How Will Your Tax Bill Go Up In January?

The big debate is on. At the end of this year, the Bush tax cuts are scheduled to expire. The Bush tax cuts represent legislation which was enacted in 2001 and 2003. This could have a far reaching negative impact on the already sluggish economy…not to mention the impact in our homes and our personal checkbooks.
There is quite a bit of chatter about extending (some of) these cuts and the debate is gathering strength. While much of the media attention has focused on the high income earners…this concern affects everyone who pays taxes. The final outcome could still be a hard pill to swallow for many.

What can you expect?

  • Higher Income Taxes
  • Marriage Penalty Returns
  • Higher Capital Gains and Dividends
  • Phase Out Rule for Itemized Deductions Returns
  • Phase Out Rule for Personal Exemption Returns

Higher Tax Rates for all…
Yes, everyone will be subjected to higher tax rates. All you need to do is look at the tables below, for they tell the story. Rates will go up for all, not just the so-called “rich”. Currently we have six rate brackets, beginning at 10% and heading north to 35%. They will be replaced by five which start at 15% and top out at 39.6%.

Marriage Penalty returns
The Bush tax cuts eased the penalty to married individuals. The penalty caused married couples to pay more federal income tax than if they were single. While it still exists for some couples, it isn’t nearly as brutal as before the Bush tax cuts. Currently, the standard deduction for married folk (those filing a joint return) is double the amount for singles, which seems to make sense. Beginning in January 2011, the married-joint-filer will revert back to the pre-Bush era and amounts to about 167% of the singles tax bracket.

Here is the current tax structure:

Here is what it will look like come January 2011 unless Obama extends:

Higher Capital Gains and Dividends
Currently the maximum federal rate on long term capital gains and dividends is 15%. Capital Gains means any profits on shares or other assets held for more than a year. Next year, capital gains tax will increase to 20%, and 18% for assets held more than five years. Dividends will be taxed at ordinary income tax rates – which means the maximum would be a fat 39.6%.

Itemized Deductions Phase Out
If you are a high income earner, you may recall that the phase out rule could eliminate up to 80% of your itemized deductions for mortgage interest, state and local taxes, and charitable deductions. Over time the rule eased and was finally eliminated. Look for it to return with a vengeance next year. It will affect you if your income is above an estimated $170K (or $85K if you are filing separate).

Personal Exemptions Phase Out
Personal exemption will get hit next year. If your adjusted gross income exceed about $252K (filing jointly), $168K (single), $210K (head of household), or $126K (married filing separate) your personal exemptions will phase out or be eliminated.

Obama says he wants to renew some tax cuts, while Republicans and some Democrats want to renew across the board. Unless the current spending spree is curtailed, taxes will have to go up at some point to pay for all the entitlement programs.

Should the current Bush tax cuts be allowed to expire, the relief they have offered will impact anyone who pays taxes. This could be a good time to visit your budget and begin tweaking in preparation for lower take home pay next year.

How Will the New FHA Changes Affect You?

FHA has been putting on fresh makeup in the form of new guidelines.  The most recent moves take effect on October 4th, and can have a big impact on your wallet.

The first of these is H.R. 5981 and the resulting Public Law 111-229, which gives FHA the authority to change the amount charged to borrowers for the Up Front Mortgage Insurance Premium (UFMIP) and Monthly Mortgage Insurance Premium (MIP) as a means to help insure FHA.  FHA has said this is going to save you money, however it begs the question…if it is going to help FHA raise money, how will it save the borrower money?

These changes are outlined in Mortgagee Letter 2010-28.  Click here to read Mortgagee Letter 2010-28 in its entirety.

Up Front Mortgage Insurance Premium (UFMIP) is a lump sum that is added to the base loan amount and it is being reduced.  The monthly Mortgage Insurance Premium (MIP) is added to the monthly mortgage payment and it is being increased.  The folks in Washington would like you to believe that this is really a good thing…and on the surface, it does look pretty.

However, if you remove the blush and lipstick, you’ll discover that maybe looks are deceiving.

Here is a quick run down of the highlights:    

  • UFMIP will be reduced to 1.00% (down from 2.25%)
  • Monthly MIP will go up to .90% (from .55%) for 30-yr max LTV loans.
  • Up to 95% LTV, 30-yr will be .85% (up from .50%)
  • IMPORTANT: 15-year loans, monthly MIP remains the SAME

These premiums are effective for purchases, refinances, and streamlines.

On the surface, it seems that if the up-front portion (which is a bigger chunk of change) becomes a smaller percentage, and the smaller piece (the monthly premium) is going up…then perhaps FHA has done you a favor Mr. Borrower.  Before you get too excited, let’s do the math on this to find the real answer…

*Payment is principal and interest only and does not include taxes and homeowners insurance.

Let’s compare.  While the current structure results in a higher loan amount, the total mortgage payment and cash out of pocket is lower.  Under the new structure, it may seem counterintuitive, but the lower loan amount and higher monthly results in more out of pocket, now and forever more.  Raising the monthly premium has a similar effect as raising the interest rate by 0.33%!

If you are considering purchasing a home with FHA financing, you may want to consider taking action prior to October 4, 2010.

You Decide!

Business Still Sitting the Bench…

A friend shot me a note asking for my thoughts on the economy in relationship to his business. He is in equipment sales and sales are really tough right now.

You see, he deals in large equipment – industrial scale. Businesses that purchase his equipment have to design their building to accommodate this equipment. So it’s not your everyday, run of the mill, typical equipment purchase. Much planning goes into the decision of purchasing this mammoth stuff. You can probably imagine that the sales cycle is fairly long….from the time the need is discovered, researched, sent for bid, to the final decision – and ultimately, “check is in the mail.”

Remember the old commercial – “When EF Hutton speaks, everybody listens?” Everyone was hushed Friday morning waiting to hear what Bernanke would say, thinking just maybe big business would get some clarity to make internal decisions for expansion and growth. For the most part – it was the same ole rhetoric. The market had a little knee jerk, then stocks began to giggle liking the news and sucked some life out of the safe haven of bonds.

The Fed’s primary job is to implement monetary policy to keep a balance between steady economic growth and high levels of inflation.

Understanding the inflation is low and economic growth is sitting the bench, it makes sense that what Corporate America is looking for is really outside the Fed…and inside The White House and our Congress. Here is what keeps Corporate America sitting on the side lines:

  • Upcoming tax hikes
  • Time bomb in Social Security and Medicare
  • Cost burdens of new health care plan
  • Stimulus everywhere – what will it cost?

Small Business and Corporate America remains petrified of what is coming….like a deer caught in the headlights. Until there is some real clarity about what is coming and how their balance sheet will be impacted, they are probably going to be fairly reluctant to commit to growing inventories, equipment purchases and leases, expansion, increased production/manufacturing….and of course, hiring.

Until business gets the clarity they are looking for, they probably won’t be putting the check in the mail and sales orders will collect dust sitting on someone’s desk.

Bernanke – Clear As Mud!

Did Bernanke clear things up?  That is a good question!

This morning at the Jackson Hole Symposium, Bernanke said that the central bank would be “vigilant and proactive” on inflation and believes that deflation is not a big risk. But did he shed any light for investors?

Bernanke downplayed the concern of a double dip recession this morning, saying the economy will continue to expand…but at a slow pace for the remainder of 2010.  He went on to say that the pace of growth will pick up in 2011.

On inflation, Bernanke acknowledged it has dropped to a level slightly below what fellow FOMC members view as conducive to a healthy economy.

Some have suggested that the Fed is out of silver bullets to revive the economy.  Today, Bernanke spoke at length about the tools the Fed has to fight deflation and stated, “the issue is instead whether, at any given juncture, the benefits of each tool, in terms of additional stimulus, outweigh the associated costs or risk of using the tool.”

Those tools include more purchases of longer term Treasuries.  As Mortgage Backed Securities get repaid to the Fed, instead of cleaning up their balance sheet, they will purchase more longer term Treasuries.

Another tool in the kit he would consider is to modify the language to signal the Fed will keep rates close to zero for longer than what is currently priced in the markets.

There has been chatter that suggest the “extended period” language needs further clarification or definition.  Such as…triggers.  What criteria, what levels, what triggers would sound the bell for further action?  It is about as clear as mud.  Bernanke said the FOMC “has not agreed on specific criteria or triggers for further action.”

Did Bernanke provide clear insight? Still sounds a little cloudy to me and appears to be a disappointment to investors who were anticipating more clarity.

Federal Reserve Chairman Bernanke

Bottom Line:

  • Recovery is softer than expected.
  • Deflation not a big risk.
  • Inflation has declined to a level slightly lower than what the Fed sees as healthy.
  • The Fed still has bullets it can use.
  • Will Bernanke Clear up Communication?

    Tomorrow, Kansas City barbeque will be taking a back seat as Federal Reserve Chairman Ben Bernanke, or Big Ben as I like to call him, will be delivering a closely watched speech at the Kansas City Fed’s annual Jackson Hole Symposium.  This could likely be the most important speech he has given.

    Here’s the skinny.   Each year since 1978 the Federal Reserve Bank of Kansas City has sponsored a symposium on important economic issues facing the U.S. and world economies.  The cast of characters is pretty spectacular –prominent central bankers, academics, finance ministers and other financial market experts participate.

    *Symposium (sym-poh-zee-uhm) – a meeting or conference for the discussion of some subject, esp a meeting at which several speakers talk on or discuss a topic before an audience.

    The Theme this year is, “Macroeconomic Challenges: The Decade Ahead”

    It is no surprise the economy is moving about as fast as a snail.  While GDP (Gross Domestic Product) shows we are not in a recession, you sure wouldn’t know it by looking at almost everything else around you.  Jobs are on life support.  Housing is barely breathing.  Recent economic data has been pretty disappointing.

    And like with your household budget, the government puts out a budget.  Their 2010 forecast – which lays out how they see the economy growing –  was pretty robust. Jobs are nowhere near their forecast, economy is moving slower than forecasted, and tax receipts are less due to the lack of folks employed. We are running enormous deficits.  If things slow down it more, look for that deficit to be even bigger in the future.

    The Fed has been highly criticized for lacking leadership and direction. Their communication has stunk out loud. Highly respected business leaders such as Ivan Seidenberg, Chairman and CEO, Verizon and Jim Tisch, CEO Loews have expressed concern due to the uncertainty business leaders face.

    Bernanke has said very little in recent months about monetary policy, opening the door for hawkish rhetoric from some regional Fed presidents.  And they are all over the board when it comes to inflation vs deflation.

    Big Ben sure could clear some things up.

    401(k) Provides Relief for Some

    Could there be a silver lining? On the heels of an awful jobs report last week and a dismal housing market index, comes more troubling news. A record number of American’s are tapping into their 401K these days for hardship. In fact, hardship withdrawals from 401(k) plans hit their highest level in 10 years during the second quarter.

    Much of this is tied to the economic situation. It really shouldn’t come as a surprise, with the current level of unemployment. In addition, the current housing mess is putting severe financial stress on folks. The latest figures show that 21% of mortgages are underwater.

    Many have exhausted their savings and are now tapping into these funds to provide some relief – to put a roof over their heads and pay other critical living expenses.

    Some analyst have suggested that some of these hardship dollars are put to other use – such as paying kids college or possibly down payment funds to purchase a home and take advantage of the home buyer tax credit earlier this year.

    A hardship withdrawal is subject to a 10% penalty if you are age 59 ½ or younger. You can postpone paying at time of withdrawal…but don’t be surprised when you have to plop it on your tax return…and on your return, the line item is after you have calculated the amount you owe or amount of refund.  It can bite you worse than a nasty mosquito on a hot summer night.

    Where is the potential silver lining, you ask? Trends show us that at the bottom of the market…before a recovery… is when people pull most money out. Recently GDP has revealed that we are no longer in a recession and many politicians and some economic analyst will emphatically say we are in recovery mode – however tell that to all the economic reports, because they didn’t get the memo.

    Times are tough, no doubt. If you are one of the many people that are considering pulling your 401(k) funds out, be sure to visit with your financial planner and CPA. It is important to understand the short term tax implications as well as long term implications for your retirement.

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