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Tax Planning for Individuals and Businesses in Preparation for 2013

10.10.11

Back in December 2010, everyone was excited about the extension of the Bush era tax cuts, which included the extension of current tax rates, new estate and gift tax rules, and additional provisions resulting in overall tax savings for individuals and businesses. Many of these provisions were extended or implemented for only two years and are set to expire on December 31, 2012. That milestone is getting closer every day and taxpayers should start planning for it now.

Effective tax planning should not be focused solely on the current year. Consideration should be given to events that may impact your taxes in years to come. No one can predict what will happen in the future, especially in times of financial crisis. It's important to think beyond the end of the year and develop a plan going forward based on what we know today.

Tax Rates
If current federal law is not changed, the Bush tax cuts will expire at the end of 2012 and a number of tax increases included in the 2010 health care reform legislation will become effective as of January 1, 2013. Individual income tax rates will increase, estate and gift tax rates will increase, and new provisions could result in more taxes. Most taxpayers will end up paying more to Uncle Sam.

In 2013, the top individual income tax rate will increase from 35% to 39.6%. Tax on long-term capital gains will increase from 15% to 20% (or 0% to 10% for low-income earners). An additional tax of 3.8% will apply to most investment income of high-income earners (joint filers with taxable income in excess of $250,000). A new 0.9% tax will apply to wages in excess of $250,000 for married couples ($200,000 for single individuals). Qualified dividends will be taxed at ordinary income rates.

Higher-income individuals and married couples could be subject to marginal tax rates as high as 44.3%. For example, an individual may be faced with some or all of the tax increases listed below:

Expiration of the Bush tax cuts (maximum rate increases by 4.6%) 4.6%
New: Added tax on most non-earned income (including net capital gains) 3.8%
New: Increased tax on wages in excess of $250,000 0.9%
Increase in rate effective January 1, 2013 9.3%
Top ordinary income rate today 35.0%
New combined maximum rate 44.3%

 

Estate and Gift Tax
The estate and gift tax will also see significant rate increases in 2013. Currently, the estate and gift tax exclusion amount is $5,000,000 per person. For a surviving spouse, the exclusion amount could be as high as $10,000,000. Any excess is subject to a federal estate tax of 35%.

Unless the law is changed, the maximum estate and gift tax rate will increase to 55% on January 1, 2013 and the lifetime exclusion amount will revert to $1,000,000.

Additional Provisions
The end of Bush era tax cuts also brings back the phase-out/limitations that apply to itemized deductions and personal exemptions. This means individual taxpayers may not get the full benefit of personal exemptions and deductions, including mortgage interest, charitable contributions, etc.

Planning Starts Now
Although no one knows what will happen before 2013, it's important to consider current law and changes that could play a major role in your planning. Timing could be important when weighing the tax implications of transactions, such as the sale of investment assets, gifting, alternative minimum tax consequences, and the recognition of income. Timing may also impact decisions related to deductible expenditures and the tax benefit they provide. State taxes should also be considered as part of the planning process.

There's no time like the present to be a proactive participant in the planning process. You should talk to your advisor if you'd like to discuss tax planning or questions regarding upcoming changes that may impact your taxes.

Back in December 2010, everyone was excited about the extension of reduced individual tax rates put in place as part of the Bush era tax cuts, generous new estate and gift tax rules, and additional provisions resulting in overall tax savings for individuals and businesses. Many of these provisions were extended or implemented for only two years and are set to expire on December 31, 2012. That milestone is getting closer every day and taxpayers should start planning for it now.