Monday, September 17, 2012

Apartment Owners - Time to Plan Now for 2013's Possible Tax Increases on Future Capital Gains and Ordinary Income


By Michael Lortz and Erin Dulley
Geffen Mesher & Company, P.C.

It's time to switch to high gear for the possible federal tax changes coming our way in 2013. Although the future tax landscape remains foggy, planning can go a long way in minimizing the impact of potential tax increases. As things stand today, a number of tax increases are scheduled to take effect in 2013.

Ordinary Income Tax Rates
Tax cuts that became law in 2001 and 2003 will expire at the end of 2012 unless legislative intervention occurs. Since this is an election year, highlighted by contention and gridlock in Congress, it is uncertain whether Congress will pass an extension of these tax cuts before year end. It is important to consider these changes now in your financial planning.


One of the biggest changes on the horizon is an increase to ordinary income tax rates. The lowest marginal rate would jump from 10 percent in 2012 to 15 percent in 2013. The top tax rate would climb from 35 percent to 39.6 percent. In addition, actual rates will be even higher after factoring in a new 3.8 percent Medicare tax on passive investment income, and the 0.9 percent Medicare payroll-tax increase, both of which will affect individual filers making more than $200,000 and joint filers with income above $250,000.
Capital Gains Tax Rates
Cuts to capital gains tax rates also expire at the end of 2012. In 2013, the capital gains tax rate is scheduled to rise from 15 to 20 percent. In addition, qualified dividends, which are currently taxed at capital gain rates, are scheduled to be taxed as ordinary income once again, with a top rate of 39.6 percent.

The change in capital gains taxes will have even more of an impact on low and high income earners. Consider that earners in the 15 percent marginal income tax bracket currently have zero capital gains tax liability. In 2013, the capital gains tax is scheduled to increase from zero to 10 percent for the lowest tax brackets. This change will particularly affect retirees who have low taxable income but have long-term investments with significant gains.

After 2012, individual taxpayers with adjusted gross income over $200,000 (or $250,000 if married filing jointly) will have an additional 3.8 percent Medicare tax added to their capital gains tax rate. Effectively, this will increase the capital gains tax rate from today’s 15 percent to 23.8 percent in 2013.

Given these circumstances, some investors will find it advantageous to sell assets resulting in long-term capital gains during 2012 in order to have those gains taxed at the current lower rate.**

Estate Tax Changes
Another key issue that may affect an owner’s decision to sell in 2012 is the possibility of an increased Estate Tax in 2013. One of the following options seems likely to play out in Congress this year:

·       Do nothing. Congress does nothing and allows the current tax law to expire December 31, 2012. If this happens, then a $1 million estate tax exemption and 55 percent estate tax rate take effect January 1, 2013.

·       Extend current tax law. Congress extends the current tax law to 2013 and beyond. This increases the current $5,120,000 exemption by an inflation-indexed amount for 2013. Assets above the exemption amount are taxed at the current rate of 35 percent.

·       Pass a compromise bill. Congress passes an estate tax compromise lowering the estate tax exemption and increasing the estate tax rate to something more in line with the 2009 numbers of $3,500,000 and 45%. This might also include a repeal of portability between spouses, which has been in effect for the 2011 and 2012 tax years.
·       Repeal the estate tax completely. Congress would completely repeal the federal estate tax. This seems fairly unlikely given the current political and economic climate.

The uncertainty regarding the estate tax has prompted many taxpayers to take advantage of 2012’s favorable gift tax opportunities, including the ability to potentially gift up to $5,120,000 of value tax free. Gifting can also reduce potential state death taxes that are often based on a lower exemption amount such as Oregon.

For more information contact Michael Lortz or Erin Dulley, Geffen Mesher & Company, (503) 221-0141.

**Note: Any decision to sell capital assets should be based on consideration of economic fundamentals in conjunction with your investment goals in addition to the potential tax ramifications.