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Capital Gains

By December 30, 2020February 12th, 2021Videos

So it’s the last video in what has seriously been an eventful year for all of our clients, for all investors the world over and probably for you. At Avion Wealth, our goal is to protect your wealth. And of course, at the end of the year, we’re worried about one last thing: is that, are they going to eliminate the capital gains tax for certain investors? Now, many advisors have been making a lot of noise and have latched onto some of Biden’s remarks about imposing ordinary income tax rates on long-term capital gains and dividends for those earning more than $1 million a year. A lot of people will say “well, that’s fairly rarefied air and it doesn’t include me.” But be that as it may, currently, individuals earning less than $441,000 pay only 15% capital gains, and those above that are paying 20%. And way down low in the normal oxygen levels those making $40,000 a year aren’t paying on any capital gains at all.

One of the concerns in the media that comes to mind – well, what if I sell my house? What if that bumps me over a million dollars in total income and I make $400,000 or $500,000 in capital gains on my house? So keep in mind the first $500,000 of capital gain on a home can be rolled over into your next home. A couple of things to keep in mind when we look at this legislation and evaluate the probability of it actually happening: one, it wouldn’t be a big revenue generator. Many capital gains are in pension funds or retirement accounts. Those don’t count. And in addition, those capital gains that are paid in these might account for just 5% of federal revenues.

So given that some of those capital gains are for people who make less than a million, we bumped revenues from 5% to 7%. If we’re optimistic, 8%. It’s a small number in the big picture. It’s not insignificant. Of much greater impact would probably be the threat to applying social security tax to all income over $400,000 a year. That could be pretty significant, especially if you’re self-employed and you’re paying both halves of the tax. For a self-employed business person that could be an additional 12%, 13% income tax on top of the top rate. That would be a pretty big tax hike. In my opinion, this legislation to change capital gains tax is not yet a credible threat. And I’ll tell you why.

First we’ve probably got to ask ourselves, in an almost perfectly divided House and Senate, especially the Senate, even if the Democrats get control of the Senate, they’re not going to have a monolithic voting block on this topic. There’s a significant percentage of centrist Democrats from conservative States who are going to have a hard time swallowing that pill. So the likelihood of this passing into law, though not impossible, is not great. One of the things we do is we create “well, what is the estimated capital gains tax?” So what the probabilistic capital gains tax is going to be. The way you do that as we take the spread from 40 to 20 – which is what we’re talking about – and we throw in a probability factor. And we come up with an expected capital gains of about 30% if we say it’s a 50/50 probability. And I would posit that especially seeing as it’s very unlikely that this would be applied retroactively to 2021, that a capital gains tax, expected capital gains tax, of 25% to 30%, just isn’t worth taking significant capital gains today at a guaranteed 20%. Especially when you will have the option of sitting on those gains. Because even if it is enacted into law, the chance of it staying in law forever, is not that likely. Most Western countries have favorable treatment of long-term capital gains and for relatively good economic reasons.

There’s a lot of fear-mongering going on because fear-mongering, let’s face it, is good for business. It attracts clients. “Why didn’t your advisor say you should take your capital gains now?” Probably, because their advisor knew not only was this a threat, but the probability of this threat was not great enough to trigger a guaranteed tax impact this year. It’s the end of the year. It’s been a colorful year. It’s been an eventful year. We wish you the best of success next year. Get that COVID shot as soon as you can. And have a Happy New Year, from Avion Wealth. Thank you.

 

Sources:

https://www.bloomberg.com/opinion/articles/2020-10-23/biden-s-capital-gains-tax-plan-fixes-nothing

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