If you are a married couple earning more than $250,000 a year, you will see an increase in Medicare tax of 0.9 percent, making the new rate 2.35 percent beginning in 2013.
Most taxpayers whose income is below this amount pay 1.45 percent toward Medicare. However, the recent fiscal cliff legislation signed in January increased not only the tax rate for incomes over $400,000, but also increased the amount of Medicare taxes paid for incomes over $250,000.
In addition to the increase in the Medicare tax rate, a new 3.8 percent Medicare tax will apply to "Net Investment Income," when modified adjusted gross income is in excess of the $200,000 (single) and $250,000 (married filing jointly) threshold. Previously Medicare taxes only applied to wages and self-employment income and never to investment income.
The new set of rules also limits the number of exemptions and deductions a high-income taxpayer is allowed. These limits apply to married taxpayers who earn $300,000 or $250,000 for single filers. The phase out for personal exemption limits the value of personal exemptions by 2 percent for each $2,500 earned above the thresholds. The personal exemption amount for 2013 is $3,900.
For example, a married couple with two children earning $425,000 ($125,000 over the threshold of $300,000) would lose the personal exemption amount, which adds up to an increase of $15,600 in taxable income. The formula is the difference from the threshold $125,000/$2,500 = 50 and 50 x 0.02 = 1 or 100 percent of the exemption amount. Using the same scenario a family of four who earns $375,000 or $75,000 over the threshold would lose only 60 percent and see an increase of $9,360 in taxable income.
The federal tax rate also increased for incomes over $400,000 (single) or $450,000 (MFJ). The new tax rate for 2013 for high income earners is 39.6 percent, a 4.6 percent increase from 2012.
What about deductions? The Pease limitation (named after former U.S. Rep. Donald Pease, who helped create it) puts a cap on deductions on everything from state taxes to mortgage interest and charitable deductions. These limitations reduce the allowable amount of deductions and begin with tax filers who earn more than $250,000 (single) or $300,000 (MFJ).
Deductions will be reduced by
3 percent of adjusted gross income above the threshold amount. An example: Suppose a married couple makes $500,000 ($200,000 over the limit) and their total itemized deductions were $45,000. The reduction would equal $6,000, making their allowable itemized deductions $39,000. This $6,000 reduction creates an increase of $2376.00 in taxes ($6000 x 39.6 percent).
Have I confused you yet? Just be aware if you earn more than $300,000 ($250,000, single), your tax bill for 2013 is going to be higher, so plan accordingly.
For more information regarding changes in 2013, go to the IRS website at www.irs.gov and type "What's new for 2013" in the search engine.
Tracy Bunner is an enrolled agent and tax preparer with an office in Harrisville. She can be reached at 801-686-1995 or at firstname.lastname@example.org.