This year’s budget deliberations have turned traditional year-end tax planning strategies on their head. As financial advisors, we are being asked to make savvy decisions based on our suppositions of what may or may not be decided by the president and Congress as they negotiate the sun-setting Bush and Obama era tax cuts.
Traditionally, at this time of year, we are looking to reduce our client’s taxable income by searching for deductions, or by harvesting losses from their brokerage accounts. In 2013 Obamacare will assess a 3.8% tax on investment income and capital gains for higher income taxpayers. Due to this fact, we are witnessing an acceleration of income into 2012 when the rates will be lower on these taxpayers.
The primary concern for most investors is the capital gains rate, more so than what will happen to marginal tax rates on single filers earning more than $200,000 or joint filers earning more than $250,000 per year. The reason for this is quite simple. For the most part, capital gains are voluntary taxes. They are assessed on the sale of capital assets such as businesses, securities or real estate.
This year, higher income taxpayers are willing to voluntarily pay a capital gains tax rather than be subjected to a nearly 4% Obamacare assessment, plus a potential additional 5% increase in the rate on capital gains taxes. Most higher-income taxpayers are choosing to voluntarily trigger gains this year at the 15% rate, rather than be subjected to a potential 24% rate in 2013.
As long as we continue to tax income, rather than consumption, we will witness tremendous distortions in our economy that do nothing to foster economic growth.
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