Long-Term Capital Gains Rate are Likely to Go Up!

Should You Recognize Capital Gains in 2012?

There are currently provisions in the tax code that allow taxpayers with long-term capital assets to receive preferential gain tax treatment. 

Taxpayers who fall in the 10% or 15% tax brackets are able to recognize gains on the sale of capital assets (generally stocks, bonds, real estate, etc.) and pay 0% tax on the gain as long as the assets have been held long-term (i.e. more than a year). Yes, 0%, as in nothing! Generally, a single person with taxable income of $35,350 or less or married filing jointly with taxable income of $70,700 or less, is in the 10% or 15% bracket. (NOTE: Taxable income means after subtracting deductions. So their actual income may be much higher.)

Those with significantly higher income currently enjoy 15% capital gains rates, which is a near historic low.Unfortunately, after 2012 these rates are scheduled to go back up to 20% (but could be higher) unless the government acts to change the laws enacted by previous administrations. Congress will, likely wait until late in the year to decide whether to extend the current rates. However, it seems getting Congress to agree on anything recently has been almost impossible.

Since no action on the part of Congress will automatically lead to an increase in the maximum capital gains tax rate for 2013, a good argument could be made for clients to recognize long term gains in their portfolio in late 2012. Of course there is a chance that Congress may extend the 2012 rates during their lame duck session early in December. So what should you do?

Even if you are in the top tax bracket, we can show you how to recognize little or No capital gains (Yes, that is 0% for the top bracket as well).

Below are two examples of the tax benefits available: one using an appreciated asset and another using cash or cash equivalents.

Facts: Taxpayer is 55 years old, in the 35% federal income tax bracket (state taxes not taken in to consideration but may provide even more savings). This Taxpayer does not need the cash now but he will at retirement in 10 years at age 65. He would like to receive guaranteed retirement income until his age 80. In both examples, we design a charitable bargain sale coupled with an installment sale (CBIS), unique to each taxpayer’s objectives, which allows them to receive income now or later.

Scenario I – Real Estate

The taxpayer purchased property 11 years ago for $50,000. The current fair market value is $200,000. A sale in 2012 would require the taxpayer to pay 15% capital gains tax of the $150,000 gain or $22,500. In 2013, the taxpayer will pay 20% or $30,000 in capital gains tax. Then add the state income tax, if any.

Our solution: Either way, the taxpayer will not have to pay any tax at the sale of his real estate.

Here are the results:

Taxpayer arranges a simultaneous closing between the 501(c)(3) tax-exempt charity and the purchaser (in actuality, the charity will handle all the paperwork and payment of real estate commission). The property is exchanged for a CBIS in favor of the taxpayer and insured with a commercial insurance company. In this scenario, the payments are deferred for 10 years until the client reaches age 65 and then paid out for 15 years. In addition, the client gets a tax deduction of $103,214 and avoids the capital gains on the sale of the property. The tax preferred annual payout of $15,646.20 for 15 years starting in 11 years, will be comprised of return of capital, long-term capital gains and ordinary income and will become less taxable each year.

• Total Asset Value $200,000.00
• Annual Payout* $15,646.20
• Monthly Income $1,303.85
• Total Payments Over Term $234,693.00

• Income Tax Deduction $103,214
• Projected Tax Bracket 35%
• Possible Tax Savings @ 35% Tax Bracket $36,125

• Capital Gain Eliminated $77,410
• Capital Gain Tax Savings $11,612
• Gain Tax to be Realized Up-Front $0
• Potential Benefit from Program (includes tax savings) $282,429

These payments occur regardless of whether or not the payment recipients are living.

* Note: This number represents annual payments that are not based on mortality.

                       SUMMARY 

Annual Payout           Term of Years Total              Payout

   $15,646.20                         15                               $234,693.00

Annual Payout as a Percentage of Total Asset Value - 7.82%

Scenario II - Certificate of Deposit

The Taxpayer has the same retirement objectives as above but has a $100,000, 5 year CD, yielding 4.4% maturing that he purchased back in 2008. Current yields for a 5 year jumbo CD is approximately 1.85% APY and one bank is advertising a 10 year CD at 2.10% APY.

In this scenario, the client transfers $100,000 in cash to the charity in exchange for a CBIS. The payments are deferred for 10 years until the client reaches age 65 and then paid out for 15 years. In addition, the client gets a tax deduction of $51,623 and avoids the capital gains on the sale of the property. The tax preferred annual payout of $7,820.52 for 15 years starting in 11 years, will be comprised of return of capital, and ordinary income and will become less taxable each year.

The results are as follows:

• Total Asset Value $100,000.00
• Annual Payout* $7,820.52
• Monthly Income $651.71
• Total Payments Over Term $117,307.80
• Years of Deferral 10
• Term of Years 15

• Income Tax Deduction $51,623
• Projected Tax Bracket 35%
• Possible Tax Savings @ 35% Tax Bracket $18,068

Potential Benefit from Program (includes tax savings) $135,376

* Note: This number represents annual payments that are not based on mortality.

These payments occur regardless of whether or not the payment recipients are living.

                        SUMMARY 

Annual Payout           Term of Years            Total Payout

   $7,820.52                         15                      $117,307.80

Annual Payout as a Percentage of Total Asset Value  7.82%.