Wealthy people in the U.S. often pay little, if any, income tax but what is the real reason?
It appear as if Donald Trump could have been avoiding paying federal taxes for close to 18 years because of a $1 billion tax loss but that is not the reason most of the wealthy can successfully avoid paying income taxes, according to The Atlantic in “The Tax Code for the Ultra-Rich vs. The One for Everyone Else.“
Trump has received criticism during the Presidential election for not releasing his income tax returns because he is being audited but some of the mystery may have been solved when the New York Times published three pages from his leaked state tax returns from 1995.
The bigger issue behind why many wealthy do not pay income taxes is the way in which capital gains are taxed or in some cases not taxed. Capital gains are not taxed until they are realized, that is until the underlying asset is transferred. If the owner of the asset passes away without having sold the asset, then his or her heirs receive the asset with a step-up basis. They do not have to pay capital gains on any increased value of the asset that accrued before they received it when they decide to sell it.
As part of his plan for estate tax reform, President Obama has proposed eliminating this step-up basis.
Whether or not you agree with the wisdom of the current laws that allow many wealthy people to pay little in income tax, it is important to know the real reason it happens because that is what politicians are likely to be looking at when the estate tax comes up again in Congress.
An estate planning attorney can advise you on the capital gains laws and how they affect your particular circumstances.