Co-Authored by Michael Canet
In 2001 Congress passed the “Bush Tax Cuts,” officially called the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA). These tax cuts are set to expire at the end of 2012, which would result in significant tax law changes. We have been here before, in 2010, when the original act was due to sunset. At that time, Congress elected to extend most of the original provisions until 2012.
Will Congress extend them again? Who knows? What we do know is that over the years, more and more people will be caught by the new taxes, because the adjusted gross income level that triggers them doesn’t rise with inflation.
That’s why you may want to consider taking steps between now and year-end that could dramatically improve your financial picture – regardless of what Congress does.
The primary effect taxpayers may see increased tax rates are in three areas:
|2012 Rates||2013 Rates|
|Single Filer||Joint Filer|
|$0 – $8,700||$0 – $17,400||10%||15% (bracket starts at $0)|
|$8,700 – $35,350||$17,400 – $70,700||15%|
|$35,350 – $85,000||$70,700 – $142,700||25%||28%|
|$85,000 – $178,650||$142,700 – $217,450||28%||31%|
|$178,650 – $388,350||$217,450 – $388,350||33%||36%|
The 10% bracket will disappear and the rates for the remaining brackets will increase. Taxpayers may want to consider the tax implications of their financial decisions – make elections in 2012 or 2013, when rates may be higher.
For those wealthy enough to owe it, an additional tax of 3.8% Medicare investment tax will be due beginning in 2013. The tax is calculated by multiplying the 3.8% tax rate by the lower of the following two amounts:
- Net investment income for the year; or
- Modified adjusted gross income over a certain threshold amount.
Modified adjusted gross income thresholds for the additional Medicare tax are:
- $250,000 for married filing joint filers and qualifying widows or widowers;
- $200,000 for single and head of household filers; and
- $125,000 for married filing separately filers.
Tom and Amy are married and file a joint tax return. They have $280,000 of salary income combined and $50,000 of investment income from dividends and capital gains. Their adjusted gross income is $330,000.
- Step 1: Calculate their net investment income, or $50,000.
- Step 2: Calculate their modified adjusted gross income in excess of the threshold amount, or $330,000 minus $250,000 for joint filers = $80,000.
- Step 3: Take the lower of net investment income or modified adjusted gross income over the threshold, which is $50,000 in this case.
- Step 4: Multiply $50,000 by 3.8% = $1,900.
Additional Medicare Tax
The 3.8% surtax is getting most of the attention but there is an additional .9% Medicare tax on wages and self-employment income over the MAGI thresholds.
Long-Term Capital Gains
|2012 Rates||2013 Rates|
In 2013 investors will no longer be able to pay 0% on their long-term capital gains because there will no longer be a 10% tax bracket. With long-term capital gains set to increase to 20% in 2013, investors should consider whether to sell sooner rather than later.
Qualified Dividend Taxes
Currently qualified dividends are taxes at the more favorable long-term capital gains rates. In 2013, both qualified and ordinary dividends will be taxed at ordinary tax rates which mean for some investors, this could result in tax rates as high as 39.6%. Here again, investors should consider the role that dividend paying stocks play in their portfolio.
Other Tax Implications to Consider:
The almost 28 million artificial-sun worshippers who visit tanning booths and beds each year — most of them women under 30, according to the Journal of the American Academy of Dermatology, will see a 10% tax on the price of tanning.
Those workers and families with the ‘Cadillac’s’ of health care coverage will see a 40% excise tax. These are plans with premiums of more than $10,200 per person or $27,500 per family, not including dental or vision coverage. The good news is that a majority of health plans aren’t affected because they don’t cost enough: Workplace family coverage now averages about $15,000, including the portion paid by the employer, according to the Kaiser Family Foundation’s survey. But some middle-class workers, especially those with strong union contracts, have health plans that exceed the threshold. Also hit are corporate bigwigs whose employer-paid plans cover virtually all expenses and lots of perks, akin to tax-free income. The tax will affect more workers as time goes by. It’s indexed for inflation, but rising health care prices will probably outpace that.
Last year, people with FSAs and similar accounts lost the ability to spend the money on over-the-counter medicines not prescribed by doctors. The law limits annual contributions to medical Flexible Spending Accounts to $2,500; there was no government limit before. Many employers had allowed $5,000 in the accounts, and some even more. Also, the penalty increased from 10 percent to 20 percent for money withdrawn for non-medical reasons from Health Savings Accounts, which people use to help pay high insurance deductible.
People with big medical or dental bills who itemize deductions currently have to spend more than 7.5 percent of their adjusted gross income on medical care to qualify for a deduction. The threshold will rise to 10 percent. So a household with income of $50,000 would have to spend $5,000 on health care before deducting amounts above that.
Tax planning done between now and year end can make a significant difference. Some options you may want to explore with a qualified tax professional are:
- Move income-producing assets into tax-deferred plans
- Consider tax-exempt bonds instead of taxable bonds
- Develop a proactive capital gain strategy to take advantage of this year’s capital gain
It is more important than ever to speak with a qualified professional to ensure that you are paying the lowest amount of taxes legally possible, after-all, it isn’t how much you make, it is how much you keep.
Michael Canet and his team at Prostatis Financial Advisors Group LLC have been providing comprehensive financial planning to their clients for more than 20 years. With a legal background in estate planning, a Master’s Degree in taxation, and being a financial planner – Michael has the necessary skills to guide his clients into and through retirement by creating a simple-to-understand financial plan.