Federal Tax Update FPA Philadelphia Tri State John Kilroy CPA, CFP® September 11, 2012

Agenda Planning opportunities for 2012 Planning opportunities for AMT “Sweet Spot” Example 2012 AMT “Sweet Spot” Example Examples Examples Other Items of Interest Other Items of Interest Now You See ‘Em, Now You Don’t Now You See ‘Em, Now You Don’t What may be Next What may be Next

Planning Opportunities One of the lowest marginal and capital gain rates in our history One of the lowest marginal and capital gain rates in our history How long will it last? How long will it last? O% LTCG and QDI rate through 2012 O% LTCG and QDI rate through 2012 Sunset – automatic tax increase in 2013? Sunset – automatic tax increase in 2013? AGI/MAGI is still catalyst for most tax features AGI/MAGI is still catalyst for most tax features Tax planning is very often not done Tax planning is very often not done

Planning Opportunities Roth conversion Roth conversion $100,000 MAGI limit/MFS exclusion gone $100,000 MAGI limit/MFS exclusion gone How much? How much? Perhaps up to current tax bracket or next tax bracket Perhaps up to current tax bracket or next tax bracket At least eliminate any negative taxable income At least eliminate any negative taxable income Consider cash flow and ability to pay tax outside of conversion Consider cash flow and ability to pay tax outside of conversion Investigate Roth IRA/Roth 401(k)/Roth 403(b) eligibility Investigate Roth IRA/Roth 401(k)/Roth 403(b) eligibility

Planning Opportunities Roth conversion Roth conversion From IRA or qualified plan From IRA or qualified plan Be careful Be careful SIMPLE plan – only after 2 years SIMPLE plan – only after 2 years After-tax contributions in conversion After-tax contributions in conversion IRA – pro rata IRA – pro rata Qualified plan - ? (IRS Notice ) Qualified plan - ? (IRS Notice ) NEW – In Plan Roth Conversion (9/27/10) NEW – In Plan Roth Conversion (9/27/10) If plan allows (Roth option; plan distribution rules) If plan allows (Roth option; plan distribution rules) No recharacterization No recharacterization Creditor protection Creditor protection

Planning Opportunities Taxable Annuity Distribution Taxable Annuity Distribution Non periodic withdrawal Non periodic withdrawal Earnings first if contract issued after 8/13/82 Earnings first if contract issued after 8/13/82 Tax efficiency of portfolio Tax efficiency of portfolio May lower cost of asset May lower cost of asset Watch for relationship between contract value and death benefit Watch for relationship between contract value and death benefit Estate planning/IRD asset Estate planning/IRD asset Partial Exchange option (began 2011) Partial Exchange option (began 2011) 1035 exchange from Life Ins. or Annuity to LTC (began 2010) 1035 exchange from Life Ins. or Annuity to LTC (began 2010)

Planning Opportunities Taxable/Tax-Exempt bonds/money markets Taxable/Tax-Exempt bonds/money markets Coordination with tax bracket of investor Coordination with tax bracket of investor Often mismatched Often mismatched Why would 35% MTB taxpayer have $200,000 + in taxable bond income? Why would 35% MTB taxpayer have $200,000 + in taxable bond income? Capital gain/loss of repositioning Capital gain/loss of repositioning Capital loss carryover or harvesting opportunity? Capital loss carryover or harvesting opportunity? State taxation State taxation State solvency? State solvency?

Planning Opportunities Zero percent LTCG/QDI Zero percent LTCG/QDI Layering of net ordinary income first Layering of net ordinary income first Wages, interest, non QDI, STCG, other income less itemized or standard deduction and personal exemptions Wages, interest, non QDI, STCG, other income less itemized or standard deduction and personal exemptions Then LTCG/QDI Then LTCG/QDI Taxed at 0% up to top of 15% marginal tax bracket Taxed at 0% up to top of 15% marginal tax bracket Regular tax and AMT Regular tax and AMT Taxed at 15% beginning in 25% marginal tax bracket Taxed at 15% beginning in 25% marginal tax bracket Watch out for AMT effect Watch out for AMT effect

Planning Opportunities Itemized deduction timing and location Itemized deduction timing and location Timing of expense Timing of expense Deductible or not (regular or AMT) Deductible or not (regular or AMT) Floors and phase outs Floors and phase outs Control over when paid Control over when paid Location Location Can expense be moved “above the line”? Can expense be moved “above the line”? Home office Home office Rental or business activity Rental or business activity Added to cost basis Added to cost basis

Planning Opportunities AMT Planning AMT Planning Begins with good tax planning (AGI) Begins with good tax planning (AGI) Pay particular attention to AMT exemption Pay particular attention to AMT exemption Phase out of exemption creates phantom income Phase out of exemption creates phantom income AMT marginal rates will increase from 26% or 28% to 32.5% or 35% in phase out range AMT marginal rates will increase from 26% or 28% to 32.5% or 35% in phase out range $1 of exemption phase out for every $4 of income $1 of exemption phase out for every $4 of income LTCG and/or QDI effective rate increases from 15% to up to 22% in phase out range LTCG and/or QDI effective rate increases from 15% to up to 22% in phase out range Get off the AMT phase out island if possible Get off the AMT phase out island if possible Make AMT an Alternative Maximum Tax Make AMT an Alternative Maximum Tax Income space after exemption phase out – 28% AMT rate vs. 35% ordinary income rate Income space after exemption phase out – 28% AMT rate vs. 35% ordinary income rate

Planning Opportunities Filing StatusAMT ExemptionAMTI phaseout of exemption 2011 (patch) MFJ or QW$74,450$150,000 - $447,800 Single or HOH$48,450$112,500 - $306,300 MFS$37,225$75,000 - $223, (no patch)? MFJ or QW$45,000$150,000 - $330,000 Single or HOH$33,750$112,500 - $247,500 MFS$22,500$75,000 - $165,000

Planning Opportunities Marginal Rates 2011 MFJAMTRegular <$74,4500%0% - 25% $74,451 - $150,00026%25% - 28% $150,001 - $229, %28% - 33% $229,561 - $447,80035%33% - 35% >$447,80028%35%

2012 AMT “Sweet Spot” Example SummaryNo Roth Conversion $600,000 Roth Conversion Difference AGI$282,900$882,900 Deductions/ Exemptions (64,344)(105,386) Taxable Income218,556777,514 Federal Tax58,375230,946$172,571 Marginal Rate35% (AMT)28% (AMT) State Tax20,70270,786 Total Tax$79,077$301,732 MFJ 2 exemptions; $171,500 Wages; $200 Interest Income; $59,000 QDI; $4,100 Non-QDI; $51,100 Pension; ($3,000) Capital loss; $6,100 Real estate tax; $18,200 charity; 14,700 misc. itemized; State income tax paid in 2012 ; no AMT patch

Planning Opportunities Cancellation of Debt on Primary Residence Cancellation of Debt on Primary Residence Up to $2 million ($1 million MFS) on Acquisition debt Up to $2 million ($1 million MFS) on Acquisition debt Through 2012 Through 2012 Basis Reduction Basis Reduction Not below zero Not below zero Due to either Due to either Value of residence decline Value of residence decline Financial condition of owner Financial condition of owner Mortgage restructuring or foreclosure Mortgage restructuring or foreclosure

Examples Scenario 1Summary Difference AGI$106,000 Deductions/ Exemptions (31,700) Taxable Income74,300 Federal Tax12,370(AMT)13,130(AMT) Surtax00 Total Tax$12,370$13,130$760 MFJ 4 exemptions; $100,000 wages; $5,000 QDI; $1,000 Interest Income; $6,000 Real Estate Tax; $10,000 Mortgage Interest; $500 Charity; No state income tax ; no AMT patch

Examples Scenario 2Summary Difference AGI$330,000 Deductions/ Exemptions (33,100)(24,153) Taxable Income296,900305,847 Federal Tax81,525(AMT)88,415 Surtax01,140 Total Tax$81,525$88,415$6,890 MFJ 2 exemptions; $200,000 wages; $15,000 QDI; $7,000 Interest Income; $8,000 passive income: $100,000 Roth conversion; $10,000 Real Estate Tax; $15,000 Mortgage Interest; $500 Charity; No state income tax ; no AMT patch

Examples Scenario 3Summary Difference AGI$1,575,000 Deductions/ Exemptions (9,750)(5,950) Taxable Income1,565,2501,569,050 Federal Tax509,599591,266 Surtax02,850 Total Tax$509,599$594,116$84,517 Single 1 exemption; $75,000 QDI; $1,500,000 Roth conversion; Standard deduction; No state income tax ; no AMT patch

Now You See ‘Em, Now You Don’t? Already Gone (12/31/11) Already Gone (12/31/11) AMT Patch (recent history of annual extension) AMT Patch (recent history of annual extension) QCD (Age 701/2 IRA owner or beneficiary) QCD (Age 701/2 IRA owner or beneficiary) State and Local Sales Tax Deduction State and Local Sales Tax Deduction Above the Line Education Deductions Above the Line Education Deductions $4,000 higher education expenses (credits remain) $4,000 higher education expenses (credits remain) $250 teacher expense deduction $250 teacher expense deduction Lower Section 179 and Bonus Depreciation Lower Section 179 and Bonus Depreciation 50% Bonus (none in 2013) 50% Bonus (none in 2013) $139,000 Section 179 ($25,000 in 2013) $139,000 Section 179 ($25,000 in 2013)

Now You See ‘Em, Now You Don’t? Part of the “Fiscal Cliff”? (12/31/12) Part of the “Fiscal Cliff”? (12/31/12) Marginal Tax Rates Marginal Tax Rates 10%,15%,25%,28%,33% and 35% for %,15%,25%,28%,33% and 35% for %,28%,31%,36% and 39.6% for %,28%,31%,36% and 39.6% for 2013 AMT remains at 26% and 28% - what does that mean? AMT remains at 26% and 28% - what does that mean? LTCG (Watch AMT!!!) LTCG (Watch AMT!!!) 0%-15% for %-15% for %-20% or 8%-18% (5 yr. qualifying) for %-20% or 8%-18% (5 yr. qualifying) for 2013 QDI (Watch AMT!!!) QDI (Watch AMT!!!) 0%-15% for %-15% for 2012 Ordinary Income for 2013 Ordinary Income for 2013

Now You See ‘Em, Now You Don’t? Expiring 12/31/12: Expiring 12/31/12: Payroll Tax Holiday (2% OASDI) Payroll Tax Holiday (2% OASDI) No reduction in Itemized Deductions/Personal Exemptions No reduction in Itemized Deductions/Personal Exemptions Unlimited Student Loan Interest Deduction Life (60 month limit returns) Unlimited Student Loan Interest Deduction Life (60 month limit returns) Certain more Generous Tax Credits Return to Prior Limits (Child Tax Credit; American Opportunity Credit, etc.) Certain more Generous Tax Credits Return to Prior Limits (Child Tax Credit; American Opportunity Credit, etc.) Marriage Penalty Relief Marriage Penalty Relief

Now You See ‘Em, Now You Don’t? Estate, Gift and Generation Skipping Tax: Estate, Gift and Generation Skipping Tax: 2012: 2012: $5,120,000 exemption $5,120,000 exemption 35% flat rate 35% flat rate 2013: 2013: $1,000,000 exemption (GST will have inflation adj.) $1,000,000 exemption (GST will have inflation adj.) 55% highest marginal rate 55% highest marginal rate Clawback? Clawback? Portability? Portability?

Other Items of Interest Medicare Surtax effective 1/1/13: Medicare Surtax effective 1/1/13: 3.8% on Net Investment Income 3.8% on Net Investment Income 0.9% on earned income 0.9% on earned income Lower of Net Investment Income or MAGI above threshold Lower of Net Investment Income or MAGI above threshold MAGI threshold $250,000 MFJ; $200,000 Single MAGI threshold $250,000 MFJ; $200,000 Single Cost Basis Reporting Rules Cost Basis Reporting Rules 2011 – Stocks (including some DRIPs and ETFs) 2011 – Stocks (including some DRIPs and ETFs) 2012 – Mutual Funds (most DRIPs and ETFs) 2012 – Mutual Funds (most DRIPs and ETFs) 2014 – Bonds, Options, other securities 2014 – Bonds, Options, other securities

What May Be Next? Budget Proposals – Individuals: Budget Proposals – Individuals: Over $250,000 ($200,000 single) MAGI Over $250,000 ($200,000 single) MAGI Reinstate the 36% and 39.6% marginal rates (2013) Reinstate the 36% and 39.6% marginal rates (2013) Raise LTCG to 20% Raise LTCG to 20% Tax QDI as ordinary income Tax QDI as ordinary income Maximize rate of certain deductions/exclusions to 28% Maximize rate of certain deductions/exclusions to 28% Municipal Interest Municipal Interest Above and below the line deductions Above and below the line deductions Make certain tax credits “permanent” Make certain tax credits “permanent” Extend Cancellation of Qualified Personal Residence Debt to 2015 Extend Cancellation of Qualified Personal Residence Debt to 2015

What May Be Next? Budget Proposals – Business: Budget Proposals – Business: Extend 100% Bonus Depreciation through 2012 Extend 100% Bonus Depreciation through 2012 Automatic IRA (2014 – at least 10 employees) Automatic IRA (2014 – at least 10 employees) Repeal LIFO (2014) Repeal LIFO (2014) Tax carried interest as ordinary income Tax carried interest as ordinary income Repeal Oil and Gas tax breaks (2013) Repeal Oil and Gas tax breaks (2013)

What May Be Next? Budget Proposals – Estate: Budget Proposals – Estate: Return to 2009 (2013) “permanent” Return to 2009 (2013) “permanent” $3.5 million Estate/GST exemption $3.5 million Estate/GST exemption $1 million gift exemption $1 million gift exemption 45% rate 45% rate Continue Portability Continue Portability 10 Year GRAT 10 Year GRAT Grantor Trust coordination (income and estate) Grantor Trust coordination (income and estate)

What May Be Next? Extenders Legislation? Extenders Legislation? Above the line tuition and related expenses deduction Above the line tuition and related expenses deduction Sales tax or income tax itemized deduction Sales tax or income tax itemized deduction AMT Patch AMT Patch Age 701/2 and over IRA charitable contribution Age 701/2 and over IRA charitable contribution Various other individual; business; foreign account changes Various other individual; business; foreign account changes