By Dale L. Mullin CPA, CFP
The government shutdown was a hotly debated topic of discussion for almost everyone and yet was barely an inconvenience for most people. By contrast, there are several new tax laws in place that will have a real impact by taking significant dollars out of some people’s pockets and many aren’t even aware.
Working Americans started 2013 with a tax increase when the 2 percent payroll tax reduction expired last year and workers saw less in their paycheck. Many self employed business owners will see the impact through increased self employment tax when their 2013 returns are prepared.
Tax planning strategies for individuals this year and beyond require careful consideration of taxable income in relation to threshold amounts that might bump you into a higher tax bracket. Small business owners want to pay special attention to accelerating deductions on new equipment to reduce income for 2013 in case the generous expensing limits are not extended.
The tax brackets are similar to prior years with the exception of a new 39.6 percent tax bracket for the highest income tax payers ($400,000 for unmarried individuals and $450,000 for married couples filing jointly MFJ). For these taxpayers, ATRA also raised the top tax rate for long term capital gains and qualified dividends to 20 percent in 2013 (up from 15 percent).
By comparison, the long term capital gain from the sale of an investment in 2012 was taxed at a 15 percent rate, but in 2013 will be taxed at 20 percent plus the 3.8 percent surtax for a combined 23.8 percent tax hit. Short term capital gains and taxable interest income may now be taxed as high as 43.4 percent rather than 35 percent in 2012.
The Net Investment Income Tax is a 3.8 percent surtax applied to investment income for people above certain threshold amounts ($200,000 for single filers and $250,000 for married filing jointly). Investment income includes interest, dividends, capital gains, annuities, rents, royalties and passive activities such as rental income. Investment income does not include distributions from IRAs or other retirement accounts or income from an active trade or business.
Investors need to consider tax efficient investments and the importance of managing capital gains. For example, taxpayers below threshold amounts in 2013 might want to take gains; whereas taxpayers above threshold amounts might want to take losses to offset gains and have excess losses reduce taxable income up to the $3,000 annual limit.
If your income is from your job or business, you may be subject to the additional Medicare tax beginning in 2013 on earned income. Taxpayers whose wages or self employment income exceeds $200,000 for single filers and $250,000 for MFJ are liable for an additional Medicare tax of 0.9 percent on their tax returns. Workers concerned about losing their refunds or possibly owing tax, may want to consider asking their employers to withhold additional tax from their pay.
Accelerating deductions into 2013 is an especially good idea for taxpayers who anticipate being in a higher tax bracket this year or whose earnings are close to threshold amounts ($200,000 for single filers and $250,000 for married filing jointly) that make them liable for additional Medicare tax or NIIT. Below are some examples of what you can do to accelerate deductions:
Increase retirement plan contributions or contribute to a Traditional IRA before April 15. If covered by a high deductible health insurance plan, consider contributing the maximum amount into a Health Savings Account (HSA).
For those that itemize deductions, the following is worth considering:
Pay a state estimated tax installment in December instead of at the January due date. Make charitable donations before year end rather than waiting to early next year. Pay your property tax bill by year-end.
Try to bunch “threshold” expenses, such as medical and dental expenses (10 percent of AGI starting in 2013) and miscellaneous itemized deductions rather than spreading them out over two years.
Fortunately, ATRA kept the $1,000 child tax credit and extended the non-business energy credit through 2013. You may claim a credit of 10 percent of the cost of certain energy saving property that you added to your main home. This includes the cost of qualified insulation, windows, doors, roofs and some heating equipment.
The credit is cumulative dating back to 2006 with a lifetime credit of $500 ($200 for windows). A credit of up to $7,500 is allowed for the purchase of an electric vehicle, such as the Ford Focus Electric and Nissan Leaf, through 2014 or until the manufacturer has sold 200,000 units.
Many other tax provisions are in limbo and at risk of not being extended. A bipartisan Congressional budget committee is supposed to decide by Dec. 13 what tax rules will be extended beyond 2013. Popular tax incentives due to expire include the state sales tax deduction, mortgage insurance deduction, $250 teachers expense deduction and IRA distributions direct to charity for individuals over age 70 ½ (up to $100,000).
Business owners should also be aware of expiring rules and consider taking advantage of them before Dec. 31. The annual dollar limitation on Code Sec. 179 expensing of qualified property such as equipment is $500,000 this year, but scheduled to be $25,000 in 2014 under current law.
The 50 percent bonus depreciation on new equipment is also set to expire. Capital improvements to your workspace are typically depreciated over 39 years, but for 2013 improvements to leaseholds, restaurants and retail property may qualify for accelerated first year expensing and 15 year depreciation. Other provisions set to expire by Dec. 31 are the exclusion of gain on certain C-corporations (technology, manufacturing, retail or wholesale) that issue stock that is held for more than five years. Credits for research and hiring workers from targeted groups also may go away.
Given the government shutdown and the inability of politicians to agree on anything lately, it is difficult to know whether any of the many tax provisions will be extended. Individuals and business owners should consult with their tax advisor to determine the impact of the tax changes already here and the tax benefits that may be gone Jan. 1.
Mullin is a partner with Whittemore, Dowen & Ricciardelli LLP and vice president of WDR Financial Services LLC. He can be reached at dlmullin@wdrcpa.com or 792-0918.