For several years now, Congress has left the taxpaying public hanging to the last minute with tax changes and extensions. And each year, the political gridlock seems to get worse, leaving taxpayers pondering how to plan their finances and businesses undecided about capital investments and hiring new employees, not knowing what the tax laws will bring in the next year.
This year is even worse: It seems that our politicians are preoccupied with the elections and have put on the back burner a whole host of tax issues that have expired or are going to expire in the near future, once again leaving taxpayers in the dark and at risk of some substantial tax increases. There are more tax provisions expiring this year than ever before. In fact, if Congress does nothing, there will be a huge tax increase across the board affecting just about every taxpayer, rich and poor alike. Federal Reserve Chairman Bernanke referred to this problem as a “fiscal cliff.”
To understand the enormity of the problem, here is a rundown of a number of the more significant expiring provisions:
- Capital Gains Rates Increase – Beginning in 2013, the maximum capital gains rates will increase from the current 15% (0% for lower-income taxpayers; 18% for assets held more than five years). For lower-income taxpayers, the maximum rate will be 10% (8% for assets held for more than five years).
- Tax Rates (Brackets) Increase – Three fundamental changes will occur in 2013. (1) The 10% bracket will disappear (the lowest bracket will be 15%). (2) The size of the 15% tax bracket for joint filers and qualified surviving spouses will be 167% (rather than 200%) of the size of the 15% tax bracket for individual filers. (3) The top four brackets will rise from 25%, 28%, 33% and 35% to 28%, 31%, 36% and 39.6% respectively. This represents an across-the-board tax increase for all taxpayers.
- The 2011–2012 Payroll Tax Cuts Expire – This means that for 2013, the payroll and self-employment taxes will increase by 2% on all earned income up to $113,700. This will result in increases of up to $2,274 for working Americans.
- Education Benefits Take A Hit – After 2012, several education benefits will expire or be reduced, primarily impacting middle- and lower-income Americans.
o American Opportunity Education Credit – A tax credit that provides up to $2,500 for the first four years of post-secondary education, a portion of which is refundable. The Hope Education Credit will take the place of this credit, but it will be limited to the first two years of post-secondary education, providing a reduced maximum credit of $1,950, none of which is refundable.
o Coverdell Education Accounts – These will have their annual contribution cap reduced to $500 from the current $2,000 limit.
o Employer Education Assistance – This $5,250 tax-free employer-provided educational benefit expires after 2012.
o Student Loan Interest – This will only be allowed for the first 60 months in which interest is due and the deduction is phased out for most middle-income Americans. Previously there was no time limit for this deduction.
- Lower-Income Taxpayers Lose Benefits – The most significant changes taking place after 2012 include: The Child Tax Credit will be chopped in half to $500; the Earned Income Tax Credit bracket for taxpayers with three or more children will be eliminated; and the creditable expenses for the Child Care Credit will drop to $2,400 (formerly $3,000) for one child and $4,800 (formerly $6,000) for two or more children.
- “Obamacare” Taxes Kick In – Two taxes to fund Obamacare apply to higher-income individuals beginning in 2013.
o Surtax on Net Investment Income – The official name of this new tax is the “Unearned Income Medicare Contribution Tax.” It imposes a 3.8% surtax on the net investment income (interest, capital gains, rents, royalties and annuities) of individuals with incomes of $200,000 ($250,000 for joint filers) or more.
o Increased Hospital Insurance Tax – Currently a 1.45% payroll deduction, this will increase to 2.35% on wages in excess of $200,000 for unmarried individuals and $250,000 for married individuals filing jointly. The same increase applies self-employed individuals.
It is anticipated that some of the provisions discussed in this article will be extended when Congress finally gets around to it, but no one knows for sure which. However, it is important that you be ready for any eventuality, given that everything is in limbo at this time.
This office is closely following tax changes and is here to help you avoid any tax “fiscal cliffs” created by the ever-changing tax laws. Please call if you have questions or wish to do some year-end planning for yourself, or if family members or friends need assistance.