2010 Year End Tax Planning

As we approach the end of 2010, and look back over the past year, we note that we have reported on numerous tax law changes that have taken place during 2010.  It appears that the year will end with one more major tax legislative change, the temporary extension of the Bush tax cuts, also known as the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010.

Tax Relief Act of 2010- Temporary Extension of the Bush-era tax cuts

The Bush tax cuts reduced capital gains tax rates to 15% (0% for those in the 10% and 15% tax brackets).  If this legislation becomes law, this favorable treatment of long-term capital gains will continue for two more years and expire on December 31, 2012.

Qualified dividends were also set to be taxed at ordinary rates again beginning in 2011.  But the new law, if passed, will continue taxing qualified dividends at the same rates as long-term capital gains (15% rate). This reduced rate will remain through 2012.

Prior to the Bush tax cuts, there was an inequality between the marginal tax rates of married couples and single individuals.  This was known as the ?marriage penalty?.  Beginning January 1, 2011, the size of the 15% tax bracket for married couples filing jointly was scheduled to drop to 167% of the 15% tax bracket for individual filers.  However, if the tax relief extension becomes law, the 15% bracket will remain at 200% the size of the bracket for two single taxpayers, providing relief from the so called ?marriage penalty?.

There also are many other provisions in the Bush tax cuts that are being extended in the 2010 Tax Relief Act.  Provisions such as the child credit, adoption credit, and dependent care credit are all being extended through 2012, as a part of the bill. The bill also keeps in place the repeal of the hidden marginal tax rate increases that result from phasing out itemized deductions and personal exemptions for higher income individuals. Other extensions for two years include most of the 2009 tax law, which expanded education credits as well as the child tax credit.

Estate Tax Relief

The Bush tax cuts phased out the estate and generation skipping transfer taxes resulting in a complete repeal of these taxes in 2010.  These taxes are set to revert to the original, pre-EGTRRA levels on January 1, 2011.  That would mean that the estate tax exemption would be set at $1 million and the tax rate would be 55%.  The 2010 Tax Relief Act sets the estate tax exemption at $5 million and the tax rate at 35%. Also for 2011, the Act unifies the lifetime gift exclusion with the estate exclusion of $5 million and also makes the unused amount of estate tax exemption portable for married couples.  This provision allows the estate of a spouse to elect to transfer any portion of the unused estate exemption to the surviving spouse, allowing that amount to be added to the $5 million exclusion available to their future estate.

Business Expensing of Machinery and Equipment

The bill also includes expanded expensing incentives for businesses to invest in new machinery and equipment.  For new property acquired and placed in service after September 8, 2010 and before January 1, 2012, an increased 100% bonus depreciation may be taken.  The 50% bonus depreciation will return, for new assets placed in service after December 31, 2011 and before January 1, 2013.  For tax years beginning in 2012, maximum Section 179 expensing of machinery and equipment will be $125,000 with phase-out starting at $500,000.  For tax years beginning in 2013, and thereafter, the maximum amount you may expense under Section 179 is $25,000 of the cost of property placed in service during the year.

New Payroll Tax Holiday

For 2011, the Act creates a new payroll tax cut, which reduces the rate for the employee?s Social Security portion only of payroll taxes from 6.2% to 4.2%.  The employer?s portion will remain at 6.2%.  If the Act becomes law, this is an immediate tax cut which will increase net paychecks beginning on January 1, 2011.  For self-employed individuals, the Act also makes the same reduction of 2% to the Social Security portion of the self employment tax, reducing the 12.4% portion of the tax to 10.4%.