What Will the Capital Gain Tax Rate be in 2011?

Investors and business owners will almost certainly see higher tax rates on capital gains and dividends in 2011. The questions are how much higher will the tax rates be and what should be done to plan for the increase? The 15% tax rates on capital gains and dividends that individuals and trusts have enjoyed since 2003 are due to expire at the end of 2010.

So even if Congress does nothing, in 2011 the capital gains tax rate for these taxpayers will increase to 20% and  dividends will be taxed at marginal tax rates and as high as 39.6%. There would also be an 18% rate on gains from the sale of capital assets purchased after December 31, 2000 and held for at least 5 years. The 20% rate and 18% rate would be reduced for those in the lowest marginal tax brackets to 10% and 8%, respectively.

President Obama said during the presidential campaign that he would not raise taxes on those making less than $250,000. He has proposed to extend the Bush tax cuts and keep the tax rate at 15% on capital gains and dividends for married couples who earn less than $250,000 and for other filers who earn less than $200,000. The President’s budget proposal also calls for the reinstatement of the phase out of personal exemptions and a new limit on itemized deductions for those taxpayers with income over the limits above. Both of these items are so called hidden tax rate increases. As a business owner’s income rises above these thresholds, whether it is from capital gains through selling a business or from other income, their deductions will be reduced and the effective tax rate will increase.

The ongoing health care debate is also contributing to the uncertainty in tax rates.  The House health care bill includes a surtax of 5.4% on incomes above $1 million for joint filers ($500K for singles).  The surtax would apply to modified adjusted gross income which would include capital gains.  Gains subject to the surtax would be taxed at a 25.4% rate.  Recently, the President proposed applying the Medicare tax of 2.9% to income from interest, dividends, annuities, royalties and rents for individuals earning more than $200,000 or joint filers making more than $250,000.  It has been reported that administration official confirmed that the proposed tax would also apply to capital gains.  That would push the rate to 22.9 percent in 2011. 

At this point it is not possible to know where the tax rates will climb.  The fact that they will rise is virtually guaranteed and business owners considering retirement or sale, as well as other taxpayers with large unrecognized gains should all start to consider their options.  The proper planning for the increase in the capital gain tax rates depends upon each individual’s circumstances.  The obvious strategy of accelerating income in anticipation of higher rates in the future is something to consider.   

For more information about this article, please contact Anthony DeGiacinto of Amper, Politziner & Mattia at 732.287.3200, or visit www.amper.com.