Financial Planning Highlight
As we approach the end of the year there is, to paraphrase Ben Bernanke, "unusual uncertainty" in regards to what everyone's 2011 tax bill will look like. While the expiration of the Bush income tax cuts has received the greatest media attention there are a host of other tax related issues that have not been addressed. While we normally applaud when Congress does nothing, their inaction on these items leaves the potential for tax increases on nearly all Americans. We will detail the issues that will have the biggest effect and should also be the subject of the most intense debate when Congress does try to address these issues before the end f the year.
If all the Bush income tax cuts expire (as is the law right now) the rates for all brackets will go up with the maximum rate rising to 39.6%. This would be a massive tax hike affecting everyone who pays taxes. President Obama would like to limit the increase to the top income bracket. He has received a lot of resistance from Republicans and an increasing number of Democrats on this issue, many of whom would prefer to extend all the tax cuts. We predict that Congress will vote to extend the cuts until 2012 and this will be a big issue in the Presidential election in that year.
As things stand now, the term qualified dividends will lose meaning since they will be taxed as ordinary income not as capital gains- a shift from 15% to as high as 39.6%. This would have a serious impact on the value investors would place on dividend paying stocks since those payments are already taxed at the corporate level before paid to shareholders. At the maximum rate, it would mean the company would need to earn $2.54 in order to provide the shareholder $1.00 in actual benefit. We think Congress will keep the lower rates on qualified dividends and are more hopeful they will make this tax cut permanent.
The Estate or 'Death' tax, which expired at the end of last year (to the good fortune of a few billionaires that died this year, or more exactly to their heirs' good fortune), will be reinstated at 55% on an individual's net taxable estate (pretty much on everything above $1 million). In some areas of the country, this is not much more than the value of people's homes and we are of the belief that a 55% rate (and that's just the federal governments take) approaches confiscatory levels and is not really justifiable. There is a wide spectrum of opinion regarding this matter on Capitol Hill, with many Republicans looking to abolish the tax completely while some Democrats are looking to raise the rate, albeit with a higher exemption amount. Our best guess is that there will be an estate tax in the 30%-40% range with individual (so that both a husband and wife can use it) exemption in the $3.5 - $5.0 million range. Logic would index these amounts for inflation but we should not expect miracles from Congress.
We believe that Congress's inaction on these items has contributed to the unwillingness of U.S. businesses to fully buy into the recovery. Particularly from a small business owner's perspective, where business income generally flows through to the owner personal tax statements, uncertainty about future tax liabilities gives one more reason to act cautious in this environment. We also think that delaying a decision on these matters until the lame duck session will add even more volatility to these decisions. If Republicans make the type of significant gains that appears likely right now, it is hard to see how the current Congress will possibly agree on a package of reforms that would settle all these tax measures before the end of the year.