced. Just unclear. But there is, I think, the risk that the White House did intend for this to apply beginning April 28th. But caveat, Congress is the final arbiter on effective dates. All of this is going to have to be litigated in the Congress. And I would expect to see effective dates, for various provisions, get a lot of careful analysis, thinking about behavioral effects, thinking about revenue needs, thinking about impacts on the economy. So I think, you know, we sort of take the administration's proposed effective dates with a grain of salt.

MITCH DROSSMAN:  Just as Congress may have their own thoughts on what is an appropriate effective date, also Congress is going to have their view on the substantive provisions. Again, these are only proposals. There's a very long way from proposals to passage. And Congress may have their own views on what these provisions ultimately, what kind of shape they should occur, or maybe the parameters.

JIM CARLISLE:  Sure. And, you know, one example, the corporate rate. The White House has proposed to go to 28 percent. Joe Manchin, has said, you know, 25 percent sounds, you know, about as high a rate as he can potentially accept. I think there's push back from other Democrats on taking the rate as high as 28 percent on capital gains. We've seen some nervousness from some moderate Democrats around taxing capital gains as ordinary income. The proposal to tax capital gains at death, that, you know, that's a fairly novel approach. Unclear what the level of Democratic support is there. I guess I'd step back and also say it's not clear that there is Democratic support for a spending package, sort of, regardless of whether it's offset, you know, as large as four trillion dollars. And there's also, I think, a first order question that hasn't been answered, which is, do you have to offset 100 percent of the cost of the spending or is some of this spending better thought of in the nature of an investment that will have earned returns down the road for the government? So unclear what, you know, how much has to be offset and that will dictate sort of the pressure on revenue raisers.

MITCH DROSSMAN:  Yeah, and I'm hearing as well as a number of kind of Midwestern Democratic members of the House that are also concerned very much about the step up in basis and how they may affect family farms. So lots of uncertainty around this. And again, these are proposals. They will have to make their way through Congress. Congress will have their input on a bill. So kind of bottom line here is really, it is better to plan than to predict.

MICHAEL PELZAR:  So, Mitch, you know, clearly there's a lot here. And picking up on your point about better to plan and to predict. There's a lot to digest in terms of the legislative proposals on the table. But there's also a fair amount of openness, open endedness and uncertainty going forward. We've got uncertainty as to the content of the proposals. We've got uncertainty as to the timing of the proposals and not to mention the all encompassing, cryptic language that you mentioned. How do we start to think about this from a wealth planning perspective, given the uncertainty that's out there? Where do we begin from the standpoint of individual wealth and estate planning?

MITCH DROSSMAN:  Well, the problem, let me begin by really, I think it's really being responsive and sharing with you really most of the areas where I have been spending my time and fielding questions from clients and we've been doing some kind of intensive research and calculations around these, which are two particular planning areas. And then Nancy may have her views of what she is seeing as well. So what I want to address is capital gain transactions and estate planning. Even though we talked about a potential effective date that maybe April, May, again, Congress may have their own view and that might be pushed out a little bit further. So let me just share with you some thoughts around capital gains. When considering that you really have to weigh two different alternatives. And one is if you sell now, you have the benefit of locking in, let's say, the lower capital gains rate. But there's a detriment is that you do have to pay the government for the capital gains tax and therefore you will have less capital to reinvest going forward. Contrast that with selling later. The detriment of selling later is that you will likely be selling at a more hostile tax environment. Maybe the rate is 39.6, maybe is 28 percent. But whatever it is, it does seem like it's likely to go higher. But the advantage is that you will have all of your capital working for you until you ultimately sell. And so you need to evaluate those two decisions. And the variables are going to be investment horizon, which is time, tax rate, assumed return, depending on what state you live in, there are state taxes that are another variable. But just to give you kind of a for instance, is that if we ignore state level taxes for a moment and we contrast somebody who sells now or somebody who sells at, let's say, three years from now. If you sell it three years from now and the rates do jump to nearly 40 percent, then you would need a return on your investment of roughly just over 30 percent of year annualized for the next three years to break through the headwind of a higher tax rate. So we can kind of figure this out for any particular holding period, for any resident of any state and at least puts the conversation into a kind of a more realistic setting, to help our clients figure out what might be the right decision. It's also very helpful to look forward by actually looking backwards. This is not the first time that we have seen a jump in the capital gains rate. That happened again in 2012, going into 2013, 1986 going into 1987. And in each of the year, the year before the tax rate, a capital gain tax rate increase, we saw a tremendous amount of selling. So taxpayers did take into account. Oftentimes I also get the question is. What does it really mean for the markets? And I'll just tell you, in 1987, if you remember that year, that was in October of that year, we've had tremendous volatility in the markets in October. It was kind of Black Monday when the markets went down nearly whatever it was close to 30 percent in a two-week period of time. Overall, the market was up five percent that year. And in 2013, which was the year of another capital gains increase, the S&P 500 was up in excess of 20 percent. So capital gains rate increases generally don't have longer term impact on the on the markets. But nonetheless, taxpayers oftentimes look at the rate increase and generally will accelerate their selling even if they were going to buy back and continue to hold or reallocate their holdings. So lots of work to be done in this area, but that's probably the most frequent question. The other is on estate planning. And earlier I mentioned that it seems like it's off the table for the time being, at least from Biden's perspective. And I just want to put that in perspective. It may not be off the table from a House Democratic perspective. In fact, there has already been a bill introduced this year pulling back the estate tax exemption down to three and a half million and increasing tax rates. Also, keep in mind, this much higher estate tax exemption by its terms, expires at the end of 2025. So you need no legislation for the estate tax laws to change on their own. And that's why a lot of taxpayers are actually considering the advantages of making significant gifts now. Also, I'd say keep in mind is earlier I mentioned the change in the step up in basis rules, which could be effective for next year, and that would address the gifts. That would trigger a gain if a gift was made, so a lot of the gifting is being accelerated into this year. So really, what's at stake here? Currently, the exemption is 11.7 million. If it drops to, let's call it 3.5 million, that's another 8.2 million dollars of assets that is potentially exposed to an estate tax if the rate stays at 40 percent. You're looking at roughly 3.3 million of additional taxes. And for many, that is just too significant of a savings to walk away from. So there's lots of planning being done in this area. And, of course, since these amounts are so significant, a lot of this planning is done on a very flexible matter. And I say we are seeing probably the most amount of this planning being done on what I call a lateral as opposed to a vertical level. So a lot of these assets are not necessarily going down the generation, but they are going across from one spouse to another in a trust that would allow them to take advantage of these estate tax provisions. These are the two areas that I am primarily seeing a lot of activity in the space. Nancy, I want to hear from you. Perhaps you could share with us your thoughts. What are some of the other considerations or some things that you're hearing from clients?

NANCY KISTNER: Sure. Thanks, Mitch. And appreciate the clarity that you and Jim provided around the legislative agenda. There's certainly a number of other planning strategies to consider in light of these potential changes in tax legislation. I'll mention a few. However, it's really important to keep in mind that there are others and you want to work with your adviser and wealth strategists to really talk through your specific circumstances. The first thing I mentioned is asset allocation and the need for ongoing tax efficient investment management across taxable accounts. This becomes even more important, especially given the run up in the market and where valuations are rebalancing portfolios now may make sense before we see higher taxes. In addition, asset location plays a role alongside the asset allocation. So where you hold assets comes into play, meaning which assets, in which buckets, whether it's the taxable or tax deferred and tax free portfolios. So thinking through maybe income oriented solutions and high turnover, tax inefficient strategies and taxable bonds within the tax advantage accounts such as IRAs and 401(k)S and other retirement plans may make sense. Beyond that, tax bracket management. Really a greater emphasis on planning to keep income below the capital gains thresholds, In particular, below this one million dollar level proposed that may put you into that top tax rate. And in addition, considering deferral strategies in certain instances where it makes sense, investing capital gains from the sale or exchange of real estate property in a qualified opportunity zone that invests in low income communities and even considering 1031 exchanges to potentially defer gains may be worth considering, in particular this year versus next. And finally, I'd mention tax efficient charitable giving becomes more important. And often the question we get is around, do I accelerate charitable deductions into this year or wait till later? And generally, it's not a simple answer. Deductions are worth more in a higher income tax rate environment, but it's important to keep in mind that for this year, in particular, there's a special provision allowing the taxpayer to deduct up to 100 percent of their adjusted gross income for cash donations to operating charities. So certainly a lot to consider. So how can we help? So clearly, one size does not fit all when it comes to planning for the various tax increases proposed, and a customized approach is important. So certainly don't try this at home and instead reach out to your adviser and wealth strategist to really focus in on your specific situation. Some of the key elements that we think really are important, as you think through this, is doing that in-depth case by case analysis that is necessary. And we have the tools to model the tax impact on your wealth. We also have the leadership reports to help you better understand the wealth planning landscape. Also, being proactive certainly makes sense rather than reactive. Planning is a dynamic process. And at this point in time, it's really important to anticipate and plan for possible changes and also adapt to the evolving situation that Jim and Mitch mentioned. And certainly it's important not to focus on which solution will yield the lowest tax, but which will result in the greatest after tax wealth. So finally, I would add that while this approach may not eliminate the possibility of higher taxes, we believe it can go a long way toward minimizing their impact and increasing the likelihood of achieving short and long term financial goals. So with that, I'll turn it back to you, Mike.

MICHAEL PELZAR:  Well, thanks, Nancy. Clearly, these are complex topics ranging from digesting potential legislation on Capitol Hill to how to approach it from a planning perspective to implementing tactics that are specific to each individual and family. And it's clearly hard to condense and articulate this degree of complexity in a brief discussion like this. But as Jim, Mitch and Nancy made clear, there's a lot at stake for wealthy individuals as we navigate this environment. As Nancy indicates, we encourage you to speak with an advisor. Optimal solutions require a customized approach and you do not want to go at this alone. Engaging the right professionals can help you plan, not predict, and can help turn a reactive stance into a proactive strategy. We want to thank you for joining us today and thanks to our panelists for a terrific discussion. We'll continue to do more of these broadcasts as the legislative tax and planning advisory continues to evolve over time. Meanwhile, you can find more on our website or through your advisor and your client team. Stay tuned. There's clearly more to come. Thanks again for joining us and we'll be in touch soon.

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