On January 2, 2013, President Obama signed the American Taxpayer Relief Act of 2012 into law. Summarized below are highlights of those and other changes to Federal tax laws affecting income, payroll, gift and estate, and generation-skipping transfer taxes beginning in 2013.
New top federal marginal rates – ordinary income, capital gains, and qualified dividends
39.6% top ordinary income tax rate
In tax years beginning on or after January 1, 2013, for individuals above the threshold taxable incomes listed below, the highest marginal ordinary income tax rate increases from 35% to 39.6%. The 39.6% rate is a reinstatement of the highest rate from before the 2001 Bush-era tax cuts.
|Filing Status||Threshold taxable income amounts|
|Married filing jointly||$450,000|
The threshold amounts will be adjusted for inflation annually.
20% top capital gain and qualified dividend tax rate
In tax years beginning on or after January 1, 2013, for individuals above the threshold incomes listed above, the tax rate on long term capital gains and qualified dividend income increases from 15% to 20%.
3.8% Medicare tax on net investment income
For individuals above the threshold “modified adjusted gross income” amounts listed below, the net investment income tax, or NIIT, of 3.8% applies. The NIIT applies to a wide range of investment income, including certain long term capital gains and qualified dividends. In effect, the top tax rate on long term capital gains and qualified dividend income will be 23.8% for those whose income exceeds $450,000 ($400,000, if single).
The NIIT also applies to certain short term capital gains, ordinary dividends, interest, rental and royalty income, nonqualified annuities, income from businesses involved in trading of financial instruments or commodities, and income from businesses that are passive activities for the taxpayer.
|Filing status||Threshold modified adjusted gross income amounts|
|Married filing jointly||$250,000|
Phaseout of itemized deductions reinstated
Beginning in 2013, the itemized deduction phaseout will be reinstated for taxpayers above the applicable threshold amount listed below. The phaseout reduces itemized deductions by the lesser of 3% of the adjusted gross income amount above the threshold amount, or 80% of the otherwise allocable itemized deductions.
|Threshold adjusted gross income amounts|
|Married filing jointly||$300,000|
Permanent AMT relief
Beginning in 2012 tax years, the AMT exemption amounts are permanently increased as listed in the table below and will be adjusted annually for inflation.
|Filing status||Increased 2012 exemption amounts|
|Married filing jointly||$78,750|
0.9% additional FICA Medicare tax
Beginning on January 1, 2013, an additional 0.9% FICA Medicare tax applies to earnings above the threshold amounts listed below. The highest applicable FICA Medicare tax rate for employees increases from 1.45% to 2.35%, and for the self-employed from 2.9% to 3.8%.
|Filing status||Threshold earnings amounts|
|Married filing jointly||$250,000|
Expiration of 2% FICA Social Security tax cut
Beginning on January 1, 2013, the 6.2% rate is reinstated for the employee portion of FICA Social Security tax. This is due to the expiration of the temporary 2% rate reduction in the employee portion of FICA Social Security tax from 6.2% to 4.2% on December 31, 2012. For the self-employed, the FICA Social Security tax rate of 10.4% reverts to 12.4%. The FICA wage base for 2013 is $113,700 and will be adjusted annually for inflation.
Section 1202 tax break extended through 2013
The 100% exclusion of certain gains from the sale of qualifying small business stock, or QSBS, under Section 1202 has been extended to acquisitions of QSBS from January 1, 2012 to December 31, 2013. Generally, QSBS must meet the following conditions: the stock was acquired at original issue from a domestic C corporation with gross assets of no more than $50,000,000, the C corporation met certain active business requirements, and the stock was held for more than five years. The amount of excludible gain is limited to the greater of $10,000,000 in aggregate gains, or 10 times the aggregate basis in QSBS.
Section 1374 built in gains relief extended through 2013
The previously reduced five year recognition period for computing built-in gains tax of an S corporation under Section 1374 has been extended to taxable years beginning in 2012 and 2013. The recognition period was to increase to ten years in 2012 until the five year recognition period was extended through 2013.
This tax applies if, during the recognition period, a C corporation converts to an S Corporation and then sells, for a gain, assets that were appreciated in value at the time of the conversion. Those “built-in gains” are taxed at the highest marginal corporate tax rate of 35%. Normally, the recognition period is the ten year period from the first day of the first taxable year for which the S election is effective.
Gift and estate tax exclusion, rates, and portability of deceased spouse’s unused exclusion amount
$5,000,000 gift and estate tax exclusion
The gift and estate tax, and generation-skipping transfer tax exclusion amount has been permanently set at $5,000,000, adjusted annually for inflation. The exclusion amount for 2013 is $5,250,000. Without this change, the exclusion amount would have fallen to or around $1,000,000 as of January 1, 2013.
40% top gift and estate tax rates
The gift and estate tax rate on transfers as of January 1, 2013 above the exclusion amount were increased as listed below. The highest rate increased from 35% to 40%. Without the new 40% rate, the highest marginal gift and estate tax rate would have increased to 55%.
Portability of deceased spouse’s unused exclusion amount made permanent
A surviving spouse’s election to include his or her deceased spouse’s unused exclusion amount will now be a permanent option. This portability election would have expired on December 31, 2012 without this change.