Summertime Planning
As we pass the mid-year mark, it is important to plan for potential tax changes as Congress wraps up the 2010 legislative year. Presented below are the top income tax planning issues to consider as you plan the rest of your tax year from both an individual and business perspective.
Changes Affecting Individual Taxpayers
Potential increase in tax rates: Perhaps most important to individual taxpayers is the potential increase in tax rates. Traditionally taxable income deferral is preferable to taxpayers as they expect to be in the same or lower tax bracket next year, however this might not be the case for 2010 since Congress has not yet moved to stop the potential rate increases scheduled for 2011. Currently speaking, the four lower individual tax rates will be replaced by three higher tax rates as presented below:
| Current Rate | 2011 Rate |
| 10% | 15% |
| 15% | 15% |
| 25% | 28% |
| 28% | 31% |
Phase-Out of Itemized Deductions: In 2011, the phase-out of itemized deductions is scheduled to return for taxpayers with an Adjusted Gross Income (AGI) of over $170,000 if filing joint ($85,000 if filing separately). Under the phase-out, $3 of itemized deductions for every $100 of AGI above the threshold will become nondeductible. It is important to understand the tax benefits of making accelerated payments on mortgage, state and local tax payments due early in 2011. Some charitable contributions may be affected as well.
Considering Gains and Losses on Investments: The tax rate on long term capital gains is scheduled to rise from 15% to 20% for the 2011 tax year. Being that capital losses are able to be carried forward in future years, it is advisable to sell securities which will trigger a loss in order to in effect shelter your capital gains in future years. In addition, gains on appreciated securities may be sheltered by the carry forward loss in future years, also sheltering the income from the increased tax rates.
Charitable Giving: Charitable organizations are tax-exempt, thus benefit from any donation regardless of the potential changes in tax rates that would affect the individual income tax return. It is advisable for individuals to sell their investments at a loss and donate the cash proceeds to recognized charities in order to take the charitable deduction write-off. In effect, this double tax benefit shelters the individual taxpayer from capital losses via the charitable donation deduction – and it all makes no difference to the organization receiving the donation. Appreciated shares that would generate capital gain to the individual may also be donated to recognized charitable organizations in order to avoid a taxable sale and gain.
Gifting of any assets is highly advisable for the 2010 tax year as the gift tax rates are lower in 2010 than they were in 2009. Taxable gifts are subject to a maximum rate of 35% in 2010 (less than the 45% rate in tax year 2009). Donors are still limited to a $1 million exemption in 2010 in addition to the annual exclusion of $13,000 per donee (an allowable $26,000 for combined gifts from spouses).
Similar advice can be given with regards to gifts to relatives. A sale of share which generates a loss can increase your capital loss carry forward and/or offset your capital gains. Concurrently, if you give the proceeds as a gift to relatives, you avoid paying a higher tax. It is important to note that if you directly gift the shares to a relative, you bear the tax burden. In addition, if the recipient is under the age of 24, they may be subject to “Kiddie Tax” rates upon the sale of the shares, essentially meaning that the gain will be taxed at the recipient’s parent’s tax rate, thus defeating the purpose of the gift.
Estate Taxes: The estate tax was repealed for tax year 2010 and Congress is expected to reinstate it for 2011. With no indication of what the rates will be, or what the exemption amounts might be, it is important to understand the tax benefits to those who have passed in 2010.
There is no estate tax return due for decedents who passed after December 31, 2009 but prior to January 1, 2011 unless the property exceeds a value of $1.3 million or if the property was acquired by gift within three years of death. Under the exception, an information return is required to be attached to the decedent’s final income tax return. The Generation Skipping Tax is also inapplicable for any generation skipping transfers made after December 31, 2009 but prior to January 1, 2011.
There are changes to the basis calculation as well. If the decedent died before January 1, 2010 basis is calculated as the fair market value of the property at the time of death (step-up basis). In 2010, basis is calculated as the lesser of the decedent’s basis in the property or the fair market value at the time of death. For property being passed to the decedent’s surviving spouse, an executor can increase the basis of the property in 2010 by an additional amount of $3 million, but may not increase the basis in any property above fair market value at the time of death. There are restrictions on eligible property types in this situation. Refer to a MarcumRachlin Professional to determine the applicable treatment.
Retirement Planning: Assuming that the tax rates will increase in 2011, it may make sense for taxpayers to convert to a Roth IRA from a Traditional IRA in order to accelerate the tax burden now at lower rates. Restrictions on those who are eligible for conversion have been lifted (prior to 2010, only taxpayers with a Modified AGI of under $100,000 who were filing joint could convert). Currently, the opportunity exists for taxpayers to convert and potentially rake in the future tax savings as the rates rise. A conversion is treated as a taxable liquidation of your Traditional IRA, immediately followed by a nondeductible contribution to the Roth IRA. For more information, click here.
Changes Affecting Businesses
Health Insurance Tax Credit for Small Businesses: Qualifying small businesses may be eligible for tax credits that may cover up to 35% of the cost of health insurance for employees. The employer must pay at least 50% of the cost of each employee’s coverage and pay the same percentage for each employee. A “qualified” employer is one that employs no more than 25 full time equivalent employees who earn an average wage under $50,000 and has a qualifying healthcare arrangement in place. For more information, click here.
Social Security Tax Exemptions for New Employees: Wages paid to qualified new employees between March and December 2010 are exempt from the employer’s portion of the Social Security Tax. Qualified new employees are full or part time employees who begin work between February 3, 2010 and December 31, 2010 and were not employed more than 40 total hours in the 60 day period preceding the new employment. Business are also eligible for tax credits for retaining new hires – up to $1,000 for wages paid to each qualified new employee. The employee must be retained for 52 consecutive weeks. For more information, click here.
The Tax Professionals at MarcumRachlin will monitor the changes and how they might affect you. Please contact a representative with any questions you may have.
