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Halloween Tax Fright? Many Contractors Think So.


There is a lot of public fear and uncertainty with taxes, including the potential expiration of tax cuts and tax increases resulting from the Patient Protection and Affordable Health Care Act.  Indeed, it is one of the focal points of the upcoming presidential election.  With this, there is much confusion.  The following is a list of key tax incentives which are expiring at the end of 2012:

Individual Income Tax Rates and Deductions

  • The highest income tax rate will increase from 35% to 39.6%.
  • The current lowest income tax rate will increase from 10% to 15%.
  • The long-term capital gains rate will increase to 20%. Currently, long-term capital gains are taxed at 15% for all taxpayers in the 25% bracket rate and above, or 0% for all other taxpayers.
  • Qualified dividends will be subject to ordinary income tax rates, which could be as high as 39.6%.  Currently, qualified dividends are taxed at 15%.
  • Reduction in child tax credits.
  • The phase out of itemized deductions and personal exemptions will return in 2013.

Payroll Tax Holiday – The 2% reduction in the employee portion of Social Security tax will be eliminated.

Business Provisions

  • The additional 50% first-year bonus depreciation will expire at year-end.
  • Section 179 first year expensing will decrease from $139,000 in 2012 to $25,000 (inflation adjusted) in 2013.

Estate & Gift Taxes

  • The federal gift and estate tax exemption will decrease from $5,120,000 to $1,000,000.
  • The top estate tax rate will increase to 55%.

If this does not scare taxpayers enough, the following are key taxes imposed by the health care bill:

Medicare Hospital Insurance Tax – Additional 0.9% tax will be imposed on earned income in excess of $200,000 for single filers and $250,000 for joint filers.  Earned income includes both self-employment income and wages.

Unearned Income Medicare Contribution – A 3.8% surtax will be charged on investment income for individuals with Adjusted Gross Income above $200,000 for single filers and $250,000 for joint filers.

Since many contractors pay taxes individually based on income or losses passed through from their S Corporations or partnerships, the increase in tax rates and reduction in phaseouts may significantly affect their tax liabilities.  Careful planning, including whether to accelerate income and deductions to 2012 or defer income and deductions to 2013 and beyond are key items to consider as we move towards the end of 2012.