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Tax Currents

Shifting tax burdens

It is a common charge in some quarters that the Tax Cuts and Jobs Act of 2017 was a “giveaway to the rich.” Steve Forbes begs to differ, and he has the numbers to prove it.

According to Mr. Forbes, the top 1% of taxpayers paid $16 billion more in income taxes in 2018 than they did in 2017, while the bottom 99% paid $80 billion less. More significant is the share of total income taxes paid, which for the top 1% went from 37% in 2017 to 40% in 2018. Some tax cut! Mr. Forbes attributes the shift to the curtailment of itemized deductions for top earners coupled with the doubling of the standard deduction for the majority of taxpayers.

However, in fairness one ought to look at more than just the income tax. Because the economy boomed and unemployment fell to record low levels, the collection of Social Security taxes paid by the 99% also rose substantially.

Tax rates in retirement

Conventional wisdom has been that retirees will face lower federal taxes than they did when they were working, and so making maximum contributions to tax-preferred accounts is the way to go. However, the conventional wisdom may not prove correct for all taxpayers.

Additional Medicare premiums. Higher-income retirees must pay higher Medicare premiums, including for Medicare Part D drug coverage. This can amount to a five-percentage-point increase in one’s marginal income-tax rate.

Required Minimum Distributions. Those who have income greater than $250,000 are subject to a 3.8% additional tax on investment earnings. A retired couple with pension and investment income of $250,000 does not have to pay that tax. But at age 72 they must begin taking minimum distributions from their retirement accounts, and that added income could push them into taxable territory.

Scheduled federal tax changes. The personal income tax elements of the TCJA mentioned by Steve Forbes have an expiration date of 2025. Beginning in 2026, itemized deductions come back, and the standard deduction will be cut roughly in half. Per Mr. Forbes’ analysis, that will be a significant tax increase for most taxpayers, though it will be a tax cut for the top 1%.

State income taxes. Many states are in severe financial distress, and for some the distress started long before the COVID-19 pandemic. An increase in state income taxes looks very likely as an avenue for helping to bring budgets back into balance.

The fact that taxes may be higher than anticipated in retirement means everyone should be saving even more in order to be fully prepared. That fact also suggests that a meaningful portion of retirement savings might belong in taxable accounts for greater tax-planning flexibility. 

© 2020 M.A. Co. All rights reserved.

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