The idea of a guaranteed Universal Basic Income provided by the goernment (read “taxpayers”) surfaces periodically. Amounts of $1,000 to $1,500 a month or more get bandied about. How would that work in a world where income depends on production to balance the equation?
You and I are the only residents of a Potemkin village where the annual cost of living is $18,000. I do not have a source of income. You, however, have created a way to produce and sell something, netting $36,000 after expenses. I need $18,000 to live. Consequently, a 50 percent tax on your total income is proposed so the money I require is transferred to me. When half of the fruit of your labor is confiscated, how long will you be motivated to maintain your level of production?
This example does not suggest ignoring true need, which is what public support and private charity is for. But when you overly tax wealth creators, you get less wealth to go around.
Pre COVID-19, there were over a million small businesses in Georgia, employing 43.1 percent of the workforce. SBA defines a small business as one with 20 to 499 employees. That means that even more breadwinners depend on “mom and pop” operations with less than 20 employees, the small restaurant, corner store, hair salon.
As we contemplate recovery, there’s growing concern about Democrat proposals to do away with provisions in the Tax Cuts and Jobs Act of 2017 (TCJA) that strengthened small business owners and entrepreneurs. TCJA lowered the top corporate income tax rate from 35 percent to 21 percent. Joe Biden’s plan would raise the top rate to 28 percent.
However, many small business owners operate “pass-through entities,” a sole proprietorship, partnership, LLC, Sub-S corporation. TCJA allows many taxpayers in such entities a deduction of up to 20 percent of their qualified business income (QBI) and a 20 percent deduction relative to certain real estate and publically traded partnerships. Biden would phase out the deduction for owners with income above $400,000 per year.
Even if you think that’s fair, recognize that higher earning owners would be incentivized to cut or reduce salaries, hire fewer people, substitute technology and machinery for labor.
Another zinger for job creation. Currently annual income above $137,000 is not subject to Social Security taxes. Biden seeks a 12.4 percent Social Security tax on employee income above $400,ooo, split 50/50 between employer and employee. Add in a restored top marginal tax rate of 39.6 percent for income over $400,000, and a successful owner is hit with a 52 percent tax rate from the combined income and payroll tax. With the top Georgia income tax rate of 5.75 percent, the marginal bite jumps to a whopping 57.75 percent. Imagine the pain for owners in high tax states like California and New York. We may see more entrepreneurs decamping to states like Florida, Texas, Nevada, South Dakota and Wyoming that have a zero income tax. Georgia take note.
TCJA pegged the top capital gains rate at 20 percent on the sale of assets like stocks or business interests held over one year. Biden’s plan would raise capital gains taxes to a top rate of 39.6 percent for those earning $1 million or more. That could put a huge dent in the retirement plans for aging business owners. Even a modestly successful small business could sell for $1 million. Tax planning for business owners will be a booming business for accountants, tax lawyers and astute financial advisers.
Some business owners own the real estate that houses the business, usually in a separate entity from the business. Joe wants to eliminate the 1031 exchange rule that allows investors to swap investment properties for another that is “like kind,” deferring taxes, and in many cases, creating added retirement income. Proceeds from the real estate sale could also fall under the 52 percent top rate, plus state tax.
Lest you think that only tippy-top earners (to quote AOC) will bear the brunt of proposed tax hikes, Washington’s Tax Policy Center estimates that households making about $170,ooo or more (the top 20 percent) will bear about 93 percent of proposed tax hikes, with the top 1 percent (about $422,000 of household income) nearly 75 percent.
Joe’s plan caps itemized deductions at 28 percent. Ergo, someone in the 39.6 percent bracket giving a generous contribution to a charity could only take a 28 percent deduction versus 39.6 percent. Charities are justifiably concerned.
It’s still guesswork as to who inhabits the Oval Office starting Jan. 20, 2021, or the makeup of Congress. But know that tax hikes have unanticipated consequences likely to bode ill for job creation and opportunities for families and high school, trade school and college graduates.