If you haven’t heard of Retroactive Tax Moves, you’re not alone. More than half of the population has experienced the wrath of Uncle Sam. While you’re paying your taxes on the current year’s income, you might be wondering why retroactive taxation is a problem. You may be a victim of retroactive taxation without even realizing it. Retroactive taxation is when the government changes its tax laws retroactively and applies them to earlier years.
If you’ve made a lot of capital gains over the last several years, you could soon see your gains tax rate increase. The Biden administration has proposed increasing the capital gains tax rate to 39.6% from 20%. This could start as early as April 2021, but it would still affect people with incomes above $1 million. If you’re a capital gains taxpayer, you may want to make preparations now to avoid the tax hike.
You may also be able to use the tax extenders to extend current breaks to future years. For example, if you’re a Colorado taxpayer who owns a partnership or S corporation, you shouldn’t expect a refund for 2018. These timing deductions will be postponed until the “all events” and “economic performance” tests are met. Also, the top rate for cash basis taxpayers will be 6 percent and the second highest rate will drop from 3.1 percent to 3 percent.
If the government introduces the legislation soon, retroactive tax moves might be a reality. However, it’s unlikely that Congress will pass a tax bill before early next year. And large numbers of taxpayers are likely to start filing their tax returns for 2021 early next year. Thus, practicality might be less of a concern. So, what’s the problem with retroactive tax moves? Let’s examine the legality of retroactivity in the context of tax reform.
The Green Book is another example of retroactive tax moves. While retroactive tax increases will make the taxes on capital gains higher, they will not prevent an investor from selling investments. By backdating the tax increases, the government hopes to prevent a “rush to market,” in which investors sell their investments to avoid the imminent hike in rates. That said, retroactive tax moves may be a problem for some business owners. It’s worth meeting with a tax advisor now to avoid a potential retroactive tax hike.
Congress must act to prevent retroactive tax legislation. It’s critical to remember that ex post facto clauses apply to Congress and state legislatures. And they have been interpreted as only applying to criminal laws. Therefore, Congress should pass legislation that makes retroactive tax moves less likely. Once the legislation is passed, it will likely be challenged in the courts. Once this happens, there’s a big problem on the horizon.
Many tax experts worry about the effect of retroactive tax moves. The uncertainty of substantial changes leaves taxpayers looking for a more stable ground. Nevertheless, the U.S. Constitution explicitly states that “no law shall be passed ex post facto.” Therefore, taxpayers should rely on published law to enter transactions. When retroactive tax increases are unconstitutional, they must be justified by a legitimate legislative purpose and rational means.