Federal Tax Update

1. Federal Tax Update FPA Philadelphia Tri State John Kilroy CPA, CFP® September 11, 2012

2. Agenda • Planning opportunities for 2012 • 2012 AMT “Sweet Spot” Example • 2012-2013 Examples • Other Items of Interest • Now You See ‘Em, Now You Don’t • What may be Next

3. Planning Opportunities • One of the lowest marginal and capital gain rates in our history • How long will it last? • O% LTCG and QDI rate through 2012 • Sunset – automatic tax increase in 2013? • AGI/MAGI is still catalyst for most tax features • Tax planning is very often not done

4. Planning Opportunities • Roth conversion • $100,000 MAGI limit/MFS exclusion gone • How much? • Perhaps up to current tax bracket or next tax bracket • At least eliminate any negative taxable income • Consider cash flow and ability to pay tax outside of conversion • Investigate Roth IRA/Roth 401(k)/Roth 403(b) eligibility

5. Planning Opportunities • Roth conversion • From IRA or qualified plan • Be careful • SIMPLE plan – only after 2 years • After-tax contributions in conversion • IRA – pro rata • Qualified plan - ? (IRS Notice 2009-75) • NEW – In Plan Roth Conversion (9/27/10) • If plan allows (Roth option; plan distribution rules) • No recharacterization • Creditor protection

6. Planning Opportunities • Taxable Annuity Distribution • Non periodic withdrawal • Earnings first if contract issued after 8/13/82 • Tax efficiency of portfolio • May lower cost of asset • Watch for relationship between contract value and death benefit • Estate planning/IRD asset • Partial Exchange option (began 2011) • 1035 exchange from Life Ins. or Annuity to LTC (began 2010)

7. Planning Opportunities • Taxable/Tax-Exempt bonds/money markets • Coordination with tax bracket of investor • Often mismatched • Why would 35% MTB taxpayer have $200,000 + in taxable bond income? • Capital gain/loss of repositioning • Capital loss carryover or harvesting opportunity? • State taxation • State solvency?

8. Planning Opportunities • Zero percent LTCG/QDI • Layering of net ordinary income first • Wages, interest, non QDI, STCG, other income less itemized or standard deduction and personal exemptions • Then LTCG/QDI • Taxed at 0% up to top of 15% marginal tax bracket • Regular tax and AMT • Taxed at 15% beginning in 25% marginal tax bracket • Watch out for AMT effect

9. Planning Opportunities • Itemized deduction timing and location • Timing of expense • Deductible or not (regular or AMT) • Floors and phase outs • Control over when paid • Location • Can expense be moved “above the line”? • Home office • Rental or business activity • Added to cost basis

10. Planning Opportunities • AMT Planning • Begins with good tax planning (AGI) • Pay particular attention to AMT exemption • Phase out of exemption creates phantom income • AMT marginal rates will increase from 26% or 28% to 32.5% or 35% in phase out range • $1 of exemption phase out for every $4 of income • LTCG and/or QDI effective rate increases from 15% to up to 22% in phase out range • Get off the AMT phase out island if possible • Make AMT an Alternative Maximum Tax • Income space after exemption phase out – 28% AMT rate vs. 35% ordinary income rate

11. Planning Opportunities

12. Planning Opportunities

13. 2012 AMT “Sweet Spot” Example • MFJ 2 exemptions; $171,500 Wages; $200 Interest Income; $59,000 QDI; • $4,100 Non-QDI; $51,100 Pension; ($3,000) Capital loss; • $6,100 Real estate tax; $18,200 charity; 14,700 misc. itemized; • State income tax paid in 2012 ; no AMT patch

14. Planning Opportunities • Cancellation of Debt on Primary Residence • Up to $2 million ($1 million MFS) on Acquisition debt • Through 2012 • Basis Reduction • Not below zero • Due to either • Value of residence decline • Financial condition of owner • Mortgage restructuring or foreclosure

15. 2012-2013 Examples • MFJ 4 exemptions; $100,000 wages; $5,000 QDI; $1,000 Interest Income; • $6,000 Real Estate Tax; $10,000 Mortgage Interest; $500 Charity; • No state income tax ; no AMT patch

16. 2012-2013 Examples • MFJ 2 exemptions; $200,000 wages; $15,000 QDI; $7,000 Interest Income; • $8,000 passive income: $100,000 Roth conversion; • $10,000 Real Estate Tax; $15,000 Mortgage Interest; $500 Charity; • No state income tax ; no AMT patch

17. 2012-2013 Examples • Single 1 exemption; $75,000 QDI; $1,500,000 Roth conversion; • Standard deduction; • No state income tax ; no AMT patch

18. Now You See ‘Em, Now You Don’t? • Already Gone (12/31/11) • AMT Patch (recent history of annual extension) • QCD (Age 701/2 IRA owner or beneficiary) • State and Local Sales Tax Deduction • Above the Line Education Deductions • $4,000 higher education expenses (credits remain) • $250 teacher expense deduction • Lower Section 179 and Bonus Depreciation • 50% Bonus (none in 2013) • $139,000 Section 179 ($25,000 in 2013)

19. Now You See ‘Em, Now You Don’t? • Part of the “Fiscal Cliff”? (12/31/12) • Marginal Tax Rates • 10%,15%,25%,28%,33% and 35% for 2012 • 15%,28%,31%,36% and 39.6% for 2013 • AMT remains at 26% and 28% - what does that mean? • LTCG (Watch AMT!!!) • 0%-15% for 2012 • 10%-20% or 8%-18% (5 yr. qualifying) for 2013 • QDI (Watch AMT!!!) • 0%-15% for 2012 • Ordinary Income for 2013

20. Now You See ‘Em, Now You Don’t? • Expiring 12/31/12: • Payroll Tax Holiday (2% OASDI) • No reduction in Itemized Deductions/Personal Exemptions • Unlimited Student Loan Interest Deduction Life (60 month limit returns) • Certain more Generous Tax Credits Return to Prior Limits (Child Tax Credit; American Opportunity Credit, etc.) • Marriage Penalty Relief

21. Now You See ‘Em, Now You Don’t? • Estate, Gift and Generation Skipping Tax: • 2012: • $5,120,000 exemption • 35% flat rate • 2013: • $1,000,000 exemption (GST will have inflation adj.) • 55% highest marginal rate • Clawback? • Portability?

22. Other Items of Interest • Medicare Surtax effective 1/1/13: • 3.8% on Net Investment Income • 0.9% on earned income • Lower of Net Investment Income or MAGI above threshold • MAGI threshold $250,000 MFJ; $200,000 Single • Cost Basis Reporting Rules • 2011 – Stocks (including some DRIPs and ETFs) • 2012 – Mutual Funds (most DRIPs and ETFs) • 2014 – Bonds, Options, other securities

23. What May Be Next? • Budget Proposals – Individuals: • Over $250,000 ($200,000 single) MAGI • Reinstate the 36% and 39.6% marginal rates (2013) • Raise LTCG to 20% • Tax QDI as ordinary income • Maximize rate of certain deductions/exclusions to 28% • Municipal Interest • Above and below the line deductions • Make certain tax credits “permanent” • Extend Cancellation of Qualified Personal Residence Debt to 2015

24. What May Be Next? • Budget Proposals – Business: • Extend 100% Bonus Depreciation through 2012 • Automatic IRA (2014 – at least 10 employees) • Repeal LIFO (2014) • Tax carried interest as ordinary income • Repeal Oil and Gas tax breaks (2013)

25. What May Be Next? • Budget Proposals – Estate: • Return to 2009 (2013) “permanent” • $3.5 million Estate/GST exemption • $1 million gift exemption • 45% rate • Continue Portability • 10 Year GRAT • Grantor Trust coordination (income and estate)

26. What May Be Next? • Extenders Legislation? • Above the line tuition and related expenses deduction • Sales tax or income tax itemized deduction • AMT Patch • Age 701/2 and over IRA charitable contribution • Various other individual; business; foreign account changes