Dont wait until the election
Major income tax changes are coming in 2012, along with much uncertainty about what may happen in the taxation fallout after the November election. It all adds up to a lot of things for business owners to consider.
The accounting and legal experts at Tax Summit 2012 in Grand Rapids last week emphatically agreed on one piece of advice: Don’t hold off until after the election to sell a business or set up an estate plan.
Matthew K. Becker, tax partner and West Michigan tax business line leader at BDO USA in Grand Rapids, said he has heard many business people think they should wait until the last week in December before making changes affecting their 2012 tax liability. He cautioned, though, there may be bills introduced in Congress in November after the election that could take effect in December, eliminating some obvious advantages available now.
“Putting (2012 tax strategies) in place now is probably better than in November,” said Becker.
His warning was echoed by Tracy T. Larsen, managing partner of the Barnes & Thornburg law firm’s Michigan office.
Noting that no one knows what will happen after the election, “if you don’t plan now, you won’t be able to take advantage” of the strategies available.
“No matter what Obama says now, it’s not going to happen,” said Larsen. His point is the Bush tax cuts will phase out.
Becker, Larsen and Heather A. Carmody, a partner at Barnes & Thornburg in Chicago and an expert on high-level individual tax planning and estate planning, were presenters at the Tax Summit 2012.
Becker prepared a chart showing the following changes in tax rates from 2012 to 2013:
**The highest individual marginal income tax rate is 35 percent now, going to 39.6 percent in 2013.
**Capital gains tax rate goes from 15 percent to 20 percent.
**Tax rate on dividend income goes from 15 percent to 39.6 percent.
**There is now no Medicare tax on unearned income of high income taxpayers ($250,000 or more for married couples), but there will be a 3.8 percent Medicare tax beginning in 2013.
**In 2013, a phase-out of itemized deductions begins for 3 percent of adjusted gross income above $170,000.
**The bonus depreciation now is 50 percent; next year there will be none.
**The highest statutory income tax rate on corporations does not change; it will remain at 35 percent.
As an example of the impact on businesses paying tax at individual rates, Becker said the sale of an S corporation business or its assets for a $20 million all-cash gain would be subject to federal tax of $4.6 million this year. Using the expected 2013 federal tax rates, the approximate federal tax on the same transaction next year would be $6 million.
Larsen said the individual income tax increases represent huge numbers and provide compelling reasons for business owners to consider implementing planned business transactions this year.
Two types of transactions that would normally result from the current changes in the individual tax rates are removal of cash from the business in the form of dividends and sale of the business in whole or in part.
“We’re surprised we haven’t seen more sellers enter the market this year,” said Larsen.
He predicts 2012 will end up being a banner year for mergers and acquisitions, and he noted private equity groups are becoming real active.
Larsen said if any of the planned 2012 transactions and changes in ownership of a business involve a third party — such as a bank lending the necessary capital — then the deal cannot be initiated at the end of the year because “they take time.”
When prompted by Larsen to estimate how much time, a banker in the audience opined a time frame of 90 to 120 days “would be nice.”
Larsen stressed a couple of times that a business owner can start the negotiations on a transaction now without having to make a commitment for months, but “you can’t wait until the end of the year (to start the process).”
After the economy tanked in 2008, mergers and acquisitions pretty much stopped, said Larsen. The owners were not budging, holding on to businesses and assets and waiting for those values to recover to pre-recession levels. But 2011 proved to be a good year for mergers and acquisitions, with “a lot of private equity groups coming back into the market,” said Larsen, and more potential sellers being ready to sell.
Still, said Larsen, there are more buyers than sellers.
As for would-be buyers, he said it is a good time for them to call that competitor they’ve always wanted to own, because the tax law changes are making some sales compelling.
“Think proactively,” said Larsen.
Carmody spelled out the current year gift and estate tax exclusion amounts:
**Annual: $13,000 per taxpayer, per decree;
**Lifetime: $5 million per taxpayer in total, increased from $1 million previously and returning to $1 million in 2013;
**Estate: $5 million per taxpayer in total. In recent years that increased from $1 million to $2 million, then $3.5 million, then an unlimited lifetime total, and then back to $1 million.
Carmody mentioned Washington could conceivably do away with the current $5 million lifetime exclusion after the election, so “do not wait until December.”
“Gift and estate tax is the ticking time bomb,” added Becker.
“I find it hard to believe the lifetime exemption will stay at $5 million,” said Carmody, adding if Congress “does nothing, it goes back to $1 million.”