As the saying goes, nothing is certain but death and taxes. we’d like to clarify that bit of common wisdom. You see, as certain as the payment of taxes may be, what isn’t certain is how much individual Americans will be paying. If the legislature and the president can figure out a way to work together, it is likely that at least those Americans making over $200,000 (or married taxpayers making $250,000) will see their top marginal rates go back up to the pre-Bush Tax Cuts level of 39.6%.
So what does that mean?
As we explained in January, the current top marginal rate for 2012 is 35% on every dollar of taxable ordinary income earned by an individual or married couple over $388,350.00. President Obama has proposed increasing that rate to 39.6% for every dollar of taxable earned income earned over $390,051. He has also proposed raising the second-highest marginal rate from 33% to 36%, so that every dollar of taxable ordinary income earned between $193,501 ($241,901 for married couples) and $390,051 will be subject to 3% additional taxes. The result, if President Obama gets his way, is that many middle-class families will be paying higher taxes in 2013.
And wait there’s more in the package
On top of these proposed increases in marginal rates, additional taxes are set to be imposed on middle and upper-income families by the Affordable Care Act (AKA Obamacare.) Individuals will also pay an additional 0.9% in hospital insurance payroll taxes on wages over $200,000.
And I haven’t even discussed changes in the dividend and capital gains tax rates yet. The preference for qualified dividends is set to expire in 2013. That means that the qualified dividend will disappear without government intervention. And even if the government can reach a deal, it is likely that President Obama will insist that dividend taxes go up as part of any grand bargain. This goes along with his desire to impose the so-called “Buffet Rule.” Top rates on dividends would increase to 39.6% under Obama’s proposals during the presidential campaign. Right now, qualified dividends are taxed at similar rates as long-term capital gains, with a top rate pegged at 15%. No matter where the top rate on dividends ends up, Obamacare tacks on an additional 3.8% to all dividends and capital gains for certain taxpayers. The result is staggering. If you were paying 15% on dividends in 2012, you could be paying almost three times as much (or 43.6%) on those same exact dividends in 2013. Capital gains rates are also set to increase. In 2012, the top rate on Long-Term Capital Gains was 15%. The top rate is set to increase to 20%, and it is also subject to the 3.8% Medicare contribution tax discussed above.
The Republican-led House wants to see the Bush Tax Cuts extended for all Americans in 2013. If the House gets its way, people will be paying roughly the same amount in taxes that they paid in 2012. However, this is unlikely because of what will happen in the case of a political stalemate on this issue. It’s likely that President Obama will get what he has been asking for the entire campaign season. “Wealthy” (but really middle class) Americans will pay “a little bit” more and that’s because if a deal can’t be struck, everyone loses.
To see why, let’s imagine a deal can’t be struck. What happens then? In that case, the Bush tax cuts will expire for everyone. That’s right, everyone’s taxes will go up. Currently, income that falls within the lowest tax bracket is taxed at a rate of 10%. That rate will increase automatically to 15% if our government fails to act. The other rates will changes as follows: 25% to 28%, 28% to 31%, 33% to 36%, and 35% to 39.6%. One result of this scenario is that less Americans will be subject to the Alternative Minimum Tax. Instead of 36% of taxpayers being exposed to the AMT under current tax rates, 20% will be exposed to the AMT if congress does nothing. That’s because they will be paying more in taxes under the progressive tax structure.
Worse news. It gets worse. For everyone.
Right now, anyone receiving W-2 income is receiving a 2% break on their portion of payroll taxes (as are those individuals required to pay Self-Employment taxes), and that break will disappear if congress fails to act (and is likely going away even if a deal is struck.) The bottom line is that we all should be prepared to deal with an increase in our 2013 income tax rates. There isn’t much that can be done to avoid whatever the government tosses at our feet. Taxes are certain. If you thought the coming changes in income tax rates is scary, then you’ll want to take a look at our other article about death taxes, gift taxes, and how to plan for the coming changes in 2013. (link coming) We will continue to follow developments in the changes to tax rates and tax brackets as our government begins the grueling process of avoiding taxmaggedon and other parts of the looming fiscal cliff, so be sure to check for updates at: http://www.irsmedic.com.