We got hacked and had to shut down, rebuild and are back here with new cautionary tales about taxes. Since we last met, we’ve had some interesting developments in the law. For example, you have until the end of January for your retirement plan or IRA to make a tax deductible contribution to a charity retroactive to 2012 taxes. So, if you have money in your IRA and are looking at a big tax bill for 2012, you can still save some money. This is a great deal.
Open letter to clients and friends
An Open letter to our clients
There is a lot of uncertainty in Washington right now when we hear about the “fiscal cliff”.
Absent some deals the following is a synopsis of what will happen if no deal is struck.
Estate and Gift Taxes
One thing is certain, that for the rest of 2012, an individual can give away to the next generation(s) $5 Million and a couple can give away $10 Million. In addition the Generation skipping tax exemption drops from the current $5 Million/person and $10 Million/couple to $1 Million per individual and $2 Million per couple in 2013. So, what should you do?
If you are above the current 2013 threshold ($1M/$2M), you should strongly consider making gifts to your children and/or grandchildren before the end of the year. There are a couple of caveats to that especially if you have assets that are high in value, but relatively illiquid like land or small business holdings.
A. If you think you need more than $1M/$2M to live on, you should consider how much you need to live on the rest of your life.
B. Remember, when you give it away, you lose your control over the asset and you lose the economic benefit of the asset. You cannot give it away and hold onto it. You can put it in a trust with a neutral trustee (who might be a trusted friend, advisor, attorney), but it can’t be you.
C. Consider the needs of your family and whether or not they should have the money immediately. Trusts are a great vehicle for managing their receipt of assets by others in your family and to utilize the current $5/$10 Million Generation skipping tax exemption.
D. In making gifts of land, collectibles or closely held business interests, appraisals will be needed before the end of the year. So, planning is important for such gifts.
Income taxes
In the income tax area there are many provisions that are scheduled to expire.
Capital Gains Taxes
Things like the capital gains rate will go up with no change in the law. So, it might be wise to consider selling appreciated assets now and incurring a tax rather than waiting and incurring a larger tax. But there are lots of reasons not to do that and certainly its something to think about. You’ll need to consult your tax preparer to determine if you will be better off by making those deals.
Investment Income Surtax
There is a new 3.8% medicare surtax on net investment income if your Modified Adjust Gross Income exceeds $250,000. This affects passive income receipts for S Corporation investors or LLC investors, or limited partnership investors or real estate investors as well as capital gains including from sale of one’s home in excess of the $250,000 exclusion ($500,000 for couples). So, you should consider making larger business deals in 2012 as stated above.
Higher potential rates in 2013.
If no deal is reached there will be higher tax rates for all in 2013. This would mean that it might be wise to hold off on making year end state estimated payments until 2013. However, if there are restrictions in deductions passed by Congress, then you might want to make these payments in 2012. All in all, this probably means waiting until the end of 2012 to see what happens in this regard.
Business Provisions Expiring
The R&D credit, the Work Incentive Credits, and accelerated depreciation/amortization rates are scheduled to expire at the end of the year. Without changes in the law by the end of the year, purchases or investments in these areas in 2012 would be advisable.
If you have a small business that you are negotiating a sale, you can exclude up to $10 Million if the stock was owned for more than 5 years and is qualified small business stock. After this year the exclusion goes down to 50% of the first $10 Million. Zero taxes versus 17% of the total sale is a huge difference. If you sold a small business corporation for $1 Million, you’d owe $170,000 more taxes in 2013 at least.
Generic planning tips.
If you have illiquid assets the rest of 2012 may be a good time to sell them or give them to family members in order to take advantage of lower capital gains rates and higher gift tax exclusion for 2012. Additionally, if income can be recognized in 2012 instead of 2013, it might be a good year to do that. I would say, plan deductions for 2013 since rates are higher, but with the possibility of the phase out of itemized deductions and the resurrection of the alternative minimum tax, that might not be advisable and you should have someone run the numbers for you.
Our attorneys stand ready to assist you in these decisions. If you need advise, please do give us a call.
Disclaimer.
NOTHING IN THIS LETTER IS INTENDED TO BE THE RENDERING OF LEGAL ADVICE AND SHOULD NOT BE RELIED UPON IN ANY CONTEXT. AS ALWAYS, YOU SHOULD CONSULT YOUR TAX ADVISOR TO DETERMINE THE ANSWER TO YOUR PARTICULAR SITUATION. THE VIRGINIA STATE BAR SEEMS TO THINK THIS LETTER MAY CONSTITUTE ADVERTISING. PLEASE BE AWARE THAT OUR PURPOSES FOR THIS LETTER ARE NOT CHARITABLE AND THAT IT MAY CONSTITUTE ADVERTISING. ANY STATEMENT OF SUCCESS OR FAILURE IN ANY LITIGATION PROCEEDING SHALL NOT BE TAKEN AS ANY GUARANTEE OF SIMILAR RESULTS IN YOUR SITUATION. ALL CASES ARE FACT DEPENDENT AND CASE VARY FROM ONE CASE TO ANOTHER AND YOUR PARTICULAR SITUATION IS UNIQUE AND REQUIRES UNIQUE DECISION MAKING BASED UPON A NUMBER OF FACTORS.
2012 Expiring Provisions Business
There are lots of expiring business provisions in the Code if no changes occur.
The accumulated earnings tax rates will increase to 39.6% for corporations. The R&D credit expires. The New Markets credit expires. The Work Opportunity Credit expires. Straight line cost recovery for Amortized start up costs goes from 15 years to 21 years. The Qualified Small Business stock gain exclusion expires. The basis adjustment for S Corporation charitable contributions returns. The look back for built in gains on S Corporations goes from 5 years to 10 years. Payroll tax goes back up from 4.2 to 7.25%.. No bonus depreciation for the first year.
So what are your options as a business for 2012. If you have R&D or depreciable property to acquire, do so in 2012. If you converted a C corporation to an S corporation between 6-9 years ago, consider selling that asset now as opposed to having to wait for another 1-4 years. There are of course economic reasons to hold property. But consider those options. If you have a small business that you are negotiating a sale, you can exclude up to $10 Million if the stock was owned for more than 5 years and is qualified small business stock. After this year the exclusion goes down to 50% of the first $10 Million. A huge difference
Expiring Tax provisions – Individual
Today we’ll discuss individual tax provisions which will expire on December 31, 2012. First rates for all taxpayers including the lowliest are going up. The 10% rate will become 15% for low income individuals. They will also lose the earned income credit and their withholding taxes will go up from 4.2% to 7.125%. And if the rent their apartment and don’t own a home, their standard deduction will be lowered as well.
The middle class gets a tax increase as well. The 25% rate goes to 28%, 28% to 31%. They also get an increase in payroll taxes. The marriage penalty will be back. And they will suddenly be subject to the alternative minimum tax. They lose the Child tax credit, the higher education deduction, the dependent care credit, the energy efficient homes credit, and the adoption credit.
But what about the rich? Well their rates go up from 33% to 36% and 35% to 39.5%. However for dividends, their rates will go up from 15% to a maximum rate of 39.5% (plus the new Obamacare tax of 3.8%). The capital gains rates will go up from 15% to 20% (plus the new Obamacare tax of 3.8%). The phase out of itemized deductions and standard deductions will come back again. The marriage penalty will hit them as well. All in all everyone suffers when we go over the fiscal cliff.
Estate Taxes (Death Taxes). The exemption from estate taxes goes down from $5 Million per person/ $10 Million per couple down to $1 Million per person and $2 Million per couple. That means that if a person owns a small business or farm, has socked away a few hundred thousand in the 401(k), owns his own home, and has some money in the bank, he’s going to owe death taxes.
Some estimates are that if these changes are implemented the Government revenues will go up $482 Billion. That averages $1,333 per American. The 50% who don’t pay taxes, will in many cases now start to pay taxes. That figure is misleading since anyone who earns $100 pays payroll taxes. So, even those who “pay no taxes” will have a tax increase due to expiring laws.
PLANNING TIPS:
If you have illiquid assets the rest of 2012 may be a good time to sell them or give them to family members in order to take advantage of lower capital gains rates and higher gift tax exclusion for 2012. Additionally if income can be recognized in 2012 instead of 2013, it might be a good year to do that. I would say, plan deductions for 2013 since rates are higher, but with the possibility of the phase out of itemized deductions and the resurrection of the alternative minimum tax, that might not be advisable and you should have someone run the numbers for you.
Fiscal Cliff, Tax Reform and Lame Ducks
The ballots have been cast. The election is over and now the work of legislation begins. The question in Washington is this. Can the Democrats let the Fiscal Cliff hit and blame it on the Republican Congress? If they do, its the “old” Congress that technically won’t be in office next year.
Scenario 1
So, here’s what the lame duck could look like. The House will pass yet another budget. The Senate will sniff at it, pooh, pooh it and say its too extreme and they won’t deal and by the way, won’t propose one of their own. They let the Bush Tax cuts expire and the Government falls off the Cliff, the Bush era tax cuts expire, the markets tumble, real estate values plummet near military bases and government establishments and general mayhem erupts. Both sides blame each other.
Scenario #2
The House passes a budget with a few nuggets for the democrats, the Senate gets it, sniffs at it and passes one of their own which is DOA in the house. It goes to Committee and the House send in a Turk Committee of Ryan and Cantor, the Senate sends Schumer and Kerry. After a week of non-productive meetings, the President comes back from vacation and asks to meet with the Committee. He calls Ryan and Cantor every name in the book, things break down and we fall off the cliff.
Scenario #3
Senators Begich, Landreau, Franken, and Udall (CO) and Kay Hagen meet with Collins, Hutchinson, Brown and Lugar and agree to vote cloture on any filibuster of the budget bill, a new Gang of 8 with three lame ducks and several at risk in 2014 in possibly red mid term states. And something gets passed which neither the democrats nor the Republcans like.
All we can say is the end of 2012 will be interesting and scarry. Don’t forget the Winter Solstice Mayan Prediction. The world ends on December 21. Of course that should be right about the time Congress adjourns for the year.