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Highlights of the American Taxpayer Relief Act of 2012

The American Taxpayer Relief Act of 2012 passed in the early hours of 2013. Here is a quick recap of some specific items included in the bill:

  • The income tax rate for individuals making more than $400,000 a year and families making more than $450,000 was raised to 39.6%.
  • The capital gains and dividends tax rates were increased to 20% for the same $400,000/$450,000 earners.
  • It sets the estate tax at 40% with a $10 million exemption.
  • It included a set of "tax extenders," which provided for a one-year extension of the IRA Charitable Rollover provision.
  • The Personal Exemption Phaseout (PEP) and Pease deduction caps are reinstated. PEP (which reduces the value of personal income tax exemptions) will affect those making $250,000 and above. Pease (which reduces the value of itemized deductions) will impact those earning $300,000 or more. 

The good news - the bill didn’t include a much discussed cap on itemized deductions. There was talk of “decoupling” the charitable tax deduction from one’s income tax rate (i.e., President Obama’s proposed cap at 28% regardless if a donor’s tax rate was higher than 28%). We also didn’t the “deduction buckets” as proposed by Governor Romney during the campaign.

However, it does reinstate the smaller Pease limitation on itemized deductions for those individuals making more than $250,000 and families making more than $300,000. Pease progressively decreases the value of itemized deductions on those earners. Here’s how Pease works:

Suppose you have joint filers earning $400K and they have itemized deductions totaling $100K. The Pease limitation is computed by figuring the excess of your income over the threshold. In this case, it’s $100K ($400K-$300K). Three percent of the $100K is $3K, this is the amount of the limitation and this amount is subtracted from the allowable itemized deductions. So, instead of deducting $100K, the family can deduct $97K. Assuming the family is in the 33% tax bracket, this would cost them $990 in extra federal taxes.

This issue will most likely be revisited as Congress and the President look at reforming the tax code. Stay tuned!

*This is information was compiled by the Alliance for Charitable Reform. Blackbaud, AFP, Alliance for Charitable Reform and others make up the Charitable Giving Coalition which is working to preserve the deduction.

Submitted by Sally Ehrenfried (Scholarship Chair), Blackbaud.