The Fiscal Cliff Deal (and what it means to you)

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Just the name, Fiscal Cliff, invokes fear. Great marketing on the part of somebody with a motive to get the deal done! In David Letterman’s monologue last night, he included a joke or two about the Fiscal Cliff and the absence of a clear definition so we wouldn’t have to worry about it. What is it, or what was it?

Very generally, on December 31st just about everyone’s taxes to the Federal Government was to increase, and the Federal spending was to be reduced by 10%. On its face, that does not sound like bad financial management given the debt our nation is in (about $140,000 per household!), and climbing by the minute. Currently the Federal spending represents about 24% or the GDP, and historically it has only been in the high teens. But the short-term thinkers decided that would be too much austerity at one time for our fragile economy, so out came the Band-Aids, which is now known officially as the American Taxpayer Relief Act of 2012. The ATRA was passed by the Senate and House on January 1st and signed into law by the President. It contains a lot of tax provisions that basically keeps things the same as in recent prior years for 99% of folks, and temporarily postpones the Federal spending cuts for two months. What was left out of the bill, and not extended are provisions that will affect 100% of taxpayers.

There are many tax provisions in this bill, but the biggest tax increase will be experienced by those who annual income is over $400,000. Most of the tax provisions that affect 99% of folks are what the bill refers to as “extenders”. Extenders merely allow the previous tax rates, deductions, and credits to continue to 2012 and 2013, and so on. In fact, some of these extender provisions were made permanent. Without the ATRA individual income tax rates would have risen for all income groups, the low dividend and capital gains rates would have increased for all, and Federal estate tax would have increased significantly.

To elaborate on what was in the bill for 99% of us, could be summed up with the phrase, “the more things change, the more they stay the same” thanks to the extender provisions. That is, for taxpayers with income under $400,000, very little will change. Rather, what was not in the bill is what will affect most people. Namely, the so-called 2% vacation reduction of social security tax was not extended. This will affect 100% of employees and self-employed individuals. How much? Generally, 2% of whatever your annual wages are, or 2% of your net Schedule C profit in the case of self-employed folks (up to $113,700).

Back to what is in the ATRA, if your annual income is in excess of $400,000 or your equity is better than $5,000,000, different story for you. You can expect your marginal income tax rate to increase from 35% to 39.6%. Actually more than 39.6% when considering some of the high bracket phase-out provisions were also extended. The keystone in the bill for the 1% was the increase in the dividend and long-term capital gain rates from 15% to 20%. For folks with equity of over $5,000,000, the Federal estate tax rate increased from 35% to 40%. But the good news there is that the estate and gift tax exclusion will remain at $5,000,000.

As one of my tax research publications put it, there is nothing in this tax bill that Congress can’t later change. So, hold on to your hats (and wallets) as we progress through the next few months.

Bruce Baer is a Certified Public Accountant with Baer and Company of Morgantown. Questions and comments to Bruce can be directed to Bruce@BaerAndCompanyCPAs.com

Disclaimer: Baer and Company of Morgantown advertises with Journal Register Co. publications.