Planning for tax increases

Q: All the chatter from the presidential candidates and the media regarding upcoming income tax hikes has me concerned. I already pay more than my fair share. What tax increases are on the horizon and how can I plan to minimize how they will affect me? 

A: Congress isn't likely to pass any tax legislation before the November election and there is speculation it might not take any action before next year.

Let's take a look at what's in store for us if there are no changes, and then I'll mention a couple of strategies to consider. At the end of this year, the following federal tax changes are already programmed to take effect:

1. In 2013, for taxpayers in the 10 and 15 percent tax brackets, the tax rate for long-term capital gains will increase from zero to 10 percent. For taxpayers in the 25 percent and over tax bracket, the long-term capital gains rate will increase from 15 percent to a top rate of 20 percent.

2. In 2013, the maximum rate for tax on qualified dividends will go from 15 percent to 39.6 percent.

3. The maximum tax rate on ordinary income, including salaries, retirement plan distributions, and short-term capital gains increase from 35 percent to 39.6 percent.

4. Starting in 2013 there will be an additional 3.8 percent Medicare Hospital Insurance (HI) tax on the lesser of net investment income or the excess of modified adjusted gross income (MAGI) over $250,000 for taxpayers filing joint returns, $125,000 for separate returns of married

individuals and $200,000 for individual returns.

5. Also starting next year there will be an additional HI tax of 0.9 percent on earned income above $250,000 for taxpayers filing jointly, $125,000 for a married taxpayer filing a separate return and $200,000 for a single taxpayer filing an individual return. These threshold amounts are not indexed for inflation.

6. In 2013, the personal exemption and itemized deduction phase-outs will return.

7. The 2 percent reduction in the employee's share of social security taxes will expire.

8. Starting next year, the estate and gift tax rate will return to 2001 levels. The exemption will drop from $5.1 million to $1 million, and the portability of the deceased spouse's estate tax exemption will disappear.

9. For 2012, Congress has not extended the temporary fix to increase the threshold for paying the Alternative Minimum Tax (AMT), meaning millions more middle-class Americans will pay AMT along with regular tax.

10. Deductions for state sales tax, college tuition, and the $250 teacher supplies will be gone from this year's tax returns.

If these tax increases are not troubling enough, keep in mind that Gov. Jerry Brown is asking voters on the November ballot to approve an increase in the state's maximum income tax rate from 10.3 percent to 12.3 percent along with a hike in the state sales tax from 7.25 percent to 7.75 percent.

Taxpayers with ordinary income, such as wage earners and retirees drawing from a pension plan or an IRA, have few if any options to lower their tax bill. Investors are better off. They can move their investments to more tax-efficient vehicles. Most municipal bonds are tax-free. Some investment companies offer tax-efficient mutual funds and ETFs. Investors should consider harvesting long-term capital gains this year while the maximum rate is 15 percent, and delaying taking losses until 2013 and beyond.

Kenneth B. Petersen is an investment adviser and principal of Monterey Private Wealth, Inc., in Monterey. Send questions concerning investing, retirement or estate planning to 2340 Garden Road, Suite 202, Monterey 93940 or