With Higher Taxes Possible, Here’s What to Do Now

Some tax issues will play out later this year. One of them involves individuals who own businesses and pay the self-employment tax. They pay 12.4 percent of their income in Social Security taxes and 2.8 percent for Medicare, but only on the first $142,800. That cap could be lifted, making all income subject to the self-employment taxes.

One strategy is for owners to convert their business from a limited liability company to a subchapter S corporation, which could reduce the self-employment tax, said Edward Reitmeyer, a partner in charge of tax and business services at Marcum, an accounting firm.

But it has to be done carefully. What an S corporation pays in distributions from the earnings of the company itself is free from self-employment tax. But the owner of the S corporation can’t simply issue distributions to himself; he needs to take some amount of compensation that will be subject to the self-employment tax.

“The I.R.S. comes after you if your compensation is too low,” Mr. Reitmeyer said. “But with this structure, you’re at least prepared if there’s a change to unlimited self-employment tax on income.”

Perhaps the biggest concern for this year is what happens to the capital gains tax rate, currently 20 percent. Most wealth advisers are betting on an increase, probably to the same level as the tax on income. That is not such a jump for most earners, but it would be for someone in the highest tax bracket, 37 percent.

How much tax you pay on the increase in the value of your stock holdings is one of the few taxes you can control, since it’s up to you when you sell securities. But you need to calculate whether it makes more sense to sell securities that have appreciated, particularly after the run-up in 2020, and pay the tax now or hold on to them.

Several factors come into play here. If the strategy is to hold those securities until you die and not pay capital gains tax, that tax break could come to an end, as my column last week pointed out. The Biden administration could do away with the provision that sets the value of assets in an estate at the time of the owner’s death, erasing years of capital gains. The administration could instead require that heirs pay taxes on those gains when they sell the assets.

Article source: https://www.nytimes.com/2021/01/22/your-money/taxes-biden.html