On January 1, 2013 the US will experience the biggest tax increase in its history. Coupled with significant spending cuts, it can easily pull the US back into a recession. Why do we have this situation? Because our elected officials cannot get along and have kicked the proverbial can down the road yet another time.
If you recall, Congress extended the 2001 and 2003 tax cuts in late 2010, a few days before they were due to expire. This gave us a 2 year reprieve. And in the summer of 2011, Congress could not agree on a deficit reduction plan that resulted in the US credit rating being downgraded and also set in motion significant spending cuts to take place in early 2013.
The expiring tax cuts and the spending cuts are now referred to as "Taxmageddon."
Here are the major tax changes that may affect you:
1) Tax Brackets. The 10% bracket disappears. The lowest rate will not be 15%. The remaining tax brackets (25%, 28%, 33% and 35%) will go back to the rates in effect in 2000 (28%, 31%, 36% and 39.6%).
2) Child tax credit is reduced to $500 from current amount of $1000.
3) Reduced tax benefits for education.
4) Phaseout of itemized deductions. Taxpayers with adjusted gross incomes (AGI) over $175,000 will not be able to fully deduct all their itemized deductions on Schedule A.
5) Personal Exemption Phaseout. High income folks will not be able to fully claim the personal exemption for either themselves or their spouse.
6) Alternative Minimum Tax. The increased exemption amount for AMT (called the AMT patch) has already expired. If Congress does nothing, millions of folks will be subject to AMT in 2012.
7) Estate Tax. The exemption amount ( the amount of money that a person can own when he/she dies and not pay any tax on it) will revert back to $1 million from the present level of $5.12 million. While a million may sound like a lot of money, when you add up all the assets of a deceased person such as the fair market value of a home, 401ks, life insurance etc... it is very easy to be well over $1 million.
8) Capital gains and dividends. These take a double hit. The rate on capital gains will increase to 20%, from current rate of 15%. Dividends will be taxed at a person's current tax bracket versus the current 15%.
9) Adoption Credits. New credit will be $6000 and only for special needs children.
10) Lots of other misc tax credits to be eliminated.
OK, folks, these are the tax changes that will happen unless Congress acts. The 64 million dollar question is "Will Congress Act?" The consensus is that nothing will happen before the election. And after the election there is sure to be an embattled Congress, regardless of who is President.
This makes it tough to plan ahead. My advice is to plan for the worst and then be pleasantly surprised if it is not as bad as you planned for!
