Year-end 2013 brings many new planning opportunities along with the traditional year-end tax planning strategies. It also brings challenges for both individuals and businesses.
There is much for taxpayers and their tax advisors to consider in taking action before 2013 ends, including the important changes made by the American Taxpayer Relief Act of 2012 (ATRA) (signed into law on January 2, 2013), the provisions in the Patient Protection and Affordable Care Act of 2010 (Affordable Care Act) (scheduled to take effect in 2013, 2014) the Supreme Court’s decision on same-sex marriage and the release of significant new IRS rules on many pressing issues.
There is also the prospect of comprehensive tax reform in 2014, which will require some “crystal ball” forecasting of what Congress may or may not do in the coming year. On top of everything, the IRS shutdown in October could delay the start of the 2014 filing season, although the long-term effects have yet to be determined.
This week-long CCH briefing explores some of the 2013 year-end planning opportunities available to taxpayers, especially as the result of provisions that are new-for-2013 and those that at the moment are scheduled to expire after 2013.
Of course, every taxpayer’s situation is unique and a year-end planning strategy, whether for an individual, family or business, should be customized in consultation with a tax professional.
For higher income taxpayers, 2013 also represents a year of increased tax burden in comparison to previous years. Not only did ATRA set the maximum income tax rate at 39.6 percent, but the Affordable Care Act’s new surtax on net investment income (NII) and Additional Medicare Tax also began to apply as of January 1, 2013. The combination of these and other factors makes year-end planning all that more crucial.
At the time this Briefing was posted, the IRS had furloughed nearly 90 percent of its personnel in response to a lapse in appropriations after fiscal year (FY) 2013. The IRS has instructed taxpayers to file returns and pay taxes as normal during the shutdown. Notices and other automated functions are operating. However, the IRS is not responding to taxpayer questions during the shutdown. What long-term effects the shutdown will have, particularly for the 2014 filing season, are uncertain.
PLANNING FOR INDIVIDUALS [Part 1/7]
The approach of year-end 2013 brings more certainty to tax planning than in 2012 because of ATRA. In addition to the permanent extension of the Bush-era tax cuts for lower and middle income taxpayers, ATRA also revived the 39.6 percent tax bracket (at new levels) for higher income individuals, revived the personal exemption phaseout (PEP) and limitation on itemized deductions (Pease limitation) (at new levels), increased the maximum tax rate on qualified dividends and capital gains, and made many additional changes. And, as already noted, the Affordable Care Act brings two additional considerations that need to be factored into year-end planning by higher-income taxpayers for the first time in 2013 the NII surtax and the new Additional Medicare Tax.
For 2013 and subsequent years, the individual income tax rate schedules reflect a continuation of the rates under the “Bushera” tax cuts, except for the addition of a new 39.6 percent rate for the highest bracket. Thus, the individual income tax rates for 2013 and future years are 10, 15, 25, 28, 33, 35 and 39.6 percent. As in the past, each taxable income rate bracket is increased slightly each year based upon an inflation factor. The starting points for the 39.6 percent bracket for 2013 and 2014 (as projected for inflation) are:
Because the highest rate for estates and trusts starts at a relatively low level of taxable income ($11,950 in 2013 and $12,150 in 2014), executors and trustees should consider making distributions to beneficiaries before year end, which generally will pass that amount of taxable income through to those beneficiaries and escape tax at the comparatively high estate/trust level.
Starting in 2013, ATRA has raised the top rate for capital gains and dividends to 20 percent, up from the Bush-era maximum 15 percent rate. This top rate is generally aligned with the same income levels at which the new 39.6 percent income tax rate bracket starts: long-term capital gains and qualified dividends, to the extent they would be otherwise taxed at the 39.6 percent rate as marginal ordinary income, will be taxed at the 20 percent rate.
Absent ATRA, the maximum tax rate on net capital gain of all noncorporate taxpayers would have reverted to 20 percent (10 percent for taxpayers in the 15 percent bracket) starting January 1, 2013. On the other side of the spectrum, because of ATRA, taxpayers with incomes below the top of the 15 percent income tax bracket for 2013 and in the future will continue to be subject to a zero percent capital gains/dividends rate.
The 28 and 25 percent tax rates for collectibles and unrecaptured Code Sec. 1250 gain, respectively, continue unchanged after 2012. Also unchanged is the application of ordinary income rates to short-term capital gains, except that now taxpayers may potentially be subject to a higher top rate (39.6 percent instead of 35 percent). This could be even higher (43.4 percent) if the NII surtax applies (see below).
Taxpayers may consider using carryforward losses from 2012 by recognizing capital gains to the extent of the available carryfowards, preferably short-term gains if available, since they are taxed at the ordinary-income rates. Carryforward net capital losses from pre-2013 transactions, which would have only offset capital gains at a maximum 15 percent rate, are able to offset capital gains at the new, higher rates without adjustment for the rate change.
Holding capital assets for more than 12 months before taxable disposition to avoid short-term capital gain status is usually advisable, unless sufficient loss offsets have been recognized, or market conditions indicate otherwise.
Year-end planning should also look to avoiding spikes in income, whether capital gains or other income, which may push capital gains into either the 39.6 percent bracket or the 20 percent capital gains bracket. Spreading the recognition of certain income between 2013 and 2014, rather than recognizing it all in either 2013 or 2014, may accomplish this goal.
Generally, dividends received from a domestic corporation or a qualified foreign corporation, on which the underlying stock is held for at least 61 days within a specified 121-day period, are qualified dividends for purposes of the reduced, capital gains tax rate. Certain dividends do not qualify for the reduced tax rates and are taxed as ordinary income. These include, dividends paid by credit unions, mutual insurance companies, and farmers’ cooperatives.
Installment payments are subject to the tax rates for the year of the payment, not the year of the sale. The capital gains portion of payments made in 2013 and later is now taxed at the 20 percent rate for higher-income taxpayers.
JDKatz, P.C. is a full-service law firm focused on tax law, business and transactional law, estate planning and elder law. We are dedicated to minimizing your existing liability and risks while providing valuable tax planning to streamline your tax issues in the future. Please call us at 301-913-2948 to schedule an appointment to meet with one of our trusted attorneys, or visit http://www.jdkatz.com.