On Wednesday, Dec. 15th, the Senate passed the “Tax Relief, Unemployment Insurance Reauthorization and Job Creation Act of 2010” (“2010 Tax Relief Act” or “Act”) and the House of Representatives passed it the next evening.
The only real drama this week was whether the estate tax provisions of the bill would be amended in the House, sending the bill back to the Senate and threatening the original deal. However, the bid to amend the estate tax provisions failed in the House Thursday night and the President signed the Act into law on Dec. 17th. Thus ends the story, for now, of what would happen when the 2001 and 2003 tax provisions, aka ‘the Bush tax cuts,’ expire at the end of this year.
It is safe to say this is an unusual tax act and not just because of the compromises and process that created it. Perhaps a better name for this new law would be the Temporary Tax Relief Act or the Sunset Tax Relief Act, for it is very difficult to find any provision in the law that will be with us after 2012. Moreover, it is not unusual for tax legislation to have both revenue raisers and revenue losers, or to even be revenue neutral, but this act contains no revenue raisers.
In terms of expected revenue impact, per the Joint Committee on Taxation, the most consequential provisions of the Act are as follows, in order of revenue magnitude:
- Tax cuts enacted in 2001 and 2003 extended to 2011 and 2012
- Alternative minimum tax (AMT) “patch” for 2010 and 2011 tax returns
- Temporary payroll tax reduction by two percentage points for one year (2011)
- Extension of the current rules for the child tax credit through 2012
- Temporary estate and gift tax relief – affects 2010-2012
- Temporary extension of unemployment insurance for 13 months
Summary of the Key Provisions[i]
Tax rates extended | The income tax rates for individuals will stay at 10%, 15%, 25%, 28%, 33% and 35% (instead of moving, as previously scheduled, to 15%, 28%, 31%, 36% and 39.6%).
Capital gains and qualified dividend rates extended | Under current law, the capital gains and dividend rates for taxpayers below the 25% bracket is equal to zero percent. For those in the 25% bracket and above, the capital gains and dividend rates are currently 15%. These rates expire at the end of 2010. Upon expiration, the rates for capital gains were to become 10% and 20%, respectively, and dividends were to be subject to the ordinary income rates. This act extends the current capital gains and dividends rates for all taxpayers for an additional two years, through 2012.
Two-year AMT “patch” | Currently, a taxpayer receives an exemption of $33,750 (individuals) and $45,000 (married filing jointly) under the AMT. Current law also does not allow nonrefundable personal credits against the AMT. The 2010 Tax Relief Act increases the exemption amounts for 2010 to $47,450 (individuals) and $72,450 (married filing jointly) and for 2011 to $48,450 (individuals) and $74,450 (married filing jointly). It also allows the nonrefundable personal credits against the AMT. The effective date is for taxable years beginning after December 31, 2009.
Temporary reduction in employee-paid payroll taxes | Under current law, employees pay a 6.2 percent Social Security tax on all wages earned up to $106,800 (in 2011) and self-employed individuals pay a 12.4 percent Social Security self-employment tax on all their self-employment income up to the same threshold. The bill provides a payroll/self-employment tax holiday during 2011 of two percentage points. This means employees will pay only 4.2 percent on wages and self-employment individuals will pay only 10.4 percent on self-employment income up to the threshold.
Temporary extension of the modified child tax credit | The Tax Relief Act of 2010 extends the current child tax credit for an additional two years, through 2012.
Temporary estate, gift and generation skipping transfer tax relief | The relief includes the following provisions:
- Rates and exemptions – Prior legislation phased-out the estate and generation-skipping transfer taxes so that they were fully repealed in 2010, lowered the gift tax rate to 35 percent and increased the gift tax exemption to $1 million for 2010. The 2010 Tax Relief Act sets the exemption at $5 million per person and $10 million per couple and a top tax rate of 35 percent for the estate, gift, and generation-skipping transfer taxes for two years, through 2012. The exemption amount is indexed beginning in 2012. The new law is effective January 1, 2010, but allows an election to choose no estate tax and modified carryover basis for estates arising on or after January 1, 2010 and before January 1, 2011. The new law sets a $5 million generation-skipping transfer tax exemption and zero percent rate for the 2010 year. Note that the estate tax rate is scheduled to move to 55% and the exemption to only $1 million in 2013.
- Portability – Under current law, couples have to do complicated estate planning to claim their entire exemption (currently $7 million for a couple). The Act allows the executor of a deceased spouse’s estate to transfer any unused exemption to the surviving spouse without such planning. This change is effective for estates of decedents dying after December 31, 2010.
- Reunification – Prior to the 2001 tax act, the estate and gift taxes were unified, creating a single graduated rate schedule for both. That single lifetime exemption could be used for gifts and/or bequests. The 2001 act decoupled these systems. The new law reunifies the estate and gift taxes and is effective for gifts made after December 31, 2010.
Other Notable Individual Tax Provisions
Temporary extension of marriage penalty relief | Marriage penalty relief for the standard deduction is extended for an additional two years, through 2012.
Temporary repeal of the personal exemption phase-out | Personal exemptions allow a certain amount per person to be exempt from tax. Due to the Personal Exemption Phase-out (“PEP”), the exemptions are phased out for taxpayers with AGI above a certain level. PEP was repealed for 2010 and this act extends the repeal of PEP for an additional two years, through 2012.
Temporary repeal of the itemized deduction limitation | Generally, taxpayers itemize deductions if the total deductions are more than the standard deduction amount. Since 1991, the amount of itemized deductions that a taxpayer may claim has been reduced, to the extent the taxpayer’s AGI is above a certain amount. This limitation is generally known as the “Pease limitation.” The 2001 tax act repealed the Pease limitation on itemized deductions for 2010 and the repeal of the Pease limitation is now extended for an additional two years, though 2012.
Temporary extension of the American Opportunity Tax Credit | Created under the American Recovery and Reinvestment Act, the American Opportunity Tax Credit is available for up to $2,500 of the cost of tuition and related expenses paid during the taxable year. Under this tax credit, taxpayers receive a tax credit based on 100% of the first $2,000 of tuition and related expenses (including course materials) paid during the taxable year and 25% of the next $2,000 of tuition and related expenses paid during the taxable year. Forty percent of the credit is refundable. This tax credit is subject to a phase-out for taxpayers with adjusted gross income in excess of $80,000 ($160,000 for married couples filing jointly). The Act extends the American Opportunity Tax Credit for an additional two years, through 2012.
Individual Extenders through 2012 | The current law’s rules for the following tax provisions will remain in place through 2012:
- Coverdell Education Saving Accounts (CESAs), formerly called education IRAs
- exclusion for employer-provided educational assistance
- above-the-line student loan interest deduction
- credit for employer-provided child care facilities
- adoption credit and adoption assistance programs exclusion
- arbitrage rebate for school construction bonds
- tax-exempt private activity bonds for qualified education facilities
- extended earned income tax credit (EITC)
- credit for household and dependent care
Individual Extenders through 2011 | All of the following tax breaks for individuals that expired at the end of 2009 will be retroactively reinstated and extended through 2011:
- the election to take an itemized deduction for state and local general sales taxes in lieu of the itemized deduction permitted for state and local income taxes
- increased contribution limits and carryforward period for contributions of appreciated real property (including partial interests in real property) for conservation purposes
- the above-the-line deduction for qualified tuition and related expenses
- the provision that permits taxpayers age 70 1/2 or older to make tax-free distributions to charity from an Individual Retirement Account (IRA) of up to $100,000 per taxpayer, per tax year (additionally, individuals will be allowed to treat IRA transfers to charities during January of 2011 and as if made during 2010)
- the increase in the monthly exclusion for employer-provided transit and vanpool benefits to that of the exclusion for employer-provided parking benefits
- the $250 above-the-line deduction for certain expenses of elementary and secondary school teachers
- treatment of mortgage insurance premiums as deductible qualified residence interest
- exclusion of 100% of gain on certain small business stock (for stock acquired after September 27, 2010 and before January 1, 2012)
Other Notable Business Tax Provisions
Extension of bonus depreciation | Under current law, businesses are allowed to recover the cost of capital expenditures over time according to a depreciation schedule. Congress allowed businesses, beginning January 1, 2008 through December 31, 2009, to take an additional depreciation deduction allowance equal to 50 percent of the cost of the depreciable property placed in service in those years. Under the Small Business Jobs Act of 2010, this temporary increase in the depreciation deduction allowance was extended through December 31, 2010. The new law extends and temporarily increases this bonus depreciation provision for investments in new business equipment. For investments placed in service after September 8, 2010 and through December 31, 2011, the bill provides for 100 percent bonus depreciation. For investments placed in service after December 31, 2011 and through December 31, 2012, the bill provides for 50 percent bonus depreciation. The provision also allows taxpayers to elect to accelerate some AMT credits in lieu of bonus depreciation for taxable years 2011 and 2012.
Temporary extension of the increase in the maximum amount and phase-out threshold under section 179 | Under current law, a taxpayer with a sufficiently small amount of annual investment may elect to deduct the cost of certain property placed in service for the year rather than depreciate those costs over time. The 2003 tax cuts temporarily increased the maximum dollar amount that may be deducted from $25,000 to $100,000. The tax cuts also increased the phase-out amount from $200,000 to $400,000. In 2007, tax cuts temporarily increased these thresholds to $125,000 and $500,000 respectively, indexed for inflation. These amounts have been further increased and extended several times on a temporary basis, including most recently as part of the Small Business Jobs Act which increased the thresholds to $500,000 and $2,000,000 for the taxable years beginning in 2010 and 2011. The Act extends the 2007 maximum amount and phase-out thresholds for taxable years beginning in 2012, at $125,000 and $500,000 respectively, indexed for inflation.
Business Extenders | The following business tax breaks that expired at the end of 2009 will be retroactively reinstated and extended through 2011:
- the research credit
- the new markets tax credit
- employer wage credit for activated reservists
- 15-year write-off for qualifying leasehold improvements, restaurant buildings and improvements, and retail improvements
- enhanced charitable deductions for contributions of food inventory, for contributions of book inventories to public schools and for corporate contributions of computer equipment for educational purposes
- expensing of environmental remediation costs
- look-thru treatment of payments between related controlled foreign corporations under foreign personal holding company rules
- basis adjustment to stock of S corporations making charitable contributions of property
- empowerment zone tax incentives
- tax incentives for investment in the District of Columbia
For more information on how this or other tax legislation may affect you, please contact Aronson’s tax experts at 301.231.6200. Also, be sure to visit AronsonBlogs.com regularly for updated information/comments on the Act.
[i] Source: The US Senate Committee on Finance, “Summary of the Reid-McConnell Tax Relief, Unemployment Insurance Reauthorization and Job Creation Act of 2010,” Dec. 10, 2010.
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