First, a broad over view of the changes:
- Reduces the tax benefit of itemized deductions and personal exemptions for higher income tax payers. This phase-out applies to individual taxpayers with more than $250K in AGI ($300K for couples). Taxpayers will lose $0.03 in deductions for every $1 above those amounts subject to a maximum 80% reduction.
- Permanently fixes the Alternative Minimum Tax (AMT) by indexing the exemption amount for inflation to prevent a drastic expansion of that tax.
- Increases the maximum estate and gift tax rate from 35% to 40% but maintains the exemption amount at $5 million (indexed for inflation-$5.25 million in 2013).
- Extends emergency unemployment benefits for 2013 but the payroll tax holiday is repealed (reverts to 6.2% from 4.2%) which impacts all wage earners.
- Continues the tax free treatment of municipal bond interest.
- Ordinary income tax rates will rise for taxpayers with taxable income above $400K ($450K for couples). Such taxpayers will face a marginal tax rate of 39.6%.
- Taxpayers at the higher ordinary income tax bracket levels will face a higher tax on capital gains and dividends—20%. Taxpayers in the first two tax brackets will have a 0% tax rate and other brackets below the thresholds will have a 15% tax rate.
- For retirement accounts:
- Tax free IRA required minimum distributions made to a qualified charity were extended for 2013.
- In-plan conversions of traditional 401(k) assets to designated Roth accounts expanded.
- For college education:
- American Opportunity Tax Credit of up to $2500 was extended for 5 years.
- Coverdell savings accounts permanently extended ($2000 contribution used for K-12 expenses)
- Tuition related expense deduction (up to $4000) extended for 1 year.
- Student loan interest ($2500 max) made permanent.
We are not accountants and urge you to verify any items we discuss with your tax professional to determine the implications in your particular situation. We also do not believe you should “let the tax tail wag the investment dog.” That is, your investing should not be dependent solely on tax considerations. However, tax consequences certainly should be considered when all other things are equal. Taxes can have a significant impact on your total economic well being. It is in that spirit that we discuss the Congressional resolution (enacted at the last minute) to the fiscal cliff.