Missouri’s Bold Move: Eliminating State Capital Gains Tax
Overview of Missouri’s House Bill 594: Missouri has become the first U.S. state to repeal its state capital gains tax, effective January 1, 2025. This change means individuals no longer pay state tax on profits from the sale of assets like stocks and real estate.
Implications for Investors: This move makes Missouri an attractive destination for retirees and investors seeking to minimize their tax burden. However, it’s crucial to remember that federal capital gains tax still applies to these transactions.
Comparison with Other States: The policy stands in stark contrast to states like Washington, which is increasing its capital gains tax, and highlights a growing divergence in state-level fiscal policies.
Economic Outlook: This bold tax cut is projected to boost the state’s economy by attracting high-net-worth individuals, but it’s also expected to significantly reduce state revenue, raising questions about potential impacts on public services.
Strategic Tax Planning: New Ways to Reduce Capital Gains
Installment Sales via IRC 453: This long-standing strategy allows taxpayers to defer a portion of their capital gains by receiving payments over multiple years. It’s a key tool for managing the tax burden on large sales.
QSBS Exclusions: The “One Big Beautiful Bill Act” significantly expanded the Qualified Small Business Stock (QSBS) exclusion, raising the per-issuer cap to $15M and increasing holding thresholds. This change provides a massive tax-free opportunity for founders and investors in eligible startups.
Structuring Private Equity Deals: Understanding the tax implications of different deal structures, such as using trusts and other gifting strategies, is more critical than ever for maximizing after-tax returns on private market exits.
Expert Guidance: The complexity of these strategies underscores the importance of consulting with a financial or tax advisor to ensure compliance and optimize your tax position.
The Home Sale Exclusion Debate: A Need for an Update?
Current Exclusions: The long-standing rule remains in effect: you can exclude up to $250,000 (or $500,000 if married filing jointly) of the gain from the sale of your primary residence, provided you meet ownership and use tests.
Rising Prices and Inflation: Since these limits were set in 1997, home prices have risen dramatically, causing the exclusion’s real value to diminish. This means a greater portion of the gain is now subject to tax for many long-term homeowners.
Impact on Homeowners: The stagnant exclusion disproportionately affects long-term homeowners, particularly seniors, who have seen significant equity appreciation but may be reluctant to sell due to the looming tax bill.
Policy Proposals: There is a renewed debate on whether to raise the limits or even fully eliminate the tax on primary home sales. These proposals aim to alleviate financial burdens and encourage housing mobility.
The “One Big Beautiful Bill Act” and Capital Gains
Preserving the Status Quo: The new tax law, signed by President Trump, did not change the existing long-term capital gains tax rates of 0%, 15%, and 20%. The income brackets for these rates continue to be adjusted annually for inflation.
Introducing the “Trump Account”: The law created a new savings vehicle for minors, called the “Trump Account.” A key feature of this account is that qualified withdrawals are treated as long-term capital gains, offering a tax-advantaged way to save for children’s futures.
Changes for Investors: The legislation notably expanded the benefits of the Qualified Small Business Stock (QSBS) exclusion, making it more appealing for venture capital and angel investors. This change is expected to boost secondary trading volumes in private markets.
A Broader Look: The bill’s tax provisions are a continuation of the Tax Cuts and Jobs Act (TCJA), with an emphasis on keeping current rates while introducing specific new vehicles and benefits.
The Lock-in Effect and Tax Reform Debates
Understanding the Lock-in Effect: The current system of taxing capital gains only when an asset is sold (“realization”) can discourage investors from selling, even if it’s no longer the best investment. This is known as the “lock-in effect.”
The Problem: This effect can lead to inefficient capital allocation and a stagnant market. Investors may hold onto underperforming assets just to defer paying taxes.
Proposed Solutions: This has reignited debates about alternative approaches:
- Taxing Gains at Death: One option is to eliminate the “step-up in basis” at death, taxing unrealized gains when assets are transferred to heirs.
- “Mark-to-Market” Taxation: A more aggressive proposal is to tax capital gains as they accrue annually, regardless of whether the asset is sold. This would eliminate the lock-in effect but could present liquidity issues for taxpayers holding illiquid assets.
The Big Picture: These discussions are at the heart of the larger conversation about wealth distribution and the fairness of the tax system.