American Taxpayer Relief Act

After weeks, indeed months of proposals and counter-proposals, seemingly endless negotiations

and down-to-the-wire drama, Congress has passed legislation to avert the tax side of the socalled

"fiscal cliff." The American Taxpayer Relief Act permanently extends the Bush-era tax

cuts for lower and moderate income taxpayers, permanently "patches" the alternative minimum

tax (AMT), provides for a permanent 40 percent federal estate tax rate, renews many individual,

business and energy tax extenders, and more.

The American Taxpayer Relief Act is intended to bring some certainty to the Tax Code. At the

same time, it sets the stage for comprehensive tax reform, possibly in 2013. Moreover, it creates

important planning opportunities for taxpayers, which we can discuss in detail.

Individuals

If Congress had done nothing, tax rates would have increased for all taxpayers at all income

levels after 2012. Both the White House and GOP realized that going over the fiscal cliff would

jeopardize the economic recovery, and the American Taxpayer Relief Act is, for the moment,

their best compromise.

Tax Rates - The American Taxpayer Relief Act extends permanently the Bush-era income tax

rates for all taxpayers except for taxpayers with taxable income above certain thresholds:

$400,000 for single individuals, $450,000 for married couples filing joint returns, and $425,000

for heads of households. For 2013 and beyond, the federal income tax rates are 10, 15, 25, 28,

33, 35, and 39.6 percent. In comparison, the top rate before 2013 was 35 percent. The IRS is

expected to issue revised income tax withholding tables to reflect the 2013 rates as quickly as

possible and provide guidance to employers and self-employed individuals.

Additionally, the new law revives the limitation on itemized deductions and personal exemption

phase out (PEP) after 2012 for higher-income individuals, but at revised thresholds. The new

thresholds for being subject to both of these limitations after 2012 are $300,000 for married

couples and surviving spouses, $275,000 for heads of households, $250,000 for unmarried

taxpayers; and $150,000 for married couples filing separate returns.

Capital Gains - The capital gains and dividend tax rates are modified by the American Taxpayer

Relief Act. Generally, the new law increases the top rate for qualified capital gains and dividends

from 15 to 20 percent to the extent that a taxpayer's income exceeds the

$400,000/$425,000/$450,000 thresholds discussed above. The 15 percent tax rate will continue

to apply to all other taxpayers (in some cases, zero percent for qualified taxpayers within the 15

percent or lower income tax bracket).

Payroll Tax Cut - The employee-side payroll tax holiday is not extended. Before 2013, the

employee share of OASDI taxes was reduced by two percentage points from 6.2 percent to 4.2

percent up to the Social Security wage base (with a similar tax break for self-employed

individuals). For 2013, the 2 percent reduction is no longer available and employee-share of

OASDI taxes reverts to 6.2 percent. The employer-share of OASDI taxes remains at 6.2 percent.

In 2012, the payroll tax holiday could have saved a taxpayer up to $2,202 (taxpayers earning at

or above the Social Security wage base for 2012). As a result of the expiration of the payroll tax

holiday, everyone who receives a paycheck or self-employment income will see an increase in

taxes in 2013.

AMT - In recent years, Congress routinely "patched" the AMT to prevent its encroachment on

middle income taxpayers. The American Taxpayer Relief Act patches permanently the AMT by

giving taxpayers higher exemption amounts and other targeted relief. This relief is available

beginning in 2012 and going forward. The permanent patch is expected to provide some

certainty to planning for the AMT. No single factor automatically triggers AMT liability, but

some common factors are itemized deductions for state and local income taxes; itemized

deductions for miscellaneous expenditures, itemized deductions on home equity loan interest

(not including interest on a loan to build, buy, or improve a residence); and changes in income

from installment sales. Our office can help you gauge if you may be liable for the AMT in 2013

or future years.

Child Tax Credit and Related Incentives - The popular $1,000 child tax credit was scheduled to

revert to $500 per qualifying child after 2012. Additional enhancements to the child tax credit

also were scheduled to expire after 2012. The American Taxpayer Relief Act makes permanent

the $1,000 child tax credit. Most of the Bush-era enhancements are also made permanent or

extended. Along with the child tax credit, the new law makes permanent the enhanced adoption

credit/and income exclusion; the enhanced child and dependent care credit, and the Bush-era

credit for employer-provided child care facilities and services.

Education Incentives - A number of popular education tax incentives are extended or made

permanent by the American Taxpayer Relief Act. The American Opportunity Tax Credit (an

enhanced version of the Hope education credit) is extended through 2017. Enhancements to

Coverdell education savings account, such as the $2,000 maximum contribution, are made

permanent. The student loan interest deduction is made more attractive by the permanent

suspension of its 60-month rule (which had been scheduled to return after 2012). The new law

also extends permanently the exclusion from income and employment taxes of employerprovided

education assistance up to $5,250 and the exclusion from income for certain military

scholarship programs. Additionally, the above-the-line higher education tuition deduction is

extended through 2013, as is the teachers' classroom expense deduction.

Charitable Giving - Congress has long used the tax laws to encourage charitable giving. The

American Taxpayer Relief Act extends a popular charitable giving incentive through 2013: taxfree

IRA distributions to charity by individuals age 70½ and older up to maximum of $100,000

for qualified taxpayer per year. A special transition rule allows individuals to re-characterize

distributions made in January 2013 as made on December 31, 2012. The new law also extends

for businesses the enhanced deduction for charitable contributions of food inventory.

Federal Estate Tax - Few issues have complicated family wealth planning in recent years, as has

the federal estate tax. Recent laws have changed the maximum estate tax rate multiple times.

Most recently, the 2010 Tax Relief Act set the maximum estate tax rate at 35 percent with an

inflation-adjusted exclusion of $5 million for estates of decedents dying before 2013. Effective

January 1, 2013, the maximum federal estate tax will rise to 40 percent, but will continue to

apply an inflation-adjusted exclusion of $5 million. The new law also makes permanent

portability between spouses and some Bush-era technical enhancements to the estate and

generation-skipping transfer taxes.

Businesses

The business tax incentives in the new law, while not receiving as much press as the individual

tax provisions, are valuable. Two very popular incentives, bonus depreciation and small business

expensing, are extended, as are many business tax "extenders."

Bonus Depreciation/Small Business Expensing - The new law renews 50 percent bonus

depreciation through 2013 (2014 in the case of certain longer period production property and

transportation property). Code Sec. 179 small business expensing is also extended through 2013

with a generous $500,000 expensing allowance and a $2 million investment limit. Without the

new law, the expensing allowance was scheduled to plummet to $25,000 with a $200,000

investment limit.

Small Business Stock - To encourage investment in small businesses, the tax laws in recent years

have allowed non-corporate taxpayers to exclude a percentage of the gain realized from the sale

or exchange of small business stock held for more than five years. The American Taxpayer

Relief Act extends the 100 percent exclusion from the sale or exchange of small business stock

through 2013.

Tax Extenders - A host of business tax incentives are extended through 2013. These include:

• Research tax credit
• Work Opportunity Tax Credit
• New Markets Tax Credit
• Employer wage credit for military reservists
• Tax incentives for empowerment zones
• Indian employment credit
• Railroad track maintenance credit
• Subpart F exceptions for active financing income
• Look-through rules for related controlled foreign corporation payments

Energy

For individuals and businesses, the new law extends some energy tax incentives. The Code Sec.

25C credit, which rewards homeowners who make energy efficient improvements, with a tax

credit is extended through 2013. Businesses benefit from the extension of the Code Sec. 45

production tax credit for wind energy, credits for biofuels, credits for energy-efficient appliances,

and many more.

Looking Ahead

The negotiations and passage of the new law are likely a dress rehearsal for comprehensive tax

reform. Both the President and the GOP have called for making the Tax Code more simple and

fair for individuals and businesses. The many proposals for tax reform include consolidation of

the current individual income tax brackets, repeal of the AMT, moving the United States from a

worldwide to a territorial system of taxation, and a reduction in the corporate tax rate. Congress

and the Obama Administration also must tackle sequestration, which the American Taxpayer

Relief Act delayed for two months. All this and more is expected to keep federal tax policy in the

news in 2013. Our office will keep you posted of developments.

If you have any questions about the American Taxpayer Relief Act, please contact our office.

We can schedule an appointment to discuss how the changes in the new law may be able to

maximize your tax savings

Sincerely,

WM. F. HORNE & CO., PLLC