It’s no secret that Washington is having a hard time making a decision on what the 2013 tax rates will be. There are, however, a few changes we know will go into effect on January 1, 2013. These are already set and ready to go regardless of what Congress and the President end up doing.

Let me start off by saying that income tax rates will most likely go up. Right now there are 3 things that COULD happen:

1. President Bush’s tax cuts will expire and everyone’s taxes will go up
2. President Obama will get his way and tax rates on the “wealthy” will go up
3. The tax cuts will be extended yet again

My personal opinion is that option 3 won’t happen. And again, this is only my gut feel, but I think we will get some combination of option 1 and 2. What that looks like I have no idea

With that said, here are a couple changes that will happen regardless (and what to do to help ease the pain):

1. Social security taxes will go up. For the past few years, social security withholding on your paycheck has been 2% less than it has in the past. This will end on 1/1/13 and this extra 2% will be taken out of your paycheck again.
2. 3.8% Medicare surtax on “net investment income” – basically if you make more than $250,000 if married filing jointly or $200,000 if single, you will have an additional 3.8% tax on net investment income. Net investment income is generally any income (less expenses) from investments, including dividends, interest, rental income, capital gains, annuities and royalties
3. 0.9% Medicare Surtax on “earned income” – this means that if you make more than $250,000 if married filing jointly or $200,000 if single, your employer will start withholding an extra 0.9% medicare tax from your wages once your income surpasses these levels. This tax also applied to earnings from self-employment.
4. Medical expenses now need to be more than 10% of adjusted gross income to be deductible if you are under 65 years old (it is still 7.5% for those 65 and older)
5. You will only be able to contribute $2,500 max to an flexible spending account (FSA)

Now, here are some things that are LIKELY to happen (just a gut feeling, but most likely will happen):

1. Tax on dividends will go up to ordinary income tax rates – I strongly believe we will no longer have tax on dividends at 15%
2. Tax on capital gains will go up to 20% instead of 15%
3. The estate tax exclusion will go down from $5,120,000 to either $1,000,000 or around $3,500,000 and the estate tax rate will be at 35% or 55%
4. The Section 179 deduction (for businesses) might go down from $139,000 in 2012 to $25,000 in 2013

So, with all the uncertainty, here are some things to consider doing now before year-end (BIG disclaimer though – there are so many nuances with some of these rules, PLEASE, PLEASE, PLEASE make sure they make sense for your situation before doing anything):

1. Try to accelerate income to 2012 instead of deferring into 2013. This is opposite of are “normal” advice, but if you get W-2 income, your social security taxes could be lower, and your tax rate could be lower. You may also avoid the 3.8% and/or the 0.9% medicare surtaxes. This also holds true for self-employed individuals.
2. Delay your expenses. Instead of trying to get a lot of extra deductions prior to year-end, hold off on paying them until 2013. Again, this is opposite of our “normal” advice, but it only makes sense if tax rates go up.
3. If you are close to being able to deduct medical expenses in 2012, pay off the medical bills prior to 12/31/12 so that the threshold is not 10% as it will be in 2013.
4. Think about selling securities before year-end that have gains in them to take advantage of lower capital gains rates in 2012 AND to possibly avoid the 3.8% net investment income tax in 2013.
5. In 2013, consider having your dividend paying stocks and mutual funds inside tax deferred accounts, like IRA’s, ROTH IRA’s and 401(k)’s. In your taxable accounts, consider investing in non-taxable muni bonds. However, always speak to your financial advisor before making these kinds of moves.
6. Consider converting some of your traditional IRA to a ROTH IRA.
7. If you are planning on buying any assets for your business (computers, desks, vehicles, etc), consider doing it now in 2012 since the Section 179 deduction limits may get reduced to $25,000 in 2013.
I have a feeling we will have a LOT more changes in the coming months, so please contact us if you have ANY questions so that we can stay on top of your personal and business tax situation.