Update On US Tax Law Changes: View from the Cliff

By Ken Meissner

(Third of three parts)

First Published in Business World (4/29/2013)

Over the past two weeks, we have written about how the US Congress prevented the so-called “Fiscal Cliff” and introduced significant changes in US tax laws. These changes have brought some stability to previously uncertain tax provisions, or extended the lifespan of some taxpayer-friendly provisions. We will now conclude the discussion with other changes that will affect US taxpayers in 2013 and beyond.

Gift and Estate Tax Relief. For the first time in 12 years, there is some degree of stability and certainty in tax planning for estates and the transmission of wealth within a family. Congress has made the US$5 million gift and estate exemption permanent. (Actually, the exemption is US$5,250,000 for 2013, as indexed for inflation). However, the marginal estate tax rate rises to 40% from 35%. The new Act also makes permanent the ability of a deceased spouse to transfer his or her unused exemption amount to the surviving spouse. Thus, in the case of decedents who transfer all of their assets to a surviving spouse at death, a surviving spouse will be able to take advantage of up to US$10.5 million of exemption, as indexed for inflation. In addition, the annual exclusion for gifts increased to US$14,000 per donee as of January 1, 2013.

Quick write-offs for certain business investments. Rules that allow a quick write-off for certain capital investments are extended retroactively for 2012 and going forward for 2013. These include:
• 15-year write-offs for qualified leasehold improvements, qualified restaurant buildings and improvements, and qualified retail improvements. (These would normally have to be written off over 39 years.)
• Seven-year recovery period for motorsports entertainment complexes;
• Accelerated depreciation for business property on an Indian reservation;
• Increased limits on the portion of capital investments that smaller businesses can deduct in full in the year an asset is place in service under Section 179 of the Internal Revenue Code;
• Extending Section 179 to cover certain types of real estate investments;
• Quick write-offs for some production expenses of movies and TV programs, and
• Quick write-offs for mine safety equipment.

Tax credits for businesses. A wide array of expired business tax credits are brought back to life for 2012 and 2013. These include:
• The research credit
• The “work opportunity” credit
• Credits that benefit low income housing
• Credits to encourage hiring of Native Americans
• The “New Markets” credit for certain investments in low-income communities
• Credits for expenses involving railroad track maintenance and mine safety team training

Tax-favored employee education assistance benefits are now permanent (they were to expire at the end of 2012). An employee may exclude up to US$5,250 of company-funded education assistance from his or her gross income each year. This benefit is available for both undergraduate and graduate education. However, this exclusion does not provide an automatic inflation adjustment.

Credit for adoption expenses and exclusion for employer-funded adoption assistance made permanent. The adoption expenses credit allows a dollar-for-dollar offset of certain adoption related expenses against both the regular income tax and AMT. Eligible expenses include adoption fees, court costs, attorney fees, and other expenses involved in adopting a child. For 2013, the maximum amount of the credit is US$12,770. This maximum is reduced when a taxpayer’s modified adjusted gross income (MAGI) rises above US$191,530 and the credit is fully eliminated at MAGI of US$231,530. All these amounts are adjusted annually for inflation.

Taxpayers whose employers help out with adoption expenses can exclude from income up to US$12,970 of employer payments. The maximum exclusion for this fringe benefit phases out as a taxpayer’s AGI rises above US$234,580. Again, these amounts are adjusted annually for inflation.

Dependent Care Credit rules stabilized. The new law permanently extends the dependent care credit at levels that were enhanced back in 2001.

This credit is mostly aimed at low-income taxpayers—single parents and couples who both work and must pay for child or dependent care in order to keep working. The maximum credit will remain where it’s been the past few years: up to US$1,050 for taxpayers with one dependent, up to US$2,100 with two or more dependents. The credit phases down for taxpayers with moderate incomes (anything above US$15,000). For taxpayers with incomes of US$45,000 or more, the credit ranges from US$600 for one dependent to US$1,200 for two dependents.

The credit had been scheduled to fall at the end of 2012 to US$420 for moderate-income taxpayers with one dependent, or US$960 for those with two or more dependents.

Help for taxpayers who manage to restructure debt on “underwater” home mortgages is extended to the end of the current year. As a general rule, any taxpayer who is not totally insolvent and whose creditors forgive some or all of his debts must report the debt forgiveness as taxable income. Under a rule that was to expire at the end of 2012 and has now been extended to Dec. 31, 2013, taxpayers who took on debt to buy, build, or improve their primary home may exclude up to US$2 million worth of such debt-discharge income.

Some education tax breaks temporarily extended. College tax breaks that continue under the new law include a five-year extension of the popular American Opportunity Tax Credit (AOTC) for college tuition. Although rarely used by higher income families due to AGI limits, the return of the Personal Exemption Phaseout means that this credit deserves more attention in 2013.

If a taxpayer’s AGI is over US$250,000 single (US$300,000 on a joint return), he may want to consider not claiming a dependency exemption for his college-enrolled children. If they have income of their own, they may qualify to take the credit against their own income tax instead. (Please note that the refundable part of the AOTC will still not be available as long as a dependent could have been claimed).

For some taxpayers with AGI below US$65,000 if single (US$130,000 filing jointly), the above-the-line deduction for up to US$4,000 of qualified tuition expenses may be a better deal. Congress extended the above-the-line deduction, which decreases to US$2,000 for taxpayers with AGI of up to US$80,000 (US$160,000 joint), through December 31, 2013.

This summary covers many, but not all, of the changes scheduled to take place this year. A number of narrowly focused changes have been omitted. The US Congress is likely to revisit the issue of tax reform again later this year as part of a more comprehensive approach to budget reform and deficit reductions. US taxpayers are advised to keep an eye out for any more changes.

Ken Meissner is a Tax Senior Director of SGV & Co.

To ensure compliance with requirements imposed by the Internal Revenue Service (IRS) of the United States of America (US), we inform you that any US tax advice contained in this communication was not intended or written to be used, and cannot be used, by the recipient, for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code or applicable state or local tax law provisions.

This article is for general information only and is not a substitute for professional advice where the facts and circumstances warrant. The views and opinion expressed above are those of the author and do not necessarily represent the views of SGV & Co.