Without a moment to spare, Congress has passed an $858 billion tax bill, setting rates for both 2010 and 2011. The good news is, it’s all good news!
The biggest relief for taxpayers is that the Alternative Minimum Tax patch is in place once again for 2010, sparing over 20 million taxpayers from facing a huge surprise bill. If you’ve paid AMT in the past, you’ll most likely still pay it, but at least millions of new taxpayers won’t be pulled into it. The “Bush Tax Cuts” have also been extended two years, so tax rates will be staying the same through 2012. And, the estate tax is going to remain at 35% for amounts over $5 million through 2012.
Working American’s will see another form of tax relief in lower payroll taxes. Each pay period, workers are forced to pay 6.2% Social Security tax on their first $106,800 of income, which is withheld from their gross pay. For 2011, this rate drops to 4.2%, so it’s the equivalent of a 2% raise for all working American’s. I haven’t been able to determine if this applies to self-employed workers as well, but hopefully the details will be hammered out soon. The last form of benefits applies to the unemployed. These individuals receive another 13-month extension on their benefits.
There is no doubt that this tax bill is highly favored by the Republican’s and goes against the Democrat’s agenda. It will actually cost lower-income earners money because they benefited more from last year’s Making Work Pay Credit than they do from the lower taxes. And, wealthy individuals making $500,000 and up will save almost $4,000 over their last year’s tax bill. Since some of the provisions, such as the AMT patch, expire at the end of 2010, and others such as the tax cuts expire at the end of 2011, we still don’t have a solid picture of what the future holds. But, we can still be thankful that our government was able to come together at the 11th hour and prevent an across the board tax increase!
Just this in…the Democrats are NOT backing Obama’s tax cut plan, so my post on Monday is now incorrect! The assumption was that he could get his Democrats to back him, and while there is still a chance, it is not certain! Another thing to keep in mind (thanks to R.B. for reminding me…i encourage everyone to ask questions and keep me on my toes!)…the AMT has still not been patched for 2010. While about 4 million taxpayers were subject to Alternative Minimum Tax last year, that number could grow to 25 million taxpayers this year if a patch is not set by December 31st! I don’t know about everyone else, but this is keeping me on my toes lately!
Tax law is once again making news in Washington. Congress is trying to finalize a few bills before the election season heats up, but what’s at stake and what should you know as a taxpayer? I’ve alluded to a few of these issues in other articles, but let me try and give you an up to date summary. I use the word “try” because by the time I put pen to paper (or fingers to keyboard, as is the case), much of the information could be out of date as it changes on a daily basis!
The biggest tax news right now is the potential expiration of the Bush tax cuts. What are they, and why should you care? Good question. In 2001 and 2003, under then-President George W. Bush, tax brackets were lowered to a range from 10% to 35%, and capital gains (including sales of stock, land, rental properties, etc) and dividends were taxed at a maximum of 15%. Among many other provisions, the child tax credit was increased to $1,000 per child. These provisions were all set to expire in 2010, and politicians at the time were certain that Congress would act during those 9 years to find more permanent solutions.
Let’s fast forward to 2010. We are quickly approaching 2011, and these provisions are still set to expire on December 31st, 2010. If this happens, tax brackets will jump back to the Clinton-era tax rates ranging from 15% to 39.6%, capital gains taxed at 20% and higher, and dividends taxed up to 39.6%. This means a family with income less than $40,000 may pay about $400 in extra taxes, but someone making $80,000 might pay four times that in additional income taxes. When you consider that the child tax credit will decrease to $500 per child, families could be hit the hardest.
Before we all panic, it’s important to remember that tax brackets are quite different from tax rates. Many of us fall in the 25% tax bracket, but only pay an effective tax rate of 10 – 15%. And, naturally, no one in Congress is campaigning on a ticket of raising taxes on lower income working families. There is every expectation that Congress will intervene and not allow these rates to revert to the fullest increases possible. However, as I’ve mentioned in the past, we all thought that Congress would fix the Alternative Minimum Tax and Estate Tax by now, so without a crystal ball, none of us know for sure. (I published an article about these 2 changes back in April, and have reposted it at www.cpamichele.com if you are interested).
Two other issues being debated are the S Corporation requirement to pay payroll taxes on owner’s distributions in addition to their salary, therefore an extra 15.3% tax, and the new 1099 law that was passed as part of the healthcare reform. As it is currently written, beginning in 2012 business owners will have to issue 1099 forms to all vendors they pay more than $600 for goods and services, rather than only unincorporated vendors that are paid for services. Both of these new laws represent a significant burden to business owners and there is a good chance that new legislation will be passed to get rid of the requirements before they ever take hold. Then again, there is a chance that disagreements in Washington will continue to overshadow any progress made on tax law, so all we can do for now is watch the news, keep our fingers crossed, and vote!
Now that April 15th has come and gone, it’s time to start thinking about your 2010 taxes. If you’re like most taxpayers, you want to put off thinking about taxes until next year, but I am a firm believer that the best way to save money on taxes is to make tax planning a year-round effort. I would love to fill this column with tips for 2010, but unfortunately Congress has yet to finalize many important tax laws that are hanging in the balance and tax planning is more challenging than ever right now.
Let’s back up a bit. At the end of each year, Congress is expected to vote on several tax laws that expire from year to year, or require dollar amount adjustments. Tax geeks like me wait anxiously for the news before Congress takes their holiday break, the figures are published, and we all move forward with advice for our clients. But, with the push for health insurance passage this year Congress never got around to voting on the necessary issues before year end, and we’re now at the end of April and still anxiously awaiting decisions. What hangs in the balance, and how does it affect you?
For starters, over 50 tax provisions expired on 12/31/09. The most commonly seen provisions from this package include the standard deduction for real estate taxes, the option to deduct sales tax instead of state and local taxes, tuition deductions, and the $250 deduction for educators. These provisions were expected to be renewed at the end of 2009 for 2010, but that never happened.
The Alternative Minimum Tax, a tricky tax penalty on high income earners with big deductions, is also set to strike if Congress doesn’t take action. While I would need to write a book to fully explain the AMT, it was basically a tax penalty put into place decades ago to prevent uber-wealthy individuals from taking so many deductions that they didn’t have to pay a fair share of taxes. When taxpayers with high incomes also had large itemized deductions, the AMT was an additional tax added to their bottom line to force them to pay the tax they would’ve paid without the benefit of the large deductions.
The problem is, when the AMT was first put into place, uber-wealthy meant income above $150,000. Each year, Congress passed patches to effectively increase the income level considered subject to AMT. But, without a patch passed in December of 2009, the AMT is set to affect almost 40% of married couples in the US. To put it in perspective, in 2009 several million taxpayers will be forced to pay higher taxes due to the AMT, but according to the Congressional Budget Office this figure jumps to over 30 million taxpayers in 2010 if a patch is not put into place.
As if the 50 tax provisions and AMT aren’t enough, the elephant in the room is the Estate Tax. To summarize a highly complex issue, as of January 1st, the estate tax disappeared. If your loved one died on December 31st, 2009, their estate would owe 45% tax on any assets greater than $3.5 million. If that same loved one passed away on January 1st, 2010, their estate wouldn’t owe a penny of estate tax. While the leading proposals in Washington range from a 35% to 45% tax on any assets great then $3.5 to $5 million, no legislation has been passed at this point.
It’s hard to believe the first quarter of the year has come and gone with no resolution on these issues. For now, the best advice I can give is to make sure that your 2009 returns are filed correctly, and to hang on tight for 2010! Will all 3 be passed and made retroactive to January 1st? Will these provisions be passed with a July 1 effective date, causing unimaginable complications for 2010 tax returns? Or, will Congress avoid making any big tax cuts during an election year and allow these taxes to remain unchanged until 2011? As tax laws are determined for the year, I will make every effort to publish them in this column, but until the new tax rates and tax laws are set, the best you can do is keep paying your taxes and keeping an eye on the news as it comes out of Washington.