Happy New Year! I hope that it will be a prosperous one for all of us. 2012 ended on a high note as the S&P500 closed up 13.4% for the year and the Nasdaq closed up 15.9% for the year. It seems the end of December was marked by bets and predictions about the fiscal cliff, rather than resolutions for the New Year. It seemed the fiscal cliff was all anyone was talking about and the word itself topped an annual list of Words to Be Banished from the Queen’s English for Misuse, Overuse and General Uselessness.
Investors, businesses and Americans alike awaited an austerity deal, which would give people confidence to make longer term plans that will promote growth. Corporations, currently sitting on $1.5 trillion in cash, could then start investing in their businesses. What we ended up with was a hastily assembled, eleventh hour rescue tax deal in Congress that ended the fiscal impasse but left the larger deficit issue unresolved. The deal significantly raises taxes on the rich, with no expiration date, and preserves lower taxes for the working poor. This deal will limit tax breaks to affluent Americans, targeting two popular deductions: mortgage interest and charitable contributions. This will affect single people with at least $250,000 in adjusted gross income (AGI) and married people filing jointly earning at least $300,000 in AGI. Tax credits were extended for the poor and middle class and jobless benefits were increased. Noticeably absent from the deal is an extension of the 2% temporary reduction in the Social Security payroll tax, which means the payroll tax holiday of the last two years has come to an end. Unfortunately, it includes almost no spending cuts and a solution to the debt ceiling was not addressed. On the bright side, a cost-of-living raise for members of Congress was cancelled.
Some of the details of the tax deal are:
- Tax cuts made in 2001 for income below $400,000 per individual, or $450,000 per family, are permanently extended. Income above that level will be taxed at 39.6%, up from 35%.
- At the highest income level, capital gains and dividend tax rates will return to 20%, from 15% previously.
- Personal exemptions and itemized deductions for income about $250,000 per individual, or $300,000 per family, will be capped.
- A permanent fix for the Alternative Minimum Tax (AMT)…finally.
- Unemployment insurance benefits extended for one year.
- Child tax credit, earned income tax credit and tuition tax credit extended for five years.
In addition to the new tax law changes, the Affordable Care Act Tax Provisions (“Obamacare”) will become effective on January 1, 2013. A 0.9% increase in the Medicare tax will take effect on earned income exceeding $200,000 a year for individuals and $250,000 a year for couples. A new 3.8% tax will be imposed on investment income for individuals earning more than $200,000 a year and couples earning more than $250,000 a year. Deductions of medical expenses will increase from 7.5% to 10% of AGI and the contribution limit to flexible spending accounts will be reduced from $5,000 to $2,500.
We averted the fiscal cliff, but nothing has been done to put US fiscal policy on a sustainable path. We must all stay tuned for the upcoming battle in Congress over the debt ceiling since Republicans have agreed to modest tax increases but will now certainly demand significant spending cuts. What is also certain is that the tax code will be even more confusing in 2013 and is certain to ensure the livelihood of accountants for years to come.
Please find enclosed your 4th Quarterly Portfolio Report for 2012. If you have any questions or concerns, please call me at 518-867-4245 or email me at email@example.com.
Olivia A. Mussett, CFP®