Well, Congress finally enacted the tax reform bill that many have been anticipating for some time. In general, the new law extends the Bush-era tax cuts for two years and provides taxpayers with some certainty during this period. While this comprehensive piece of legislation covers many aspects within the tax code, here is a summary of some of the major points.
Individual Tax Rates
The tax rates were scheduled to revert to pre-2001 rates at the end of 2010. The new law extends all individual rates to 10, 15, 25, 28, 33, and 35 percent for two years, through December 31, 2012.
Qualified capital gains and dividends currently are taxed at a maximum rate of 15% (0% for taxpayers in the 10 and 15 percent income tax brackets). The 2010 Tax Relief Act continues this treatment for two years, through December 31, 2012. Without any action, the capital gains rates would be 20% in 2011.
Marriage Penalty Relief
Extending the Bush-era tax cuts, the standard deduction for married filers is twice the amount for single filers. Also, the 15% tax bracket is expanded for married couples to be twice that of a single filer. Again, this relief will last through 2012.
Child Tax Credit
Prior to the tax law, the child tax credit was scheduled to return to $500 per child. The 2010 Tax Relief Act extends the $1,000 child tax credit for two years.
Dependent Care Credit
A taxpayer who incurs expenses to care of a child who is under the age of 13 while they work, can claim a dependent care credit. The Bush-era tax cuts temporarily increased the maximum amount of eligible expenses from $2,400 to $3,000 (from $4,800 to $6,000 for more than one child). Also, the maximum credit was limited to 35% (from 30%) of qualifying expenses. The 2010 Tax Relief Act extended the increased credit through 2012.
Private Mortgage Insurance Premiums
Under current law, taxpayers may deduct certain premiums paid for qualified mortgage insurance on a qualified residence. The 2010 Tax Relief Act extends this deduction for one year only.
American Opportunity Tax Credit (formerly the HOPE Credit)
Qualified taxpayers with higher education expenses will continue to benefit from the American Opportunity Tax Credit. The law allows a credit of $2,500 of qualified education expenses for all four years of postsecondary education (rather than the first two years). This credit is extended through 2012.
Coverdell Education Savings Accounts
The 2010 Tax Relief Act extends the maximum contribution amount to a Coverdell ESA from $500 to $2,000. Also, elementary and secondary school expenses will continue to be deductible along with post-secondary school expenses.
Individual Tax Extenders
The 2010 Tax Relief Act extends a number of temporary individual tax incentives which expired at the end of 2009. The following are extended for two years (2010 and 2011):
- Sales and Local Sales Tax Deduction
- Higher Education Tuition Deduction
- Teacher’s Classroom Expense Deduction
- Charitable Contribution of IRA proceeds
Alternative Minimum Tax
The 2010 Tax relief Act provides an AMT “patch” intended to prevent AMT from encroaching on middle income taxpayers by providing higher exemption amounts in 2010 and 2011. Without this patch, which expired at the end of 2009, an estimated 21 million additional households would be subject to AMT. Here are the 2010 and 2011 AMT exemption amounts.
Payroll Tax Cut
The 2010 Tax Relief Act reduces the employee-share of Social Security taxes from 6.2%to 4.2% for wages earned in 2011 up to the taxable wage base of $106,800. Self-employed individuals would pay 10.4% on self-employment income up to the threshold. Unlike the Make Work Pay Credit, the 2% Social Security tax reduction is available to all wage earners, with no income phase-out.
Federal Estate Tax
The 2010 Tax Relief Act revives the estate tax for people who die after December 31, 2009. The maximum estate rate is 35% with an applicable exclusion amount of $5 million. This law is scheduled to sunset on December 31, 2012. Also, the new bill eliminates the modified carryover basis rules and replaces them with a stepped-up basis (which has applied until 2010).
For those who died between December 31, 2009 and January 2, 2011, estate executors will have the ability to decide between the following two estate tax treatment alternatives:
- The estate tax based on the new 35% top rate and a $5 Million exclusion with stepped-up basis OR
- No estate tax and modified carryover basis (where the executor may increase the cost basis of only a total of $1.3 million)
We will be addressing some of the specific implications of the tax act in more detail in future blog posts or in Beacon Financial Strategies’ quarterly newsletter. If you have specific questions or need clarification on any one issue, please feel free to contact our office.