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Use a 529 to avoid the 2013 tax increases
Hereís an APB to anyone with household income of more than $250,000: Your taxes are going up.
If the Democrat-controlled Senate has its way, a proposed one-year extension of the Bush tax cuts will apply only to those taxpayers with modified AGI of $200,000 or less ($250,000 or less for joint filers). A bill to that effect was passed by the Senate just yesterday. For those above the income threshold, the top tax bracket on ordinary income will jump from 35% to 39.6%; dividends will be subject to rates as high as 39.6% (up from 15% currently); and the top rate on capital gains will increase from 15% to 20%.
The Republican-controlled House is seeking to apply the one-year extension to taxpayers at every income level. They will vote on and pass that bill next week.
Regardless of which side ultimately prevails, the new Medicare tax still kicks in next year. This is the additional 3.8% tax on investment income that single taxpayers with modified AGI over $200,000 and joint filers with modified AGI over $250,000 will owe. Interest, dividends, capital gains, and other unearned income can all get hit with this surcharge.
So the message to your higher-income clients trying to save up for future college expenses is this: Use a 529 plan and avoid the increased taxes. If you have your college savings in a taxable mutual fund throwing off a dollar of qualified dividends each year, your federal tax on that dollar may be jumping from 15 cents in 2012 to as much as 43.3 cents in 2013.
Perhaps you could even do some of the math for your clients. How many of their kidsí academic credits, textbooks, or campus meals will ultimately be surrendered to Uncle Sam in the form of income taxes?
With a 529 plan the answer is easy: None.
Update as of January 2, 2013: See Changes made by the American Tax Payer Relief Act