Brad Wasserman, Wasserman Wealth Management, Farmington Hills, MI
The following are highlights of the major provisions of the American Taxpayer Relief Act of 2012, which was negotiated and passed early this year.
While the top federal income tax rates will increase only for those with taxable income greater than $400,000–$450,000, there are other measures that were previously enacted that will cause nearly all working taxpayers to pay more Social Security taxes effective January 1, 2013.
- Tax rates remain the same, except for taxable incomes above $450,000 for married taxpayers and $400,000 for single filers. The new rate for taxable income above these levels is 39.6 percent, up from 35 percent. (Note that someone’s gross income can be well above $450,000 before the 39.6 percent rate is effective, as that rate applies after itemized deductions, such as mortgage interest and charitable contributions.)
- For those with taxable incomes of less than $400,000–$450,000, there will be no increase of current federal income tax rates.
- As part of the health care reform passed in 2010, an additional Medicare tax of 3.8 percent will apply to net investment income (such as interest, dividends, capital gains and rental income) for married couples with income above $250,000 and single taxpayers above $200,000. This is already law, and is not part of the recent legislation.
- Also as part of the 2010 health care legislation, self-employment income and wages will be subject to an additional FICA tax of 0.9 percent (employee portion only). This applies to the combined compensation of married couples in excess of $250,000 and single individuals in excess of $200,000.
Payroll Tax Cut Not Extended:
There was NOT an extension of the Social Security payroll tax cut. This represents a tax increase for all workers as of January 1, 2013, from 4.2 percent to 6.2 percent on wages up to the Social Security wage base ($113,700 in 2013).
Capital Gains and Dividend Tax Rates:
The long-term capital gains and qualified dividend income rate will increase from the current 15 percent to 20 percent, but only for taxpayers with incomes that fall into the 39.6 percent rate as described above (plus the above 3.8 percent tax rate increase from the health care reform act). For married taxpayers, with taxable income of less than $450,000, the capital gains and dividend rates will remain unchanged — 15 percent for most taxpayers.
AMT (Alternative Minimum Tax):
The legislation provides a permanent fix by enacting AMT indexing for inflation. This has been an issue for years, and has frequently been temporarily extended. This provides needed clarity and corrects a measure that Congress usually fixed anyway.
The exemption amount for gift tax or estate tax is $5.25 million per person for 2013, to be indexed for inflation in future years. The top tax rate increases from 35 percent to 40 percent, effective January 1, 2013. This is a significant compromise by both sides, as it permanently (at least for now) increases the exemption amount, so most estates will not be affected by the estate tax, in exchange for a rate increase on those who are impacted. The portability “election” provision, which allows an unused exemption amount to be used by the surviving spouse, was made permanent.
- Tax credits were extended for five years, such as college tuition, child and dependent care and the child credit.
- Tax-free distributions will be permitted for 2013 from IRAs to charitable organizations (one year extension, not permanent). There are other provisions that allow for 2012 treatment of certain IRA distributions, if action is taken during January 2013. Please consult with your tax advisor or wealth manager for additional information.
Impact on Investment Strategy:
The increased tax rates on top income levels, in addition to the Medicare tax of 3.8 percent on investment income (such as interest, dividends and capital gains), place a premium on tax efficiency in all financial plans, especially investing. To learn more about how these tax changes affect you, please contact your wealth manager.
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