Fiscal Cliff = Tax-Rate Increases + New Taxes
Commentary by Kevin O’Connell
There is major uncertainty over federal tax policy.
Effective Jan. 1, the individual income tax rates, without further Congressional action, are scheduled to increase across the board. Consider:
- The top marginal rate jumping from 35 percent to 39.6 percent.
- The current 10-percent rate for low-income taxpayers will expire and be replaced by a 15-percent rate.
- Even tax-rate relief afforded married taxpayers will expire.
- The current top marginal tax rate on capital gains and dividends of 15 percent is scheduled to expire. The tax rate on dividends could increase by as much as 286 percent, from 15percent to more than 43 percent.
- Higher-income taxpayers also will be subject to limitations on itemized deductions and personal exemptions.
- Millions of middle-income taxpayers will be liable for the alternative minimum tax because of expiration of the “AMT Patch.”
- Many other incentives for individuals will either disappear or be substantially reduced in the new year.
While Congress may still act to prevent some or all of these tax increases, the likelihood of action with a lame-duck Congress diminishes each day.
In addition to the tax-rate increases on individual payers, there are a number of new taxes that kick in for 2013:
- The Patient Protection and Affordable Care Act, also known as ObamaCare, imposes an additional .9 percent Medicare tax on wages and self-employment income and 3.8-percent Medicare contribution tax. The 3.8-percent Medicare contribution tax will apply beginning in 2013 tax year for single individuals with a modified adjusting gross income in excess of $200,000 and married taxpayers with an MAGI in excess of $250,000. MAGI, for purposes of the Medicare contribution tax includes wages, salaries, tips, and other compensation, dividends and interest income, business and farm income, realized capital gains, and income from a variety of other passive activities and certain foreign earned income. For individuals liable for the tax, the amount of tax owed will be equal to 3.8 percent multiplied by the lesser of (1) net investment income or (2) the amount by which their MAGI exceeds the $200,000/$250,000 thresholds. Also, PPACA will limit contributions to flexible spending arrangements to $2,500 for the tax year.
Some traditional year-end tax planning techniques should be considered along with some variations on those strategies. Instead of accelerating deductions by payment before Dec. 31, taxpayers may want to postpone the payment until after Jan.1, when tax rates are higher. Think the opposite for income.
Accelerate receipt of income in 2012 because the tax rates are lower. Another valuable year-end strategy is to “run the numbers” for regular tax liability and AMT liability. Taxpayers may want to explore if certain deductions should be more evenly divided between 2012 and 2013, and which deductions may qualify, or will not be as valuable, for AMT purposes.
Lastly, for all workers in the private sector, rich and poor, the current 2-percent payroll tax holiday is scheduled to expire after 2012 without any further extension by Congress. All private-sector workers will feel this immediate pay cut in their first paycheck on wages earned after Jan.1.
The good news: The State of Indiana income tax rates remain unchanged.
Kevin O’Connell is a certified public accountant at Somerset CPAs, and he is an attorney. For more information, please e-mail him at KOConnell@SomersetCPAs.com.