Article Published January 3, 2012 — North Bay Business Journal
Historically, business transactions escalate when taxes are expected to change, as sellers and buyers try to capitalize on favorable rates. It is safe to assume that the U.S. will soon have to raise taxes on businesses and individuals, so retirement-age business owners looking to maximize value should look closely at selling in 2012. Since it typically takes a year to prepare, find a buyer, negotiate, work through due diligence and close a deal, now is the time to get started. This article outlines a handful of the expected tax changes and how they will affect sellers.
Capital Gains Tax Rate Increase
Given our massive federal budget deficit, most experts believe that the Bush tax cuts will not be extended again at the end of 2012. The current maximum Federal long-term capital gains income tax rate is 15%. The top long-term capital gains tax rate is expected to revert to the pre Bush tax cuts rate of 20% on January 1, 2013. The 20% rate was effective from 1997 to 2003, and some expect it to could go even higher. Note that from 1987 to 1997 the maximum capital gains tax rate was 28%.
Ordinary Income Tax Rate Increase
The current top individual ordinary income tax rate is 35%. This rate applies through 2012 due to the Bush tax cut extension. Again, expectations are that the Bush tax cuts will not be extended beyond 2012. What will the new maximum tax rate be? Consider our tax rate history:
|Period||Top Tax Rates|
|1944 to 1963||82% to 94%|
|1964 to 1982||69% to 77%|
|1982 to 1986||50%|
|1986 to 1992||31% to 38.5%|
|1993 to 2002||38.6% to 39.6%|
|2003 to 2012||35%|
Special 15% Qualified Dividend Tax Rate may be Eliminated
The qualified dividend maximum tax rate remains at 15% through the end of 2012. Before the Bush tax cuts, dividends were taxed at ordinary income tax rates. C corporation business owners could be faced with a 100% or more increase in this tax if they don’t distribute dividends before the end of 2012.
Patient Protection Act
Starting in 2013, there is an additional 3.8% Medicare tax for individuals with adjusted gross income (AGI) above $200,000, joint filers with AGI above $250,000 and married taxpayers filing separate with AGI above $125,000. This tax is generally levied on interest, dividends, annuities, royalties, rents and capital gains.
Also beginning in 2013, the Patient Protection Act imposes a 0.9% additional Medicare tax on earned income in excess of $200,000 for individuals, $250,000 for joint returns and $125,000 for married taxpayers filing separate.
Section 179 Deductions
Decreases in Section 179 deduction limits from $500,000 in 2011 to $25,000 in 2013 and the elimination of bonus depreciation in 2013 will result in higher taxes as well as lower business valuations from buyers. Businesses with recurring capital equipment needs will be especially hard hit.
Business owners who are approaching retirement are encouraged to consult with their tax advisor immediately to understand what the cumulative tax effect will be if they exit in 2012, set against waiting another year or two. The savings could be substantial. Because tax practitioners are so inundated at tax time, these exit planning conversations often don’t happen. Be proactive here to maximize proceeds and avoid surprises.
Al Statz, CBA, CBI, is President of Exit Strategies Group, Inc., a business brokerage, merger, acquisition and valuation firm serving private businesses in Northern California. Al can be reached at 707-778-2040 or firstname.lastname@example.org. Dave Fisher also contributed to this article. Dave is a Bay Area CPA who focuses on business, personal, trust and estate taxes. Dave can be reached at 707-588-9700 or email@example.com.
The North Bay Business Journal, a publication of the New York Times, is a weekly business newspaper that covers the North Bay area of San Francisco – from the Golden Gate bridge north, including Marin, Sonoma and Napa Counties.