August 1, 2012

Federal Surtax on Investment Income

The Supreme Court recently affirmed a 3.8% surtax on investment income, part of the 2010 health care legislation.  The following is effective beginning January 1, 2013:

  • Who does this apply to? Individuals with adjusted gross income (AGI) over $200k/$250k for Single/Married Filing Joint; Trusts and estates with AGI over $12k.
  • What types of investment income are subject to the surtax? Interest, dividends, capital gains, rent, royalties, other passive income; Note that municipal bond interest is not included.
  • How is the 3.8% tax calculated? The surtax is a flat 3.8% tax on investment income that causes a taxpayer’s AGI to exceed the applicable threshold.  For example, a married couple has $400k of AGI – $230k of wages and $170k on investment income.  Because they have $150k of investment income above the $250k threshold, they would owe an extra 3.8% of $150k (or $5,700) of tax.
  • What tax planning opportunities exist?Accelerating income into 2012Shifting assets into municipal bondsConverting regular IRAs to ROTH IRAs in 2012

In addition, there is a 0.9% increase in Medicare tax on all wages or self-employment income above $200k/$250k for Single/Married Filing Joint.

Preferential Federal Rates Expiring

The Bush tax cut rates are set to expire at the end of 2012.  Without any new legislation, the following would be effective beginning January 1, 2013:

  • Top tax bracket rate increases from 35% to 39.6%
  • Qualified dividend rate increases from 15% to ordinary income rates (up to 39.6%)
  • Long-term capital gain rate increases from 15% to 20%
2012 2013 w/Surtax 2013 w/Rates Expiring 2013 w/Surtax
and w/Rates Expiring
Wages (Top Bracket) 35.00% 35.90% 39.60% 40.50%
Interest/ST Capital Gains
(Top Bracket)
35.00% 38.80% 39.60% 43.40%
Dividends 15.00% 18.80% 39.60% 43.40%
LT Capital Gains 15.00% 18.80% 20.00% 23.80%

Proposed California Tax Increase

In the upcoming November election, California voters will decide whether to increase tax rates for Single/Married Filing Joint taxpayers (Note that mental health services 1% tax on income over $1M still applies.)  The following would be retroactively effective beginning January 1, 2012:

  • 9.3% (current tax rate) on income below $250k/$500k
  • 10.3% (1% increase) on income of $250k-300k/$500-600k
  • 11.3% (2% increase) on income of $300k-500k/$600k-1M
  • 12.3% (3% increase) on income of more than $500k/$1M

We will consider the evolving tax laws when addressing your quarterly and year-end tax planning. If you have any questions, we welcome the opportunity to speak with you.