Significant changes in tax rates in store for 2013 and beyond
The American Taxpayer Relief Act of 2012 (2012 Tax Act) and the Patient Protection and Affordable Care Act (Affordable Care Act) combine to produce significant changes in tax rates for 2013 and future years. The 2012 Tax Act extended many of the “Bush tax cuts” of 2001 and 2003 and made important changes to federal income, gift, estate, and generation-skipping transfer (GST) taxes. The 2012 Tax Act and the Affordable Care Act combine to result in substantial increases in tax rates. Following is a brief summary of certain key provisions of the 2012 Tax Act and the Affordable Care Act:
Gift, estate and GST tax provisions
- As of January 1, 2013, every individual has an exemption of approximately $5,250,000 from gift and estate taxes, and a separate exemption of the same amount from GST taxes.
- The maximum gift, estate, and GST tax rate is 40% (up from 35% in 2012).
- A deceased spouse’s unused gift and estate tax exemption amount (but not the GST exemption amount) remains “portable” so that the executor of a deceased spouse’s estate may transfer any unused exemption to the surviving spouse. This tax benefit may be lost if the surviving spouse remarries. Individual income tax provisions
- Starting in 2013, a top rate of 39.6% (up from 35%) will be imposed on individuals with taxable income of more than $400,000 a year ($425,000 for head of household and $450,000 for married filing jointly).
- The 2012 Tax Act imposes a 20% tax rate on long-term capital gains and qualified dividends that would otherwise fall in the 39.6% tax bracket. Below that level, the lower 2012 rates (15%) would remain in effect.
- The income tax rates include a limited phase-out of itemized deductions and personal exemptions starting at a threshold of $250,000 (individual filers), $275,000 (heads of households), and $300,000 (married filing jointly). This may increase a taxpayer’s effective marginal rate by up to 1.2%.
- The 3.8% Medicare tax on investment income as enacted by the Patient Protection and Affordable Care Act went into effect as of January 1, 2013. This tax applies to the lesser of (i) a taxpayer’s net investment income or (ii) the excess of the taxpayer’s modified adjusted gross income over $200,000 for single individuals and $250,000 for married individuals filing jointly. This tax will also be imposed on undistributed investment income of a trust in excess of $11,650.
- Taking each of these changes into account, the maximum federal rate applicable to ordinary income from investments will be approximately 44.6% (i.e., 39.6% + 1.2% + 3.8%), and the maximum rate applicable to capital gains and qualified dividends will be approximately 25% (i.e., 20% + 1.2% + 3.8%).
- The 2012 Tax Act extended the provision allowing tax-free distributions from an individual retirement account to a public charity, by an individual age 70½ or older, up to a maximum of $100,000 per taxpayer per year through December 31, 2013.
- The 2012 Tax Act did not extend the prior law’s reduction in the employee Social Security payroll tax rate. Accordingly, that rate increased from 4.2% to 6.2% in 2013. Further, as previously expected under the Affordable Care Act, an additional 0.9% Medicare tax is imposed on wage, compensation, or self-employment income that exceeds a threshold amount. This amount is $200,000 for a single individual and $250,000 for a married individual who files jointly with his or her spouse ($125,000 for married filing separately). The additional 0.9% Medicare tax is borne by the employee rather than the employer (though it is subject to withholding).
Business tax provisions
- The 2012 Tax Act extends through 2013 enhanced Section 179 expense limit of $500,000 with a $2 million investment limit.
- The 2012 Tax Act extends the 50% bonus depreciation through 2013.