Living in Interesting Times – Taxes, Congress & the American People

By William Clarke, CPA

In the last Breeze issue I discussed the new Healthcare Reform Act and some of the tax implications for individuals of this legislation.  I said that I would discuss the business tax implications this month, but I would like to talk about something else. 

As I am writing this it is June 2010.  We have been expecting tax legislation since December 2009 to resolve the uncertainties of the 2010 expiration of the Estate Tax, expiration of a number of Income Tax deductions and tax rate reductions, currently known as the “Bush Tax Cuts” and proposed changes announced by the current administration that are still being considered by the Executive and Legislative Branches.   Obviously there will be changes to the Tax Code during 2010 and 2011, unfortunately we have no idea what the changes will be so we are unable to plan for the impact of the changes with any certainty.

Two months ago, we talked about the problems with the one year repeal of the Estate Tax.  There is no federal Estate Tax for 2010 today and there will not be any until 2011 unless Congress enacts legislation to reinstate it.  Will such legislation be retroactive to January 1, 2010?  Will it become effective during the middle of the year? Will there be a blended tax depending on the date of death? Will the decedent’s estate have an election on how to be treated? We don’t know. 

We do know that absent action by Congress, the Estate Tax will return in 2011 with an effective exemption of $1,000,000 and a top rate of 55%.  No one seems to want this to happen but there does not seem to be much progress toward resolving this problem.  Watch this issue carefully because we might need to make some significant changes in our estate planning before the end of the year.

Most of the tax changes resulting from the health care funding law will not impact taxpayers until 2013 and later and will generally impact only the top 1% - 2% of high income taxpayers.  For the most part we will have time to digest the new provisions and plan for these changes.

There has not been much discussion about the changing rates on long-term capital gains (LTCG) and qualified dividends.  Absent any new legislation, the tax on capital gains will rise to 20% from 15% on January 1, 2011.  Tax rates on qualified dividends will lose their special status and revert to ordinary income with a maximum tax rate of 39.6% from 15%.  The administration has proposed an increase from 15% to 20% for both LTCG and qualified dividends.  Legislation is still pending.

The House has passed legislation to extend a number of deductions and credits which expired at the end of 2009.  Among these were:

A sales tax deduction that mainly benefits people who live in the nine states without a state income tax. The states are Alaska, Florida, Nevada, New Hampshire, South Dakota, Texas, Tennessee, Washington and Wyoming.

An additional standard deduction for state and local property taxes for taxpayers who don’t itemize their deductions.

A deduction of up to $4,000 for college tuition and related expenses.

A deduction of up to $250 for teachers who spend their own money for books and other classroom supplies.

A credit that helps businesses finance research and development.

Accelerated depreciation for improvements made to leased restaurant and retail property.

Additional depreciation allowance for businesses that suffer damage from a federally-declared disaster.

The bill uses two measures to pay for itself. One would tax the earnings of hedge-fund managers and certain investment partners as ordinary income rather than capital gains. The other would increase Treasury receipts by cracking down on wealthy Americans who use secret overseas bank accounts to evade taxes.

This legislation is currently hung up in the Senate.

The HIRE Act extended the increased deduction for equipment purchases for small business through 2010.  The $250,000 Section 179 deduction will decrease to $125,000 in 2011 and the total equipment purchase limitation will drop from $800,000 in 2010 to $500,000 in 2011.  Whether there will be an additional extension through 2011 is unknown.

With the exception of the Section 179 equipment deduction above, most of the proposals and extensions have not been passed by Congress or signed by the President.  With a record $12 trillion Federal debt and a Federal deficit more than four times its previous high, we can be sure that the need to raise additional sources of revenue at both the Federal and State level will be a continuing topic of conversation and debate.  Stay close to your tax and financial advisors.  Don’t be shy about asking questions and getting answers to give you the information to make informed and intelligent decisions.

 Oh yes!  We are living in interesting times. 

William Clarke manages his own firm in Houston, Texas, but calls Lake Lure his favorite destination.