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September 20th, 2021 
Awake Goy Commentary
The Internal Revenue Code should be considered a contract between citizens and the government. When Congress makes changes to the law, prior promises should rarely if ever be withdrawn or modified. Government should never subsequently punish taxpayers for arranging their transactions as allowed by the existing tax law at the time of a transaction.
Judge Learned Hand, a federal court of appeals judge in the 1950s, famously said, “Anyone may so arrange his affairs that his taxes shall be as low as possible; he is not bound to choose that pattern which will best pay the Treasury; there is not even a patriotic duty to increase one’s taxes.”
Today, the Ways and Means Committee of the House of Representatives should caution that in arranging one’s affairs to successfully result in the lowest tax under the law, one should be wary of their ability and desire to change those rules retroactively.
During the Clinton administration, the president proposed tax rules that would provide “new rewards for entrepreneurs who take risks.” In 1993, in concert with the goal and objective of increasing investment in new business, the Internal Revenue Code was amended to allow taxpayers, subject to certain significant limitations, to exclude 50 percent of their income for tax purposes from the sale of Qualified Small Business Stock (QSBS).
In 2009, after a few other incentives were added for QSBS, President Barack Obama signed new legislation increasing the income exclusion to 75 percent. Completing the trifecta, in 2017, President Donald Trump signed legislation “permanently” increasing the tax exclusion to 100 percent. Investors were required to hold their stock for a minimum of five years before the tax exclusions would be available, along with formulaic limitations of the amount of income that would not be taxed. Three administrations, two political parties, and over 20 years of legislation encouraged investment in new businesses through reducing the tax rates on the ultimate sale of these QSBS investments.
The recent report from the Ways and Means Committee proposes to reduce the benefit on sale of QSBS investments to a 50 percent exclusion for sales after Sept. 13, 2021, for taxpayers with adjusted gross income of over $400,000. The Ways and Means proposal did not call for only new investments in QSBS to be subject to a smaller tax exclusion, it calls for the effective date to be for sales after Sept. 13, 2021, for previous and future QSBS investments. Taxpayers who invested relying on existing and very specific law will not receive the benefits promised in such law.
The Ways and Means Committee chooses to retroactively invalidate a tax law that was put in place to encourage investment. Taxpayers who relied on the Internal Revenue Code as part of their decision process during the past decade now find that the law has been retroactively changed.
When laws are changed retroactively and new taxes are charged, there can be no future reliance on the Internal Revenue Code. This is the unmaking of a 108-year-old tax system based upon integrity. It matters not whether the concepts of excluding gains from investments in QSBS were good, fair, or stupid. It should matter not that the current focus of Congress is taxing the wealthy rather than encouraging new private investment. The (our) government encouraged taxpayers to make such investments, and the Ways and Means Committee should not suggest that the government renege on such promises.
Roth IRAs
In some ways, the Ways and Means proposals with respect to Roth IRAs are worse than those impacting QSBS, much worse. (Note: this author relies on the release by the Ways and Means Committee (pdf) and is hopeful that final legislative language ultimately has a different result.)
In a June 2021 piece by ProPublica, which they say is based on “tax return data of the ultrawealthy for IRA accounts valued at more than $20 million,” an individual named Peter Thiel is said to have amassed $5 billion in a Roth IRA. Thiel is 53 years old, and if he doesn’t take a distribution until he’s six months shy of 60 years old in 2027, he can receive the $5 billion tax free.
There have been no reports that Thiel has broken any tax laws or any laws whatsoever in brilliantly investing a small amount of money and waking up one morning with $5 billion in his Roth IRA. (Judge Hand, if he was still alive, might suggest a lifetime achievement award for tax planning without breaking the law.)
Obviously, there was never any legislative intent to allow a taxpayer to achieve a $5 billion tax-free windfall from a Roth IRA. Other reports indicate that Thiel is not alone and there are almost 500 other Roth IRAs holding assets with a fair market value over $25 million.
The Ways and Means Committee has proposed that if a Roth IRA (and similar other retirement accounts) has over $20 million, it must distribute the excess over $20 million by the end of 2022 if the taxpayer has over $400,000 in taxable income. It would therefore appear that Thiel will have an additional $5 billion of ordinary income included in his 2022 tax return. With the proposed tax rates, Thiel could face federal and state taxes approaching $3 billion. This would be the penalty for amazingly successful and legal tax planning.
Note that Thiel could have purchased the investments for himself directly and there would be no taxation until he sold the stocks. He might have chosen to hold these stocks until death. If held personally, Thiel would have been subject to lower tax rates upon sale as the income would be subject to capital gains taxes.
Note also that it’s very possible that the shares that underlie the $5 billion value in his Roth IRA could well have prohibitions against sale. It’s not remotely unusual for founders’ shares to be restricted in terms of the ability to sell over time.
What is notable is that it appears that the Ways and Means Committee is punishing Thiel for taking tax planning steps that were perfectly legal at the time decisions were made. Obviously, there are a few others in the same boat as Thiel.
It’s easy for anyone to see that the results of the tax planning done by certain wealthy taxpayers provided benefits that Congress could never have imagined. However, the Ways and Means proposal, while understandable if we were on a playground, is inconsistent with a government that views its taxpayers as taxpayers and not serfs. The (our) government needs its citizens to be able to rely on statutory law and not fear a provision in a future tax bill that could be stamped, Vengeance is Mine.
Views expressed in this article are the opinions of the author and do not necessarily reflect the views of The Epoch Times.
Hank Adler
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Mr. Hank Adler is an assistant professor at Chapman University. He was in public accounting for almost thirty-four years, the last twenty as a top partner at Deloitte & Touche.
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