President Biden's tax proposal and its effects on estate and income tax planning for physicians

This article is sponsored by Wall Street Alliance Group.

While physicians provide a vital service to the U.S., they often have blind spots when it comes to maintaining their own financial health. Many in the medical field believe that financial planning is as simple as having an IRA account and that estate planning will be taken care of by a will. Unfortunately, particularly for those in this profession, financial planning is more important than ever, and President Biden’s proposed tax changes could have a profound effect on physicians’ financial planning in particular. Working with a fiduciary financial advisor to understand how the new laws affect physicians and implementing strategies that can lessen the impact is key to navigating these changes.

Who will be affected?

The first category who will be impacted is those with an income over $400,000, which is not rare for those working in medicine. The marginal tax rate will increase from its current 37% rate to 39.6% for these individuals. Social Security taxes will also increase to 12.4%. As an added challenge, itemized deductions, a tax-saving strategy for many, will be phased out for those with an income higher than $400,000.

The second impacted group is those who are making over $1,000,000. For those in this tier, there will be a significant increase to the long-term capital gains tax. At a new rate that is 20% higher than where it was previously, the tax rate for capital gains will now be 43.3%.

Lessening the impact

There are several strategies that can be employed. As the “magic number” for income is $400,000, ideally these strategies will lower the overall income amount to get it below that amount.

For self-employed physicians, we propose maximizing contributions to the types of investment vehicles available:

Cash benefit plans
SEP IRA, IRA, or HSA account

For physicians employed at hospitals, the strategy for investment is largely the same; only the types of accounts may vary. Again, to lower overall income, maxing out contributions is the key:

401(k), 457(b), and 409(a) plans
Backdoor Roth IRA accounts

Many physicians own their practice’s building, and there’s been a real estate ownership increase in general since 2018. Real estate can provide tax savings as well.

Opportunity zones: Investing in low-income areas with this designation will provide returns with zero capital gains tax if held for 10 or more years.
Cost segregation: Accelerating the depreciation schedule of a building down to at little as 5 years through a cost segregation analysis can provide large tax savings.
Charitable contributions: For those who have a philanthropic bent, charitable giving can reduce overall income through trusts designed to provide income while also allowing for charitable giving.

Biden’s tax changes and estate planning

One of the challenges that the proposed tax changes present is doing away with the step up in basis for inherited stocks. Coupled with this, the current estate tax exemption amount of $11.7 million will go down to $5.49 million in 2025, meaning for any assets over that amount will be taxed at about 40%, leading to substantial estate taxes for families of wealthy individuals.

To minimize the amount in an estate and save beneficiaries from large tax bills, we propose several strategies:

Irrevocable trusts: By funding an irrevocable trust for your beneficiaries, you will lock in that exemption limit. You can also put appreciated assets into a trust to avoid capital gains taxes. You can even move your life insurance into the trust to save your beneficiaries the taxes on the death benefit. All of this while also ensuring those assets aren’t counted in your estate.
Second-to-die life insurance policy: This relatively inexpensive policy pays out a death benefit when the second spouse passes. The payout can be used to cover the ensuing estate taxes.
Annual gifts to children: An individual can gift $15,000 tax-free annually to each child, removing funds from your estate while still giving them to your heirs.
Charitable Remainder Trust: These trusts can be used to reduce taxes while also giving money to both your beneficiaries and the charitable organizations of your choice.

Estate planning under the SECURE Act

When the SECURE Act went into effect in 2020, the new rules stipulated that beneficiaries of an IRA must exhaust the account balance within 10 years, rather than the lifetime previously allowed. This could result in substantial income taxes due for large accounts. We recommend several strategies including:

Roth IRA conversions: While these accounts are subject to the same 10-year rule, there are no taxes on distributions.
Using IRAs first: By using IRA accounts for living expenses and leaving Roth IRA accounts to be inherited, the Roth IRA can continue to grow tax-free and will not be taxed on withdrawal by beneficiaries.
Life insurance: Inexpensive policies like second-to-die policies can be purchased so that the death benefits cover taxes for beneficiaries.
More QCDs from IRAs: Qualified Charitable Distributions are RMDs taken and then immediately used for charitable giving.

The main thing to keep in mind with all of these changes is that the way to lessen their impact for every situation is unique. Physicians lead busy lives, personally and professionally, and it is important to work with a fiduciary financial advisor, who has a legal responsibility to work in your best interest. The best plan for your financial future and ongoing legacy is likely a combination of several strategies to make sure that retirement, estate planning, and asset protection are all considered for overall security.

Syed Nishat and Aadil Zaman are partners, Wall Street Alliance Group. They are regularly quoted and interviewed in media outlets like Medical Economics, Forbes, US News, Bloomberg, and Yahoo Finance.

Securities are offered through Securities America, Inc., member FINRA/SIPC. Advisory services offered through Securities America Advisors, Inc. Wall Street Alliance Group and Securities America are separate companies. You should continue to rely on confirmations and statements received from the custodian(s) of your assets. Securities America and its representatives do not provide tax or legal advice; therefore, it is important to coordinate with your tax or legal advisor regarding your specific situation.

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