This is the 3rd installment in a multi-part series on significant tax changes that took effect in 2013.
Amid much sound and fury, some (historically speaking) rather modest tweaks to the tax brackets were made in 2013. These will actually affect a very small percentage of taxpayers…if your Adjusted Gross Income (AGI) is less than $200,000, you’re in the clear.
But for those making more than $400,000-$450,000 (depending on filing status), the tax rate on income above that threshold will rise from 35% to 39.6%. This matches the highest level (in place through most of the 1990’s) that’s existed in the last 25 years, although it’s still much lower than the top rates from 50% to 94%(!) that existed for nearly all of the fives decades before the 1980’s. At this same income level, a new top rate for long-term capital gains and qualified dividends kicks in. This top rate will rise to 15% from 20%. This represents a continuation of long-standing policy to tax certain types of “unearned income” (government term) at significantly lower rates than “earned income”. (Tax policy gold star if you can name the only president to sign into law a bill that equalized tax rates for “earned” and “unearned” income…answer at end.)
There’s also an additional wrinkle for those with taxable income exceeding $200k-$250k (again depending on filing status). Most investment income will now be subject to a 3.8% Net Investment Income Tax (NIIT). This is in addition to the income tax ordinarily levied on that income. So long-term capital gains and qualified dividends now actually have an effective top rate of 23.8% (20% top rate plus 3.8% NIIT). Other types of investment income (interest, non-qualified dividends, rental income, most passive activities) now have an effective top rate of 43.4% (39.6% top rate plus 3.8% NIIT).
If you were considering selling stock with a large capital gain in 2012, hopefully you planned ahead and sold the stock before 2013 to avoid the new higher rates. If not, you can at least take solace in the fact the current capital gains rates are not the highest they’ve been in the last 35 years. In fact, that brings us to the answer to the earlier question about the only president to equalize tax rates for all types of taxable income: There was one brief period — in the late 1980’s — when “unearned” income was taxed at rates as high as “earned” income. As a result, capital gains were taxed at the highest rate of the last 35 years, a (by comparison) whopping 33%…thanks to President Reagan who signed this legislation into law.
If you guessed anti-tax crusading President Reagan raised capital gains taxes to the highest level of the last 35 years, you win a
Nobel No Prize!