What is a "fiscal cliff"? It is a term used to describe tax increases and spending cuts scheduled for January 1, 2013. The term reflects a belief that higher taxes and decreased spending at prescribed levels have the potential to derail our economy. Tax cuts extended for an additional two years by legislation passed in 2010 sunset at the end of 2012. Here is a summary.
Federal Income Tax Rates
Six Brackets in 2012: 10%, 15%, 25%, 28%, 33%, 35%
Five Brackets in 2013: 15%, 28%, 31%, 36%, 39.6%
Maximum long-term capital gain taxes
Current long-term capital gain tax rates now apply to qualifying dividends. In 2013, dividends taxed as ordinary income.
Temporary 2% reduction in Federal Insurance Contributions Act (FICA) payroll tax expires at the end of 2012.
Alternative minimum tax (AMT) exemption and related provisions expired at the end of 2011. This means individuals subject to AMT when filing 2012 federal income tax returns in 2013.
Estate and gift tax provisions revert to 2001 rules. For example, the amount generally excluded from estate and gift tax drops from $5.12 million in 2012 to $1 million in 2013. The top tax rate increases from 35% to 55%.
Itemized deductions and dependency exemptions phase out for individuals with high-adjusted gross income (AGI). Earned income tax credit, child tax credit, and American Opportunity (Hope) tax credit revert to lower limits.
Individuals no longer able to deduct student loan interest after the first 60 months of repayment. Discussion continues about extending expiring provisions. However, the impasse, centers on whether tax breaks extend for all, or only individuals earning $200,000 or less (households earning $250,000 or less).
Beginning 2013, hospital insurance (HI) portion of payroll tax increases 0.9% for individuals with wages exceeding $200,000 ($250,000 for married couples filing a joint federal income tax return, and $125,000 for married individuals filing separately). A new 3.8% Medicare contribution tax imposed on unearned income of high-income individuals. This tax applies to some or all net investment income of individuals with modified AGI exceeding $200,000 ($250,000 for married couples filing a joint federal income tax return, and $125,000 for married individuals filing separately). Both taxes, created by health-care reform legislation passed in 2010, recently upheld as constitutional by the U.S. Supreme Court.
Failure of the deficit reduction super committee to reach agreement back in November 2011 automatically triggered $1.2 trillion in broad spending cuts over a multiyear period beginning in 2013 (the formal term for this is "automatic sequestration"). The cuts split evenly between defense and nondefense spending. Although Social Security, Medicaid, and Medicare benefits are exempt, and cuts to Medicare provider payments cannot exceed 2%, most discretionary programs including education, transportation, and energy programs are subject to automatic cuts. New legislation is required to avoid automatic cuts.
According to a report issued by the nonpartisan Congressional Budget Office (Economic Effects of Reducing the Fiscal Restraint That Is Scheduled to Occur in 2013, May 2012), taken as a whole, the tax increases and spending reductions will reduce the federal budget deficit by 5.1% of gross domestic product (GDP) between calendar years 2012 and 2013.
Remember, elections in November influence legislation. We the people of these United States of America have rights and responsibilities. Our voice and our vote make a difference.
Chris Bryant, MBA, RFC is the founder and CEO of Bryant Wealth Management, Inc., an independent financial services organization established in Washington State. This article is financial education based upon publicly available sources believed to be reliable. Individuals should seek independent counsel from a qualified fiduciary.
Chris Bryant is an American financial advisor.