The fiscal 2016 Budget presented by President Obama to Congress in February contains a number of tax proposals that could effect US citizens living abroad. A summary of the major proposals follows.

A New ‘Fair Share Tax’

The proposal would impose a new minimum tax, called the Fair Share Tax (FST), on high-income taxpayers. The tentative FST would equal 30 per cent of AGI less a certain credit for charitable contributions. The amount of FST payable (the excess of tentative FST over regular tax) would be phased in starting at $1 million of AGI (married filing jointly) and would be fully phased in at $2 million of AGI. This proposal will primarily effect taxpayers with income more than $1 million and a significant amount of itemised deductions.

Other Reforms That Affect Upper Income Taxpayers

One proposal is to reduce the tax benefit of certain tax deductions and exclusions. The proposal would limit the tax benefit of certain itemised deductions or exclusions from adjusted gross income (AGI) and all itemised deductions. This limitation would reduce the tax benefit to 28 per cent of certain exclusions and deductions that would otherwise reduce taxable income in the 33 per cent, 35 per cent, or 39.6 per cent tax brackets. A similar limitation also would apply under the alternative minimum tax. For example, if a taxpayer who is in the 39.6 per cent bracket has mortgage interest of $100,000 the current law reduces the tax that they owe by $39,600. Under the proposal the tax benefit would be limited to 28 per cent x $100,000 = $28,000.

Increase the Tax Rate On Qualified Dividends and Long Term Capital Gains

The proposal would increase the long-term capital gains and qualified dividend tax rate from 20 per cent to 24.2 per cent. The 3.8 per cent net investment income tax would continue to apply as under current law, so that the maximum total capital gains and dividend tax rate would be 28 per cent. As an example, if a taxpayer who is in the 39.6 per cent bracket has $200,000 of long-term capital gains and qualified dividend they currently pay $47,600. Under the proposal the tax would increase to $56,000.

Limitation On Retirement Benefits

The proposal wants to limit the amount of retirement benefits that an individual would be entitled to upon retirement. Under current law that limitation is $210,000. Under the proposal a person who has already accumulated amounts within the pension plan in excess of the amount necessary to provide the maximum annuity permitted for a qualified defined benefit plan (currently an annual benefit of $210,000 payable in a joint and survivor benefit commencing at age 62) would be prohibited from making additional contributions. Given that the majority of Americans do not have enough saved for retirement, why does President Obama want to punish those who have been over diligent in saving for retirement?

Limitation of Conversions From An IRA to a Roth IRA

The proposal would permit amounts held in a traditional IRA to be converted to a Roth IRA only to the extent a distribution of those amounts would be includible in income if they were not rolled over. Therefore, after-tax amounts held in a traditional IRA could not be converted to Roth amounts. Since after-tax contributions could, in some cases, be made to Roth IRAs tax-free from a 401(k) plan, a similar rule prohibiting tax-free conversions from retirement plans is also being proposed.

Restore the Estate and Gift Tax to That In Effect In 2009

The estate and gift tax law has been treated as if it was a football and kicked around by both the President and Congress such that it has changed every year since 2000. President Obama’s proposal to again change the law would make permanent the estate and gift tax parameters as they existed in 2009. The top tax rate would be 45 per cent and the exemption amount would be $3.5 million for estate taxes, and $1 million for gift taxes. There would be no indexing for inflation. The proposal would confirm that in computing estate and gift tax, there would be no tax incurred because of decreases in the exemption amount with respect to a prior gift. Provisions for portability would be included.

Annual Per Person Gift Tax Exclusion

Under current law you can make a gift of up to $14,000 a year to an individual without being subject to gift tax. So if you have 10 grandchildren you can give each of them a gift of $14,000 on their birthday without having to pay gift tax. President Obama’s proposal would eliminate the $14,000 annual exclusion. Instead, there would be a new category of gifts, and would impose an annual limit of $50,000 per donor on the donor’s transfers of property. Hence, a donor’s transfer of property in a single year in excess of a total amount of $50,000 would be taxable.

Tom Brady, the Super Bowl MVP and a Truck

What does this have to do with income and gift tax? After Tom Brady was voted as being the MVP of the recent Super Bowl one of his awards was truck worth about $50,000. As Tom Brady lives in an apartment in New York City he likely has little need for a truck. The lowly paid cornerback who made the interception that sealed the win admired the truck and wished that he had one just like it. Tom Brady was then cajoled by the media into giving the truck to his team-mate and when he did not immediately respond was vilified as being greedy. Either Tom Brady or one of his advisers is very astute in income and gift tax law.

Since Tom Brady had to perform some type of service to win the truck the fair market value of the vehicle, $50,000, is considered compensation and Tom Brady would likely have paid $25,000 in Federal and State income tax had he accepted the truck. And as the gift to his team-mate would have exceeded his $14,000 per person annual exclusion Tom Brady would have to pay about $14,400 in gift tax or $39,400 in total. Tom Brady, either wisely or with wise counsel, declined the truck and the company awarded it directly to his team-mate who likely paid a lot less in income tax then Tom Brady would have had to pay.

Service, any tax advice in this communication is not intended to be used, and cannot be used, for the purpose of (I) avoiding penalties imposed under the United States Internal Revenue Code, or (ii) promoting, marketing or recommending to another person any tax related manner.

The tax advice given by this column is, by necessity, general in nature. You should, of course, check with your own US tax consultant as to how specific transactions affect you since tax advice varies with individual circumstances.

James Paul Sabo, CPA, is the President of ETS Ltd, PO Box HM 1574, Hamilton HM GX, Bermuda. Questions should be sent to: jsabo@expatriatetaxservices.com