Rates, AMT and the Marriage Penalty
Volume 11, Number 46
Issue 542
Even though the reaction of my clients and associates has been overwhelmingly positive about the shift in content that TaxFaxTM made last February (away from technical tax knowledge to entrepreneurial thoughts), I wouldn’t be a CPA if I didn’t still talk about tax topics every now and then. I want to talk this week about some changes (and thoughts) for 2003 Federal income taxes.This Year, More is Income Taxed at 10% Effective January 1, 2003. Retroactive to January 1, 2003, the new law increases the amount of income taxed at 10% from $6,000 to $7,000 for single filers (a maximum savings of $50) and from $12,000 to $14,000 for joint filers (a maximum savings of $100). For heads of households, the 10% tax bracket was not changed and continues to apply to the first $10,000 of taxable income. The new expanded 10% tax bracket for joint and single filers only applies for 2003 and 2004. For 2005 through 2007, the 10% bracket reverts back to the $6,000 and $12,000 amounts. The 10% rate does not apply to trusts or estates.
Acceleration of Rate Reductions to January 1, 2003. The new law accelerates individual marginal tax rate cuts that were previously scheduled to be fully effective in 2006. Effective January 1, 2003, the top four tax rates are reduced to 25%, 28%, 33%, and 35% (down from 27%, 30%, 35%, and 38.6%). For income taxed in the highest bracket, this is a 3.6% rate decrease. For income taxed in the 27%-35% tax brackets, it is a 2% rate decrease. However, due to the sunset provisions of the 2001 Act, these new rates will increase to 28%, 31%, 36%, and 39.6% after 2010. Certain itemized deductions and personal exemptions are reduced as your adjusted gross income exceeds certain thresholds. Therefore, your “effective tax rate” is usually greater than these “official rates.” Even though the tax rates for 2003 have been reduced, if your total tax liability for 2003 is greater than your total liability for 2002 (e.g., because your income is up or your deductions are down), reducing your withholding without careful planning could result in an underpayment penalty. If you established a “fixed” amount of 2003 withholding and your withholding has been reduced during 2003, you might need to increase your withholding before year-end to avoid underpayment penalties.
Alternative Minimum Tax Exemption Increased. We actually have two tax systems. The regular tax system and the “Alternative Minimum Tax System (AMT).” Your tax is calculated under each system and you pay the higher amount. The AMT was originally enacted so individuals who reduced their taxes with aggressive deductions (e.g., tax shelter deductions, accelerated depreciation, etc.) would pay some “minimum tax.” However, each year the number of individuals paying the AMT increases. One reason more people are paying the AMT is that income levels are increasing, but the amount of income exempt from the AMT has not increased significantly. For years beginning in 2003 and 2004, the AMT exemption amount is increased from $49,000 to $58,000 for married taxpayers, and from $35,750 to $40,250 for single taxpayers. This year’s tax returns are going to be much more complicated because many more taxpayers will be subjected to the detailed AMT calculation. There will be many AMT surprises for many people. Many people will experience AMT for the first time this year. Marriage Penalty Relief. If you are married and file a joint return with your spouse, you may be paying more income tax than the total you and your spouse would pay if you were each single. This so-called “marriage penalty” generally occurs when each spouse has significant income. Sometimes this “penalty” makes it advantageous for engaged-to-be-married couples to postpone November or December weddings until January of the following year to save taxes. The new law reduces the tax penalty for marriage by increasing the standard deduction and the size of the 15% tax bracket on a joint return.
Increased Standard Deduction for Married Taxpayers. For 2003 and 2004, the basic standard deduction for a joint return is increased to twice the standard deduction for a single person. Therefore, the new law increases the standard deduction on a joint return from $7,950 to $9,500 for 2003. BUT (big and bold “but”) if your itemized deductions (e.g., home mortgage interest, state and local taxes, etc.) exceed this increased standard deduction, you will receive NO tax benefit from this change. However, you may benefit from the increase in the 15% tax bracket for married taxpayers discussed below.
Married Taxpayers Will Have More Income Taxed at 15%. Prior to the tax law change, the ending point of the 15% tax bracket on a joint return was 167% of the ending point of the 15% tax bracket on a single person’s return. For 2003 and 2004, the ending point of the 15% tax bracket on a joint return is exactly double the ending point of the 15% tax bracket on a single person’s return (more 15% income).
If you would like to talk about any of these issues and how they impact your individual situation for 2003, please call me right away at 1-804-378-5096.
David B. Robinson, CPA
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