january 2013

The American Taxpayer Relief Act of 2012

The new year began with some political drama, as last-minute negotiations attempted to avert sending the nation over the "fiscal cliff." Technically, we actually did go over the cliff, however briefly, as a host of tax provisions and automatic spending cuts took effect at the stroke of midnight on December 31, 2012. However, January 1, 2013, saw legislation--retroactively effective--pass the U.S. Senate, and then later the House of Representatives. The American Taxpayer Relief Act of 2012 (ATRA) permanently extends a number of major tax provisions and temporarily extends many others. Here are the basics.
Tax rates
For most individuals, the legislation permanently extends the lower federal income tax rates that have existed for the last decade. That means most taxpayers will continue to pay tax according to the same six tax brackets (10%, 15%, 25%, 28%, 33%, and 35%) that applied for 2012. The top federal income tax rate, however, will increase to 39.6% beginning in 2013 for individuals with income that exceeds $400,000 ($450,000 for married couples filing joint returns).
Generally, lower tax rates that applied to long-term capital gain and qualifying dividends have been permanently extended for most individuals as well. If you're in the 10% or 15% marginal income tax bracket, a special 0% rate generally applies. If you are in the 25%, 28%, 33%, or 35% tax brackets, a 15% maximum rate will generally apply. Beginning in 2013, however, those who pay tax at the higher 39.6% federal income tax rate (i.e., individuals with income that exceeds $400,000, or married couples filing jointly with income that exceeds $450,000) will be subject to a maximum rate of 20% for long-term capital gain and qualifying dividends.
Alternative minimum tax (AMT)
The AMT is essentially a parallel federal income tax system with its own rates and rules. The last temporary AMT "patch" expired at the end of 2011, threatening to dramatically increase the number of individuals subject to the AMT for 2012. The American Taxpayer Relief Act permanently extends AMT relief, retroactively increasing the AMT exemption amounts for 2012, and providing that the exemption amounts will be indexed for inflation in future years. The Act also permanently extends provisions that allowed nonrefundable personal income tax credits to be used to offset AMT liability.
2012 AMT Exemption Amounts
Before Act / After Act
Married filing jointly / $45,000 / $78,750
Unmarried individuals / $33,750 / $50,600
Married filing separately / $22,500 / $39,375
Estate tax
The Act makes permanent the $5 million exemption amounts (indexed for inflation) for the estate tax, the gift tax, and the generation-skipping transfer tax--the same exemptions that were in effect for 2011 and 2012. The top tax rate, however, is increased to 40% (up from 35%) beginning in 2013.
The Act also permanently extends the "portability" provision in effect for 2011 and 2012 that allows the executor of a deceased individual's estate to transfer any unused exemption amount to the individual's surviving spouse.
Phaseout or limitation of itemized deductions and personal exemptions
In the past, itemized deductions and personal and dependency exemptions were phased out or limited for high-income individuals. Since 2010, neither itemized deductions nor personal and dependency exemptions have been subject to phaseout or limitation based on income, but those provisions expired at the end of 2012.
The new legislation provides that, beginning in 2013, personal and dependency exemptions will be phased out for those with incomes exceeding specified income thresholds. Similarly, itemized deductions will be limited. For both the personal and dependency exemptions phaseout and the itemized deduction limitation, the threshold is $250,000 for single individuals ($300,000 for married individuals filing joint federal income tax returns).
Other expiring or expired provisions made permanent
  1. "Marriage penalty" relief in the form of an increased standard deduction amount for married couples and expanded 15% federal income tax bracket
  2. Expanded tax credit provisions relating to the dependent care tax credit, the adoption tax credit, and the child tax credit
  3. Higher limits and more generous rules of application relating to certain education provisions, including Coverdell education savings accounts, employer-provided education assistance, and the student loan interest deduction
Temporary extensions
  1. Provisions relating to increased earned income tax credit amounts for families with three or more children are extended through 2017
  2. American Opportunity credit provisions relating to maximum credit amount, refundability, and phaseout limits are extended through 2017
  3. The $250 above-the-line tax deduction for educator classroom expenses, the limited ability to deduct mortgage insurance premiums as qualified residence interest, the ability to deduct state and local sales tax in lieu of the itemized deduction for state and local income tax, and the deduction for qualified higher education expenses are all extended through 2013
  4. Charitable IRA distributions (IRA holders over age 70½ are able to exclude from income up to $100,000 in qualified distributions made to charitable organizations) are extended through 2013; special rules apply for the 2012 tax year
  5. Exclusion of qualified mortgage debt forgiveness from income provisions extended through 2013
  6. Exclusion of 100% of the capital gain from the sale of qualified small business stock extended to apply to stock acquired before January 1, 2014
  7. 50% bonus depreciation and expanded Section 179 expense limits extended through 2013

Mark these tax deadlines on your 2013 calendar

It’s time to file various tax returns once again. Among the tax deadlines you may be required to meet in the next few months are the following:

  • January 15 – Due date for the fourth quarterly installment of 2012 estimated taxes for individuals unless you file your tax return and pay any taxes due by January 31.
  • January 31 – Employers must furnish 2012 W-2 statements to employees. Payers must furnish payees with Form 1099s for various payments made. (The deadline for providing Form 1099-B and consolidated statements to customers is February 15.)
  • January 31 – Employers must generally file annual federal unemployment tax returns.
  • February 28 – Payers must file information returns, such as Form 1099s, with the IRS. This deadline is extended to April 1 for electronic filing.
  • February 28 – Employers must send Form W-2 copies to the Social Security Administration. This deadline is extended to April 1 for electronic filing.
  • March 1 – Farmers and fishermen who did not make 2012 estimated tax payments must file 2012 tax returns and pay taxes in full.
  • March 15 – 2012 calendar-year corporation income tax returns are due.
  • April 15 – 2012 federal partnership returns are due.
  • April 15 – Individual federal income tax returns for 2012 are due.

Understand “sunk costs” in making business decisions

Emotions add zest to life. They propel us to our feet when our favorite running back scores a touchdown. They warm us at an inspirational concert or movie. But in the realm of business, emotions sometimes hinder good choices. In fact, business owners and managers often let emotions dominate the decision-making process.
This is especially true when choices are based on “sunk costs.” Broadly defined, sunk costs are past expenses that are irrelevant to current decisions. For example, many firms hire consultants who sell and install software. In some cases, a company is still waiting – three or four years into the contract term – for a functional and error-free system. Meanwhile, costs continue to escalate. But are those costs relevant? Managers, especially those who initially procured the software and contractor, may reason that pulling the plug on a failed contract would be “wasting all that money we’ve spent.”
Not true. That money is “sunk”; it’s beside the point. Deciding to continue with a non-performing contract instead of staunching the flow of cash and changing course is irrational. It may be difficult to admit that a mistake was made. It may bruise the ego of the decision maker. But abandoning a failed contract is often the wisest decision. The only relevant costs are those that influence the company’s current and future operations.
Irrelevant costs
Let’s say your firm hires a new salesman. You spend thousands of dollars sending him to training seminars. You assign mentors who take time from their busy schedules to provide on-the-job coaching and oversight. But despite your best efforts, the new hire isn’t working out. He doesn’t fit your firm’s culture; he doesn’t grasp the company’s goals and procedures; he doesn’t generate adequate revenues for the business.
As a manager, what should you do? At some point, you may need to terminate that employee and start over with someone else. But what about all that time and money you spent training and mentoring the new salesman? Those costs are irrelevant; they’re “sunk.” You can’t get them back. So the best decision – as of today – may involve cutting your losses and starting anew.
Other examples of sunk costs may be found in the areas of product research, advertising, inventory, equipment, investments, and other types of business expenses. In each of these areas, companies spend money that can’t be recovered, dollars that become irrelevant for current decision making. Throwing good money after bad won’t salvage a poor business investment – or a poor business decision.
Use adjusted tax numbers in your 2013 planning

The IRS and the Social Security Administration have published some inflation-adjusted numbers for 2013. Use these numbers as you begin your tax and financial planning for 2013.

  • Social security taxable wage limit for 2013 will be $113,700. Retirees under full retirement age can earn up to $15,120 without losing benefits.
  • The threshold for unearned income a child can earn in 2013 without having the kiddie tax apply is $2,000.
  • The amount that can be given each year without paying gift tax is $14,000 ($28,000 for joint gifts).
  • The amount that can be set aside in a health savings account is limited to $3,250 for individuals and $6,450 for families. Those 55 or older can contribute an additional $1,000.
  • The maximum salary deferral for a 401(k) increases in 2013 to $17,500. The catch-up limit for those 50 or older remains unchanged at $5,500.
  • The maximum IRA contribution limit increases to $5,500; the limit for those 50 or older is $6,500.
  • The maximum salary deferral for SIMPLEs increases in 2013 to $12,000. The catch-up limit for those 50 or older remains unchanged at $2,500.

Contact our office if you have questions or wish to discuss early 2013 tax planning.

This newsletter provides business, financial, and tax information to clients and friends of our firm. This general information should not
be acted upon without first determining its application to your specific situation. For further details on any article, please contact us.