Money & Finance

Do You Think Tax Changes Only Apply to the ‘Rich’?

As I’m sure everyone has heard, there are a multitude of tax increases that will go into effect in 2013 – if there is no action by Congress before then. These increases will affect just about everybody. Some of the tax-related changes in store for 2013 are:

…well, Think Again

by Karen Crain

As I’m sure everyone has heard, there are a multitude of tax increases that will go into effect in 2013 – if there is no action by Congress before then. These increases will affect just about everybody. Some of the tax-related changes in store for 2013 are:

  • Income phase-outs on itemized deductions and personal exemptions return
  • Marriage tax penalty returns
  • 10 percent income tax bracket eliminated
  • 0 percent dividend and long-term capital gains tax bracket eliminated
  • Deduction for student loan interest ends
  • American Opportunity education tax credit expires
  • Coverdell IRA contribution limit reverts to $500 (from $2,000 currently)
  • Child tax credit reverts to $500 (from $1,000 currently)
  • Social Security tax withholding from wages reverts to 6.2 percent (from 4.2 percent currently)

And, if you don’t already know, the itemized deduction for sales tax is already gone in 2012. Since 2004, you have been allowed to deduct either general sales tax or state income taxes paid, whichever is higher, as an itemized deduction. This law expired in 2011. Since Florida does not have a personal income tax, a majority of Floridians who take itemized deductions on their tax returns take a deduction for sales tax. This is a deduction lost, which means you pay more taxes.

In addition to the changes above, the Patient Protection and Affordable Care Act includes two new taxes – an additional 0.9 percent Medicare hospital insurance tax and a 3.8 percent Medicare surtax. The new Medicare hospital insurance tax applies to wages or self-employment income of individuals with earnings exceeding $250,000 for married filing joint, $200,000 for single and $125,000 for married filing separately.

The Medicare surtax is a new “net investment income tax” on unearned income for individuals exceeding these same income thresholds. This 3.8 percent tax is on top of any tax rate increase in dividends, capital gains, and ordinary income. Net investment income includes dividends, rents, interest, passive activity income, capital gains, annuities and royalties. Specifically excluded from the definition of net investment income are self-employment income, income from an active trade or business, gain on the sale of an active interest in a partnership or S-corporation, IRA or qualified plan distributions and income from charitable remainder trusts.

As if those changes aren’t enough, the rates for every tax bracket are increasing for ordinary income, along with increasing the tax rates on qualified dividends and capital gains. As of January 1, 2013, qualified dividends will be subject to ordinary income tax rates (an increase from 15 percent to up to 39.6 percent; the long-term capital gains rate is increasing from 15 percent to 20 percent. Add the new 3.8{bfd614f294d07c51b84c8dad33a56885001f0ed7300088ac66752d3246377d5a} Medicare tax to those numbers, and it makes the top rates for qualified dividends 43.4 percent and long-term capital gains 23.8 percent.

Tax Strategies to Consider in 2012

  • Taxpayers may want to accelerate the recognition of capital gains into 2012 instead of deferring the gains to future years, e.g., by selling appreciated stocks, bonds, real estate, and other assets held more than one year to take advantage of lower capital gains rate and avoid the Medicare surtax beginning in 2013. Also, if you have an installment loan that someone owes you, consider negotiating to have them pay it off in 2012.
  • Accelerate deductions since there are no phase-outs at higher income levels, such as prepay mortgage interest or accelerate deductible out-of-pocket medical expenses. (Be aware that some deductions will be disallowed if subject to AMT).
  • Gift appreciated assets to family members in the lowest tax bracket to take advantage of the 0 percent capital gains rate

One more thing to keep in mind is that there are changes coming to the estate taxes. The estate tax exemption is currently $5,120,000 per person and will revert to $1,000,000 on January 1, 2013 unless Congress acts. The President is suggesting a $3,500,000 exemption. A person’s estate includes the value of their residence and any life insurance they may have, along with all other assets such as stocks, bonds, real estate, etc. With estate and gift tax rates rising from the current 35 percent maximum rate to 55 percent and the lifetime exclusion amount decreasing to $1 million beginning in 2013 (down from the $5.12 million amount for 2012), a thorough estate plan review should also be undertaken before year end.

With all of the changes that are currently scheduled for 2013, it is more important than ever to be aware of your personal financial and tax situation. Plan now—before it’s too late!

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