More On Tax Planningfrom The Advisor's Professional Library
- Charitable Giving Charitable giving can reduce your clients’ tax liabilities. However, the general and verification rules for the deduction of charitable gifts must be understood in order to take full tax advantage of such gifts.
- Taxation of Real Estate Real estate may be used to shelter income and may offer certain tax benefits. However, the type of real estate investment may result in different tax treatment. Learn how to use these investments to help your clients.
If you enjoy politics and tuned into the second presidential debate on Tuesday night, you got quite the feisty show. Particularly on tax issues, the two candidates shared very different policy visions. However, for advisors who’ve already reached their yearly quota for political discourse, I’ve tried to distill candidates’ tax positions into something that can be consumed in under 90 minutes.
First, it helps to know a bit of history. In 2001, Republicans in Congress passed the “Bush tax cuts.” Lacking a strong majority in the Senate, the law was passed under an expedited procedure that limited the life of those changes to 10 years. The cuts were extended at the end of 2010 and are set to expire again at the end of this year. Their expiration, coupled with the end of several provisions intended to stimulate the economy, would result in a $500 billion tax increase in 2013 alone, big enough to push the economy back into recession, according to the nonpartisan Congressional Budget Office.
Despite that dire prediction, members of Congress have agreed that nothing can be decided until after the election. Once the electorate has spoken, they reason, the legislative logjam will be broken. Fingers crossed that their theory holds....
Wages and Earned Income
Obama would extend permanently the tax provisions and rates for taxpayers with adjusted gross incomes less than $250,000 for married taxpayers or $200,000 for single taxpayers. The Joint Committee on Taxation, which is tasked with estimating the cost of tax proposals, pegs the price of this at $2.3 trillion over 10 years. The president’s plan would allow tax rates for upper income taxpayers in the top two brackets to rise from 33% and 35%, to 36% and 39.6%, respectively. In addition, a surtax of 0.9% that was passed in the president’s healthcare reform legislation would be applied to earned income (basically, salary and wages) bringing the top rates to 36.9% and 40.5%. From a strict federal budgeting standpoint, there is no money saved from allowing those rates to rise, as they were already set to do so under current law.
Romney has proposed cutting all income tax brackets by 20% from their current level and making up for the lost revenue by capping deductions, the impact of which would fall mostly on those with higher incomes. During the debate, Romney suggested a cap of $25,000; a $17,000 figure had been floated in early October. (Obama also has proposed limiting deductions, but not by a flat cap.)
In theory, both candidates income tax proposal cost the same: $2.3 trillion over 10 years. Neither side has been forthcoming with specifics on covering that expense. Particular attention has focused on whether Romney’s cap on deductions could pay for a further 20% drop in the rates. Rep. Paul Ryan of Wisconsin indicated during the vice-presidential debate that the 20% cut should be considered as a framework for tax reform, suggesting it was a goal more than a fixed percentage.
Savings and Investments
For married taxpayers with incomes below $250,000 ($200,000 single), the president has proposed retaining the 15% rate for capital gains and dividends. For higher earners, the tax rate on capital gains would rise to 20%. In addition, the unearned income (basically, things like dividends, capital gains, interest) of higher earners could be subject to another surtax from the healthcare reform law of 3.8%, bringing the top rate to 23.8% (see “Buffett Rule” below). On dividends, higher earners would be taxed at their income tax rate, resulting in a top combined rate of 43.4% with the surtax.
Romney would drop the rate on capital gains, dividends and interest payments to zero for married taxpayers making less than $200,000 ($100,000 single). Taxpayers above that threshold would continue to pay at the current 15% rate.
Both the Obama and Romney’s proposals to limit deductions could impact high earners with investment in municipal bonds that are currently tax-exempt; however, it’s worth noting that munis weathered a similar storm during the 1986 tax reform and remained untouched.
Current law effectively only taxes estates larger than $5.12 million at a rate of 35% for 2012. In 2013, the law is schedule to tax all estates larger than $1 million at a rate of 55%. Obama has proposed taxing estates over $3.5 million at a 45% rate. Romney would scrap the estate tax altogether.
Alternative Minimum Tax
Obama would index the AMT for inflation so that it would not affect any more taxpayers than it did in 2011 (the AMT “patch” expired at the end of 2011). The president has also suggested a “Buffett Rule” that would ensure all taxpayers with incomes over $1 million pay an effective rate of 30%. This would effectively make the capital gains rate 30% for these taxpayers as well, double their current levels.
Romney would scrap the AMT and has opposed the Buffett Rule.
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