The new American Taxpayer Relief Act—officially signed on January 2, 2013—averted a drastic plunge off the “fiscal cliff.” Here is a summary of the main tax provisions of interest to individual and business taxpayers.
Individual Tax Provisions
Income tax rates: The new law permanently retains the 10%, 15%, 25%, 28%, 33% and 35% individual income tax brackets from the 2012 rate structure. However, it also adds a top rate of 39.6% for single filers with incomes above $400,000 and joint filers with incomes above $450,000. Thus, the tax rate increase will affect only upper-income taxpayers.
Capital gains and dividends: The new law preserves the favorable 15% tax rate (0% for certain low-income taxpayers) on net long-term capital gain and qualified dividends that was scheduled to expire after 2012. However, it imposes a higher maximum rate of 20% for single filers with incomes above $400,000 and joint filers above $450,000 in 2013 and thereafter.
Alternative minimum tax: Absent another “patch” by Congress, tens of millions of additional taxpayers would have been ensnared by the alternative minimum tax (AMT). Retroactive to January 1, 2012, the new law provides a permanent fix through increased exemption amounts and inflation-indexing of those amounts in future years, as well as allowing full offsets through nonrefundable personal credits.
Itemized deductions/personal exemptions: Under a special tax provision reinstated in 2013, itemized deductions are reduced by 3% of the excess adjusted gross income (AGI) above a specified threshold (but no more than 80% overall). The new law raises the thresholds to $250,000 of AGI for single filers and $300,000 for joint filers. A similar phaseout based on the same AGI thresholds applies to personal exemptions, beginning in 2013.
Family tax breaks: Several tax breaks for family members have been permanently extended, including provisions relating to the child tax credit, the dependent care credit, the adoption tax credit and exclusion for employer-provided adoption benefits, the earned income credit, and relief from the “marriage penalty.”
Education tax breaks: Similarly, the new law permanently extends the expanded $2,000 contribution limit for Coverdell Education Savings Accounts, the exclusion for employer-provided education assistance and the enhanced student loan interest deduction. It also extends the maximum $2,500 American Opportunity Tax Credit (AOTC) for five years, subject to a phaseout based on modified adjusted gross income (MAGI). Furthermore, the above-the-line tuition deduction is extended for two years, retroactive to January 1, 2012. Depending on your MAGI, you may be able to claim a tuition deduction of either $4,000 or $2,000 in lieu of a higher education credit.
Tax extenders: A wide array of tax law provisions are extended for varying time periods (and, in some cases, retroactive to January 1, 2012), including
- the optional state sales income tax deduction (which may be claimed in lieu of deducting state and local income taxes)
- the $2 million tax exclusion on mortgage debt forgiveness
- the $240-per-month tax exclusion for employer-provided mass transit and vanpooling benefits
- the deduction for mortgage insurance premiums
- the up-to-$250 deduction for classroom expenses of educators
- tax benefits for charitable donations of property for conservation purposes
- tax-free distributions from an IRA made directly to charity by individuals age 70½ or older (maximum of $100,000 annually)
Estate and gift taxes: Under the unified estate- and gift-tax system, the estate-tax exemption, which was scheduled to be only $1 million in 2013, remains at $5 million (plus inflation indexing). The top estate-tax rate, which was scheduled to be 55%, rises slightly from 35% to 40%. Among other “sunsetting” provisions, portability of exemptions between spouses is permanently extended.
Businesses Tax Provisions
Section 179 deduction: Section 179 of the tax code allows you to currently deduct the cost of assets placed in service during the year up to a specified maximum. But the deduction begins to phase out at a dollar threshold. After a series of recent ups and downs, the new law authorizes a $500,000 maximum deduction and $2 million threshold through 2013, retroactive to January 1, 2012. It also permits a deduction of up to $250,000 for the cost of qualified leasehold improvement property, restaurant property and retail improvement property.
Bonus depreciation: A business may also claim “bonus depreciation” for qualified assets placed in service during the year. The new law generally restores the 50% bonus depreciation tax break that was in effect for 2012 (previously, 100% bonus depreciation was allowed) through 2013.
Research credit: Under prior law, a business could claim a tax credit equal to 20% of its qualified research expenses above a base amount or use a simplified 14% credit. The credit officially expired after 2011. Now the new law reinstates the research credit, retroactive to January 1, 2012, and extends it through 2013.
Work Opportunity Tax Credit: Prior to 2012, a Work Opportunity Tax Credit (WOTC) was available for hiring a worker from a “target group.” The WOTC was generally equal to 40% of the first $6,000 in wages paid to a new-hire. The new law extends the WOTC through 2013, retroactive to January 1, 2012. Note: Other special rules apply to the hiring of qualified veterans.
Leasehold improvements and restaurants: Previously, using the straight-line method, a 15-year cost recovery period was available for qualified leasehold improvements, restaurant buildings and improvements, and retail improvements. This tax break expired after 2011. The new law extends the 15-year cost recovery period through 2013, retroactive to January 1, 2012.
S corporation tax: If a corporation converts into an S corporation, the S corporation must hold assets for a specified time to avoid the “built-in gains” (BIG) tax. The holding period for the BIG tax was gradually reduced from 10 years to five years for sales of assets in 2011. The new law extends the reduced five-year holding period for sales occurring through 2013, retroactive to January 1, 2012.
Qualified small-business stock: For “qualified small-business stock” (QSBS) acquired before 2012, a seller could exclude 100% of the gain (up from 75% in the prior year) from tax if the QSBS was held for more than five years. Now, the new law extends the 100% tax exclusion to sales of QSBS acquired before January 1, 2014.
Remember that this is only an overview of the key provisions in the new tax law. Consult your Glass & Company tax professional concerning the application of the new rules to your situation.