The Biden Administration’s 2023 Budget
General Explanation of the Biden Administration’s Fiscal Year 2023 Revenue Proposals
By Michael D’Addio, Principal, Tax & Business Services
The Biden Administration presented a $5.8 trillion budget for fiscal year 2023 on Wednesday, March 29, 2022. The Treasury has issued its general explanation of the administration’s Fiscal Year 2023 Revenue Proposals (commonly referred to as the “Green Book”), which contains many provisions that were part of the President’s proposals last year, including both modifications and new provisions.
The Green Book proposals make a number of changes. Highlights/summary include:
Business and International Taxation
- Increasing the corporate tax rate to 28%.
- Preventing related party basis shifts using partnerships.
- Conforming the definition of “control” for certain corporate transactions.
- Making permanent the new markets tax credit.
- Increased ability of housing credit agencies to provide “basis boosts” for low income housing tax credits.
- Treating carried interests held by high earners as ordinary income.
- Limiting the benefit of like-kind exchanges to $500,000 for each taxpayer ($1,000,000 for joint filers) per tax year.
- Subjecting post-2022 depreciation on real estate as ordinary income recapture for high earners.
- Repealing the base erosion anti-avoidance tax (BEAT) and adopting the undertaxed profits rule.
- Creating a new 10% tax credit for locating jobs in the U.S. and denying deductions for off-shoring.
- Expanding the ability to make retroactive Qualified Electing Fund Elections.
- Increasing the top bracket to 39.6%.
- Applying the maximum ordinary income bracket on long-term capital gains and qualified dividends for taxpayers with income of more than $1 million.
- Treating certain transactions (including gifts and transfers at death) as deemed sales producing a current gain.
- Imposing a new 20% minimum tax on total income (including unrealized gains) on those with wealth of $100 million or more.
- Making the adoption credit permanent and including guardianship arrangements to qualify.
- Making the income exclusion for student debt relief permanent.
Estate and Gift Taxation
- Imposing new rules on Grantor Retained Annuity Trusts.
- Taxing transactions between grantor trusts and deemed owners.
- Limiting the duration of the generation-skipping tax trust exemption.
- Raising the threshold on the Special Use Property maximum reduction to $11.7 million.
- Increasing trust administration reporting rules.
Miscellaneous Tax Provisions
- Limiting a partnership’s ability to deduct certain syndicated conservation easement contributions.
- Limiting the ability of a non-operating private foundation to make its payout obligations to a donor advised fund.
- Extending the statute of limitations for IRS to assess tax on a QOF investor failing to report an inclusion event.
- Increase IRS authority over paid preparers.
- Creating shareholder liability on those who sell stock in certain “applicable C-corporations” without reference to state law liability protection.
- Imposing an affirmative duty to disclose filing positions that are contrary to Treasury regulations.
- Extending the assessment period for expatriates who do not file Form 8854.
- Increasing certain digital reporting requirements.
- Limiting certain tax benefits related to fossil fuels.
Marcum Summary of the Treasury Department’s Green Book:
Business and International Tax Provisions
Corporate Income Tax Rates: The federal corporate tax rate would increase from 21% to 28%. The proposal keeps the Global Intangible Low-Taxed Income (GILTI) deduction, causing the GILTI rate to increase in proportion to the increase in the corporate rate. This provision would be effective for tax years beginning after 12/31/2022. (For fiscal years beginning before 1/1/2023 and ending after 12/31/2022, the rate is 21% + 7% times the portion of the year that occurs in 2023.)
Prevent Basis Shifting by Related Parties Through Partnerships: This proposal would limit the tax benefit of basis shifts resulting from a distribution of property from a partnership that produces a basis step-up in property retained by the partnership. This rule will apply to partners who are related to the distributed partner. It is intended to be effective for tax years beginning after December 31, 2022.
Conform the definition of “control” for certain corporate transactions with the definition found in the Internal Revenue Code: This provision addresses the concern that certain Internal Revenue Code (IRC) sections (such as IRC Section 368) define control as “at least 80% of the total combined voting power of all classes of voting stock AND at least 80% ownership of the total number of shares of each class of outstanding nonvoting stock.” This code section and definition is used for many corporate reorganization transactions and is susceptible to manipulation so that taxpayers can easily make transactions taxable or nontaxable through careful structuring of corporate equity.
The use of the Section 1504(a)(1) definition of “control” — i.e., ownership of stock possessing at least 80% of the total voting power AND has a value of at least 80% of total value of the stock of the corporation — would avoid this problem.
New Markets Tax Credit: The New Markets Tax Credit would be made permanent with $5 billion (as indexed for inflation) in credits allocated after 2025.
Low-Income Housing Tax Credits (LIHTC): This provision would allow greater flexibility for a state housing credit authority (HCA) to allow “basis boosts” on a non-geographic basis for the determination of LIHTC. This would apply to new construction or to substantial rehabilitation that adds new units financed with private activity bonds (PAB). However, the PAB must be part of a bond issue with an issue date after this provision is enacted.
Carried interests would be treated as ordinary income for certain high earners: For tax years beginning after December 31, 2022, a service partner’s share of income from an investment service partnership interest (ISPI) will be taxed as ordinary income (and subject to self-employment tax) if the partner’s taxable income (from all sources) exceeds $400,000. A partnership is an investment partnership if substantially all of its assets are investment-type assets (certain securities, real estate, interests in partnerships, commodities, derivative contracts with respect to those assets) where over 50% of contributed capital is from partners in whose hands the interests constitute property not held in connection with a trade or business.
Limit the Benefit of Like-Kind Exchanges of Real Estate: For like-kind exchange transactions completed in 2023 and later, the gain deferral will be limited to $500,000 for each taxpayer ($1,000,000 for joint filers) for a tax year. Gain in excess of the threshold would be taxable in the year of the transfer of the property.
100% Recapture of Depreciation of Real Estate as Ordinary Income for High Earners: Depreciation on real estate for non-corporate taxpayers taken in 2023 and later will be subject to ordinary income treatment (as recapture) for high earners (in lieu of its current treatment as unrecaptured Section 1250 gain subject to a maximum 25% rate). This rule will apply to taxpayers with adjusted gross income of $400,000 ($200,000 for married separate filers) or more. Pre-2023 depreciation on such real estate would remain subject to the current rules.
Adoption of the Undertaxed Profits Rule: Effective for tax years beginning after 12/31/2023, this proposal would eliminate BEAT (base erosion anti-avoidance tax) and replace it with UTPR (undertaxed profits rule). This is a “top-up tax” intended to ensure multinational companies pay an effective rate of 15%. A key feature of this rule is that companies would be denied deductions that would result in an overall tax rate lower than 15%.
The UTPR would primarily apply to foreign-parented multinationals operating in low-tax jurisdictions, and to financial reporting groups that have global annual revenue of $850 million or more in at least two of the prior four years.
Provide Incentives for Locating Jobs and Business Activity in the U.S.: New tax provisions would be adopted to provide incentives for on-shoring businesses and create disincentives for offshoring.
- A new 10% tax credit would apply (as part of the general business tax credit) for locating jobs and business activity in the U.S. This would apply to costs related to reducing or eliminating a line of business currently conducted outside of the United States and starting, expanding, or otherwise moving the same business within the U.S. — but only to the extent that the action results in an increase in U.S. jobs.
- Deductions would be disallowed for expenses related to offshoring a U.S. trade or business. Additionally, no deduction would be allowed against a U.S. shareholder’s GILTI or subpart F income inclusions for expenses relating to moving a trade or business out of the United States.
These provisions would apply to expenses paid or incurred on the date of enactment.
Expand the Ability to Make Retroactive Qualified Electing Fund Elections: Taxpayers would be allowed, in certain situations, to make a retroactive qualifying electing fund (QEF) election without having to obtain a private letter ruling from the IRS. This change is intended to avoid the typical private letter ruling costs and the use of IRS resources to obtain a retroactive election.
Expand Definition of Foreign Business Entity to Include Taxable Units: For tax years beginning after 12/31/2022, the definition of a foreign business entity would be expanded to treat any taxable unit in a foreign jurisdiction as a “foreign business entity.” This change will require information to be reported separately for each taxable unit, with penalties for failing to do so.
Taxation of High-Income Individual Taxpayers
Increase the Top Marginal Individual Rate Bracket: The top rate bracket would be increased to 39.6% for those with taxable income over $450,000 for joint filers, $400,000 for unmarried filers (except surviving spouses), and $425,000 for head of household filers. This change would be effective beginning with the 2023 tax year.
Reform the Taxation of Capital Income: The proposal applies ordinary income rates to certain preferentially taxed income and creates a “deemed sale” regime for certain transfers.
- Long-term capital gains and qualified dividends will be taxed like ordinary income for taxpayers with taxable income of more than $1 million ($500,000 for married filing separate taxpayers). This rule would be effective for such income received on and after the date of enactment of this change. That means this provision could affect income earned in 2022, if the law is passed this year.
- A “deemed sale” will occur in a number of situations:
- A transfer of appreciated property by gift or death would be treated as a deemed sale and would produce a tax consequence. This would be effective for transfers after December 31, 2022.
- The unrealized appreciation on property held by a trust, a partnership, or other non-corporate entities must be recognized if the property has not been the subject of a recognition event in the prior 90 years. This rule is intended to avoid the holding of property by such entities for multiple generations without tax. The initial measuring date is December 31, 1939, making the first potential recognition date December 31, 2030.
- Property transfers into or from trusts (other than a revocable trust), partnerships, or other non-corporate entities will be subject to this deemed sale rule if the transfer has the effect of a gift to the transferee.
The law contains a number of exceptions to deemed sales by gift or inheritance, including transfers to a spouse or charity. There is also a $5 million per donor cumulative lifetime exclusion, which is portable to a surviving spouse.
The proposal indicates that taxpayers will be allowed to defer the tax on a transfer of a family owned and operated business until such business is sold or ceases to be family-owned.
If it passes, this deemed sale proposal will have a significant impact on estate and gift tax planning since it increases the tax cost of current gifting and eliminates the benefit of a stepped-up basis for large estates. It must be considered in conjunction with the proposed estate and gift tax rules discussed below.
Imposition of Minimum Income Tax on Wealthiest Taxpayers: A new 20% minimum income tax on total income (including unrealized gains) would apply to taxpayers with wealth of $100 million or more for 2023 and later years. This new minimum tax will be phased in for those with wealth between $100 million and $200 million.
The proposal provides for elections to pay the initial minimum tax over nine equal installments, and future minimum taxes over five-year periods. The minimum tax is essentially a prepayment of tax on gains that will ultimately be taxed on sale, gift, or death (under the proposal discussed above).
The Green Book addresses the issue of valuing illiquid assets and suggests that annual valuation of non-tradeable assets might not be needed. Valuations could be based on recent investment events or potentially on annual increases to an initial value using a floating rate (e.g., the 5-year Treasury rate plus 2 percentage points).
Certain taxpayers considered “illiquid” (tradeable assets constitute less than 20% of their wealth) would be able to elect to pay the annual minimum tax on gains from tradeable assets but would be subject to tax on the future realization of gains on any non-tradeable assets.
If this proposal were to pass, it would most certainly be the subject of litigation about its constitutionality.
Adoption Tax Credit (ATC) Changes: The ATC (which is currently nonrefundable but is subject to a five-year carryforward if there is not sufficient current-year tax to absorb it) would be made refundable. This refund rule would also apply to credits carried forward to the 2023 tax year (but not to credits that expire before 2023).
Make Income Exclusion for Student Debt Relief Permanent: The American Rescue Plan (ARP) Act of 2021 provided an exception from income inclusion for certain education debt discharged between 2021 to 2025. The proposal would make this income exclusion permanent.
Estate and Gift Taxation
While it doesn’t contain some of the sweeping changes proposed last year, the budget (in addition to the “deemed sale” rules discussed above) focuses on certain rules dealing with grantor trusts and the generation-skipping tax exemption.
- The rules for Grantor Retained Annuity Trusts (GRATs) would be significantly changed for trusts created on or after the date of enactment. A GRAT would need to:
- Have a minimum term of 10 years and a maximum term of life expectancy of the annuitant plus 10 years;
- Have a minimum value for gift tax purposes equal to the greater of 25% of the value of assets or $500,000 (but not more than the value of assets transferred); and
- Bar any decrease in the annuity during the GRAT terms and bar grantor from acquiring, in an exchange, an asset held in the trust without recognizing gain or loss for income tax purposes.
- Substantial modifications would be made to the tax consequences of certain grantor trust transactions, effective for transactions occurring on or after the date of enactment. Currently, transactions between a grantor trust and its deemed owner are ignored for tax purposes since the trust is considered a disregarded entity. Any transaction is considered to be between the taxpayer and him/herself.
- The generation-skipping tax (GST) exemption would be severely limited. Distributions for all trusts (regardless of the inclusion ratio on the date of enactment) would be severely limited. The GST exemption would apply only to certain transfers, including:
- To persons no more than two generations below the transferor;
- To distributions from trusts (including on a taxable termination) to such persons; or
- To a recipient who was alive at the time of creation of the trust.
- A positive proposed change would increase the amount that the value of a special use property could be reduced from actual value to $11.7 million (from its current $1.23 million). This provision generally affects real estate used in family farms, ranches, timberland, and similar enterprises.
- Certain rules affecting trust administration would force trusts to provide additional information about the value of its assets and the identity of its grantors. These rules are intended to apply for tax years ending after the date of enactment and would apply to trusts with at least $300,000 of total value on the last day of the tax year or with gross income that exceeds $10,000 for the year.
These are significant changes proposed to GRAT rules and would greatly reduce their use.
The intention is to avoid dynasty trusts that can accumulate wealth for multiple generations and avoid paying any estate taxes.
Partnership’s Deduction for Certain Syndicated Conservation Easement Contributions Disallowed: A conservation easement contribution by a partnership will not be treated as a qualified conservation easement and the deduction will be disallowed if it exceeds 2.5 times a partner’s basis in the partnership. However, there will be a three-year holding period exception. Additionally, there is an exception for a partnership or pass-through entity that is substantially owned by an individual and members of his/her family.
This provision is intended to be retroactive and will be effective for contributions made in tax years ending after December 23, 2016, or, for contributions to preserve a certified historic structure, for contributions made in tax years beginning after December 31, 2018.
Non-operating private foundations can use distributions to donor-advised funds (DAF) to satisfy payout requirements (only in certain situations): In general, non-operating private foundations (NOPFs) must make minimum distributions equal to at least 5% of the fair market value of their assets to certain qualified charities. NOPFs currently can make a distribution to a donor-advised fund to satisfy this payout obligation. The proposal would allow this in the future only if the DAF makes a qualifying distribution by the end of the following year and the foundation maintains sufficient records to evidence that the DAF has made such payments.
Qualified Opportunity Fund (QOF) Investor Assessment Period for Certain Reporting Failures: The period of time for the IRS to make an assessment of tax (currently three years) would be increased when a QOF investor incurs an inclusion event (which would cause recognition of deferred tax) and fails to report an inclusion event on their tax return. The assessment period would be extended to three years after the date on which IRS is furnished with all the information needed to assess the deficiency.
Increase IRS Authority Over Paid Tax Return Preparers and Information Reporting: To improve tax administration and compliance, the IRS would be given broad authority over tax preparers and tax reporting, including:
- The authority to require electronic filing of returns and forms;
- Improving information reporting for reportable payments subject to backup withholding;
- Increasing penalties on paid tax return preparers for willful, reckless, or unreasonable understatements, and for forms of noncompliance that do not involve an understatement;
- Penalties for failing to disclose the use of a paid return preparer; and
- Granting the IRS oversight authority of all paid preparers, including by establishing minimum competency standards.
Creation of Selling Shareholder Liability for Sellers of Stock in Certain Applicable C Corporations: The IRS has identified certain intermediary transaction tax shelters as being abusive. These typically involve C corporation shareholders selling a controlling interest in the corporation to an intermediary entity (generally another C corporation) where the acquirer borrows the funds used for the purchase. On a later sale of assets of the target, the sales proceeds are used to pay back the lender, leaving no funds in the corporation to pay taxes. Typically, the intermediary has few other assets and is generally judgment proof. This leaves the IRS frustrated in its attempts to collect the taxes on the asset sale (particularly where foreign parties are involved). Aside from the consolidated return area, former shareholders are generally not responsible for a C corporation’s tax, interest, and penalties.
The Green Book proposes creating a shareholder liability for certain selling shareholders who dispose of 50% or more of the stock of an applicable C corporation within a 12-month period. This liability would apply if the C corporation is assessed, but does not pay, a tax within 12 months before or after the date the stock was sold. A former shareholder’s liability would be limited to the consideration received on the stock sale, and would be collectible by the IRS despite state shareholder liability limitation statutes.
An “applicable C corporation” is a C corporation (or successor) with two thirds or more of its assets consisting of cash, investment assets, or assets that are the subject of a contract of sale, or whose sale has been substantially negotiated on the date that the controlling interest is sold. This shareholder liability would not apply to a controlling interest in certain REITs or RICs.
This rule, if passed, is intended to be retroactive for sales of controlling interest of stock in an applicable C corporation occurring on or after April 10, 2014.
Impose an affirmative duty to disclose a position (Form 8275-R) that is contrary to a regulation: For returns filed after the date of enactment, there would be an affirmative duty imposed on taxpayers to disclose a position contrary to regulations. Except for reasonable cause exception (not due to willful neglect), failure would produce a penalty of 75% of the decrease in tax caused by a position with a minimum of $10,000 and a maximum of $200,000 (adjusted for inflation).
The Green Book states that the penalty would not apply if the taxpayer reasonably believed its position was consistent with the regulations.
Modification to the Centralized Partnership Audit Regime (CPAR) Rules: The CPAR rules (involving the audit rules for most partnerships, unless an election out is made for certain small partnerships with certain types of partners) would be subject to two changes:
- On an audit by the IRS producing a net negative adjustment (i.e., an increase in deductions or a reduction of income within certain separate groupings), the partner must determine the reduction in tax that would have applied in the year under examination, but takes the benefit of the tax savings as a tax reduction in the current year. Under current law, this benefit is limited to the partner’s current year tax. If the benefit that would have been received in the prior years exceeds the current year tax, the excess is lost. The proposal would make the excess refundable in the current year.
- The CPAR audit rules would also apply to self-employment income tax and net investment income tax.
Address Expatriate Noncompliance: U.S. taxpayers who renounce their U.S. citizenship or abandon lawful permanent resident status must file Form 8854, Initial and Annual Expatriation Statement, with their tax returns to provide information about the exit tax due. The new proposals would establish that a failure to file Form 8854 would cause the assessment period to be extended until three years after the date on which the Form 8854 is filed with IRS.
The IRS would be granted authority to provide relief for certain covered expatriates — e.g., a narrow class of lower-income dual citizens with limited U.S. ties. This rule would be effective for tax years beginning after December 31, 2022.
Simplification of Foreign Exchange Rules: The proposal would:
- Increase the amount exempted from federal income tax for personal transactions involving foreign currency from $200 to $500;
- Permit individuals living and working abroad to use an average rate for the year to determine income and expense conversion; and
- Allow individuals to claim foreign currency losses relating to mortgage debt on a personal residence sold, to the extent of such gains.
The changes would be effective on the date of enactment.
Increase in the Threshold for Simplified Foreign Tax Credit Rules and Reporting: Currently, a taxpayer can use a simplified procedure to compute the foreign tax credit when the only foreign income is passive income and the amount is $300 or less ($600 if joint return) for a taxpayer whose only foreign income is passive income.
Since these thresholds have not been adjusted for some time, the proposal would double the thresholds to $600 ($1,200 for joint filers) for tax years beginning after December 31, 2022.
Extension of Period of Time to Assess Tax for Large Omissions of Income: The limitations period for the IRS to assess tax would be increased to six years if the taxpayer omits $100 or more of income on their tax return, effective for returns required to be filed after the date of enactment.
Modernize Rules for Digital Assets
Digital Asset Loans: Generally, IRC Section 1058 says that no gain or loss is recognized by a taxpayer that lends securities if the transfer of a security is under an agreement that meets certain requirements. However, this section does not currently apply to a loan of digital assets since the IRS does not treat digital assets as securities.
The proposal would amend Section 1058 to include loans of actively traded digital assets if the loan has terms similar to those required for loans of securities. However, certain limitations will need to apply (for example, if the holder receives other digital assets during the period the digital assets are held). The IRS would be given the authority to determine if a digital asset is actively traded or not.
Amend Mark-to-Market Rules to Include Digital Assets: IRC Section 475 would be amended to specifically add digital assets (to the current classes of securities and commodities) as assets eligible for mark-to-market accounting at the election of a dealer or trader. The IRS would establish the rules that would apply to digital assets under this section. It is not clear how they might be different from those that apply to the other classes of assets covered under this code section.
Digital Asset Information Reporting: Brokers would be required to report gross proceeds and other information required by the IRS relating to sales of digital assets of both U.S. and non-U.S. customers. For certain entities, information would have to be provided about such entities’ substantial foreign owner (permitting information sharing with foreign jurisdictions).
Foreign Digital Asset Account Reporting: An account that holds digital assets maintained by a foreign digital asset exchange or other digital asset service provider (based on where the exchange or service provider is organized or established) would be added as a specified foreign financial asset for the purposes of determining if Form 8938 must be filed.
Modify Fossil Fuel Taxation
Since the baseline for this year’s Green Book includes revenue provisions of the BBBA, all of the green provisions are not included. However, it does re-propose several provisions:
The budget proposals would repeal the following (generally effective for tax years beginning after December 31, 2022):
- The enhanced oil recovery credit for eligible costs attributable to a qualified enhanced oil recovery project.
- The credit for oil and gas produced from marginal wells.
- The expensing of intangible drilling costs.
- The deduction for costs paid or incurred for any qualified tertiary injectant used as part of a tertiary recovery method.
- The exception to passive loss limitations provided to working interests in oil and natural gas properties.
- The use of percentage depletion for oil and gas wells.
- Two-year amortization of geological and geophysical expenditures by independent producers (in lieu of seven-year period).
- Expensing of exploration and development costs.
- Percentage depletion for hard mineral fossil fuels.
- Capital gains treatment for royalties received on the disposition of coal or lignite.
- Corporate income tax exemptions for publicly traded partnerships with qualifying income and gain from activities relating to fossil fuels (effective for tax years beginning after December 31, 2027).
- The Oil Spill Liability Trust Fund excise tax exemption for crude oil derived from bitumen and kerogen-rich rock.
- Accelerated amortization for air pollution control facilities.
- The drawback of OSTLF excise tax when produce is exported.
In addition, the Superfund excise tax on crude oil and imported petroleum products would be extended to other crude products.
This is a brief summary of the proposed revenue provisions contained in the Treasury explanation. There is no legislation in order to understand specific rules and operation of these proposals.
At this time, we do not know what provisions, if any, will pass or be modified given the current economic and political climate. However, it is important to be aware that these changes are being proposed when considering current tax planning.
If you have any questions on the above Green Book summary, do not hesitate to reach out to your Marcum tax professional.