Tax Rates Increase in 2013

As part of the 2012 American Taxpayer Relief Act (ATRA), tax rates, both ordinary and capital gains, increased in 2013 for higher income taxpayers whose taxable income exceeds the income threshold for their filing status.

The thresholds at which taxpayers are subject to the top ordinary and long-term capital gains tax rates are $450,000 for joint filers and surviving spouses, $425,000 for heads of household, $400,000 for single filers, and $225,000 for married couples filing separately.

These increases will have the following impact on ordinary income and long-term capital gains rates:

• Ordinary Income Rates – Prior to the law change, there were six tax brackets: 10, 15, 25, 28, 33 and 35%. The ATRA added a new top rate of 39.6%. Thus, higher-income taxpayers, to the extent their taxable income exceeds the income threshold for their filing status, will be subject to the new 39.6% rate (up 4.6% from previous 35% top rate).

Example: Jack and Sally, who are filing jointly, have an ordinary taxable income of $600,000. Their income above $450,000 will be subject to the 39.6% tax rate. Thus, they will see a tax increase of $6,900 (($600,000  $450,000) x 4.6%) as a result of the new tax bracket.

• Capital Gains and Dividends – Prior to the law change, the long-term capital gain was zero for taxpayers in the 10 and 15% ordinary income tax bracket and 15% for taxpayers with taxable income above the 15% bracket. The ATRA increased the top rate for long-term capital gains and qualified dividends to 20% (up from 15%) for taxpayers with incomes exceeding the threshold for their filing status. Thus, for years beginning in 2013, there will be three long-term capital gains rates: 0, 15, and 20%, with the 20% applying to higher-income taxpayers.
  
  Example: Howard, a single individual, retired this year and sold his rental property, which he had owned for a long time, for a profit of $700,000. Even though his income is generally in a lower-income tax bracket, the profit from the sale itself pushed his income above the $400,000 threshold for single taxpayers, and to the extent his income exceeds the $400,000 threshold, he will be subject to the increased capital gains rate. Had Howard’s other taxable income been $50,000, he would have had a total income of $750,000, of which $350,000 exceeds the 20% long-term CG rate threshold. As a result, Howard pays the 20% rate on $350,000, resulting in an increase of $17,500 ($350,000 x 5%) over what he would have paid in 2012.
  
  Generally, sales that are subject to long-term capital gains rates are also investment income subject to the 3.8% unearned income Medicare contribution tax that is part of the Affordable Care Act.
  
  If Howard had utilized an installment sale, he could have spread the gain over multiple years and possibly avoided the higher CG rate. He might have also utilized a tax-deferred exchange to defer the gain into another real estate property.

If you have any questions about how these new tax rates will impact you, please give our office a call.

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Higher Income Taxpayers Hit with Exemption & Itemized Deductions Phase-out

Generally, taxpayers are allowed to deduct personal exemptions of $3,900 for themselves, their spouses and their dependents. In addition, taxpayers are allowed a standard deduction or, if their deductions are large, they can itemize their deductions.

The American Taxpayer Relief Act of 2012 included a provision to phase out, beginning in 2013, both the personal exemptions and itemized deductions for higher income taxpayers. The phase-out will begin when a taxpayer’s adjusted gross income (AGI) reaches a phase-out threshold amount.

The threshold amounts are based on the taxpayers’ filing statuses and are: $250,000 for single filers, $275,000 for individuals filing as heads of households, $300,000 for married couples filing jointly and $150,000 for married individuals filing separately. Here is how the phase-out will work:

• Personal Exemption—The otherwise allowable exemption amounts are reduced by 2% for each $2,500 or part of $2,500 ($1,250 for a married taxpayer filing separately) that the taxpayer’s AGI exceeds the threshold amount for the taxpayer’s filing status.
  
  Example: Ralph and Louise have an AGI of $412,500 for 2013 and two children for a total of four exemptions totaling $15,600 (4 × $3,900). The threshold for a married couple is $300,000; thus, their income exceeds the threshold by $112,500. Dividing $112,500 by $2,500 equals 45. So 90% (45 × 2%) of their $15,600 exemption allowance is phased out, leaving them with a reduced exemption deduction of $1,560 ((100–90) × $15,600). Assuming Ralph and Louise are in the 33% federal tax bracket, the phase-out costs them an additional $4,633 ($15,600 × 90% × 33%).
  Divorced or separated parents subject to the phase-out should consider relinquishing the exemption of a dependent child to the other parent. Where a taxpayer is a party to a multiple support agreement, the taxpayer may want to allow another contributing member of the agreement who is not hit by the phase-out to claim the dependent’s exemption.
• Itemized Deductions—The total amount of itemized deductions is reduced by 3% of the amount by which the taxpayer’s AGI exceeds the threshold amount, with the reduction not to exceed 80% of the otherwise allowable itemized deductions.
  
  Not all itemized deductions are subject to phase-out. The following deductions are not subject to the phase-out:
• Medical and dental expenses
• Investment interest expenses
• Casualty and theft losses from personal-use property
• Casualty and theft losses from income-producing property
• Gambling losses

Thus, a taxpayer who is subject to the full phase-out still gets to deduct 20% of the deductions subject to the phase-out and 100% of the deductions listed above.

Example: Ralph and Louise from the previous example, who had an AGI of $412,500 for 2013, exceed the threshold for a married couple by $112,500. Thus, they must reduce their itemized deductions subject to the phase-out by $3,375 (3% of $112,500), but the reduction must not exceed 80% of the deductions subject to the phase-out. For 2013, Ralph and Louise had the following itemized deductions:

                                                               Subject to Phase-out                  Not Subject to Phase-out

                  Home mortgage interest:               $10,000
                  Taxes:                                            $8,000
                 Charitable contributions:                $6,000
                 Casualty loss:                                                                                   $12,000
                 Total:                                           $24,000                                      $12,000

The phase-out is the lesser of $3,375 or 80% of $24,000. Thus Ralph and Louise’s itemized deductions for 2013 will be $32,625 ($24,000  $3,375 + $12,000). Assuming Ralph and Louise are in the 33% federal tax bracket, the phase-out will cost them an additional $1,114 ($3,375 × 33%).

Conventional thinking is to maximize deductions. However, where taxpayers normally are not subject to a phase-out and have a high-income year because of unusual income, it may be appropriate, where possible, to defer paying deductible expenses to the year following the high-income year or perhaps pay and deduct the expenses in the preceding year.

If you have questions about how these phase-outs will impact your specific situation, you want to adjust your withholding or estimated taxes, or you want to make a tax planning appointment, please give our office a call.

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Keeping You Informed: Health Insurance Mandate

One can hardly turn on the television or radio without hearing about some aspect of health care reform. For larger employers, there is planning and information gathering to be done right now for the employer mandated health coverage provision effective January 1, 2014. A less-discussed aspect of reform, however, is the communication requirement for all employers subject to the Fair Labor Standards Act (FLSA). The FLSA applies to employers engaged in interstate commerce. For most, a test of not less than $500,000 in business volume applies. It also specifically covers the following regardless of business aspects: hospitals, nursing homes, schools, and government agencies. To help determine whether you’re subject to the FLSA, see www.dol.gov/elaws/esa/flsa/scope/screen24.asp.

This notice requirement had an original deadline of March 1, but was extended to October 1, 2013. By this date, all employers must automatically provide all current employees with the notice and new employees must receive it within 14 days of their start date. All employees must receive the notice regardless of their full or part time status or their current health coverage status.

The notice informs the employees about the existence of the Health Insurance Marketplace (also referred to as an “exchange”), the benefits or consequences regarding the purchase of insurance from the Marketplace, and the available coverage through their employer, if any. Temporary guidance issued May 8, 2013, provides additional details regarding the substance of the notice and also provides two model notices: one for employers with Health Plans and one for employers with no Health Plan. These models can be modified by employers, but any modified notices still must cover the minimum content requirements. Model notices can be found at www.dol.gov/ebsa/healthreform.

For further information or questions, please feel free to contact Jennifer Jenkins at 601-649-5207.

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Did You Overlook Something on a Prior Tax Return?

Occasionally, clients will realize that an item of income was overlooked, a deduction was not claimed, or that an amended tax document was received after the tax return was already filed. Regardless of whether the oversight will result in more tax due or a refund, it should not be dismissed. Failing to report an item of income will most certainly generate an IRS inquiry, which typically happens a year after the original return was filed and after the interest and penalties have built up. On the other hand, if you have a refund coming, you certainly don’t want that to go by the wayside.

The solution is to file an amended return as soon as the error or omission is discovered. Amended returns can also be used to claim an overlooked credit, correct the filing status or the number of dependents, report an omitted investment transaction, submit delayed K-1s, or anything else that should have been reported on the original return.

If the overlooked item will result in a tax increase, penalties and interest can be mitigated by filing an amended return as soon as possible. Procrastination leads to further complication once the IRS determines something is missing, so it is best to take care of the issues right away.

Generally, to claim a refund, an amended return must be filed within three years from the date the original return was filed or within two years from the date the tax was paid, whichever is later.

If any of the above applies to your situation, please give our office a call so we can prepare an amended tax return for you.

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Energy Costs Rise as Tax Incentives Fade

With energy costs skyrocketing, you would think that the federal government would come up with some tax incentives aimed at curbing the consumption of energy. However, on the consumer end of taxes, the incentives are actually fading away. Apparently, federal lawmakers and administrators believe the high cost of energy itself is incentive enough to reduce consumption. The following are the only energy-related tax incentives remaining for individual taxpayers:

• Credit for Energy-Efficient Home Modifications— Through 2013, a taxpayer can still claim a credit for making qualifying energy-saving improvements to his existing home. But after 2013, this credit will not be available. The credit is 10% of the cost of making the improvement but is limited to $500 and is reduced by any credit claimed under this provision in any prior year.
  
  Qualified energy-efficiency improvements are the following building-envelope components installed on or in a taxpayer’s main home in the United States that the taxpayer owned during 2012, provided that the original use of the component (1) began with the taxpayer and the component can be expected to remain in use at least 5 years and (2) the component meets certain energy standards. These credits are nonrefundable and can offset both income tax and alternative minimum tax (AMT) for the year.
• Any insulation material or system that is specifically and primarily designed to reduce heat loss or gain of a home when installed in or on the home(1).
• Exterior windows and skylights. The credit for these items is limited to $200(1)(2).
• Exterior doors(1)(2).
• Any metal roof with appropriate pigmented coatings or an asphalt roof with appropriate cooling granules that are specifically and primarily designed to reduce the heat gain of the home(1)(2).
• Certain electric heat pump water heaters; electric heat pumps; central air conditioners; natural gas, propane, or oil water heaters; and stoves that use biomass fuel. No more than $300 of the cost is credit-eligible.
• Qualified natural gas, propane, or oil furnaces and qualified natural gas, propane, or oil hot water boilers. No more than $150 of the cost is credit-eligible.
• Certain advanced main air circulating fans used in natural gas, propane, or oil furnaces. No more than $50 of the cost is credit-eligible.

(1)To figure the credit, do not include the amounts paid for the on site preparation, assembly, or original installation.
(2) Must meet or exceed the Energy Star program requirements.

• Energy Generation Credits—Through 2016, a taxpayer can claim a credit for installing systems that generate energy. The expenses used to determine the credit include installation costs; but generally no portion of the cost allocated to heating a swimming pool or hot tub can be used toward the credit.
• Solar electric systems—A credit equal to 30% of the cost for the installation of a qualified solar electric system (50% of the energy is generated from the sun) in the taxpayer’s primary or secondary home in the United States.
• Solar water heating systems—A credit equal to 30% of the cost for the installation of a qualified solar water heating system in the taxpayer’s primary or secondary home in the United States.
• Fuel cell power plant—A credit of $500 per 0.5 kilowatts of electricity generated by electrochemical means from a qualified fuel cell plant installed in the taxpayer’s primary home in the United States.

These credits are nonrefundable and can offset both income tax and AMT for the year. However, any unused credit can be carried forward.

• Plug-in Electric Vehicles Credit—The American Taxpayer Relief Act (ATRA) of 2012 modified and extended for two years, through 2013, the individual income tax credit for highway-capable plug-in motorcycles and 3-wheeled vehicles, replacing the 10% tax credit that expired at the end of 2011 for plug-in electric motorcycles, 3-wheeled vehicles, and low-speed vehicles.
  
  Through revised definitions, ATRA repeals the ability of golf carts and other low-speed vehicles to qualify for the credit. The credit continues to be the lesser of 10% of the purchase cost or $2,500 per qualified vehicle. The revised rules require that the vehicle must have been manufactured primarily for use on public streets, roads, and highways; be capable of a speed of at least 45 miles per hour; and be acquired in 2012 or 2013.
  
  Other requirements are the same as under the old credit: The vehicle must have 2 or 3 wheels, have a gross vehicle weight rating of fewer than 14,000 pounds, and have been acquired for use or lease by the taxpayer and not for resale. The original use must be with the taxpayer and the vehicle must have been made by a manufacturer and be propelled to a significant extent by an electric motor that draws electricity from a battery with a capacity of no less than 2.5 kilowatt hours.
  
  The personal use portion of this credit is nonrefundable and may offset both the current year’s income tax and AMT. However, if the vehicle is used for business, the unused business portion of the credit can be carried back one year and then carried forward up to 20 years. This credit (other than any business portion being carried over) will no longer be available after 2013.

If you have a question related to any of these credits, you may wish to contact our office in advance to verify how the tax benefits will apply to your specific tax situation.

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President’s Proposed Tax Changes for 2014

The budget proposal released by President Obama on April 10 includes a substantial number of proposed tax changes impacting individuals, businesses, estate taxation, energy incentives, and international issues. Although these are only proposals, they provide an insight into the administration’s thinking on tax reform. An overview of the most prominent issues related to individuals and small business is provided below.

Individual Proposals

• Reduce the value of itemized deductions and other tax preferences to 28% for families with income in the three highest tax brackets. This limit would apply to all itemized deductions; foreign excluded income; tax-exempt interest; employer-sponsored health insurance; retirement contributions; and selected above-the-line deductions.
• Observe the “Buffett rule” by requiring millionaires to pay no less than 30% of income (after charitable contributions) in taxes. This would be referred to as the “fair share tax.”
• For tax years beginning after Dec. 31, 2017, permanently extend the American Opportunity Tax Credit (AOTC), a partially refundable tax credit worth up to $10,000 per student over the course of four years of college.
• For tax years beginning after Dec. 31, 2017, permanently extend the increased refund ability of the child tax credit (CTC) by permanently reducing the earned income threshold to $3,000.
• Extend the exclusion from income for the cancellation of certain home mortgage debts to amounts that are discharged before Jan. 1, 2016 and amounts that are discharged pursuant to an agreement entered into before that date.
• For tax years beginning after Dec. 31, 2017, make permanent the expansion of the EITC for workers with three or more qualifying children by maintaining (i) at 45%, the phase-in rate of the EITC for workers with three or more qualifying children, and (ii) the phase-out range for married couples at $5,000 higher than those for unmarried filers (indexed after 2009).
• Increase the child and dependent care credit available to working families with incomes between $15,000 and $103,000.
• Extend the exclusion for income from the discharge of qualified principal residence indebtedness (QRPI) to amounts that are discharged before Jan. 1, 2015, and to amounts that are discharged pursuant to an agreement entered into before that date.
• Prohibit individuals from accumulating over $3 million in tax-preferred retirement accounts.

Business Proposals

• Make permanent the $500,000 Sec. 179 deduction with a $2million phase-out threshold.
• Enhance and make permanent the research credit and increase the simplified credit percentage to 14%.
• Permanently extend the work opportunity tax credit (WOTC) to wages paid to qualified individuals who begin work after Dec. 31, 2013.
• Offer a one-time, temporary, 10% tax credit for increases in company wage payments over wages paid in 2012, whether driven by new hires, increased wages or salaries, or both.
• Require employers who have over 10 employees and do not currently offer a retirement plan to enroll their employees in a direct-deposit Individual Retirement Account (IRA) that is compatible with existing direct-deposit payroll systems. (Employees can opt out if they choose.) Employers would be entitled to a tax credit of $25 per participating employee, up to $250 per year, for six years.
• Deny deductions for punitive damages.
• Make the 100% exclusion permanent for qualified small business stock (QSBS) acquired after Dec. 31, 2013.
• Permanently double the maximum amount of start-up expenditures that a taxpayer may deduct (in addition to amortized amounts) in the tax year in which a trade or business begins from $5,000 to $10,000 for tax years ending on or after the date of enactment. Reduce this maximum amount of start-up expenditures (but not to below zero) by the amount that start-up expenditures with respect to the active trade or business exceed $60,000.
• For tax years beginning after Dec. 31, 2012, expand the group of employers who are eligible for the tax credit available to small employers providing health insurance to employees so as to include employers with up to 50 full-time (or the equivalent) employees, and begin the phase-out at of the restriction to no more than 20 full-time equivalent employees.
• Create a new general business credit against income tax equal to 20% of the eligible expenses paid or incurred in connection with in sourcing a U.S. trade or business.
• Disallow deductions for expenses paid or incurred in connection with outsourcing a U.S. trade or business.

Estate and Gift Tax Proposals

• Beginning in 2018, return to 2009 levels the estate, generation-skipping transfer (GST), and gift tax exemptions and rates. Thus, the highest tax rate would be 45%, and the exclusion amount would be $3.5 million for estate and GST taxes and $1 million for gift taxes.
• Require that the basis of property in the hands of the recipient be no greater than the value of that property as determined for estate or gift tax purposes (subject to subsequent adjustments). These rules would apply to transfers on or after the enactment date.

Keep in mind that these are only proposed changes, and they must be passed by both houses of Congress in order to become law.

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May Due Dates

May 2013 Individual Due Date Reminders

May 10 - Report Tips to Employer

If you are an employee who works for tips and received more than $20 in tips during April, you are required to report them to your employer on IRS Form 4070 no later than May 10. Your employer is required to withhold FICA taxes and income tax withholding for these tips from your regular wages. If your regular wages are insufficient to cover the FICA and tax withholding, the employer will report the amount of the uncollected withholding in box 12 of your W-2 for the year. You will be required to pay the uncollected withholding when your return for the year is filed.

May 31 - Final Due Date for IRA Trustees to Issue Form 5498

Final due date for IRA trustees to issue Form 5498, providing IRA owners with the fair market value (FMV) of their IRA accounts as of December 31, 2012. The FMV of an IRA on the last day of the prior year (Dec 31, 2012) is used to determine the required minimum distribution (RMD) that must be taken from the IRA if you are age 70½ or older during 2013. If you are age 70½ or older during 2013 and need assistance determining your RMD for the year, please give our office a call. Otherwise, no other action is required and the Form 5498 can be filed away with your other tax documents for the year.

May 2013 Business Due Date Reminders

May 10 - Social Security, Medicare and Withheld Income Tax

File Form 941 for the first quarter of 2013. This due date applies only if you deposited the tax for the quarter in full and on time.

May 15 - Employer’s Monthly Deposit Due

If you are an employer and the monthly deposit rules apply, May 15 is the due date for you to make your deposit of Social Security, Medicare and withheld income tax for April 2013. This is also the due date for the non-payroll withholding deposit for April 2013 if the monthly deposit rule applies.

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