Each year I receive a Christmas card from one of my favorite tax professors, Professor Barcal. Although some of you might think that discussing tax cases and regulations could get a little dull, this was never the case in his class. Tax even infiltrated into his apparel, as he would wear ties that related to tax cases! In Professor Barcal’s card, along with pictures of his family and a warm holiday greeting, he always includes the phrase “Think Tax.” With the dust settling from the fiscal cliff deal and the start of a new year, it’s a great time to “Think Tax.” Highlighted below are some of the tax changes for 2013.
No “Payroll Tax Holiday”
After a two year (2011-2012) payroll tax cut, the Social Security payroll tax is once again 6.2% (12.4% for self-employed). The impact of this is that taxpayers with wages will pay up to 2% more in payroll taxes compared to last year. For example, an employee with $100,000 in wages will pay $6,200 ($100,000 x 6.20%) in Social Security payroll tax in 2013, which is $2,000 more than the 2012 amount.
Planning: Wage earners will see a decrease in their take home pay by as much as 2% due to the increase in payroll tax. Adjust your budget accordingly.
After a two year (2011-2012) payroll tax cut, the Social Security payroll tax is once again 6.2% (12.4% for self-employed). The impact of this is that taxpayers with wages will pay up to 2% more in payroll taxes compared to last year. For example, an employee with $100,000 in wages will pay $6,200 ($100,000 x 6.20%) in Social Security payroll tax in 2013, which is $2,000 more than the 2012 amount.
Planning: Wage earners will see a decrease in their take home pay by as much as 2% due to the increase in payroll tax. Adjust your budget accordingly.
Tax Rates
For taxpayers with income under $450,000 for married-joint filers and $400,000 for single filers, ordinary income tax rates remain unchanged from 2012 with a top tax rate of 35%. Likewise, the top rate for long-term capital gains and qualified dividends is still 15%. However, for taxpayers with income above the threshold, the top rate for ordinary income is now 39.6% and the top rate for qualified dividends and long-term capital gains is 20%.
Planning: Tax planning may be able to reduce your tax burden. For instance, if a taxpayer will be in higher tax bracket (or over a threshold) in one year but not the next, accelerating deductions and deferring income could reduce the overall tax liability.
For taxpayers with income under $450,000 for married-joint filers and $400,000 for single filers, ordinary income tax rates remain unchanged from 2012 with a top tax rate of 35%. Likewise, the top rate for long-term capital gains and qualified dividends is still 15%. However, for taxpayers with income above the threshold, the top rate for ordinary income is now 39.6% and the top rate for qualified dividends and long-term capital gains is 20%.
Planning: Tax planning may be able to reduce your tax burden. For instance, if a taxpayer will be in higher tax bracket (or over a threshold) in one year but not the next, accelerating deductions and deferring income could reduce the overall tax liability.
New Health Care Taxes
To further complicate things, two new Medicare taxes take effect in 2013. The income threshold for these new taxes is $250,000 for married-joint filers and $200,000 for single filers (these thresholds are not indexed for inflation). The first tax is on earned income. Thus, wage and self-employment income over the threshold incurs an additional 0.9% Medicare Hospital Insurance tax. The other tax applies to unearned income. In short, there is a surtax of 3.8% on the lesser of: (1) net investment income (e.g. interest, dividends, and net capital gains) and (2) the excess of modified AGI over the threshold.
Planning: Consider asset location to reduce or eliminate the impact of the 3.8% surtax on unearned income. For example, holding income producing investments in a retirement plan instead of a taxable account would likely reduce net investment income.
To further complicate things, two new Medicare taxes take effect in 2013. The income threshold for these new taxes is $250,000 for married-joint filers and $200,000 for single filers (these thresholds are not indexed for inflation). The first tax is on earned income. Thus, wage and self-employment income over the threshold incurs an additional 0.9% Medicare Hospital Insurance tax. The other tax applies to unearned income. In short, there is a surtax of 3.8% on the lesser of: (1) net investment income (e.g. interest, dividends, and net capital gains) and (2) the excess of modified AGI over the threshold.
Planning: Consider asset location to reduce or eliminate the impact of the 3.8% surtax on unearned income. For example, holding income producing investments in a retirement plan instead of a taxable account would likely reduce net investment income.
Alternative Minimum Tax (AMT)
After years of Congress throwing together last minute AMT “patches,” they have finally provided permanent AMT relief for individuals. For 2012, the AMT exemption amount is $50,600 for single filers and $78,750 for married-joint filers. Going forward, these amounts will be indexed for inflation.
Planning: For most people, AMT is an elusive tax topic. If you are in AMT or expect to be in AMT, you should look at your tax situation each year to determine appropriate strategies.
Phaseout of Personal Exemptions & Itemized Deductions
Since 2010 taxpayers have not had to worry about the phaseout of personal exemptions and limitations on itemized deductions. Now these provisions are permanently reinstated for taxpayers with adjusted gross income (AGI) over certain thresholds ($300,000 for married-joint filers and $250,000 for single filers).
Planning: For high-income taxpayers, there are different threshold levels for different tax provisions. Be aware of these thresholds and their implications.
After years of Congress throwing together last minute AMT “patches,” they have finally provided permanent AMT relief for individuals. For 2012, the AMT exemption amount is $50,600 for single filers and $78,750 for married-joint filers. Going forward, these amounts will be indexed for inflation.
Planning: For most people, AMT is an elusive tax topic. If you are in AMT or expect to be in AMT, you should look at your tax situation each year to determine appropriate strategies.
Phaseout of Personal Exemptions & Itemized Deductions
Since 2010 taxpayers have not had to worry about the phaseout of personal exemptions and limitations on itemized deductions. Now these provisions are permanently reinstated for taxpayers with adjusted gross income (AGI) over certain thresholds ($300,000 for married-joint filers and $250,000 for single filers).
Planning: For high-income taxpayers, there are different threshold levels for different tax provisions. Be aware of these thresholds and their implications.
Charitable Distribution from IRA
For taxpayers over age 70½, the ability to make tax-free distribution (up to $100,000 annually) to a qualified charity was set to expire at the end of 2011. Congress, however, extended this provision for 2013 and in some situations made it retroactive for 2012. For instance, January 2013 IRA distributions to charity may count as being made in 2012. Also, IRA distributions made in December 2012 may qualify under this rule if the distribution amount is transferred to a charity during January 2013.
Planning: With this provision being retroactive to 2012, in some case, there may be an opportunity for taxpayers to take advantage of this by acting before the end of January 2013.
For taxpayers over age 70½, the ability to make tax-free distribution (up to $100,000 annually) to a qualified charity was set to expire at the end of 2011. Congress, however, extended this provision for 2013 and in some situations made it retroactive for 2012. For instance, January 2013 IRA distributions to charity may count as being made in 2012. Also, IRA distributions made in December 2012 may qualify under this rule if the distribution amount is transferred to a charity during January 2013.
Planning: With this provision being retroactive to 2012, in some case, there may be an opportunity for taxpayers to take advantage of this by acting before the end of January 2013.
Estate & Gift Taxes
Thankfully, the estate and gift tax laws did not revert to the pre-2011 rules (e.g. $1 million exemption and a 55% top rate). Instead, the new law is similar to what has been in place for the past couple of years. The estate and gift exemption amount remains at the $5 million level indexed for inflation. One change is that the old 35% tax rate has been increase to 40%. Also, the annual gift exclusion for 2013 increased to $14,000 ($13,000 in 2012).
Planning: Your estate plan should be reviewed periodically to ensure that it aligns with your wishes. This is especially the case when laws and/or personal circumstances change.
Thankfully, the estate and gift tax laws did not revert to the pre-2011 rules (e.g. $1 million exemption and a 55% top rate). Instead, the new law is similar to what has been in place for the past couple of years. The estate and gift exemption amount remains at the $5 million level indexed for inflation. One change is that the old 35% tax rate has been increase to 40%. Also, the annual gift exclusion for 2013 increased to $14,000 ($13,000 in 2012).
Planning: Your estate plan should be reviewed periodically to ensure that it aligns with your wishes. This is especially the case when laws and/or personal circumstances change.
Retirement Plan Contribution Limits (2013)
Also, I thought it would be helpful to outline some of the retirement contribution limits for 2013:
Also, I thought it would be helpful to outline some of the retirement contribution limits for 2013:
– 401(k) & 403(b) elective deferrals $17,500
Catch-up contribution (age 50 and over) $5,500
– SIMPLE contribution limit $12,000
Catch-up contribution (age 50 and over) $2,500
– IRA contributions limit $5,500
Catch-up contribution (age 50 and over) $1,000
Planning: Evaluate your current retirement contributions. Remember that contributions to a non-Roth retirement account may reduce your income.
In Sum, “Think Tax”
There are a myriad of tax changes for 2013. The above items highlight some of these changes, but there are many others not covered here. For example, there are changes to Roth IRA conversions as well as the extension of some laws that were set to expire. With all these changes in mind, Professor Barcal’s advice to “Think Tax” seems most fitting. Building on his counsel, I believe it is important to be aware of the changes that impact you. Then, use tax planning as a tool to help you reach your financial goals.
Special Note: For more information without having to read the tax law, Deloitte has put together a report entitled “Swerving from the Cliff,” which I found very helpful in putting together this summary.