The Fiscal Cliff: Key Tax Issues to Watch as Year-End Approaches

You can’t open a newspaper or turn on a new channel without hearing about it, the looming “fiscal cliff”.  Congress and the President are now facing a pile of unfinished tax business some of which has been lying around for years.  Below are some of the most important unresolved personal tax issues to watch for and be aware of as we head into the New Year.

Bush Tax Cuts on Ordinary Income: The current ordinary income tax rate brackets of 10%, 15%, 25%, 28%, 33%, and 35% will be replaced in 2013 by the pre-Bush brackets of 15%, 28%, 31%, 36% and 39.6%. If this happens it will mean across-the-board rate hikes for American taxpayers.

Bush Tax Cuts on Long-Term Capital Gains and Dividends: The current 0% and 15% rates on most long-term capital gains will rise to 10% and 20% in 2013. The current 0% and 15% rates on dividends will be replaced by ordinary income rates, which as mentioned above, are also scheduled to increase.

Harsher Marriage Penalty: The Bush tax cuts include several provisions that alleviate the marriage penalty. Currently, the bottom two tax brackets for married couples that filed jointly are twice as wide as for singles. This helps ease the impact of the marriage penalty on lower and middle-income couples. Starting next year, the joint-filing brackets are scheduled to shrink, causing higher tax bills for many couples that file jointly. Furthermore, the current standard deduction for married joint-filing couples is double the amount for singles. However, beginning next year, the joint-filer standard deduction is scheduled to fall back to roughly 167% of the amount for singles.

Personal Exemption and Itemized Deduction Phase-Outs: For 2010-2012, these rules were phased out themselves.  Both are scheduled to come back starting next year unless changes are made.

Alternative Minimum Tax (“AMT”): Each year Congress has “patched” the AMT rules to prevent millions from getting socked with this add-on tax. The patch job consists of allowing bigger AMT exemptions and allowing various personal tax credits to offset the AMT.  Thus far, we are still waiting for this year’s patch.

Payroll Tax Holiday: For 2012, the payroll tax holiday cut Social Security tax rates on salaries and self-employment income by 2%. This holiday is scheduled to end at the end of this year.

Estate Tax: For those who pass away this year, we currently have a generous $5.12 million federal estate tax exemption. Estates worth less than that figure will owe nothing to the government. Estates worth more will owe a flat 35% tax on the excess. Next year, the estate tax exemption is scheduled to drop significantly to only $1 million, and the maximum tax rate is scheduled to rise to 55%. This is pretty alarming when you consider that the value of an estate for tax purposes includes all of the decedent’s assets plus proceeds from insurance policies on the decedent’s life (unless the insurance is set up so that the decedent is not considered to own the policies).

Disclaimer: Hone Maxwell LLP articles and blogs are not intended as legal advice. Additional facts, facts specific to your situation or future developments may affect subjects contained herein. Seek the advice of an attorney before acting or relying upon any information herein.

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