Making Sense of the Fiscal Cliff Deal

By now you’ve heard that last minute actions by Congress and the President pulled us off the brink of the fiscal cliff. But, do you know what the American Taxpayer Relief Act means for you and your business?

Overall, the deal is good news for most Americans. While it’s true that the tax rates for 99 percent of taxpayers will not change, everyone who pays payroll taxes will see a slight increase. Here’s what you, as an individual taxpayer, should expect in the year to come:

Individual Tax Rates

The Bush-era tax cuts were permanently extended for all but “high income earners.” Who counts as a “high income earner?” Those individuals with $400,000 or more in income ($450,000 if married filing jointly). These individuals will now be subject to a new, higher tax bracket of 39.6 percent.

Additionally, those with incomes over $250,000 ($300,000 if married filing jointly) are now subject to personal exemption and itemized deduction phase-outs.

The following are some other rate changes that impact individuals:

  • The Alternative Minimum Tax (AMT) exemption has been permanently adjusted for inflation. For 2012, the exemption amounts are $50,600 for single taxpayers and $78,750 for joint filers.
  • The 2 percent payroll tax holiday was not renewed which means the 2013 FICA tax rate jumps back to 6.2 percent. This is the one area were nearly everyone will see an increase.
  • Tax rates on qualified dividend income are now permanently tied to capital gain rates. Depending on your income level, the tax rates are now 0 percent, 15 percent or 20 percent effective retroactively to January 1.

Individuals Credits and Deductions

There is good news for parents though – the Child Tax Credit was permanently extended at $1,000 per child subject to income phase-outs. There was also a permanent extension of the Child and Dependent Care Credit covering 35 percent of qualifying expenses. And families will continue to get help with college expenses. The American Opportunity Tax Credit was extended through 2017.

Moreover, the following credits and deductions were retroactively extended for 2012 and 2013:

  • Above-the-line deduction for qualified tuition and related expenses.
  • Itemized deduction for state & local sales taxes.
  • Treatment of mortgage insurance premiums as qualified residence interest (the so-called “mortgage interest deduction”).
  • Nonbusiness Energy Property Credit (with a $500 lifetime limit).

Other Provisions Impacting Individuals

The items below may also have an impact on you:

  • The unified estate/gift tax exemption was permanently retained at $5 million (indexed for inflation) along with portability election. For 2013 the top tax rate for estates in excess of $5 million increased to 40 percent.
  • The exclusion from income for discharge of indebtedness income pertaining to qualified principal residence debt was extended for 2013.
  • Tax-free distributions from IRAs for charitable purposes were retroactively extended for 2012 and 2013. It’s important to note that special provisions have been provided to address the fact that taxpayers were unable to make direction contributions in 2012.
  • The Section 179 expensing allowance of up to $500,000 for qualified property was retroactively extended for 2012 and 2013.
  • The allowance of 50 percent bonus depreciation for qualified property has been extended through 2013.

What the Fiscal Cliff Deal Means for Your Business

This fiscal cliff deal is pretty much all good news for businesses. Most tax incentives were renewed and businesses owners can continue to claim the credits and deductions on which they’ve come to rely. Here are the highlights of the deal’s impact on businesses:

  • Depreciation-Related Provisions. The 15-year cost recovery period for qualified leasehold improvements, qualified restaurant buildings and improvements, and qualified retail improvements was retroactively extended for 2012 and 2013.
  • Additionally, businesses will benefit from the extension of the Section 179 expensing and 50 percent bonus depreciation mentioned above.
  • Business Tax Credits. The following credits and deductions were retroactively extended for 2012 and 2013: Research & Experimentation Tax Credit, Work Opportunity Tax Credit, Manufacturers’ Energy Efficient Appliance Credit, Alternative Fuel Excise Tax Credit (e.g. propane credit) and employer wage credit for activated military reservists.
  • Roth Conversions. Effective January 1, 401(k), 403(b) or 457(b) plans which permit Roth elective contributions can now allow any amount in a non-Roth account to be converted to a Roth account.
  • Gain Exclusion. The 100 percent gain exclusion for the sale of qualifying small business (C-corporations) stock was retroactively extended for 2012 and 2013.

The “recapture period” for the built-in-gain tax period for S-corporations was temporarily reduced from ten to five years, for 2012 and 2013 only.

Although we avoided going off the cliff, most individuals and some businesses can expect to see their taxes go up in 2013. The above provisions are just the highlights of the fiscal cliff-averting deal. If you have specific question about how this deal impacts your personal or business tax position, email Rea & Associates.

This article was originally published in a special edition of Illuminations: Facts & Figures from people with a brighter way, a Rea & Associates enewsletter, 1/3/2013.

Note: This content is accurate as of the date published above and is subject to change. Please seek professional advice before acting on any matter contained in this article.