Newsletter 2013
Newsletter 2013
New Taxes
New Taxes
Print Full ArticleLast Reviewed: Jan 2014
Last Modified: Jan 2014
We mentioned a couple new federal taxes in last year's newsletter, but we want to remind clients they apply to 2013 income to avoid any surprises when their returns are completed. The majority of taxpayers do not have to worry about these new taxes because they apply to taxpayers with income over $200,000 filing single and $250,000 filing married (how is that for a marriage penalty!).
The first of these taxes is an additional 0.9% Medicare tax on earned income. This tax will largely be paid through increased withholding on wages. The second tax is a 3.8% tax on investment income. It applies to investment income that takes your adjusted gross income over the above thresholds. The tax is simple to understand as it applies to regular investment income like interest, dividends and stock sales. It also applies to capital gain from the sale of your home to the extent the gain is not excluded under the home sale gain exclusion rules (which usually shelter these gains from all tax).
There are a number of complexities that come into play when you consider investment income from a business asset or ownership of a business entity. Income from rental property is clearly subject to the tax. Business interests that are considered a passive activity are subject to the tax, but businesses where you can show material participation are not. Many of our clients operate businesses as either LLCs taxed as an S-Corp or as a corporation electing S-Corp status. When you participate in the operation of one of these businesses on a daily basis there is no concern about application of this tax to your business income or the sale of its stock or assets. Regular corporations, or what we call C-Corps, are a different story. The investment tax applies to all dividends paid by these companies to shareholders, even if the shareholder actively works in the business. One planning tool to avoid the tax in this scenario is to elect to tax the business as an S-Corp if it qualifies. However, the C-Corp status is usually chosen for good reasons and these need to be balanced against the tax avoidance goal of the election.
We also have new tax rates for 2013 that apply to income in the highest tax brackets. Income over $400,000 for single filers and $425,000 for married filers is subject to tax at the rate of 39.6 percent (up from 35%). Some historical perspective may help ease the pain from these higher brackets: When John Kennedy was president there was a 91% tax bracket for income over $200,000 for single filers and $400,000 if you were married. There was some reduction of this maximum rate as income went higher, but you can see that even adjusting for inflation our very high earners were paying a lot more in taxes back then.
We also have a new maximum capital gains tax rate of 20% (up from 15%) for taxpayers that fall within the above tax brackets.
