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Investors fearful of President Joe Biden’s proposal to raise taxes on capital gains might be thinking about making a knee-jerk stock sale.
Doing so may inadvertently trigger another investment tax, according to financial advisors. And it’s one that kicks in at a low level of income relative to Biden’s plan.
“You could end up in a situation where you go off and sell everything to avoid the capital gains rate, and you could end up paying that extra tax,” said Leon LaBrecque, an accountant and certified financial planner at Sequoia Financial Group in Troy, Michigan.
The additional tax is a 3.8% Medicare surtax on net investment income — like gains from the sale of stocks, bonds and mutual funds.
It took effect in 2013 to help fund Medicare expansion under the Affordable Care Act.
The levy applies to single taxpayers with modified adjusted gross income exceeding $200,000 and married couples filing jointly with more than $250,000 in income. (The thresholds aren’t indexed annually for inflation.)
About 5 million taxpayers paid the surtax in 2018, according to the IRS. The tax raised $30 billion.
Meanwhile, Biden is proposing a higher top tax rate on long-term capital gains — 39.6% versus the current 20% — to help fund the $1.8 trillion American Families Plan.
That top rate would apply to households with more than $1 million in annual income.
But less-wealthy investors who make a snap decision to sell their holdings may wind up pushing their 2021 income above the Medicare surtax threshold. They’d pay an extra 3.8% tax on their investment income.
“I think a lot of people are probably going to knee-jerk it, and they’re probably not people who make more than $1 million,” LaBrecque said.
However, some advisors think asset sales will likely be limited largely to millionaires who are already subject to the 3.8% tax — in which case the extra selling wouldn’t trigger any additional tax.
“I don’t know that it overly concerns me,” said Jeffrey Levine, a CFP, accountant and chief planning officer at Buckingham Wealth Partners in Long Island, New York.
“Those who are so worried about capital gains they’re looking to sell now to avoid a future hike are probably already over the $200,000/$250,000 [surtax] threshold,” he said.