With one debate already in the books, we’re not really any closer to knowing what taxes will be in the books, or not, come January. In fact, when the ball drops on New Year’s Eve, we may still need a crystal ball to tell us in what direction we are headed.
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As IRS Commissioner Douglas Shulman prepares to depart in November, major legislative uncertainties face the agency as well as practitioners and taxpayers heading into 2013. Among them are the many tax provisions set to expire, including the alternative minimum tax and rate structure, which could cause major operational concerns during fling season, according to Marc Gerson, former majority tax counsel to the House Committee on Ways and Means.
The earliest these provisions could be extended is in the lame duck session after the election, and thus the IRS will be inundated with customer service requests, Gerson indicated. Overall, the uncertainty of tax legislation, along with the replacement of a commissioner, will only heighten the difficulties facing the IRS in 2013.
“There are so many provisions that either expired last year or are expiring that taxpayers and the IRS together are wondering if in fact they will be extended in a lame duck session,” he said. “A lot depends on the outcome of the election.”
Uncertainty pervades the tax landscape, as it includes important provisions that may be extended, that may fail to be extended, or the 21 Affordable Care Act provisions that may or may not be repealed. Among them are the estate tax rates, the R&D credit, the sales tax deduction, the AMT patch, and the Bush tax cuts, including capital gains and dividend rates.
“We’ve seen some efforts to address these in 2012,” said Gerson. “For example, the Senate Finance Committee reported out a bill in late July, and the House did as part of its pre-August recess activity. Now the question is how does Congress address this large agenda of outstanding items?”
“Given the uncertainty, it’s hard for both individual and corporate taxpayers to plan for or know what to do,” Gerson added.
“We were in kind of the same situation at the end of 2010, and at that point legislation was passed that gave us essentially a two-year extension of the Bush tax cuts. We can look to that as a potential model. I would hope that it is the model, but there may be a shorter term solution,” he said.
“It would be very unfortunate if this were delayed due to rancor following the election,” Gerson noted. “It might take a while to step back after the election and decide strategically what to do by the end of the year. For both parties the priority is on not increasing taxes, but it’s a question of what taxpayers they have in mind.”
Given the large number of expired or expiring provisions, it’s already challenging for the IRS even if the commissioner were remaining in place, Gerson observed. “There are so many administrative and implementation concerns for the IRS. They face the same uncertainties as to what will be in place. Individual rates are such a fundamental core component of the Code, so the uncertainty creates implementation and operational issues. There’s not a lot of time.”
Rate changes are the main concern regarding year-end expiration, agreed Doug Bekker, a tax partner at the Grand Rapids, Mich., office of BDO USA. “The capital gains rate and the dividend rate are currently tied to each other,” he said.
Dividends will be taxed at the same rate as ordinary income, while the maximum rate on capital gains would rise from 15 to 20 percent.
“Potentially, in January 2013, dividends received by individuals in the top bracket could go up to as much as 39.6 percent, plus the new Medicare tax on investment income could add another 3.8 percent,” said Bekker. “The combined rate would equal 43.4 percent, almost triple the current rate on dividends.”
As a result, he noted, “We’re seeing a lot of privately held corporations doing dividend planning. If they are otherwise contemplating paying dividends in the next few years, they’re looking to accelerate into 2012 to take advantage of the lower rate.”
The same is true for capital gains planning, with a new rate (including the 3.8 percent Medicare tax) at 23.8 percent, 8.8 percent higher than the current 15 percent rate. “This means that our tax planning becomes the opposite of what we normally do, since we’re not looking to defer income to future years, but we are trying to accelerate income,” said Bekker.