The Tax Cuts and Jobs Act (TCJA) will be back in the news soon, as our editor-in-chief Bruce Brumberg predicted at our recent sold-out financial-planning conference. The provisions in the law that changed individual taxation and affect stock compensation are all scheduled to end after 2025 (see the article Six Ways Tax Reform Affects Your Stock Compensation And Financial Planning at myStockOptions.com). In 2026, the current tax law will revert to the 2017 rates and rules unless it is extended. Leading up to the November midterm elections, Republicans in the House of Representatives plan to vote on making the provisions permanent ("Tax Reform 2.0"), similar to the corporate tax changes. Kevin Brady (R–Texas), the House Ways & Means Committee Chairman, plans to distribute a draft of a second tax package after the July 4 recess, release the "legislative outline" in early August, and hold a vote on it during the fall, as reported by The Hill. Republicans are attempting to make this a campaign issue in the midterm elections and see it as a way to highlight their legislative achievement in the TCJA.
The legislation may also include some favorable tax changes related to retirement plans and may increase the amount of tax-free benefits companies can provide for education assistance and student-loan repayment, according to the Society for Human Resource Management. While the bill is likely to pass the House, efforts to make the individual tax cuts permanent stand little chance in the Senate, given that 60 votes would be needed to enact it. The Senate will not use the procedure that allowed the TCJA to pass with a simple majority and will instead require the 60 votes needed to stop a filibuster.
Capital Gains Indexing
The indexing of capital gains for inflation is a long-recurring idea that has been recently reintroduced. As explained at the tax-developments session at the recent myStockOptions financial-planning conference, capital gains indexing would routinely increase the cost basis of investments, such as company stock, for inflation. This would reduce the size of your taxable proceeds at sale, as only the inflation-adjusted capital gain would be taxed.
Example: Imagine restricted stock units (RSUs) vested when the stock price was $20 per share, or you bought company stock in the open market at that price. That will be the cost basis of those shares whenever you sell them. With capital gains indexing, assuming 2% inflation per year for five years before you then sell the stock at $30 per share, your basis would instead be approximately $22 at sale. You would then have $8 in long-term capital gain, compared with a $10 gain under the current tax treatment.
The concept of capital gains indexing has been around for a while, as shown in a report issued by the Congressional Budget Office back in 1990, when long-term capital gains did not have preferential tax rates. It seems likely to be part of the "Tax Reform 2.0" provisions for several reasons: Brady mentioned it; the Capital Gains Inflation Relief Act of 2018, recently introduced in the Senate, seeks to make this the tax treatment for assets held at least three years; and similar legislation was introduced in 2006 by the current vice president when he was in Congress.
What is increasing the likelihood of capital gains indexing is that Larry Kudlow, the new national economic advisor at the White House, is a big supporter of it (see an article he wrote). In addition, it's been reported that the president is considering an executive order that would require the Treasury Department to issue new regulations that index the capital gains cost basis for inflation. This route to a tax change would be controversial, as it would have a budgetary impact and would probably be perceived as yet another tax break for the wealthy (see an analysis by the Wharton School at the University of Pennsylvania). Nevertheless, capital gains indexing was considered by some past presidents, as noted in an article from Bloomberg. The regulatory issue is whether the definition of "cost" in Internal Revenue Code Section 1012 is vague enough to allow for interpretation through new rules. Should that happen, it will have a disruptive effect on many financial-planning strategies, though it could make stock compensation even more attractive.
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