President Joe Biden could soon find out that raising taxes on billionaires is more complicated than it seems.
The new president wants the rich to pay much more in taxes, in order to finance a $1.8 trillion plan to invest in things like child care, education, and tax cuts for the poor that are meant to reduce inequality.
But standing in the other corner of the ring is a sophisticated wealth management and accounting industry that is ready to fight, eager to temper every aggressive proposal and exploit every loophole to please their clients who pay them big bucks to defend every dollar.
Over the next few months — and over the next few years, if Biden’s plan manages to pass in some form or another — these forces will collide. Passing the tax bill is only the first step. The execution could be harder. No matter Democrats’ intentions, they may find that their plan lets tech billionaires off the hook.
And so the wealth management industry is brimming with a cocksure optimism that they can outsmart the bureaucracy.
“The wealthy will find ways around it,” predicted one wealth manager. “There’s too many ways — perfectly acceptable ways — to defer, minimize, or even avoid taxes.”
What wealth managers and pro-tax activists share is a belief that the Biden proposal poses more of a threat to millionaires than it does to billionaires — because billionaires often can be more patient when it comes to dealing with taxes, choosing the exact moment that they want to pay them. Millionaires will have to work harder to find clever workarounds.
The Biden plan would increase the federal rate for individuals making over $450,000 a year to almost 40 percent. It would increase the ultra-rich’s capital gains tax rate — the tax rate paid by wealthy entrepreneurs when they sell a company or wealthy investors when they sell a stock — to a sum of over 40 percent. The White House would end the so-called “Angel of Death” loophole that allows the wealthy to effectively avoid capital gains tax altogether by not assessing the tax if the asset is passed along to an heir. And crucially, Biden plans to increase the enforcement firepower of the IRS, a move that the administration thinks could raise over a third of the $1.8 trillion in revenue targeted by the tax overhaul.
And it’s true that these proposals have sent at least some of the ultra-rich screaming for the brake pedal, more than half a dozen wealth managers and accountants for some of Silicon Valley’s wealthiest families told Recode.
Over the last few weeks, more than a few wealthy executives and investors — including those who made their fortunes in the tech industry — have fired off emails and marched into meetings with their money managers in a state of panic. Would they really have to pay a capital gains tax that could mean more than half of their yearly earnings go to either the federal or California government? Would their children really be unable to access the intergenerational wealth that the family’s patriarchs and matriarchs worked so hard to build?
Yes, there are “mini freakouts in every client meeting we have,” said one wealth manager for Silicon Valley’s rich.
To prepare for a world in which Biden’s plans might become reality, wealthy people across the Bay Area are rushing to have their teams draw up legal documents to try to prepare for Biden’s plan potentially passing. One source relayed that tax lawyers he works with have already put out word that they will not take any more clients after September because they are anticipating so much last-minute 2021 business. Another said he’s noticed more and more clients talking about moving to tax-friendly Puerto Rico in the aftermath of the Biden proposal.
But there’s a litany of reasons that the tax experts aren’t as concerned as their clients are. And it’s not just because activists and wealth managers expect the Biden plan to be significantly watered down if and when it eventually passes Congress.
There’s the obvious — that the hike in the upper-most tax bracket matters little because the 0.01 percent don’t make their fortunes through a salary; they make it by founding or investing in companies. There’s the sorta obvious — that the increase in the capital gains rate can be circumvented if the wealthy avoid “realizing” the gain at a time when that higher rate is in place. And then there’s the even less obvious — that mega-billionaires can quite successfully go to great lengths to avoid ever paying a capital gains tax by using loans, charitable contributions, and a byzantine system of trusts to keep their fortunes from Uncle Sam.
To Gabriel Zucman, an influential progressive economist who studies tax payments from billionaires, the Biden plan has a “serious limitation.”
“If you’re Jeff Bezos or Elon Musk or the tech billionaires, it’s very easy to hold onto [your] shares and at the same time to borrow money to buy stuff — homes, private jets, or any type of consumption,” Zucman said. “The other thing in the Biden plan is to have taxation of capital gains at death. But obviously most of these tech billionaires are quite young, which means that they could still pay very little tax as a fraction of the wealth for many years and perhaps even several decades.”
Essentially, the tech titans will resist selling shares in a year when the Biden capital gains hike is in effect (not that active executives do much of that selling to begin with, out of fear of spooking the stock market). And that even if Biden succeeds with his plan to ax the provision that allows billionaires to ever avoid paying capital gains tax by bequeathing the asset to an heir — a privilege called the “step-up” basis, or the aforementioned Angel of Death loophole — Silicon Valley’s ultra-rich may have to pay more, but not until decades from now when they die.
The irony is that Zucman, the academic brains behind liberals’ calls for a wealth tax, largely agrees with the wealth defense industry on one key point: That the ultra-rich will be able to successfully fend off some of the Biden plan’s most intrusive proposals, potentially defanging the administration’s plan to raise hundreds of billions in tax revenue. The difference is that to Zucman, that’s why Biden needs to go even bolder. To wealth managers, that’s maybe why Biden shouldn’t even try.
“Regardless of where clients fall on the political spectrum, none of them are excited to pay more taxes,” said one wealth manager. “I never met a client, regardless of their political affiliation, that isn’t excited about proper estate planning.”
Billionaires or even regular-old millionaires hire these financial aides to preserve their assets. Beating the Tax Man is why they are paid. And so the industry in Silicon Valley is already strategizing about what exactly it will do.
When it comes to the capital gains tax, expect Silicon Valley titans to rush to lock in their gains at this year’s lower rate (assuming the final tax plan does not apply retroactively, a provision that will be vigorously fought.) That means that a rash of startups may look to sell toward the end of the year. Or that investors who feel they need to sell stock at some point soon may do so this year rather than next. Research on previous capital gains hikes shows that there is often a spike in realizations in the year before a new tax takes effect, according to Chye-Ching Huang, a tax policy expert at NYU.
Others may not sell at all, hoping that a new administration or a new Congress may reverse the cuts altogether. And in the meantime, billionaires may take out more loans using their stock holdings as collateral — a common practice for tech titans, as Zucman pointed out.
Wealth managers concede that evading capital gains tax at death will be difficult without the Angel of Death loophole. But they still have a few tricks up their sleeves. They say their clients in their wills will direct more and more of their appreciated fortunes to charity rather than to the US Treasury. (“Charity is a way of maintaining family wealth, not depleting it,” one wealth manager remarked.) They will — and in recent months, already have — ramp up their estate planning, which is the engineering of a complex web of trusts and companies that the rich build to pass money on to their heirs, part of an attempt to die while technically owning nothing in their name.
“If you’ve done a good job, you die with nothing,” remarked one aide to Silicon Valley’s ultra-rich. “In theory, the step-up doesn’t matter because you’ve already given all your assets to your kids, and so who cares? You spend your last dollar the day before you die.”
And even if avoiding the provision is impossible, the tax bill — and the tax revenue, to progressives’ chagrin — won’t come due until the billionaire dies. So for young tech billionaires, this is a problem for the distant future. Who knows what America’s tax policy will look like then? And for progressives, that means less money today to solve today’s problems.
Then there’s also the more general sense that the house always wins, so to speak. Wealth advisers are already trading ideas back and forth for new, underutilized tax hacks, for instance, that could be pursued more aggressively. It’s hard to predict precisely which loopholes will emerge in a new federal tax bill, but it’s remarkable that both tax activists and wealth advisers share this view that the tax avoidance industry will remain strong.
Biden’s plan seeks to combat that by spending $80 billion to beef up the investigative and enforcement capabilities of the IRS. But there is ample skepticism that the Biden plan will raise the $700 billion in revenue that it seeks — in part because the ultra-rich are so good at the cat-and-mouse game.
What is shaping up in Silicon Valley is a battle not just of laws and lobbying, but of wits and wiggle room. Tax activists concede that the wealth managers may have the upper hand in the short run, but hope that they will cut into the fortunes over the long run.
That money, says Huang, would allow America to “make permanent investments in children and families — that are not the heirs to multibillion-dollar families.”