A flurry of activity as policymakers head into the winter months

Washington Watch

Weeks of negotiations on Capitol Hill culminated with the early November release of a slimmed-down "Build Back Better Act," a $1.75 trillion economic package that focuses on climate change and social programs. The proposal, coupled with a bipartisan infrastructure spending package that was approved by Congress November 6, forms the heart of President Joe Biden's domestic agenda.

For investors and advisors, however, the big news is what's not in the bill: Many of the proposed tax increases that would have affected income, capital gains and estates were dropped from the bill. If the bill passes, most individuals will see no tax increases at all.

The revised package is about half the size of the $3.5 trillion proposal put forward in the House in September. That bill proposed a raft of tax increases on corporations and wealthy individuals, including a hike in the top individual income tax rate, increased taxes on capital gains and dividends for wealthier filers and a reduction in the amount of inherited assets exempt from the estate tax. But moderate Democrats in the Senate balked at the tax increases on individuals, producing a weeks-long stalemate as progressives and moderates haggled over the details of a compromise.

Both the House and the Senate still have to pass the revised proposal, so more changes could be coming.

The bill includes funding for expanded health care coverage, affordable housing, universal pre-kindergarten and other child-care programs, expanded Medicare benefits to cover hearing, and climate change and green energy provisions. But the compromise required eliminating a number of proposals that were priorities for the president and progressives on Capitol Hill, including Medicare coverage for dental and vision, free community college, a national paid family and medical leave program, and reduced prescription drug prices. Some of those provisions could be added back into the bill as the debate moves forward.

The revised legislation would be paid for by establishing a new 15% minimum tax for corporations, a tax on stock buybacks, investments in the IRS to boost enforcement, and a new surtax on the wealthiest taxpayers, among other provisions. The bill would levy a 5% surtax on individuals with adjusted gross income over $10 million, with an additional 3% tax on income above $25 million. 

But the compromise leaves a raft of tax proposal on the cutting room floor. The original $3.5 trillion bill proposed in the House would have increased the corporate tax rate and returned the top individual income tax rate to 39.6% That bill also proposed lowering the amount of assets exempt from the estate tax from $11.7 million to roughly $6 million and creating a new top tax rate of 25% (28.8% when adding in the Net Investment Income Tax that is already on the books) for capital gains and dividend income for filers with more than $400,000 in earnings. Each of those proposals was discarded in the November compromise bill.

Several retirement savings proposals were initially dropped from the legislation but have been added back in to the current version. The bill would require any individual who earns more than $400,000 and has an aggregate of more than $10 million in retirement accounts (including employer-sponsored plans, IRAs, and Roth accounts) to take required minimum distributions, regardless of age, of 50% of the amount above $10 million. Retirement savings amounts above $20 million would have even more stringent distribution requirements. The bill also prohibits contributions to a Roth or traditional IRA if the total value of the individual's IRA and defined contribution plan assets exceed $10 million and if the individual's income exceeds $400,000. Those provisions would take not take effect until 2029, giving advisors plenty of time to work with clients to address their situation.

The bill would also prohibit "back door" Roth conversions beginning in 2022 for wealthier filers. And it would prohibit all Roth conversions for filers with more than $400,000 in income beginning in 2032. Nothing in the bill is final, however, so all of the retirement provisions could be changed or dropped as the bill progresses through first the House and then the Senate over the next several weeks.

One other notable issue involves the state and local tax deduction (known as the "SALT" deduction). In 2017, the deduction was capped at $10,000, disproportionately impacting residents of high-tax states, including California, Connecticut, Illinois, Massachusetts, New Jersey and New York. Lawmakers from those states have been pushing for months to increase the cap. In early November, a deal was struck in the House of Representatives to increase the cap to $80,000 beginning in 2022 and running through 2030. The Senate could still alter that number, but changes to the SALT deduction look likely to be included in a final package.

For investors, advisor and financial planners, though, the dropping of most of the individual tax increase proposals represent a dramatic change of direction that should make the end of 2021 and the 2022 tax year much easier to navigate.

Debt ceiling, government shutdown loom in December

Meanwhile, lawmakers are wrestling with two other issues that have potentially significant market implications: a potential government shutdown and a debt ceiling crisis that could lead to default. Both now have early December deadlines. 

At the end of September, Congress averted a government shutdown by passing a temporary bill to keep the government funded and operating through December 3. And in October, facing a potentially catastrophic US default on its debts, lawmakers added $480 billion to the debt ceiling, buying some additional time to find a longer-term solution. The new deadline to address the debt ceiling? December 3 as well. The debt ceiling has the biggest potential to affect the markets, as an unprecedented default could be a disaster for the economy. Republicans on Capitol Hill continue to insist that they won't help Democrats raise the debt ceiling; Democrats continue to insist that debt was accumulated under the leadership of both parties, and are calling for a bipartisan solution. The standoff rattled the markets in early October, and could do so again in early December until Congress finds a solution.

SEC begins to inch forward on robust regulatory agenda

With new SEC Chairman Gary Gensler settling into the job, we are expecting 2022 to see a flurry of regulatory proposals. Gensler testified before the House and Senate earlier this fall and outlined more than four dozen regulatory priorities – an agenda that a Bloomberg reporter described in an October article as "the crackdown on everything." But with the agency understaffed and the financial services industry lined up in opposition to some of the initiatives, achieving all of the SEC's regulatory priorities is likely impossible and the chairman will have to articulate his priorities. Here is the latest on some key issues we have been following:

  • Market structure overhaul: The much-anticipated SEC staff report on "meme stocks" and the retail trading frenzy in GameStop Corp. and other stocks in early 2021 was released in October. The staff's analysis of the unusual trading activity concluded that nothing particularly untoward happened, and the report avoided specific policy recommendations. But the SEC already issued a request for information from brokers, trading firms, and advocacy groups on "digital engagement practices," or what has become more widely known as the "gamification" of stock trading. The agency is expected to issue a rule proposal late this year or early in 2022 to crack down on some of the incentives that some apps use to encourage or "push" trading activity and to require more disclosure or education to investors, particularly before investors move into riskier and more complex trading strategies. The SEC is also in the midst of looking at a broader range of market structure issues, including payment for order flow, settlement times, exchange vs. off-exchange trading, and whether individual investors are consistently getting the best execution that the law requires. Market structure reforms are sure to be controversial and this is shaping up as a multi-year regulatory effort.
  • Cryptocurrency: The October 19 launch of the first exchange traded fund focused on Bitcoin futures received considerable news coverage. Other asset managers are expected to launch similar products, which are focused on futures contracts and do not hold any cryptocurrencies directly. Gensler, for his part, has said that improving investor protections and putting a better regulatory oversight structure around cryptocurrency trading is one of the agency's top priorities and we expect to it continue to be in 2022.
  • Corporate disclosure: A rule proposal to require public companies to disclose more information to investors about their impact on climate change and the climate risks they face was expected to be released by the end of the year. SEC officials have indicated that may be delayed to the first quarter of 2022, but expect new requirements to be finalized sometime next year.

Other regulatory initiatives that could come in 2022 include money market fund reforms, new rules for special purpose acquisition companies (SPACs), short-selling disclosure, and standardizing when funds can call themselves "green" or "sustainable" funds.  

Department of Labor awaits confirmation of nominee to head retirement division

President Biden's nominee to head the Labor Department's Employee Benefits Security Administration (EBSA), Lisa Gomez, testified before a Senate panel at her confirmation hearing in early October and appears on track for confirmation to the post later this fall. Gomez, a New York-based labor attorney, avoided taking any detailed policy positions, including on the never-ending issue of the DOL fiduciary rule. But the Labor Department has been clear that it is planning to take another shot at revising the definition of who is a fiduciary in the retirement savings context.

About the author

Michael Townsend

Managing Director, Legislative and Regulatory Affairs, Charles Schwab & Co., Inc.