Market watchers were relieved when Congress rolled out yet another dark eleventh hour deal to save our country from our own political dysfunction. Domestic and international equity markets were cheered and registered significant gains. Though it does feel as though this was a woefully underperforming student that managed to eke out a C-. Better, yes, but not nearly good enough.
There are two stories here: the changes in our taxes and our cliff hanging for the next few months. First the taxes. As predicted, the Social Security tax holiday expired at the end of 2012, meaning that you will see your paycheck decrease by 2 percent on the first $113,700 earned this year. Yes, this is a reappearing regressive tax that managed to make it through the rich versus poor debate.
The Medicare surcharges that are part of Obamacare went into the effect for high income earners, with a .9 percent additional tax on those with earned income over $250,000 and $200,000 for married and single filers respectively. Plus there’s 3.8 percent surtax on investment and passive income for those with AGIs over $250,000 for married couples and $200,000 for single filers.
While these changes have been in the works for months, there are new provisions. Those with taxable income of $450,000 filing jointly or $400,000 filing single will see their marginal income tax rate increase from 35 to 39.6 percent. Even if you’re below this threshold, your taxes may increase with the return of the PEP and the Pease.
The personal exemption phaseout (PEP) affects those with an AGI above $300,000 and $250,000 for joint and single filers respectively. No longer do you get the full personal exemption of $3,900 per person in your family. Your exemptions are reduced by 2 percent of the income that exceeds the threshold. The Pease takes a whack at your itemized deductions in this same income range by 3 percent of your AGI above the thresholds.
Yes there’s some bad news there for all taxpayers, particularly higher income ones. A silver lining is that your taxes may not increase if you’ve been paying Alternative Minimum Tax. You owe the IRS the higher of the tax computed the AMT way or the standard method. If you paid significant AMT in the past (look at line 45 on your 2011 Form 1040), your taxes may be stable.
There are some positive developments as well with the extension of the higher education, child, and earned income tax credits for five years. AMT watchers loved the permanent change to a higher exemption and its being indexed to inflation. The charitable IRA rollover was extended through the end of this year. If you’re over 70 ½ you can designate a charity to receive part of your required distribution without it being taxable to you. Finally estate and gift taxes were set at 40 percent and only above $5.25 million per person with spousal portability, also adjusted for inflation going forward.
Now for the cliff hanging. Yes, we didn’t go over the fiscal cliff, but it has become a nightmare deferred by a mere two months. In March, we will be running into the limits on the national debt ceiling including the use of all available accounting tricks. The automated government spending cuts would begin then as well. So we’re forced to keep our gaze on Washington at they navigate through another self-imposed crisis, with issues such as the $16.4 trillion national debt and future liabilities in Medicare and other programs totaling many times not even being addressed. Happy new year!