……..are three things you should not yell at a cocktail party in Madison unless you thrive on attention and debate. These buzz words, terms, or in some cases, an individual’s name are so polarizing they can even disrupt a gathering of the most functional of families.
We will leave the Governor out of this one; there are plenty of blogs dealing with him. Here will discuss some of the pending changes to the tax code and how they relate to President Obama’s Health Care Reform and what individuals like Mitt Romney pay in taxes.
Bush-era tax cut expiration
Woops, there’s another one. This is important because a lot of the tax cuts that were implemented during President Bush’s term are set to expire at the end of 2012 (they were extended at the end of 2010 for 2011 & 2012). Some of the original provisions have since been made permanent (e.g. allowing ROTH contributions in a 401(k) plan). Barring an act from Congress here are some changes that you will see:
- The top marginal federal income tax increase from 35% to 39.6%
- Long-term capital gains tax increasing from a top rate of 15% to 20%
- Qualified dividends tax increasing from 15% to your ordinary income tax rate
These are the types of increases help combat some of the complaints that some individuals (such as Mitt Romney) that derive much of their income from investments pay too low of an effective tax rate.
Health Care Reform
As a part of President Obama’s Health Care Reform there is a new 3.8% tax proposed that will be applied to unearned income such as interest, dividends and capital gains. This will only apply to individuals making $200,000 or couples making $250,000.
Cutting through the rhetoric
This blog is purposely apolitical. It is important to dig beneath the sound bites from extreme points of view from either side to find out what is really going on. The truth is almost always somewhere in between.
There were many complaints during the Mitt Romney debate claiming they paid 25% in taxes and he only paid 15%. This argument usually involved using one’s top marginal rate instead of the effective rate. The marginal rate is the rate at which your last earned dollar is taxed. The effective rate is your total tax liability divided by your income. In 2011 a couple earning $104,175 (right in the middle of the 25% tax bracket) had a top marginal rate of 25% but their effective federal rate would be 17.56%. Taking into account personal exemptions and a standard deduction their effective rate might drop to 13%.
On the other side beware of the scare tactic that says your taxes are going moving from 15% to 43.4%. In reality this increase only applies to current qualified dividend income, for earners over $200,000, and again is using a marginal rate for effect as opposed to the effective rate.
What should I do?
Don’t make financial decisions based on what you heard on Rush Limbaugh or The Ed Show. Take a look at your portfolio and past tax returns to see how these changes may affect you. Also, summon the opinion of a trusted tax advisor/financial planner/wealth manager.
Keep in mind that a lot can happen between now and 2013. Better said, don’t set your watch based on what Congress will or won’t do.
The tax rate calculations used actual 2011 Federal Tax Rates. Depending on the makeup of the income in question, level of deductions, etc. the effective rate could end of being higher or lower. These calculations were for illustrative purposes only and should not be used as tax advice.