Real estate investors should take a minute to determine how looming higher capital gains taxes will impact their returns in 2013 and beyond.
Beginning January 1, 2013 Medicare taxes will be increased to 3.8% (from 2.9%) and expanded to cover investment income for higher-income individuals. This additional unearned income Medicare contribution tax and was enacted as part of the health care reform laws.
Who it applies to:
- Individuals with adjusted gross income (AGI) above $200,000
- Couples filing a joint return with more than $250,000 AGI
Types of income:
- Interest, dividends, rents (less expenses), capital gains (less capital losses)
Formula: The new tax applies to the LESSER of:
- Investment income amount
- Excess of AGI over the $200,000 or $250,000 amount
Individuals with AGI of less than $200,000 and couples filing a joint return with less than $250,000 AGI are currently exempt from the unearned income Medicare contribution tax. A big capital gain from the sale of real estate could push your AGI over these levels.
View several examples provided by The National Association of Realtors.
In addition to the new Medicare tax, the Bush era capital gains tax rates are set to expire December 31, 2012. Current tax law has two long term capital gain rates. The first rate is 0% for those in the 10% tax bracket. Taxpayers in tax brackets above 10% currently pay a 15% capital gains tax rate. This rate will automatically revert back to 20% on January 1, 2013 if it is not extended.
For higher income individuals, their effective capital gains tax rate could go to 23.8% in 2013 (20% cap gains + 3.8% Medicare tax).
Should investors accelerate Long Term Capital Gains in 2012?
Now is the time to consider whether selling investment real estate in 2012, to lock in a lower long term capital gains tax rate, is the right move. Investors should assess their individual situations and consult a tax professional if necessary.
One clear scenario where it does not make sense to accelerate capital gains in 2012 is when an investor is carrying a potential loss. The current rate for long term capital gains could get extended but the Medicare tax will be imposed in 2013. Using tax losses in 2012 will zero out Long Term Capital Gains at a lower rate than in the future. This carried over tax loss will be more valuable in 2013.