Tax Reform Proposal: What Lies Ahead

President Obama recently said that he wants a tax reform/deficit reduction package by August, and lawmakers now have many proposals to consider, including House and Senate blueprints as well as the Simpson-Bowles Plan. Whatever is adopted, it is sure to impact your tax strategy and planning.

All of the proposals have one common goal: reduce the federal government’s approximate $16 trillion federal budget deficit. Many of the plans propose to cut spending and raise revenues. Let’s take a look at how some of the tax proposals would affect individuals, businesses and others.

Individuals

• New individual tax rates have been set at 10, 15, 25, 28, 33, 35 and 39.6 percent for 2013 and beyond.
• The House GOP budget blueprint would consolidate the current seven individual income tax rate brackets into two rates. The lower rate would be 10 percent with the goal of a top rate of 25 percent.
• A proposed minimum 30 percent tax on individuals with incomes exceeding $1 million (full phase in at $2 million). These taxpayers would also be limited to reduce their tax liability to a maximum of 28 percent.
• Potential to limit contributions and accruals on tax-favored retirement accounts, including IRAs, qualified plans, tax-sheltered annuities and deferred compensation plans.
• Across-the-board limits on itemized deductions claimed by the top 2 percent of income earners, by capping the rate at which itemized deductions and other tax preferences reduce tax liability, a percentage of income cap or a specific dollar cap.
• Repeal of the 3.8 percent net investment income surtax and the 0.9 percent, alternative minimum tax and additional Medicare tax.
• Increase in federal estate tax by raising the estate tax at a maximum rate of 45 percent with a $3.5 million exclusion (not indexed for inflation) after 2017.

Businesses

President Obama says he supports lowering the corporate tax rate in exchange for businesses giving up unspecified tax preferences. These could include tax incentives for fossil fuels, the Code Sec. 199 deduction and more. The House blueprint would reduce the top corporate tax rate to 25 percent, paid for by tax savings elsewhere. The Simpson-Bowles plan also calls for a reduction in the corporate tax rate, contingent on businesses relinquishing unspecific tax preferences.

President Obama and the House and Senate budgets also propose a number of incentives to encourage business spending and job creation, including:

• Enhanced small business expensing (Obama and House at different amounts)
• Permanent research tax credit (Obama, House and Senate)
• Temporary tax credit for increasing payrolls (Obama)
• Special incentives for manufacturing in the United States (Obama)

Another key difference among the competing proposals: the House budget plan would repeal the Patient Protection and Affordable Care Act, including all of its business tax-related provisions, such as employer-shared responsibility provisions, the medical device excise tax, and more. The Senate approved a non-binding resolution to repeal the medical device tax but is not expected to go along with repeal of the entire Affordable Care Act.

Internet Sales Tax

In May, the Senate is expected to approve the Marketplace Fairness Act (H.R. 743). The bill gives states the authority to compel online merchants, no matter where they are located, to collect sales tax at the time of a transaction. However, states would be able to compel collection of sales tax only after they have simplified their sales tax laws, such as by adopting the Streamlined Sales and Use Tax Agreement. The bill has the support of President Obama. However, the bill may not pass in the House, where many lawmakers view it as a tax increase.

Looking Ahead

Tax reform coupled with deficit reduction is starting to gain momentum. Whether this will lead to legislation this summer or before year-end is unclear. As long as the key players continue their discussions, there is the chance of tax reform.

Doeren Mayhew will keep you posted of developments.

How to Use Your 2012 Tax Return for Future Planning

Did you owe tax on your 2012 tax return? Did you receive a sizeable refund? Or, conversely, did you receive a smaller refund than you expected? Taking another look at your tax return from this past year and making a few changes could put more money in your pocket in the short term. And by examining your investments as they are reported on your tax return, you may be able to strategize for the long-term. Start by looking at six key elements:

1. Federal Withholding

If you received a large tax refund, it might be time to adjust the amount of tax the federal government withholds from your paycheck. Although next year your refund check may not be as large, you will have the advantage of seeing a larger sum deposited directly into your pocket every month. To adjust your withholding, fill out and sign a Form W-4, and submit it to your employer. Do this in cases where your adjustments to income, exemptions and deductions remain relatively steady from year-to-year, and where the government consistently is required to give you a large refund.

2. State Withholding

Some people are entirely exempt from state tax, but it is withheld from their paychecks nevertheless. At the end of each year, they may include the amount of their state taxes in their itemized deductions, but then receive a refund they have to declare as income in the next year. This problem particularly applies to active duty military families, many of whom are posted in states other than their state of residency. Military families can check with their state income tax authority to see if there is an appropriate form that can be completed and filed to exempt them from withholding. A higher adjusted gross income (AGI), even if it is subsequently reduced by itemized deductions, can erode other adjustments to income, such as a deduction for student loans, IRA contributions, higher education expenses and more because of certain AGI caps on these benefits.

3. Tax Rates and Adjusted Gross Income

As you may have heard, Congress allowed the Bush-era tax cuts to expire for higher-income earners. That means joint filers with more than $450,000 of adjusted gross income ($400,000 for single individuals) are now in the 39.6 percent tax bracket. Taxpayers at this level of income or above are also subject to a higher long-term capital gains tax rate: 20 percent, up from 15 percent paid by other taxpayers.

In addition, for tax years beginning in 2013, the 33 percent tax bracket for individual taxpayers ends at $398,350 for married individuals filing joint returns, heads of households and single individuals. If you were hovering near the bottom of the 35 percent bracket for the 2012 tax year, then you might want to see if you can readjust your income so that you fall within the 33 percent category.

Higher-income taxpayers also have two new taxes to worry about for 2013 and beyond. Joint-filing taxpayers with modified adjusted gross income of $250,000 ($200,000 for single filers) are also subject to the 3.8 percent surtax on net investment income and a .9 percent additional Medicare tax. Does your adjusted gross income for last year approach these figures? Is it on the edge of the income brackets? Will stock market increases this year put you over the top of those income thresholds? If so, it may be time to find ways to reduce your income for 2013.

4. Investments

At some point in your efforts over the years to accumulate a savings nest egg, you will need to consider diversification, the process of putting your money in the right kind of investment vehicles to satisfy your personal risk strategy and achieve your goals. Looking at your tax return will help you decide whether the investments you now have are the right ones for you. For example, if you are in a high tax bracket and need to diversify away from common stocks, investing in tax-exempt bonds might help, especially if you have state income taxes to worry about, too.

5. Medical Costs

Should you be taking advantage of the medical expense deduction? Many people assume that with the 10 percent adjusted gross income floor on medical expenses now imposed for tax years starting in 2013 (7.5 percent for seniors) that it doesn’t pay for them to keep track of expenses to test whether they are entitled to itemize. But with the premiums for certain long-term care insurance contracts now counted as a medical expense, some individuals are discovering that along with other health insurance premiums, deductibles and timing of elective treatments, the medical tax deduction may be theirs for the taking.

6. Retirement Planning

Don’t forget to protect for eventualities. Are you maximizing the amount that Uncle Sam allows you to save tax-free for retirement? A look at your W-2 for the year, and at the retirement contribution deductions allowed in determining adjusted gross income, should tell you a lot. Should your spouse set up his or her own retirement fund, too? Are you over-invested in tax-deferred retirement plans? If so, you may lose a significant amount of your nest egg to tax after retirement.

Look to our dedicated Tax Group to help you plan properly for maximizing future tax savings. For more information, contact our Doeren Mayhew.

Is Your Institution Prepared for New Escrow Requirements for Higher-Priced Mortgages?

Beginning June 1, 2013, financial institutions originating higher-priced mortgage loans (HPMLs) on residential structures will have to extend escrow account durations for consumers under a final rule issued by the Consumer Financial Protection Bureau (CFPB).

Driven by the CFPB’s mission to strengthen consumer protection, the new rules are designed to help:

• Prevent consumers from purchasing homes they can’t afford due to taxes and insurance not being taken into account at the time of purchase
• Avoid unexpected cost shock for consumers by spreading tax and insurance costs over a year instead of a burdensome lump sum
• Minimizing foreclosure rates for first-lien, higher-priced mortgages

What Are the New Rule Changes?

The final rule, resulting from amendments to the Truth in Lending Act (Regulation Z) established by the Dodd-Frank Act, lengthens the time frame for which an escrow account should be maintained for HPMLs. It will now be extended to a minimum of five years, up from the current requirement of one year. Consumers will have the opportunity to remove the escrow after this five-year time allotment if they have not been delinquent in payments and the loan value is less than 80 percent of the original property value.

Be aware that having additional years of the escrow account will impact the costs associated to extending maintenance.

Although the new rule will apply to many, not every creditor and transaction will be impacted by the escrow account modifications. The rule defines and expands upon several exemptions, including:

Transaction Exemptions – The following transactions are exempt from obliging to the statute’s escrow requirements:

• Loans on cooperative properties
• Construction loans that do not include permanent financing
• Temporary or bridge loans with terms less than 12 months
• Reverse mortgages
• Subordinate liens
• Open-end credit (home equity lines of credit)
• Insurance premiums purchased by the consumer, but not required by the creditor

Creditor Exemptions – Creditors who operate in predominantly rural or underserved areas are exempt if they:

• Made more than 50 percent of first-lien covered transactions in rural or underserved counties
• Combined with affiliates, completed less than 500 first-lien loans in the preceding calendar year
• Have total assets fewer than $2 billion, adjusted annually for inflation
• Generally do not escrow for mortgage obligations they or their affiliates currently service
• Hold the consumer’s loan in their portfolio

Existing Exemption Expansion – Expanding on existing exemptions related to escrowing insurance premiums for condominium units, the new rule includes an exemption for instances where an individual’s policy is covered by a master insurance policy.

How to Prepare for the Changes

With any regulatory change come adjustments. To avoid penalties and potential punitive damage claims by consumers related to ineffectively implementing the regulation, be proactive in accommodating the change at your financial institution by:

• Developing and implementing systematic changes and business practices to ensure escrow accounts for HPMLs are not waived in the first five years
• Training impacted departments and staff on the new requirements and related new procedures
• Evaluating the need to outsource escrowing to a third-party servicing firm to help minimize internal resources’ time and related cost

Even if your institution is exempt from this rule, but still escrows for higher-priced mortgages today, you may need to rethink your current escrow program to accommodate applications received on or after June 1, 2013, to remain exempt.

To learn more about what you can do to prepare for the regulatory change, contact Doeren Mayhew.

Portability Effects on Your Estate Planning Strategy

Exemption portability, made permanent by the American Taxpayer Relief Act of 2012 , provides significant estate planning flexibility to married couples if sufficient planning hasn’t been done before the first spouse’s death. How does it work? If one spouse dies and part (or all) of his or her estate tax exemption is unused at death, the estate can elect to permit the surviving spouse to use the deceased spouse’s remaining estate tax exemption.

But making lifetime asset transfers and setting up trusts can provide benefits that exemption portability doesn’t offer. For example, portability doesn’t protect future growth on assets from estate tax like applying the exemption to a credit shelter trust does. Also, the portability provision doesn’t apply to the GST tax exemption, and some states don’t recognize exemption portability.

Have questions about the best estate planning strategies for your situation? Contact Doeren Mayhew.

12 Common Tax Scams to Consider in 2013

The Internal Revenue Service (IRS) issued its annual “Dirty Dozen” list of tax scams, reminding taxpayers to use caution and protect themselves against these schemes. This year’s 12 common tax scams include:

1. Identity Theft

Identify theft occurs when personal information such as your name, Social Security number or other identifying information is used without your permission. In many cases, an identity thief uses a legitimate taxpayer’s identity to fraudulently file a tax return and claim a refund.

2. Phishing

Phishing scams are typically carried out through unsolicited emails or fake websites that prompt taxpayers to provide valuable personal and financial information. The IRS will never request personal or financial information via email, text message, social media or any other form of electronic communication.

3. Return Preparer Fraud

To avoid refund fraud or identity theft, taxpayers are encouraged to use preparers who sign the returns they prepare and enter their IRS Preparer Tax Identification Numbers.

4. Hiding Income Offshore

Several taxpayers evade U.S. taxes by:

• Hiding income in offshore banks, brokerage accounts or nominee entities, using debit cards, credit cards or wire transfers to access the funds.
• Employing foreign trusts, employee-leasing schemes, private annuities or insurance plans for the same purpose.

Be sure to comply with reporting and disclosure requirements to avoid penalties and fines.

5. “Free Money” from the IRS and Tax Scams Involving Social Security

Low-income individuals, the elderly and members of church congregations are often targeted by scammers, promising them refunds by filing a tax return with little or no documentation. Another tax scam involves Social Security, where scammers promise taxpayers non-existent refunds or rebates.

6. Impersonation of Charitable Organizations

Following major disasters, scam artists impersonate charities to get money or private information from taxpayers by using a variety of tactics, including:

• Contacting people by telephone or email to solicit money or financial information for bogus charities.
• Contacting disaster victims and claiming they are helping victims file casualty loss claims and obtain tax refunds.
• Attempting to get personal financial information to steal the victims’ identities or financial resources.
• Creating bogus websites to solicit funds for disaster victims.

7. False/Inflated Income and Expenses

Claiming unearned income or unpaid expenses to secure larger refundable credits could result in repaying the erroneous refunds, including interest and penalties. Additionally, some taxpayers are filing excessive claims for the fuel tax credit, which is considered a frivolous tax claim and can result in a $5,000 penalty.

8. False Form 1099 Refund Claims

To justify a false refund claim on a corresponding tax return, the perpetrator files a fake information return, such as a Form 1099 Original Issue Discount. Unqualified taxpayers who claim deductions or credits could be liable for financial penalties or face criminal prosecution.

9. Frivolous Arguments

Promoters of frivolous schemes encourage taxpayers to make unreasonable and outlandish claims to avoid paying owed taxes. Check out this list of frivolous tax arguments that taxpayers should avoid.

10. Falsely Claiming Zero Wages

A Form 4852 (Substitute Form W-2) or a “corrected” Form 1099 is used as a way to improperly reduce taxable income to zero. Filing this type of return may result in a $5,000 penalty.

11. Disguised Corporate Ownership

Third parties are improperly used to request employer identification numbers and form corporations that obscure the true ownership of the business. These entities can be used to underreport income, claim fictitious deductions, avoid filing tax returns, participate in listed transactions, and facilitate money laundering and financial crimes.

12. Misuse of Trusts

While there are legitimate uses of trusts in tax and estate planning, some highly questionable transactions promise reduction of income subject to tax, deductions for personal expenses and reduced estate or gift taxes. Such trusts rarely deliver the tax benefits promised and are used primarily to avoid income tax liability and hide assets from creditors.

Doeren Mayhew