We were communicating with our colleague Cheryl Bekaert this week and she shared something we felt important enough to share with you. We hope it gives you some insight as to where things are going tax-wise for 2013.
Congress, in a last minute deal-making effort trying to address the fiscal cliff, passed legislation that has far-reaching effects on virtually all taxpayers. The American Taxpayer Relief Act of 2012 (the "Act"), signed January 2, 2013, adds a welcome degree of certainty regarding tax rates, extends a number of popular tax provisions, and is set to raise approximately $600 billion over the next 10 years. Highlights of the Act are discussed below.
Individual Tax Rates
Effective January 1, 2013, a new, higher tax rate will apply to "high income" individuals. For most taxpayers the graduated tax rates on ordinary income will remain the same (10%, 15%, 25%, 28%, 33%, and 35%). The new 39.6% rate will be triggered at taxable income of $400,000 for single taxpayers, $450,000 for those married filing jointly, $425,000 for heads of household, and $225,000 for married taxpayers filing separately. Note that the Additional Medicare Tax of 0.9% will also apply to those taxpayers with wages or self-employment earnings above $200,000 (single)/$250,000 (married filing jointly).
Capital Gains Rates
Only those "high income" individuals with taxable income in excess of the thresholds discussed above will be subject to the new higher capital gains rate of 20% (up from 15%) on long term capital gains and qualified dividend income. Taxpayers beneath the "high income" thresholds will continue to pay capital gains tax at 15%, or 0% for those who are subject to tax on ordinary income at the 10% or 15% rates. Note that those taxpayers with modified adjusted gross income above $200,000 (single)/$250,000 (married filing jointly) will be subject to the new 3.8% surtax on applicable net investment income. For these high income taxpayers, long term capital gains and qualifying dividends could be subject to tax at 23.8%.
One wide-reaching area of relief is the new alternative minimum tax ("AMT") change that provides a "permanent" increase to the exemption amount allowed in computing AMT. Under the new tax Act, the 2012 exemption level is increased to $50,600 for single filers, $78,750 for joint filers, and $39,375 for married individuals filing separately. This change saves upwards of 30 million taxpayers from having to pay AMT in 2012. Another welcome change to AMT is that the exemption level will be indexed for inflation annually, which should eliminate the need for Congress to enact an annual "patch" to effectively do just that.
Key Business Provisions
A number of popular business related tax benefits were also extended through 2013, including:
- 50% bonus depreciation (through 2014 for certain aircraft and long-production period property)
- Increased Code Section 179 expensing limitations (for both 2012 and 2013, the dollar limit is $500,000 and the investment limit is $2 million)
- Off-the-shelf software and certain real property treated as Sec. 179 property
- 15-year cost recovery for qualified leasehold improvements, qualified restaurant buildings and improvements, and qualified retail improvements
- The credit for increasing research activities (commonly referred to as the R&D credit)
Another major relief provision in the Act is the permanent extension of the $5 million exemption level for estate and gift tax transfers (annually indexed for inflation -- $5.12 million in 2012; $5.25 million projected for 2013), while the maximum rate on taxable transfers was increased to 40% from the current 35% rate. Without this extension, the exemption level would have decreased to $1 million (with no provision to index for inflation) and the maximum rate would have increased to 55%. Portability, which allows a surviving spouse to utilize the unused portion of a deceased spouse's exemption, was also made permanent.
Individuals Additional individual tax provisions are extended through 2013 (unless otherwise noted) as follows:
- Permanent extension of the $1,000 child tax credit, adoption credit/assistance, and the child and dependent care credit
- American Opportunity Tax Credit extended through 2017
- $250 teacher's classroom expense deduction
- Exclusion for qualified principal residence indebtedness discharge income
- Option to deduct state and local general sales taxes instead of state and local income taxes
- Above-the-line deduction for qualified tuition and related expenses
- Tax-free distributions from individual retirement accounts for charitable purposes
For 2013, the Personal Exemption Phaseout (PEP) and Pease limitation on itemized deducations are both reinstated for certain high income taxpayers. Thresholds will be indexed for inflation after 2013.
Beginning in 2013, qualified retirement plans can allow participants to elect to transfer amounts to designated Roth accounts with the transfer being treated as a qualified rollover.
The 2% payroll tax holiday was NOT extended by the Act. Therefore, the employee rate will return to 6.2% (12.4% for self-employed individuals) on earned income up to the wage base.
Other business tax benefits extended through the end of 2013 (and retroactively to apply to 2012 where applicable) include:
The new markets tax credit
- Employer wage credit for employees who are active duty members of the uniformed services
- The work opportunity tax credit (WOTC)
- The exceptions under Subpart F for active financing income
- The 100% exclusion for gains on certain small business stock
- The 5 year recognition period for built-in gains on S corporation conversions
Additionally, the following energy-related tax benefits have been retroactively extended and modified:
- The 10% non-business energy property credit for energy-efficient existing homes
- The credit for 2- or 3-wheeled plug in electric vehicles
- The credit for biodiesel and renewable diesel used as fuel
- The credit for energy efficient new homes and appliances
The Act also includes one year extensions of emergency unemployment insurance and agricultural programs, a "doc fix" that postpones automatic cuts in Medicare payments to physicians, and delays until March a number of automatic Federal spending cuts known as the sequestration that were scheduled to take effect on January 1st.
The above list is NOT a complete list of all of the changes included in this comprehensive tax Act. If you have questions about how an aspect of the tax Act may pertain to you, or whether a tax or benefit not mentioned in this newsletter was affected, please do not hesitate to contact your tax advisor.