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Tax Tip of the Week | America’s Richest 400 Families Now Pay a Lower Tax Rate Than the Middle Class March 11, 2020

Posted by bradstreetblogger in : 2019 Taxes, Tax Planning Tips, Tax Tip, Taxes, Uncategorized , add a comment

March 11, 2020

Good or bad?  Only time will tell.
       -Mark Bradstreet

The U.S. tax system is supposed to be progressive, meaning that wealthier households pay a larger share of their income to the taxman than the middle class and the poor. Yet after the Tax Cuts and Jobs Act of 2017, that’s no longer the case: For the first time in a century, America’s 400 richest families now pay lower taxes than people in the middle class. 

That’s according to an analysis of tax data by two prominent economists, Emmanuel Saez and Gabriel Zucman of the University of California at Berkeley, that is a centerpiece of their book, “The Triumph of Injustice,” published on October 15, 2019. Saez and Zucman, who have worked with the noted French economist Thomas Piketty to produce seminal research on inequality, also advised Senator Elizabeth Warren on the Democratic presidential candidate’s plan to impose a wealth tax on ultra-rich families. 

The tipping point came last year when the Tax Cuts and Jobs Act, which was signed into law by President Donald Trump at the end of 2017, took effect. While Mr. Trump vowed that middle-class families would be helped by the tax overhaul, experts say most working-class families saw only a minimal benefit, while the wealthiest citizens got the lion’s share of breaks. In fact, Saez and Zucman argue, the Tax Cuts and Jobs Act turned the tax system on its head.

“In 2018, for the first time in the last hundred years, the top 400 richest Americans have paid lower tax rates than the working class,” they write. “This looks like the tax system of a plutocracy.”

Factoring in all federal, state and local taxes, those ultra-wealthy households pay a total rate of about 23% — that compares with 24.2% for the bottom half of households, which includes many in the middle class. The richest families also pay a lower rate than those in the upper middle class and even those in the top 1%, who pay closer to 30% of their income in taxes.

Why do the super-rich pay lower taxes?

Zucman and Saez, who base their analysis on income tax returns, tax audits and other data, argue that in recent decades the tax system has tilted in favor of the highest earners, with the most recent push coming from the Tax Cuts and Jobs Act. 

“In 1970, the richest Americans paid, all taxes included, more than 50% of their income in taxes, twice as much as working-class individuals,” the book notes. “In 2018, following the Trump tax reform, and for the first time in the last hundred years, billionaires have paid less than steel workers, schoolteachers and retirees.” 

Today, the tax rates enjoyed by the richest Americans are at levels last seen in the early part of the 20th century, when the U.S. government was a fraction of its current size. In 1910, many popular programs credited with keeping millions of Americans out of poverty didn’t exist, including Social Security and Medicare. 

The rich pay lower tax rates than the middle class because most of their income doesn’t come from wages, unlike most workers. Instead, the bulk of billionaires’ income stems from capital, such as investments like stocks and bonds, which enjoy a lower tax rate than income. It’s the same reason why Warren Buffett famously said his tax rate was lower than his secretary’s.

The 2017 tax law amplified that trend, according to the new analysis. The tax rate for corporations was slashed to 21% from from 35%. And business income for many taxpayers now enjoys a 20% deduction, thanks to the new tax code, which places more income out of the IRS’ reach.

“The only category of income that does not benefit from any exemption, deduction, reduced rate or any other favor is wages,” Zucman and Saez write. “At any income level, wage earners are thus more heavily taxed than people who derive income from property.”

In effect, they add, capital income “is becoming tax-free.”

Why it matters

Although advocates of low taxes argue that slashing rates on the rich and corporations boosts economic growth, there’s little evidence for that. Instead, the U.S. is facing a number of risks by shifting to a more regressive tax system, the authors say.

For one, the federal government is losing out on a massive amount of tax revenue by slashing levies on the rich. Secondly, that lost revenue must be found elsewhere, which means the middle class and poor are likely to be stuck footing the bill. 

But the most important reason, according to Zucman and Saez, is that the U.S. tax system is creating what they call an “inequality spiral.” In other words, the rich are getting richer — that allows them to shape public policies to extract further tax breaks and other benefits, boosting their wealth and political clout.

Of course, tax codes can change, which means the U.S. isn’t doomed to sink more deeply into the quagmire of inequality, Zucman and Saez write. For instance, the economists propose a new national income tax that would tax all income — whether from labor, capital or other sources — as a supplement to the existing income tax. They also favor a wealth tax.

The latter, similar to proposals from both Warren and Senator Bernie Sanders, would tax annual wealth at 2% for those above $50 million and 3.5% above $1 billion. 

“A wealth tax will never replace the income tax,” they note. “Its goal is more limited: to ensure that the ultra-wealthy do not pay less than the rest of the population.”

Credit given to – Aimee Picchi

Thank you for all of your questions, comments and suggestions for future topics. As always, they are much appreciated. We also welcome and appreciate anyone who wishes to write a Tax Tip of the Week for our consideration. We may be reached in our Dayton office at 937-436-3133 or in our Xenia office at 937-372-3504. Or, visit our website.  

Today’s author – Mark Bradstreet

–until next week.

Tax Tip of the Week | New Tough Tax Rules for Business Losses March 4, 2020

Posted by bradstreetblogger in : 2019 Taxes, Business consulting, Deductions, General, tax changes, Tax Planning Tips, Tax Preparation, Tax Rules, Tax Tip, Taxes, Uncategorized , add a comment

March 4, 2020

Some businesses are very profitable, others are not – many businesses exist somewhere in the middle. Until recently, a Net Operating Loss (NOL) could be carried back two (2) years and the remainder forward for twenty (20) years (all within various limitations). Things have changed. For the vast majority of businesses, NOLs may only be carried forward without a sunset provision. BUT and there always is a BUT with the tax law – NOLs may not exceed certain amounts and percentages.  This is explained in greater detail below:
                                -Mark Bradstreet

Okay, you’re not in business to lose money but it can happen from time to time. The tax law has new rules in store for you when it comes to writing off business losses in 2018 and beyond. These rules make it more difficult to use losses to save taxes.

Net operating loss

Essentially, a net operating loss arises when the amount of a current business loss is greater than what can be used in the current year (i.e., greater than taxable income), and it becomes a net operating loss (NOL). (Technical rules apply to make an NOL more complicated than this.)

When and how the NOL is used has been changed by the Tax Cuts and Jobs Act.

•    NOLs arising prior to 2018. Generally these NOLs can be carried back for 2 years (there are some special rules for certain situations and an option to waive the carry-back) and forward for up to 20 years. The NOLs can offset up to 100% of taxable income.
•    NOLs arising in 2018 and beyond. No carry-back is allowed (other than for certain farming losses and losses of property and casualty insurance companies), but there’s an unlimited carry-forward. However, the NOL can only offset up to 80% of taxable income.

Record-keeping. If you have a carry-forward of a pre-2018 NOL, be sure to keep track of it separately from newer ones so you can use it as a 100% offset going forward. NOLs are taken into account in the order in which they are generated, so that old NOLs are used before newer ones. This rule hasn’t changed.

Non-corporate excess business losses

If you own a pass-through entity—sole proprietorship, partnership, S corporation, or limited liability company—the rules for writing off your losses have changed dramatically. Until now, if you had $1 million in revenue and $1.6 million in expenses, the $600,000 loss passed through to you would be deductible on your return (limited by your basis in the business).

Now there’s an important change in the treatment of losses. Instead of being currently deductible, excess business losses are characterized as net operating losses that must be carried forward.

What is a non-corporate excess business loss?This is the excess of business deductions for the year over the sum of (1) gross income or gain from the business, plus (2) $250,000 for singles or $500,000 for joint filers (with these dollar amounts adjusted for inflation after 2018).

So continuing the example I started earlier, under the new loss limit, instead deducting $600,000 in 2018, assuming you’re single, you’d only be able to write off $350,000 ($1.6 million – [$1 million + $250,000]). The balance of the loss–$250,000—is treated as a net operating loss that becomes deductible in 2019 to the extent permissible (explained earlier).

For owners of partnerships and S corporations, the limit is applied at the owner level, based on the owner’s distributive share of business income and expenses.

The excess business loss limit applies after applying the passive activity loss limit. The excess business loss limit is effective from 2018 through 2025.

Conclusion

To sum it up, when you’re doing well, the government is your partner by sharing in your good fortune via taxes. But when you aren’t doing well, the government doesn’t want to know you anymore. The Tax Cuts and Jobs Act rewards profitable businesses by lowering the taxes to be paid on profits. But this same law essentially penalizes unprofitable businesses by imposing limits on utilizing losses. In the past, for example, if you had an NOL, you could carry it back to generate an immediate cash refund that could be ploughed into the business. In effect, a loss could be turned into a gain. No longer.

Perhaps the lesson here is: Be profitable. Take the steps you need to ensure this—cut expenses, raise prices, etc. And work with your tax advisor to see what other measures can be used to keep you in the black.

Credit given to – Barbara Weltman

Thank you for all of your questions, comments and suggestions for future topics. As always, they are much appreciated. We also welcome and appreciate anyone who wishes to write a Tax Tip of the Week for our consideration. We may be reached in our Dayton office at 937-436-3133 or in our Xenia office at 937-372-3504. Or, visit our website.  

Today’s author – Mark Bradstreet

– until next week.