Taxes are not particularly fun for most Americans, but it's important to understand basic tax laws for many reasons. Not only can they heavily affect your take-home pay, savings rates, investment rates, ability to buy a home, ability to retire, and more, but they should also have an effect on the political candidates you choose to support and vote for. Taxes don't just affect you - they affect everyone, potentially for generations.

In this article, we'll explain the $5 trillion tax plan Kamala Harris has set forth and break down specific tax laws, what they mean, who they'll impact, and the effect they could have on the economy and on your life.

Fast Facts about Kamala's Tax Plan

• 25% minimum tax on unrealized capital gains, which are gains on investments you have not sold yet.

• Raise the corporate tax rate for businesses from 21% to 28%, which will force business owners to pay significantly more in taxes.

• Kamala copied Trump's plan to eliminate taxes on tips, reducing the tax burden for service workers who receive tips.

• In addition to taxing unrealized capital gains, Kamala wants to increase capital gains tax rates, which will further reduce taxpayer's incentive to invest in the stock or bond markets to grow their wealth.

Taxing Unrealized Capital Gains

This is the most controversial law in Kamala's tax plan - a 25% minimum tax on unrealized capital gains for taxpayers with a net worth of over $100 million. This could result in people paying taxes on investments that they actually lose money on.

But before we dive too deep, let's define some terms. Unrealized Capital Gains are gains on investments you own but have not sold yet, like stocks and bonds. These investments become realized capital gains when you sell them and receive the cash in your investment account. Unrealized capital gains have never been taxed before - taxes have only ever been charged once gains are sold and profits are realized.

This tax proposal is incredibly controversial, and for good reason: there are many issues with taxing unrealized capital gains. Let's start by breaking down the cons, and then we'll address the pros.

The Cons of a Tax on Unrealized Capital Gains

There are numerous issues with taxing unrealized capital gains. They include...

• You may be forced to pay taxes on money you literally have not made.

• The value of investments is always fluctuating, so investors could easily lose money on investments after they've already paid an unrealized capital gains tax. Paying taxes on capital losses will likely happen frequently if this law were to go into effect.

• This law would set a dangerous precedent for future tax laws. What other unrealized income could be taxed? If you own a home that has increased in value, could the government decide to tax that? If you start a business, could you pay taxes on the estimated value of the business, even though you haven't sold it?

• This law would disincentivize all investors - both large and small - from investing in stock markets, severely harming the economy. This would harm businesses significantly, resulting in less capital for growth, a higher risk of bankruptcy, less career stability for employees and contractors, etc.

• Ultra-wealthy people will be less likely to invest in the stock market and may even leave the country, taking their businesses and jobs with them.

The Pros of a Tax on Unrealized Capital Gains

Below are the potential pros of a tax on unrealized capital gains...

• Collecting taxes on ultra-wealthy taxpayers is notoriously difficult for various reasons (article coming soon) and a tax on unrealized capital gains could allow the IRS to effectively tax ultra-wealthy taxpayers.

• However, ultra-wealthy taxpayers are geographically mobile - they can move to and reside in essentially any country they choose. Many wealthy taxpayers will consider leaving the United States and taking their investments and businesses with them if threatened with a tax on unrealized capital gains.

As of right now, this tax proposal would only affect taxpayers with a net worth of over $100 million. But when regular income taxes were first introduced, they were only imposed on the ultra-wealthy as well. Over time, however, income taxes expanded to nearly all taxpayers, and now we all dread tax season each year. It's likely only a matter of time until a tax on unrealized capital gains expands to affect the average American's investment and retirement accounts.

Raising the Corporate Tax Rate from 21% to 28%

Kamala aims to increase the corporate tax rate from its current 21% flat rate to a 28% flat rate. The corporate tax rate affects businesses that use the c-corporation structure, but it does not affect other business structures, like s-corporations, partnerships, LLCs, or sole proprietorships. Increasing the corporate tax rate will result in greater tax revenue for the federal government, which many people could see as beneficial for funding social programs.

Keep in mind, however, that there is always a flipside to every new or increased tax. Everything is connected, and taxes affect the entire economy. Increasing corporate taxes will have a proportional impact on businesses, causing them to either increase the prices they charge for products and services, or reduce their expenses, like salaries, research & development, investments in growth, rent or mortgage expenses, etc.

No Taxes on Tips

Donald Trump has stated several times that he plans to remove the taxes on tips. Currently, tips are taxed at the taxpayer's ordinary income tax rate, which ranges from 10% to 37% depending on filing status and tax bracket. This proposal would remove this tax and allow service workers who receive tips to keep more of their hard-earned money. Only a few weeks after Trump first announced this goal, Kamala made it part of her tax plan as well.

Increased Long-Term Capital Gains Tax Rates

In addition to proposing a tax on unrealized capital gains, Kamala also wants to increase the top tax on long-term capital gains from 20% to 28%, which would be the highest capital gains tax rate in decades. Long-term capital gains tax rates are historically low, which is a way to incentivize taxpayers to grow their investments over the long term, rather than pursuing riskier short-term investment strategies.

Increasing capital gains taxes will cause taxpayers to reduce their investments in capital assets, both to avoid paying the tax and as a result of paying the tax on gains they've already made and could reinvest. This could result in a proportional stock market contraction, which would negatively affect the US economy and potentially harm businesses, suppliers, employees, contractors, etc.

Increasing the Startup Expense Deduction

This might be one of Kamala's least controversial tax proposals. While businesses have been able to deduct up to $5,000 in startup expenses for many years, Kamala wants to increase this deduction to $50,000. This deduction applies to expenses businesses incur before they begin operating, and these expenses can be deducted for 180 months from the date the business began operations. According to the IRS, a start-up cost is eligible for the deduction if it meets both of the following requirements:

• It's a cost a business could deduct if they paid or incurred it to operate an existing active trade or business, in the same field as the one the business entered into.

• It's a cost a business pays or incurs before the day their active trade or business begins.

Specifically, start-up costs include the following:

• An analysis or survey of potential markets, products, labor supply, transportation facilities, etc.

• Advertisements for the opening of the business.

• Salaries and wages for employees who are being trained and their instructors.

• Travel and other necessary costs for securing prospective distributors, suppliers, or customers.

• Salaries and fees for executives and consultants, or for similar professional services.

Encouraging the creation of new businesses is generally a great thing for any country's economy, as businesses create jobs, sell valuable products and services, and ideally, improve people's quality of life. However, a sad reality is that 90% of businesses fail within the first 5 years of their operations. The potential risk of this tax proposal is that businesses could start, deduct $50,000 in startup costs, and then fail, resulting in a loss in tax revenue (which would be made up somewhere else) and no business, jobs, economic benefit, etc.

An Important Note on Governments

First, governments are made up of people who are no better than you and me. They're just people - just like any random person you'd see walking around town. They've simply pursued positions of power as their careers and life goals. Some for the sake of power itself, others for the sake of money, and still others for the sake of doing the right thing. However, the old saying that "power corrupts, and absolute power corrupts absolutely." is still true - even those politicians who go into government to change the world eventually end up corrupted, to some degree or another, by money and power.

Second, governments don't produce anything, meaning they don't make a profit. They don't create or sell products or services like you do when you go to work every day. Profit is what allows every business, and the entire economy, to continue operating. It's what allows your investment and retirement account to grow over time. The government doesn't produce any kind of profit, so all of their resources come either from taking it, under threat of incarceration, from you and me in the form of taxes, or from printing money (AKA inflation, which is also a form of tax).

NOTE

We will be analyzing both Kamala and Trump's tax laws. The Trump tax laws article is coming soon.

"Higher taxes never reduce the deficit. Governments spend whatever they take in, and then whatever they can get away with."

Milton Friedman

"For a nation to tax itself into prosperity is like a man standing in a bucket and trying to lift himself up by the handle."

Winston Churchill

Disclaimer: the information provided in this article is for educational purposes only and does not constitute tax, accounting, investing, legal, or financial advice. The information in this article does not take into account your unique financial or business situation or goals, and YCCPA cannot be responsible for reader's financial decision-making. YCCPA's goal is to educate and support you on your creative business journey.

Written by David Kindness, CPA

David is a CPA (Certified Public Accountant) and professional photographer, videographer, and designer based in San Diego, California. Learn more.

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