Congress extends Bush-era tax cuts for two years
After weeks of wrangling over the details, both the Senate and the House passed a bill that will extend the tax rates in effect in 2010 for another two years. President Obama signed the "2010 Tax Relief Act" into law on December 17, 2010.
Here's an overview of the key provisions in the law.
* Tax rates. The existing tax rates established in the 2001 and 2003 tax laws will continue for all taxpayers through 2012. This means the top tax rate for 2011 and 2012 will remain at 35% instead of reverting to 39.6% as it would have done had the "2010 Tax Relief Act" not passed.
* Capital gains and dividends. The top rate for long-term capital gains will remain at 15% for taxpayers in all but the two lowest ordinary income brackets; those taxpayers will continue to have a 0% rate on capital gains. Dividends will continue to be taxed at the 15% and 0% rates instead of reverting to ordinary income rates as high as 39.6%.
* Itemized deductions and personal exemptions. Higher-income taxpayers will not have their itemized deductions limited and their personal exemptions phased out for another two years.
* Education tax breaks. The law extends the American Opportunity Tax Credit through 2012. The income exclusion for up to $5,250 of employer-provided education assistance to employees is continued for two years. The higher contribution limit of $2,000 and other enhancements to Coverdell Education Savings Accounts were extended for two years.
* Alternative minimum tax (AMT). The AMT was given another "patch" for 2010 and 2011, a move that will keep the tax from hitting millions more taxpayers. For 2010, the exemption amount is $47,450 for individuals and $72,450 for married couples filing joint returns. For 2011, the exemption is $48,450 for singles and $74,450 for couples. Without this adjustment, the exemption amounts for 2010 and 2011 would have been $33,750 for singles and $45,000 for couples.
* Payroll tax. A new tax break is created for workers who pay social security taxes. For 2011, the employee rate for social security tax is cut from 6.2% to 4.2% on wages up to $106,800. Self-employed individuals will pay 10.4% on self-employment income up to $106,800. Employers will continue to pay 6.2% on employee wages. This payroll tax rate cut does not affect the Medicare portion of payroll taxes for either employees or employers.
* Extenders. Tax breaks that have come to be called "extenders" because they're typically extended retroactively every year, but just for a year, are again extended by the new law. Effective for 2010 and 2011 returns, taxpayers have the option of deducting state and local sales taxes instead of state and local income taxes. The deduction for up to $4,000 of higher education expenses and the deduction for teachers who buy classroom supplies are extended. Those age 70½ or older may again contribute up to $100,000 tax-free from an IRA to a charity.
* Other provisions. The law extended several tax breaks for businesses, set the estate tax top rate at 35% with a $5 million exclusion, and extended unemployment benefits for 13 months.
Do you owe the "nanny tax"?
You might owe the "nanny tax," and if you overlook it, you could be hit with additional interest and penalties.
* What is the nanny tax? It's simply employment taxes on the wages you pay to certain domestic workers, such as babysitters or housekeepers. If you paid a domestic worker more than $1,700 in 2010, you may be required to report and pay social security and Medicare taxes on their wages. You might also owe federal unemployment tax.
* To whom does the tax apply? It doesn't matter what type of work is performed (gardening, babysitting, nursing, or general household chores). What does matter is whether your worker is considered to be your employee or an independent contractor. Independent contractors are typically self-employed and, therefore, exempt from the nanny tax. Generally, if you control how and when workers do their jobs, they're probably your employees. Independent contractors operate their own businesses. For example, a nanny who takes care of your kids in your home is probably an employee, but a day care provider who cares for many children is not.
Some employees are exempt. For example, you generally don't have to pay nanny taxes on wages paid to your spouse, your child under age 21, or any part-time employees under age 18. But there are exceptions, so you should check the rules carefully.
* Avoid penalties and interest. If you fail to pay the tax, you could be liable for interest and penalties on the tax owed, and possibly even a penalty for underpaying estimated taxes. You might also have obligations to pay state employment taxes.
If you hire someone to work in your home, it's worth contacting our office to discuss your tax obligations. January 31, 2011, is the deadline for sending W-2 forms to your workers if the nanny tax applies for 2010.
For more information contact our office by phone at 408-879-9990 or by email at cpa@cpasllp.com. You can also visit our website www.cpasllp.com for more details.
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