Despite all of the uncertainty over 2013 taxes, the top rate on gains and dividends will rise.
The new 3.8% Medicare surtax is the reason. This tax was enacted back in 2010 to help cover the cost of health care reform, but it takes effect next year, no matter what lawmakers do on the Bush tax cuts. The bet right now is that this will not be delayed when Congress reaches an agreement on expiring tax breaks.
So, as you contemplate your year- end tax planning, keep the surtax in mind.
The 3.8 levy boosts the top rate on capital gains and dividends to 18.8% for high-incomers. It hits singles with modified adjusted gross income above $200,000 and couples over $250,000. The surtax is imposed on the lower of the filer’s net investment income or the excess of modified AGI over the thresholds. cuts. Investment income includes interest, dividends, capital gains, annuities, royalties, and passive rental income, but not tax free interest or payouts from retirement plans such as 401k’s, IRAs, Roths, profit sharing plans and defined benefit plans.
Tax Planning Tip: Consider selling appreciated assets this year instead of 2013.
On your principal residence, only gain that exceeds the $250,000 exclusion for singles or $500,000 for couples will be hit by the surtax if your AGI is high enough to trigger it. If all your profit is excluded, it doesn’t matter taxwise which year you sell.
On rental properties and second homes, selling in 2012 avoids the surtax. There’s no gain exclusion for sales of these units, so the full profit can be subject to the surtax. Remember, depreciation you claimed will increase your taxable gain.
Roth Conversions If you’re planning a Roth conversion, doing it in 2012 may be advantageous. While payouts from regular IRAs aren’t subject to the surtax, they do raise your AGI and thus may cause surtax problems. Converting in 2013 increases your AGI as well.
Deferring compensation beyond 2012 may not be a good idea if doing so pushes your income above the surtax thresholds in the year that the money will be taxed.
Don’t lose a Charitable deduction for lack of paperwork! Charitable contributions are only deductible if you have the proper documentation. 1) Cash contributions of less than $250, this means you must obtain a bank record that supports the donation (such as a cancelled check or credit card receipt) or a written statement from the charity that meets tax-law requirements. 2) For cash donations of $250 or more, a bank record is not enough. You must obtain, by the time the tax return is filed, a charity-provided statement that shows the amount of the deduction and lists any significant goods or services that you received in return for the donation (other than intangible religious benefits) or specifically states that you received no goods or services from the charity.
Take another look at the Medical Expense Deduction. This year, the unreimbursed medical expenses are deductible (if deductions are itemized) to the extent they exceed 7.5 percent of adjusted gross income. However, in 2013, for individuals under age 65, these expenses will be deductible only to the extent they exceed 10 percent of AGI. If there is a chance to exceed the 7.5% floor this year, you may want to accelerate into 2012, discretionary medical expenses, such as prescription glasses, or elective medical or dental procedures not covered by insurance.
Leverage your standard deduction by bunching deductible expenses. If your 2012 itemized deductions are likely to be just under, or just over, the standard deduction amount, you might want to consider bunching your itemized deduction expenditures every other year, while claiming the standard deductions in intervening years. For example, if you are a joint filer whose only itemized deductions are about $4,000 of annual property taxes and about $8,000 of home mortgage interest, you can usually prepay your 2013 property taxes by December 31, 2012. Doing this will give you itemized deductions of $16,000 in 2012 ($8,000 in property taxes and $8,000 in interest). In 2013, you would then claim the standard deduction. Following this strategy should significantly reduce your taxable income over the two-year period 2012 and 2013.
Adjust Federal Income Tax Withholding. If you anticipate owing income taxes for 2012, you may want to consider bumping up the federal income taxes withheld from paychecks from now until the end of the year. As long as your total tax payments equal at least 90 percent of the 2012 liability or, if smaller, 100 percent of your 2011 liability (110 % if 2011 adjusted gross income exceeded $150,000 or $75,000 for married individuals who filed separate returns) penalties will be minimized.
And finally, beware of the dreaded AMT. While many tax law changes have been helpful in reducing your tax bill, very little has been done to reduce the odds that you may be subject to the Alternative Minimum Tax (AMT). In your year-end tax planning, it is critical that strategies be evaluated in light of the AMT rules.