The rich are protected like “spotted owls” and other “endangered species,” wrote Warren Buffett in a recent New York Times op-ed piece. And despite Republican assurances that they will not approve any tax increases, they may be inevitable.

Buffett says that his effective tax rate is far lower than anyone else’s in his office. Citing the sacrifice of the poor and middle class who fight for the US in Afghanistan and who are struggling during the halting post-recession recovery, Buffett says that Washington spared him and his billionaire friends when it called for “shared sacrifice” in the recent debt limit discussion.

Read this complete analysis of the impact at AdvisorFX (sign up for a free trial subscription with full access to all of the planning libraries and client presentations if you are not already a subscriber).

For previous coverage of reverse mortgages in Advisor’s Journal, see Report Slams Reverse Mortgages (CC 10-121).

Why is this Topic Important to Wealth Managers? Presents discussion on Federal corporate income tax reform as noted in the President’s State of the Union address.  Provides an overview of the current corporate tax situation from a macroeconomic level. 

President Obama recently targeted corporate tax rates in his State of the Union address.  “It makes no sense, and it has to change”. “Get rid of the loopholes. Level the playing field. And use the savings to lower the corporate tax rate for the first time in 25 years — without adding to our deficit. It can be done.”

Here’s why some politicians in Washington are calling for reform:

Although America has one of the highest maximum corporate tax rates throughout industrialized nations, many large corporations pay only a fraction of the maximum rate.  In a study by a New York University Professor, the data shows that a great number of public companies are paying around half, or even less, than the maximum corporate rate. 

Below is a chart adapted from the study showing just how low the effective tax rates are for some major corporations (information compiled from over 7000 publicly traded companies): [1]

Industry                                    No of Companies         Effective Federal Rate

Electric Utilities                         24                                 33.8%

Retail Automotive                       15                                 32.7

Trucking                                    33                                 30.9

Railroad                                    15                                 27.4

Tobacco                                    12                                 26

Securities brokerage                  30                                 20.5

Banking                                    481                               17.5

Petroleum producing                  198                               11.3

Medical supplies                        264                               11.2

Computer software/services        333                               10.1

Internet                                     239                               5.9

Drug                                         337                               5.6

Biotechnology                            121                               4.5

Further evidence of low corporate taxes actually paid is shown rates paid by companies compiling the Standard & Poor’s 500 stock index.  Of the 500 companies, “115 paid a total corporate tax rate — both federal and otherwise — of less than 20 percent over the last five years”, according to an analysis by The New York Times. [2]   “Thirty-nine of those companies paid a rate less than 10 percent.”   

The Times also recently spotlighted Carnival Cruises as paying a mere 1.1% total tax over the last five years on $11.3 billion in profits. [3]   The Publication cites other low tax paying corporations including, Boeing which paid a total tax rate of just 4.5 percent over the last 5 years;  Southwest Airlines paid 6.3 percent; Yahoo 7 percent; Prudential Financial, 7.6 percent; General Electric, 14.3 percent. [4]

Some tax professionals attribute the significant tax breaks to companies who have operations offshore in low tax jurisdictions or make heavy tax deductible expenditures.  Other companies however, “simply seems to have become expert at avoiding taxes.”   

The Times notes, “G.E. is so good at avoiding taxes that some people consider its tax department to be the best in the world, even better than any law firm’s”. [5]

Tomorrow’s blogticle will continue our discussion on additional changes and hot topics in 2011. 

We invite your opinions and comments by posting them below, or by calling the Panel of Experts.

[1] Professor Aswath Damodaran. NYU.  http://www.nytimes.com/imagepages/2011/01/28/us/politics/28tax-graphic.html?ref=politics. 

[2]David Leonhardt.  The Paradox of Corporate Taxes.  New York Times.  2/1/2011.  http://www.nytimes.com/2011/02/02/business/economy/02leonhardt.html?src=me.  Last Accessed 2/1/2011. 

[3] Id. 

[4] Id.

[5] Id.

Why is this Topic Important to Wealth Managers?  Discusses the Estate and Generation Skipping Transfer Tax with regards to the new Obama Tax Cuts.

The recent Obama Tax Cuts reinstated the estate and generation skipping transfer taxes effective for decedents dying and transfers made after December 31, 2009.  As was discussed earlier this week, the estate tax applicable exclusion amount is $5 million for decedents dying in calendar years after 2011, and the maximum estate tax rate is 35 percent. Furthermore, the generation skipping transfer tax exemption for decedents dying or gifts made after December 31, 2009, is equal to the applicable exclusion amount for estate tax purposes ($5 million for 2010).

For a general background on the Generation Skipping Transfer Tax, see our November 1^st Blogticle entitled: Life Insurance and the Generation—Skipping Transfer Tax

Although technically the generation skipping transfer tax is applicable for 2010, the generation skipping transfer tax rate for transfers made during 2010 is zero percent. After this year, the generation skipping transfer tax rate equals the highest estate and gift tax rate in effect for such year (35 percent in 2011 and 2012), notwithstanding the exclusion amounts.

Moreover, under the new law, a recipient of property acquired from a decedent who dies after December 31, 2009, generally will receive fair market value basis (i.e., “step up” in basis). [1]

Election for decedents who die during 2010

In the case of a decedent who dies during 2010, the new law generally allows the executor of such decedent’s estate to make an election whereby the estate would not be subject to estate tax, and the basis of assets acquired from the decedent would be determined under the modified carryover basis rules. [2]

Portability of unused exemption between spouses

Under the new law, any applicable exclusion amount that remains unused (including those used in the calculation of the generation skipping transfer tax), from the death of a deceased spouse, beginning next year, is available for use by the surviving spouse, in addition to such surviving spouse’s applicable exclusion amount.  A surviving spouse may use the unused amount in addition to such surviving spouse’s own $5 million exclusion for taxable transfers made during life or at death for a total of $10 million.

Extension of certain filing deadlines

The new law also provides for the extension of filing deadlines for certain transfer tax returns. Specifically, in the case of a decedent dying after December 31, 2009, and before the date of enactment, the due date shall not be earlier than the date which is nine months after the date of enactment to file and pay the estate tax

Sunset provision

Under the bill, the sunset of the new law of applies to estates of decedents dying, gifts made, or generation skipping transfers made after December 31, 2012.

Tomorrow’s blog will continue to discuss pertinent provisions of the new Tax Cuts and how they relate to wealth managers.

We invite your questions and comments by posting them below, or by calling the Panel of Experts.

[2] For determination of modified basis carryover, see 26 U.S.C. § 1022.

Why is this Topic Important to Wealth Managers?  Discusses new tax rate brackets beginning next colander year (2011).  Also, briefly discusses tax rate tables generally.

In 2001, the Economic Growth and Tax Relief Reconciliation Act first created a new 10-percent regular income tax bracket for a portion of taxable income that was previously taxed at 15 percent.  That law also reduced the other regular income tax rates. The otherwise applicable regular income tax rates of 28 percent, 31 percent, 36 percent and 39.6 percent were reduced to 25 percent, 28 percent, 33 percent, and 35 percent, respectively.

Under Section 101 of the new Tax Relief, Unemployment Insurance Reauthorization, And Job Creation Act of 2010, the law creates an extension of the taxable income brackets created almost a decade ago.

Generally, a taxpayer determines his or her tax liability by applying the tax rate schedules (or the tax tables) to his or her taxable income. The rate schedules are broken into several ranges of income, known as income brackets, and the marginal tax rate increases as a taxpayer’s income increases. Separate rate schedules apply based on an individual’s filing status.

Below are the new tax rate tables for those filing as single taxpayers, married filing jointly, as well as head of household.

For those filing as single taxpayers the new income tax rates, effective after 2010 are:

For married individuals filing jointly, the new income tax rates are:

For those filing as head of household, the new income tax rates are:

Tomorrow’s blog will continue to discuss pertinent provisions of the new Tax Cuts and how they relate to wealth managers.

We invite your questions and comments by posting them below, or by calling the Panel of Experts.

Author: William H. Byrnes & Benjamin S. Terner

Why is this Topic Important to Wealth Managers? Yesterday we presented an overview of the Obama Tax Cut provisions that are relevant to wealth managers.  Today we begin by taking a closer look at some of the details of those provisions and how they relate to wealth managers and their clients.

Section 102 of The Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (HR. 4853) provides for an extension of the regular and minimum tax rates for qualified dividend income and capital gains as were in effect before 2011.  The extension will continue for an additional two years.

To understand the impact of this provision of the new bill, it will serve the reader to understand what the regular and minimum tax rates in relation to qualified dividend income as well as capital gains means.

Qualified Dividends

Before the passage of the second major tax cut enacted by the prior administration, The Jobs and Growth Tax Relief Reconciliation Act of 2003, dividends were taxed as ordinary income, and at ordinary income tax rates, to the taxpayer.  With the passage of Section 102 of the Obama Tax Cuts, the determination of tax liability with regards to qualified dividend income is taxed at the same rates as net capital gains.

Therefore, under Internal Revenue Code § 1(h), qualified dividends are tax at zero and fifteen percent.  Qualified dividends that would be taxed as ordinary income at an otherwise 10-15% rate, are taxed at zero percent, and qualified dividends that would ordinarily be taxed as ordinary income at 25% are taxed at a maximum of 15%.

Qualified dividend income, for this purpose means, dividends received during the taxable year from domestic corporations, and qualified foreign corporations.[1]

One important rule to note with regards to qualified dividend income is that shareholders must hold a share of stock for more than 60 days during the 121-day period beginning 60 days before the ex-dividend date to be eligible for the reduced tax rates. [2]

Ex-dividend date generally means “the date on which the share of stock becomes ex-dividend”. [3] In other words, when a stock corporation declares a dividend, it also states the date of record, upon which the shareholder must own the stock on the company books to be paid the dividend.   “Once the company sets the record date, the stock exchanges or the National Association of Securities Dealers, Inc. fix the ex-dividend date. The ex-dividend date is normally set for stocks two business days before the record date.” [4]

Capital Gains

With the extension of the Tax Cuts, the maximum tax rate on the adjusted net capital gain of a taxpayer is 15%. [5] Adjusted net capital gain means the sum of:

(A) net capital gain (defined below and determined without regard to the calculation of adjusted net capital gain) reduced, but not below zero, by the sum of:
(i) any unrecaptured Section 1250 gain, and
(ii) 28-percent rate gain, plus
(B) qualified dividend income.  [6]

Net capital means the excess of the net long-term capital gain for the taxable year over the net short-term capital loss for such year.[7] Qualified dividend income was defined above and has the same meaning as applied here.

Section 1250 gains and 28-percent rate gains are defined in Internal Revenue Code Section 1(h) but are beyond the purview of this blogticle.  For additional discussion on Section 1250 and 28-percent rate gains see TAXFACTS 7524:  How is an individual taxed on capital gains and losses? Accessible through AdvisorFX with your online subscription.  For a free trial see AdvisorFX.

Tomorrow’s blog will continue to discuss pertinent provisions of the new Tax Cuts.

We invite your questions and comments by posting them below, or by calling the Panel of Experts.

[2] 26 U.S.C. § 1(h)(11)(B)(iii).

[3] 26 U.S.C. § 1059(d)(4).

[4] Securities and Exchange Commission.  Ex-Dividend Dates: When Are You Entitled to Stock and Cash Dividends. http://www.sec.gov/answers/dividen.htm.  Last Accessed 12/19/2010.

[5] HR. 4853, Section 102; 26 U.S.C. § 1(h).

[6] 26 U.S.C. § h(3).

[7] 26 U.S.C. § 1222 (11).

Why is this Topic Important to Wealth Managers?  Wealth Managers are attempting to undertake end of year planning with great uncertainty as to the federal income and estate tax rates, exemptions, and credits for 2011.  The popular press reported that a tax reduction compromise had been reached.  And it was.  But the stories left out the important caveat that this compromise may just be the beginning of the end, and not the end in itself.  

Let’s just briefly consider the past ten days.

Last week House Democrats passed a “Middle Class” targeted bill extending the Bush income tax rate and capital gains rate cuts for individuals earning less than $200,000, less than $250,000 for joint filers.  This proposal included returning to the pre-Bush tax rates of 36% and 39.6% for higher income earners. 

The Senate Democrat in charge of the powerful Senate Finance Committee put forward to the full Senate the House Bill but with two important additions.  Firstly, the Senate proposal would have reduced the maximum estate tax rate to 45% (instead of the pre-Bush 55% rate returning in 2011), while increasing the exemption amount from $1 million to $3.5 million.  Secondly, the Senate bill would have repealed the expanded 1099 filing requirements (of the Health Care Reform act) that will take effect 2012. 

However, a Senate majority by one party by no means ensures passage of the majority’s bills.  In the Senate (but not in the House of Representatives) a minority party can block a bill via the procedural mechanism known as a “filibuster”.  Most Americans learn about the filibuster from the Jimmy Stewart classic “Mr. Smith Goes to Washington”.  

In brief, the filibuster mechanism can be employed by the minority party to block any bill from being presented for a vote based on simple majority.  Once a filibuster has been employed against a bill by the minority, the majority must obtain 60 votes to overcome that filibuster.  The majority will begin to negotiate with members of the minority party, offering incentives to change their vote in favor of the bill.  Incentives may include adding provisions to the actual bill being discussed, but may instead include the majority supporting a different bill of the minority member. 

Republican Senators drew a line in the sand – either the proposed bill be amended to include the extension of all of the Bush tax cuts (thus the elimination of the 36% and 39.6% rates on high income earners) or a filibuster would be employed to thwart a vote on it.  The Democrats were unable to gather 60 votes to cancel out the filibuster.  Thus, this Senate proposal died, and negotiations between the President’s economic team and the Republicans began in earnest.

On Monday, President’s Obama’s administration agreed to a compromise tax reduction package with the Senate Republicans.  In exchange for the Republicans supporting a 13 month extension of unemployment benefits, the administration announced its support of two major concessions to the Republicans.  Most importantly, the current Bush tax rates would be extended for all taxpayers for an additional two years (thus 2011 and 2012 income tax rates would remain at the current 2010 levels).  Secondly, the President agreed to a two-year reduced maximum estate tax rate of 35% with a temporary increased exemption amount of $5 million. 

The compromise includes several other tax reduction provisions.  The one with the greatest impact on individual taxpayers is a one year tax-stimulus provision reducing by 2% the social security tax rate for employees (from 6.2% to 4.2%).  In 2011, this 2% social security tax reduction will put $1,400 back in the pocket of a $70,000 earner.  The application of the alternative minimum tax, it was agreed, would be held at bay for an additional two years (until 2012) so as not to apply to upper middle class taxpayers.  Most importantly for business, the compromise includes the President’s proposal to allow businesses to deduct the entire cost of capital investment made in 2011, instead of using depreciation.  This business investment incentive will probably accelerate capital purchases to be made next year in 2011 instead of 2012.

But will the House, and most importantly Senate, Democrats support this compromise?  Will they instead and more likely demand more concessions, either in spending or different tax rates or both?  If the Senate Democrats seek to amend either the extension of all the Bush tax cuts or the newly compromised 35% estate tax rate/$5 million exemption, will the Republicans resort to the filibuster again?  Might the Republicans accept a higher estate tax rate for maintaining all the Bush income tax cuts? 

The negotiations are off to a furious start between the parties, and within the parties (amongst the internal party factions).  Stay tuned for the results and how they may impact your clients.

We invite your questions and comments by posting them below, or by calling the Panel of Experts.