Provisions Primarily Affecting Individuals

Income tax rate increases for the wealthiest
The rate brackets remain as they have been for the past 10 years, adjusted annually for inflation. The six existing tax rates – 10, 15, 25, 28, 33 and 35 percent – are retained. However, beginning Jan. 1, 2013, the act imposes a new 39.6 percent bracket that will apply to taxable income above the following amounts:

39.6% bracket starts at taxable income ofFor filing status
$450,000Married filing jointly
$425,000Head of household
$225,000Married filing separately

The act also imposes a stealth type of rate increase by phasing out the personal exemption deduction and certain itemized deductions for those with adjusted gross income (AGI) above the following amounts:

Phaseout starts at AGI ofFor filing status
$300,000Married filing jointly
$275,000Head of household
$150,000Married filing separately

Once AGI exceeds the applicable threshold by more than $122,500, the personal exemption deduction is lost entirely. Similarly, certain itemized deductions are lost as AGI exceeds the same threshold due to a 3 percent threshold phaseout.

Medical deductions, investment interest, casualty, theft and wagering losses are not subject to this phaseout. When planning charitable giving for 2013, taxpayers should keep in mind that their contribution deduction could be subject to this phaseout.

For itemized deductions subject to phaseout, taxpayers will always be entitled to at least 20 percent of the total, since the phaseout cannot eliminate more than 80 percent of their itemized deductions.

Maximum tax on capital gains and dividends
For tax years beginning after 2012, a new 20 percent tax rate will apply to dividends and long-term capital gains for married taxpayers with taxable incomes exceeding $450,000 ($400,000 for single taxpayers) to the extent they exceed these thresholds. For taxpayers between the 25 percent and 39.6 percent brackets, capital gains and dividends will continue to be taxed at 15 percent, while the lower bracket individuals will still enjoy a zero percent tax rate.

To avoid the effect of the 20 percent tax rate, more people may want to consider electing out of the installment sale method in 2012. In addition, the new 3.8 percent Medicare tax on investment income may apply (see below for more detail).

Estate and gift tax rate increases
For decedents dying and gifts made after Dec. 31, 2012, the top estate and gift tax rate is 40 percent. The estate and gift tax exemption remains unified at $5 million, indexed for inflation. For 2012, the exempt amount is $5.12 million.

In addition, the act made the portability election permanent. This election allows a surviving spouse’s estate to benefit from the deceased spouse’s unused exemption, providing shelter for married couples.

Alternative minimum tax adjusted for inflation
After years of annually patching the alternative minimum tax (AMT), Congress has finally added an automatic inflation adjustment provision. The act sets the AMT exemption for 2012 at $78,750 for joint filers, $50,600 for unmarried individuals and $39,375 for married people filing separately.
Beginning in 2013, these amounts are adjusted for inflation. Personal nonrefundable credits are able to offset the AMT.

Adoption credit/assistance permanently enhanced
Prior enhancements to the adoption credit and the income exclusion for employer-paid and/or reimbursed adoption expenses are made permanent for both non-special needs and special needs adoption. The credit phases out at specified inflation-adjusted levels of modified adjusted gross income (MAGI).

Maximum per child credit/exclusion$12,650$12,770 (projected)
Phaseout begins at MAGI of$189,710$191,530 (projected)

Charitable distributions from IRAs reinstated
The provision allowing individuals age 70½ and older to contribute up to $100,000 from their IRA to charity without having to include the distribution as income had expired at the end of 2011. The act reinstates this provision for 2012 and 2013.

Because passage occurred after Dec. 31, 2012, the act contains two important savings provisions:
1. Charitable contributions made from an IRA to a charity before Feb. 1, 2013, can be designated as a 2012 contribution.

2. Cash distributions received from an IRA during December 2012 can be treated as a direct contribution from the IRA to a charity to the extent that amount is actually contributed to a charity prior to Feb. 1, 2013.

Personal tax credits extended
All of the following credits are extended through 2017:

  • The $1,000 child tax credit
  • The enhanced earned income tax credit
  • The enhanced American Opportunity credit for college tuition

Other expired tax provisions extended for two years
The following provisions, which expired at the end of 2011, are extended for 2012 and 2013:

  • The exclusion from income for discharged home mortgage debt
  • The up-to-$250 non-itemized deduction available to teachers who purchase classroom supplies
  • The itemized deduction for mortgage insurance premiums
  • The alternate itemized deduction for state and local sales taxes in lieu of state and local income taxes (This provision primarily benefits residents of states without an income tax.)
  • The $4,000 non-itemized deduction for college tuition and fees

Various temporary tax provisions made permanent
Temporary tax provisions that are now permanent include:

  • Some marriage penalty relief (i.e., the increased size of the 15 percent rate bracket and increased standard deduction for married taxpayers filing jointly), although many newly enacted provisions exacerbate the marriage penalty because the income thresholds that cause married couples to pay higher taxes are set far lower than double the comparable threshold for unmarried individuals
  • The liberalized child and dependent care credit rules that allow the credit to be calculated based on up to $3,000 of expenses for one dependent or up to $6,000 for more than one dependent
  • The exclusion of up to $5,250 for employer-provided educational assistance
  • The enhancements to Coverdell education savings accounts

Payroll tax holiday allowed to expire
The 2-percentage-point reduction in the Social Security tax paid by workers, including self-employed individuals, has been allowed to expire. For 2013, a worker earning $50,000 will pay an additional $1,000. 

Those with earnings above the $113,700 Social Security wage base will pay an additional $2,274.

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