5 Ways Fiscal Cliff Deal Affects Your Taxes


At the last possible moment, Congress finally approved a deal to avoid the so-called fiscal cliff that was threatening to enact automatic cuts to government programs and tax increases on Americans.

While the fiscal cliff was a self-imposed crisis resulting from a previous bipartisan deal by members of Congress, it’s nice to know that our elected officials were able to come to an agreement on how to resolve the crisis (at least for the moment).

But for us regular citizens, there are lots of changes to how our taxes will be calculated. And many people are trying to figure out the implications of the deal for their own finances. So let’s look at how this deal will affect you:

1. Income Taxes

The most high-profile part of the fiscal cliff negotiations centered on income tax rates. President Obama wanted to extend tax cuts on individuals with an annual income below $250,000 while increasing tax rates on those with an income above $250,000. Republicans, meanwhile, wanted to extend the Bush-era tax cuts for all income levels.

The agreement they reached will raise the top tax rate from 35% to 39.6%. That rate applies to individuals making more than $400,000 and couples making more than $450,000 a year.

So if you earn more than $400,000 individually or $450,000 combined, you will see your income taxes go up. If not, then your income taxes will stay the same. However, your payroll taxes might increase.

2. Social Security Payroll Taxes

Social Security is funded by a 12.4% tax on wages below $113,700. Prior to 2011, employers were required to pay half of that and workers were required to pay the other half. But starting in 2011, President Obama had initiated a temporary cut that reduced the share workers pay from 6.2% to 4.2%.

That change saved an average family about $1,000 per year for the past two years. However, the cut was not extended as part of the fiscal cliff deal, which means workers will begin paying the higher 6.2% rate again in 2013.

Because payroll taxes are taken out of paychecks directly, many people will find out very soon that their next paycheck is smaller than it was in 2012.

3. Dividend and Capital Gains Taxes

Up to now, the tax rate for dividend and long-term capital gains was 15% for everyone. With the recent agreement in place, that rate will rise to 20% for high-income earners who make over $400,000 per year individually or $450,000 per year as a couple.

For anyone whose income is below that threshold, dividend and long-term capital gains tax rates will remain at 15%.

4. Estate Taxes

Prior to the recent deal, only estates of greater than $5 million were subject to the estate tax, which requires that taxes be paid on a person’s estate (in other words, their property and assets) before it can be passed on to a relative or friend either as a gift or in a will. The only thing that changed in this deal is that the tax rate on estates increases from 35% to 40% -- but again, that only applies to estates valued at more than $5 million, so most Americans won’t need to adjust their wills.

5. Earned Income Tax Credit

On the other end of the spectrum, the Earned Income Tax Credit is a tax credit that low-income families and individuals are eligible for. It provides up to about $5,000 a year in refundable tax credits to those who qualify based on income level and employment. So how did the fiscal cliff deal affect this? Well, not at all. The deal includes a continuation of the same rules for the Earned Income Tax Credit that have been in place since 2009.

Future Tax Changes

The final point — and one that should not be lost on anyone — is that more changes may be in store in the very near future. That’s because the fiscal cliff deal basically guarantees another standoff in Congress within the next 2-3 months, when the debt ceiling will need to be raised and when another round of negotiations between Democrats and Republicans is sure to take place. So keep an eye out for whatever other changes come about!

And if you are expecting to get a tax refund this year, learn how to use your tax refund to improve your financial situation.

On the other hand, if you are worried about your upcoming tax bill and feel like you need to save some money this month, try cutting back on small items like coffee. Regardless of how the latest fiscal cliff deal affects your taxes, there are steps you can take to have a more financially sound 2013.

This story is an Op/Ed contribution to Credit.com and does not represent the views of the company or its affiliates.

-- covers student loans and other personal finance topics for ReadyForZero, a free online website that helps people pay off debt.


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