From Phil Eubank-PE Financial Group
Tax planning (saving) strategies for 2013 & highlights of the American Taxpayer Relief Act of 2012 or ATRA:
Major provisions of ATRA that may affect you, your business or someone you know:
1. The maximum income tax rate for taxpayers with taxable income (TI) over 400,000 single/450,000 married filing jointly/425,000 heads of households, increases from 35% to 39.6%.
2. The maximum rate on long term capital gains and qualified dividends increases from 15% to 20% for taxpayers in the 39.6% tax bracket; however, those in the 25 to 35% tax brackets will continue to pay the 15% rate. Taxpayers in the 10 to 15% tax brackets have a zero rate on capital gains and qualified dividends.
3. Note: Under the Patient Protection and Affordable Care Act, taxpayers must also pay a new surcharge or additional tax of 3.8% on net investment income (NII) if certain income thresholds are exceeded (200,000 for single filers, 250,000 for joint filers and 125,000 for married filing separately.
4. Starting in 2013, the FICA (Social Security) payroll tax on wages or earned income will increase from 4.2 to 6.2% up to the Social Security wage base of 113,700. In other words, the 2012 payroll tax holiday is over.
5. A new Medicare tax surcharge of .9% on earnings over 200,000/250,000/125,000 thresholds. Therefore, high wage earners will get hit with a double whammy: the higher FICA tax plus the new Medicare tax surcharge.
6. So called "back-door" tax increases are with us again: the personal exemption phaseout (PEP) and the "Pease" deduction phaseout, named after former Rep. Donald Pease (D., Ohio). Both PEP and Pease start at "adjusted gross income"(AGI) thresholds exceeding 250,000 for single filers, 275,000 for heads of households, 300,000 for joint filers and 150,000 for married filing separately. AGI is income before itemized deductions and exemptions. PEP reduces the exemption amount by two percent for each 2,500 that the taxpayer's AGI exceeds the applicable threshold amount. The Pease limitation reduces itemized deductions by three percent of the amount by which the taxpayer's AGI exceeds the applicable threshold. Itemized deductions may be reduced up to 80%. Certain deductions such as medical expenses, investment interest and casualty, theft or wagering losses are excluded.
7. ATRA "patches" The Alternative Minimum Tax or AMT by increasing the exemption amount to 51,900 for single filers, 80,750 for joint filers and 40,375 for married filing separately. This means that far fewer taxpayers will be subject to the AMT.
8. For businesses, ATRA extended the special "bonus depreciation" write-off at the rate of 50% for qualified machinery and equipment. The IRS Code Section 179 accelerated depreciation expensing was also extended and enhanced.
9. Other extenders include: the child tax credit (1,000); Earned Income Credit; state and local sales tax deduction; child and dependent care credit; deductions and credits for qualified tuition and related expenses; residential energy credits and tax-free IRA distributions to charity.
10. To the relief of many taxpayers, ATRA permanently provides for a maximum federal estate and gift tax rate of 40% (was 35%) and exclusion of 5,000,000. Before the year-end congressional compromise, the exclusion was scheduled to drop to 1,000,000 with a top rate of 55%.
Some tax strategies to consider:
1. The most obvious tax saving strategy is to reduce the various income thresholds that trigger the higher rates or limit deductions, exemptions and credits. These would fall into three general categories:
a. Reduction of wages and other earned income
b. Reduction of AGI (adjusted gross income)
c. Reduction of TI (taxable income)
2. Reduction of wages and other earned income: e.g., consider increasing contributions to 401(k) or other employer retirement plans; flexible spending or Sec 125 plans; setting up employee favored auto/transportaion reimbursement plan.
3. Reduction of AGI: e.g., deductions for IRA, SEP IRA contributions; tuition/fees; student loan interest; self-employed medical insurance; maximizing business write-offs, including rental activities, pass-through entities such as partnerships, LLC's, S-Corporations, trusts and estates; limiting taxable interest, dividends and capital gains. Another important strategy is the proper calculation and utilization of net operating losses, capital losses and carryovers and carrybacks.
4. Reduction of TI: e.g., maximizing itemized deductions such as state and local property and income taxes; mortgage interest; charitable contributions; casualty and theft losses; taking advantage of energy credits; child and dependent care credits and the earned income credit if applicable.
5. Harvest capital losses to extent of capital gains plus 3,000 deduction.
6. Consider a Roth IRA conversion to extent it doesn't trigger higher rate, to reduce future retirement income.
7. Make charitable gifts; note: if you can’t decide who the donee will be, consider a “donor advised” account which will allow you to make the deduction this year & make a decision later on who gets what.
8. Make an extra mortgage payment or pay down principal; same goes for property and state income taxes.
9. Contribute the maximum amount to your retirement plan (reduces earned income or AGI).
10. Use up funds in your medical flexible-spending account (in 2013, the contribution limit will drop to $2,500)
11. Accelerate medical expense deduction if you itemize.
12. If you own a business, buy depreciable machinery, fixtures and equipment and claim special 50% “bonus depreciation” write-off.
13. Set up Health Savings Account (HSA) before year-end.
14. Make gifts up to $13k(14k in 2013) to relatives or friends (gift/estate tax planning)
15. Contribute to Sec 529 education savings account (“529 Plan”) for tax free growth of assets; qualified amounts leave your estate (free of potential estate tax).
16. Non-cash charitable contribution “bunching” strategy: accumulate the stuff you plan to donate to charity over 2-3 year period and deduct it when it gives you the greatest tax benefit. e.g., defer 2012 donation until 2013 when tax rates go up.
17. Installation of qualified solar water heating property, solar electric, geothermal heat pumps and small wind energy property provides for a 30% tax credit.
As deductions and credits become more valuable, especially for higher income taxpayers, tax planning will become increasingly important. Please contact me if you have any questions. Happy New Year!