In the coming weeks, I will delve into the specifics of the “American Taxpayer Relief Act.” I will also provide some planning strategies that should help fully utilize the new law to your benefit. For now, let’s discuss some of the basics coming out of the new law:
Permanent Alternative Minimum Tax Patch: Those who have dealt with alternative minimum tax understand how frustrating it can be. AMT has been “patched” several times over the years, temporarily increasing exemption amounts to account for the growing number of taxpayers subject to this tax. The previous patch from the 2010 Tax Relief Act expired at the end of 2011. The new law permanently sets the exemption at $50,600 for individuals and $78,750 for married couples filing a joint return. These exemption amounts are retroactively effective for the 2012 tax year. In addition, AMT now has an annual indexing feature for inflation. This is a good thing.
Roth Conversions for Retirement Plans: The details on this are limited at this time, but it appears you will be allowed to convert your pre-tax 401(k) savings to a Roth 401(k), which can be tapped tax-free in retirement. This might be a good thing if you assume tax rates will continue to rise in future years. In Congress’ eyes, conversions should raise revenue because the act of converting is considered a taxable event. Congress is hoping that the long-term tax benefits of Roth-style plans will encourage workers to pay taxes on their retirement savings today.
Capital Gains and Dividend Taxes: If you are below the 25 percent tax bracket, capital gains and dividends will be taxed at zero percent. Investors whose tax brackets are above 25 percent and below 39.6 percent will pay the same rate of 15 percent for capital gains and qualified dividends. Those in the 39.6 percent bracket — generally, taxpayers with incomes exceeding $400,000 for individuals and $450,000 for married filing jointly — will pay 20 percent on dividends and capital gains. It is important to note that this does not account for the 3.8 percent Medicare “surtax” on investment income for high income earners. Some higher-income taxpayers may pay as much as 23.8 percent in taxes on investment income, depending on their tax bracket.
This is not a perfect law, but it does take a lot of the guesswork out of planning in 2013 and beyond. William G. Lako Jr., CFP, is an executive in residence at Kennesaw State University’s Coles College of Business and a principal at Henssler Financial. Lako is a certified financial planner.The MDJ will periodically publish columns from KSU business faculty.