Hartford Business Journal

24 HARTFORDBUSINESS.COM | JUNE 28, 2021 FOCUS: WEALTHIEST PEOPLE 'Net worth' tax could be crimped by valuation and other issues By Martin Daks Special to the Hartford Business Journal S ome politicians have proposed a tax on "net worth" that exceeds $50 million. Proponents say the so-called Ultra-Millionaire Tax Act would help reduce the U.S. wealth gap, which has been exacerbated by the COVID pandemic. "The ultra-rich and powerful have rigged the rules in their favor so much that the top 0.1% pay a lower effective tax rate than the bottom 99%, and billionaire wealth is 40% higher than before the COVID crisis began," said bill co-sponsor Sen. Elizabeth Warren (D-Mass). "A wealth tax is popular among voters on both sides for good reason: because they understand the system is rigged to benefit the wealthy and large corporations." But it's important to note that "the wealth tax would be an annual tax, not a one-time occurrence," said Jay Sattler, managing tax principal at the West Hartford office of Clifton Larson Allen, a national wealth advisory, outsourcing, audit, tax and consulting firm. "Although the proposed tax sounds modest — 2% annually on the net worth of households and trusts between $50 million and $1 billion, and a 1% annual surtax (for a 3% overall rate) on the net worth of households and trusts above $1 billion — on a compound basis, it could be far more costly than the current estate tax," he said. And valuation could be a big challenge. "How do you ascertain what the assets are worth at a particular time?" Sattler wondered. "It's easy for publicly-traded stocks — just look at the day's listing for the New York or other stock exchange. But what about a privately-held business, or one that's owned by a private equity investment? And are an individual's 401(k) or IRA holdings included? What about other non-liquid assets like their home, their car, or their life insurance policies? There are a lot of financial and philosophical challenges related to a net worth tax." "I don't think it will discourage investments, but a net worth tax, or another proposal that calls for eliminating the 'step-up basis' for estate tax purposes (which currently generally revalues an appreciated asset to market value for tax purposes upon inheritance) may drive people to invest in things that are less easy to value," noted Amber Monaghan, a tax and business partner at the national accounting and advisory firm Marcum. She added that "it's not easy to establish an accurate market value for collectibles like art and cars, or for some VC-backed companies. And what if a sizable portion of your assets is illiquid — how will you pay the net worth tax? That's why, generally, net worth is currently not taxed until there's a realized event, like the sale of assets that generate a gain." PHOTO | ADOBE STOCK income, expanding the range of income subject to Social Security taxes, increasing the capital gains tax rate, and eliminating the "step-up basis" for estate tax purposes (currently, the base value of an appreciated asset is readjusted, generally tax-free, to market value for tax purposes upon inheritance) — have prompted questions from some of Sattler's high-net-worth clients. "We've had more discussions, but it's difficult to give concrete advice right now since they're just proposals," he said. "They may not get passed, or they may pass with various modifications to the current proposal. With that said, we are actively alerting clients of potential changes and addressing their concerns to ensure they are properly positioned." The prospect of higher federal taxes can also have a local impact, he added. "They may spur more interest among those who want to minimize their local taxes as well, which in some cases might prompt a review of their state tax position driven by their state of residency. Some taxpayers move to Florida or other low-tax states because they're retiring and want to be near their family," he said. "But another tax hike could tip the balance, especially since the pandemic-spurred spike in long-term remote work has demonstrated that people can successfully work from home. If they can run their business and keep more of their earnings, more people may be attracted to states like Florida or Texas." Getting to know you Amber Monaghan — a Hartford and New Haven tax and business partner at the national accounting and advisory firm Marcum — said the tax planning process often starts with a deep dive into a client's personality. "When we're working with a high- net-worth client, it's often within the structure of a family office," she said, referring to a privately-held company that handles investment and wealth management. "One of the first steps is to find out about the members' risk tolerances and their goals. At the same time we familiarize ourselves with their investment structures, which may include trusts, life insurance and other vehicles." One potentially useful approach involves an intentionally defective grantor trust (IDGT), which is often established for the benefit of the donor-grantor's spouse or descendants. It generally contains a provision that ensures trust income will be taxed at the donor-grantor level — which makes it tax "defective" for income tax purposes — but otherwise shields the underlying trust assets from being taxed at the grantor's estate-tax rates, which potentially could be higher. "For years this has been an effective tax strategy for wealthy families, but President Biden's proposed tax changes — if enacted — may reduce the effectiveness of an IDGT," she cautioned. "We've seen a surge of interest in people transferring their business interests to trusts — particularly during the COVID pandemic — since they may be able to value the business at a reduced amount, and when the economy rebounds and the business valuation rises, it will occur within the tax-advantaged trust structure. During this past November and December, estate-tax CPAs and attorneys were swamped with client calls." At the same time, Monaghan warned that any specific tax law changes are not certain, and she's in no rush to lock clients into new strategies before there's some clarity. Federal tax hikes could hurt CT Amber Monaghan Continued on page 27

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