By McNees Asset Planning and Federal Taxation Group
The American Taxpayer Relief Act of 2012 (the "Act") was signed into law on January 1, 2013 to avert the tax law changes that were one part of the "fiscal cliff" facing our country's economy (the other part being automatic spending cuts). The Act eliminates the sunsetting of The Economic Growth and Tax Relief Reconciliation Act of 2001 (commonly referred to as the "Bush tax cuts"). The sunset was to occur on January 1, 2010, but The Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 extended the Bush tax cuts for two years. The Act eliminates the sunset provisions of the Bush tax cuts and includes various other changes to the tax code. The purpose of this article is to summarize the Act's changes to the income tax laws and the estate tax, gift tax, and generation skipping transfer tax laws.
The slated increase in income tax rates garnered the most attention leading up to the end of 2012. The income tax rate brackets for 2010 through 2012 were 10%, 15%, 25%, 28%, 33%, and 35%. The Act maintains these brackets although a tax rate of 39.6% will apply to taxable income of more than $450,000 for joint filers and more than $400,000 for individual filers. These threshold amounts are inflation adjusted for years after 2013. Other important aspects of the Act with regard to income taxes include:
- The Act extends the "marriage penalty" relief for joint filers.
- The tax rate for capital gains and qualified dividends increases from 15% to 20% for taxpayers with income of more than $450,000 for joint filers and more than $400,000 for individual filers.
- The personal exemption phase out and limitation on itemized deductions have been reinstated so that the exemption and itemized deductions that may be claimed are limited (or eliminated) for taxpayers whose income exceeds $300,000 (for joint filers) and $250,000 (for single filers).
- The Alternative Minimum Tax has been "patched" without the need for annual renewal of the patch.
- For 2012 and 2013 taxpayers older than 70.5 years of age may distribute up to $100,000 from an IRA to a charity without realizing any income (an IRA distribution made in January 2013 may be treated as made on December 31, 2012 and a distribution made in December 2012 may be treated as a qualified distribution in 2012 provided the taxpayer donates the IRA distribution to a charity by February 1, 2013).
- Bonus depreciation has been extended for one year.
- Eligible businesses will be able to expense up to $500,000 of capital expenditures for 2012 and 2013.
- The five-year recognition period for built-in gains for S-corporations that converted from C-corporations is now permanent.
Businesses may be encouraged to make capital expenditures with the extension of bonus depreciation and the favorable expensing rules (this is certainly the intent of these provisions). In addition, a C-corporation may want to consider converting to an S-corporation in light of the five-year recognition period for built-in gains (previously this period was ten years).
Individual taxpayers can take some solace in the new income tax rate structure since the Act did not adopt the executive branch's position that rates should increase for incomes above $250,000 (for joint filers) and $200,000 (for single filers). However, individual taxpayers still need to be aware of the taxes imposed by the Affordable Care Act (commonly referred to as "Obama Care"). The Affordable Care Act imposes additional Medicare tax of 0.9% on wages and self-employment income in excess of $250,000 (for joint filers) and $200,000 (for single filers). In addition, there is a 3.8% tax on net investment income (interest, dividends and capital gains) for taxpayers with income in excess of $250,000 (for married filers) and $200,000 (for single filers).
Estate, Gift, and Generation Skipping Transfer Taxes
Many clients were engaged in significant estate planning during 2012 to take advantage of the estate, gift, and generation skipping ("GST") transfer taxes that existed last year. The Act makes permanent the estate, gift, and GST tax laws that existed in 2012 except that the top tax rate is now 40% instead of 35%.
The exemption amount will be $5,250,000 in 2013 (the $5,120,000 amount from 2012 is adjusted for inflation). In addition, the Act, by making the current law permanent, provides for the following:
- "Portability" continues so that a surviving spouse may elect to transfer the unused exemption amount of a deceased spouse.
- Inheritance taxes will continue to be a deduction against federal estate tax instead of a credit.
- Various favorable GST tax provisions continue.
- Various favorable rules regarding the payment of estate tax for family business interests continue.
In light of the Act, our estate planning clients should consider reviewing and possibly updating their estate plans. Some clients may be able to simplify their plans given the larger estate tax exemption amount while other clients may want to employ gifting strategies designed to take advantage of the $5,250,000 gifting exemption amount either by making a large gift or utilizing the additional exemption amount that is now available.
The Act continues a variety of popular tax deductions and credits and for the most part preserves the income tax rates that applied in 2012. What the Act does not do, however, is address the federal government's budget deficit. There is no way to predict how the government will address the budget deficit, but how the deficit is addressed may result in changes to the tax laws once again (even the "permanent" parts). The Act and any future tax law changes will impact each client differently. We encourage you to reach out to your advisors at McNees Wallace & Nurick LLC to discuss the Act and its impact on you and your planning.
© 2013 McNees Wallace & Nurick LLC
McNees Insights is presented with the understanding that the publisher does not render specific legal, accounting or other professional service to the reader. Due to the rapidly changing nature of the law, information contained in this publication may become outdated. Anyone using this material must always research original sources of authority and update this information to ensure accuracy and applicability to specific legal matters. In no event will the authors, the reviewers or the publisher be liable for any damage, whether direct, indirect or consequential, claimed to result from the use of this material.
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