Because the media cycle moves so quickly these days, you may have already forgotten about the frantic last few days of 2012, during which Congress and the White House worked feverishly to save us all from going off the fiscal cliff, which carried with it projected short-term fiscal and economic impacts. One result of those panicky negotiations was something called the American Taxpayer Relief Act. But as we march on through the first quarter of 2013, many are asking whether the American Taxpayer Relief Act (“ATRA”) truly affords any great relief.
One of the centerpieces of ATRA is the extension of the so-called Bush-era tax cuts. Without ATRA, every tax bracket would have seen an increase as of January 1, 2013. Thus, to a certain extent, most taxpayers are pleased that their marginal tax rate did not increase. Note that this applies to most taxpayers; the top income-earners have been subjected to increased rates, as discussed later. However, the vast majority of taxpayers did, in fact, suffer a tax hike by virtue of the expiration of the payroll tax reduction that was in existence through the end of 2012. Every employee and self-employed individual, therefore, has been subjected to at least a 2% tax increase.
For those in the top tax brackets, the impact of the ATRA was significantly stronger. First, and most obviously, for individuals earning more than $400,000 ($450,000 for married taxpayers filing jointly), the marginal tax rate rose by 4.6% to 39.6%. The top rate on long-term capital gains and dividends rose to 20%. Further, individuals earning more than $200,000 ($250,000 for married taxpayers filing jointly) are now subject to a 3.8% Medicare surtax on net investment income. There are also new limitations on itemized deductions and personal exemptions for those taxpayers above certain thresholds.
The combined effect of these provisions on taxpayers in the higher brackets is significant and will have a substantial impact on transactions and investment decisions. Additionally, it is clear that that ATRA will have an impact on taxpayers at most income levels. The only income-tax relief in the American Taxpayer Relief Act must be that it could have been worse!
ATRA also has a significant impact on estate and gift taxes. In the two years leading up to the so-called fiscal cliff negotiations, the estate and gift tax threshold was $5 million, meaning broadly that estates and gifts under that threshold passed free of estate and gift tax. However, as of January 1, 2013, that threshold was slated to drop precipitously to $1 million. The number of families that would be subjected to the estate and/or gift tax by virtue of this falling threshold would have increased significantly.
The ATRA maintained the $5 million estate and gift tax threshold (as adjusted for inflation) permanently, so for many, this extension feels like a tax break. In some senses, it is a question of perspective again, as the threshold very well could have dropped to $1 million. On the negative side, the top estate and gift tax rate increased from 35% to 40%. Other than this rate increase, though, there were many positives to come from the ATRA on the estate and gift tax front. The annual gift tax exclusion went up and the lifetime exclusion stayed high, so that individuals and families wishing to make lifetime gifts may continue to do so. Portability of exclusions (meaning that spouses can “share” their combined estate and gift tax exclusions), which was somewhat troublesome as a short-term feature, is more appealing as a “permanent” feature of the estate tax regime.
All things considered, it seems that one’s analysis of the ATRA is a question of perspective. Taxes have increased, in one way or another, for virtually all taxpayers. For those in the higher brackets, the increases are significant and may have an impact on their investment decisions. However, most taxpayers realize that reverting to the pre-Bush-era tax regime would have caused a more significant impact on their day-to-day finances. On the estate and gift tax front, the positives of ATRA far outweigh the negatives. Those individuals and families whose net worth exceeds the estate and gift tax thresholds must still engage in sophisticated planning in an effort to minimize and defer such taxes. Passage of the ATRA, though, has kept many individuals and families beneath the estate and gift tax thresholds for the foreseeable future. As always, your trusted tax advisor should be a resource to help you find your perspective on the ATRA.
Les Williams is a Partner in the Estates and Trusts Department. His practice focuses on estate planning, business succession planning, estate and trust administration, and estate and gift taxation.
