HISTORIC TAX INCREASES APPROACH . . .
Are you ready for the "What If" Scenarios?
Uncertainty causes many prudent business owners to proceed with caution when planning growth and expansion. Cash is preserved, expenses are cut, debt is reduced or refinanced and a "wait and see" attitude takes hold. Employees also sense the uncertainty about their jobs and they cut back and become cautious too. Multiply this situation across thousands of businesses of every size and millions of employees and you get a struggling economy with anemic growth and high unemployment. In other words, uncertainty is bad for business and the economy.
Over the past four years, we have experienced plenty of uncertainty . . . it began in late 2008 when the financial sector and mortgage industry meltdown was addressed with historic government spending and bailouts. The resulting recession was very deep and trillions of dollars in government spending was used as a remedy. The catastrophe was averted, but the economic recovery has been the weakest since the great depression. Per President Obama, "the shovel ready projects were not as shovel ready as we thought."
Now we have $5 trillion in additional government debt and a projected government deficit of $1 trillion + per year for the next 10 years. Unbelievably, higher taxes are about to be raised by the President and Congress simply by running out the clock. For you see, if the President and Congress do not act, taxes are going up on everyone when the Bush tax cuts of 2003 expire on December 31, 2012. So as the deadline for action approaches the three biggest financial uncertainties for business owners, entrepreneurs and executives are:
- Will the Bush tax cuts of 2003 be extended or amended?
- Will the Bush estate tax rates be extended or amended?
- Will the Obama health care plan be repealed or amended?
The answer to these questions will be better known after the next presidential election set for November 6, 2012 and will be exactly known when a new bill (if any) is signed by the President. Until then we must thoughtfully consider "what if" scenarios and be prepared.
The Bush tax cuts of 2003 lowered income taxes across the board.
Here is what will expire on December 31, 2012:
- High tax rates – Effective January 1, 2013 28%, 31%, 36% and 39% tax brackets will replace 25%, 28%, 33%, and 35%.
- Marriage penalty- For married couples who do not itemize, your standard deduction is decreased. Phase out of itemized deductions and dependent exemptions will be re-instated.
- Higher taxes on dividends and capital gains- Effective January 1, 2013, dividends are taxed at ordinary rates as high as 39% instead of 15%. Capital gain tax rate is increased from 15% to 20%.
- Depreciation write-offs for small businesses – Decrease in Section 179 equipment expense allowance from $100,000 to $25,000. Also, the first year depreciation bonus is eliminated. Depreciation allowed on vehicles is also decreased.
- Planning Tips: Re-examine owner's compensation package and investment strategy to defer or reduce taxes on earned income. CPAs, Tax Attorneys and Investment Advisors will be in high demand.
President Obama has framed the argument over the Bush tax cuts as a fairness issue and wants to raise taxes on families earning more than $250,000 per year and individuals earning over $200,000 per year to help pay for the government's deficit spending. Excluding the political rhetoric, there is not enough tax revenue in the upper tax brackets to put a dent in the trillion dollar deficits. Moreover, increasing taxes on business owners and entrepreneurs is punitive and at best will be a drag on the economy.
The alternative economic vision leaves the Bush tax cuts in place and may even reduce certain corporate taxes while closing other business loopholes. The economic strategy here is to expand the tax base by incenticizing business and growing our way out of the huge government deficits. (at the same time reducing government spending) This strategy for growth worked for Presidents Kennedy, Reagan and Bush.
Another area of tax concern that has received less media attention is the reduction of estate tax exemption values from $5 million to $1 million per person and estate tax rate increases from 35% to 55%.Under current law, a $10 million estate would pay $0 estate tax while the same estate could pay up to $4.4 million in taxes in 2013!
Planning Tips: Determine your net worth and amount of life insurance coverage and meet with your CPA and tax attorney. To carefully analyze your options.
- Increase life insurance to pay projected estate tax.
- Aggressively GIFT assets to heirs before December 31, 2012 to reduce your taxable estate.
PATIENT PROTECTION & AFFORDABLE CARE ACT
The 2000 page document is almost too much to comprehend and plan for. . . especially when it may be eventually repealed. However, the prudent approach is to be informed and ready to make adjustments.
In addition to the insurance mandate which is considered a fee when it is not considered a tax (thank you Justice Roberts), the Affordable Care Act contains numerous tax increases.
- Beginning in 2013, families earning in excess of $250,000 will pay additional .9% hospital insurance tax.
- Beginning in 2013, Families earning in excess of $250,000 will pay an additional 3.8% investment tax on interest, dividends, capital gains, royalties and rents.
- Other changes impact itemized medical deductions, HSAs and cafeteria plans and more.
Planning Tips: These taxes added to the expiring Bush Tax Cuts could increase the top federal tax backet to 45%. Add state income tax rates and you could see over 50% income tax rates. Consider realizing long term capital gains before year end at 15% tax rates. Consider electing out of installment sale treatment and recognizing entire gain this year.
Where to begin? To say there is a lot to ponder and consider is an understatement. One thing is certain, every business owner or executive is different and has a unique financial situation. Now is the time to meet with your financial and tax advisor to determine the impact of these pending tax increases on you and how you can minimize the damage. Follow up meetings will be necessary to adjust to the election and final signed legislation. Ironically, the uncertainty and "wait and see" attitude is about to end . . . there will be a lot of action in the 4th quarter of 2012 and 1st quarter of 2013. Email .