Tax Planning Amidst Uncertainty

Barring any legislative change, individual income tax rates are set to rise on January 1, 2013.  The top marginal tax rate could move from 35% to 39.6%.  In addition, limitations on both itemized deductions and personal/dependency exemptions are scheduled to return.  This could increase the effective marginal rate to as high as 44% on taxable income above $380,000 (estimated).

On top of that good news, the tax impact of the 2010 healthcare legislation also begins in 2013 with two new taxes, the hospital insurance tax and the unearned income Medicare contribution.  Taxpayers with modified gross income above $200,000 ($250,000 for joint returns) will be subject to a 0.9% tax on earned income and a 3.8% tax on unearned income such as interest, dividends, and capital gains.  This could raise the top rate for long-term capital gains to 23.8%, and the top ordinary income rate for those with investment income would rise to 40.5%.

Conventional wisdom says to avoid paying taxes for as long as possible by accelerating deductions and/or deferring income.  However, with tax rates scheduled to increase, that strategy may be worth reconsidering.  Proper planning over the next several months might help to reduce your tax burden for years to come.

There is no substitute for good individual tax counsel, but here are a few 2012 and 2013 planning points to think about before scheduling a meeting this fall with your CPA:

  • Be aware of income thresholds.  If you expect that your 2013 modified gross income will be close to $200,000 (or $250,000 for joint filers), you may be able to reduce tax liability by accelerating income into 2012.
  • Know the best way to record a gain.  Installment reporting spreads investment income from the gain on a sale over a period of years.  Electing out of installment reporting in 2012 enables gain recognition before higher taxes go into effect.
  • Evaluate investment portfolio.  If you stocked up on high-dividend-paying stocks or funds, it may be prudent to sell those investments in 2012, and use the proceeds to create a more diversified, tax-efficient portfolio.
  • Think about ownership.  Investment income earned by a child may be subject to the parents’ marginal rate, but an unmarried child can avoid the unearned income Medicare tax if their modified adjusted gross income is below $200,000.  If you have been considering a family limited partnership, now might be a good time to revisit that strategy.

Other topics to discuss may include the following:

  • Estate planning and current year gifting
  • Retirement funding
  • Charitable contributions from IRAs

While plenty is still unknown about the 2013 tax structure, there is still value in planning ahead.  Tax circumstances may change with a single life event.  Taking a little time to talk through your individual situation with an experienced and trusted advisor can offer significant benefits.