With the concerns over the 2011 tax increases, Congress stunned taxpayers by reducing taxes for the next two years.  What can we learn from this changing tax legislation?

Although the changes do not have much of an impact on wealthy taxpayers, new tax rules have the potential to reduce taxpayer tax liabilities. 

Gift And Estate Tax Changes
These two taxes, gift and estate taxes, have recently been unified, and the amount of the transfer has increased. Only  for 2011 and 2012, taxpayers can transfer up to $5 million that is free of  transfer taxes. This can be done either during their lifetimes or at death. The portability feature doesn’t apply to the amount that is exempt from the generation-skipping transfer tax,. This tax affects transfers to beneficiaries who are more than one generation under the transferor.

These changes reduce the number of individuals these taxes will affect for the next two years. The current rules only apply through the end of 2012.

The ability to transfer more money without being taxed tax will place the focus of estate planning on non-financial goals rather than from primarily financial motives. Taxpayers will have the ability  to decide who will get which assets, and whether or not those assets should move through trust or not. There is no more worrying about tax consequences.

These rules are not permanent, so trying to predict what the government is going to do later is almost impossible. It’s probably a good idea to transfer as much of your assets as possible now. On January 1, 2013, the $5 million that is now transferable tax-free will return to $1 million, and the highest transfer tax rate will change from 35% from 55%.

For the highest net-worth taxpayers, deciding to give a lifetime gift is easy. Wealthy taxpayers with fewer assets might find giving a gift a little more challenging. Talking to a financial planner may help, as they can work on several cash flow projections and tell you what amount would be appropriate to gift. When you take into consideration unfavourable premises, a financial planner will help you figure out the minimum amount to hold on to so you can avoid outliving your assets. You will be able to see what the worst-case-scenario will be.

Married couples can award a total of $10 million that is free of transfer taxes. They can also use several methods, like family loans and grantor’s trusts, to annuity trusts and charitable trusts. They also have the ability to use the method of transfers of family limited partnership interests, which increase the amount of assets that are transferred.
For those who aren’t going to be giving gifts in the next two years need to look over their estate plans to make sure they are meeting their objectives since the laws have recently changed. Most of the current estate plans developed under the old laws, so, under the new laws, people tend to put more money than is necessary in trusts, which causes restrictions on their assets. If you are willing to change your estate plan, you should remember keep that the law only keeps these new laws in place through 2012.

Income Tax Changes
The news for income taxes in 2011 is not what has changed, but what has remained the same. Had the Bush-era tax cuts expired, the federal income tax rate would have inflated to 39.6%  from 35%, and the capital gains tax rate would have risen from 15% to 20% .

The current tax rates have been extended through 2012, and despite the fact that the Making Work Pay tax credit has already expired, a payroll tax cut caused an increase in many taxpayer’s net pay. For only 2011, the Social Security withholding rate decreased from 6.2% to 4.2%. As long as a taxpayer earns more than $20,000, they will have more money each pay period during 2011 than in 2010.

These changes in tax credits and tax rules that became effective this year will have very little effect on the high-income earner. For self-employed individuals, several changes that affect small businesses could lower their current tax liabilities.

The government awarded some assurance to taxpayers who changed their traditional IRAs to Roth IRAs in 2010, which extending the tax rates through 2012,  A special rule let taxpayers postpone the tax on their 2010 IRA changeovers by reporting more than half of their income for 2011 and 2012. It was unappealing when income taxes were supposed to increase in 2011. Now, however, the choice to spread the tax over the next two years should be the logical choice.

Successful tax-planning involves speeding up deductions and delaying income in order to decrease your taxable income, which will postpone tax payments. When tax rates increase, speeding up  income and delaying deductions is the right plan. Deductions are actually worth more when taxes are higher, however, gross income is worth less.

Despite the stock market fall between 2007 and 2009, many investors who took losses and reinvested in the same types of securities to keep their exposure in the market have made giant gains this year. Selling investments before 2013 is the best thing investors can do right now. If you are thinking about selling your home, you should consider doing it in the next two years, because you will stand to get more than your asking price by doing so. You will also avoid the new 3.8% rate by accelerating your capital gains.

If all of this seems a bit overwhelming, please consult a tax professional to understand your options.

Daniel Stoica Accounting Professional