Tax Planning & Preparation

What’s Your Real Marginal Tax Rate?

If you answer that question by looking at the tax rate tables that show rates of 10, 15, 25, 28, 33, and 35 percent, you could be understating your real marginal tax rate.

Your marginal tax rate could be higher due to numerous provisions that phase out or limit certain deductions, credits, and other tax benefits. Here are some of the more significant provisions regarding your marginal tax rate.

Limitation on Itemized Deductions

Once adjusted gross income (AGI) exceeds $83,400 for married persons filing separately and $166,800 for all other taxpayers, itemized deductions, with the exception of medical expenses, investment interest, and casualty losses, must be reduced by 3 percent of the excess over this AGI amount.

The maximum reduction is 80 percent of itemized deductions. In addition, medical expenses may only be deducted to the extent they exceed 7.5 percent of AGI, while miscellaneous expenses must exceed 2 percent of AGI and casualty losses must exceed 10 percent of AGI.

Phase-Out of Personal Exemptions

The personal exemption amount of $3,800 in 2012 (up from $3,700 in 2011) is reduced by 2 percent for each $2,500 of AGI over threshold amounts.

Those amounts are $250,200 for married taxpayers filing jointly, $208,500  for heads of household, $166,800 for single taxpayers, and $125,100 for married taxpayers filing separately.

Exclusion of Social Security Benefits from Income Tax

Up to 50 percent of benefits are taxed when AGI plus tax-free interest plus one-half of Social Security benefits is over $25,000 but less than $34,000 for single taxpayers and is over $32,000 but less than $44,000 for married couples filing jointly.

Up to 85 percent of benefits are taxed once income exceeds $34,000 for single taxpayers and $44,000 for married couples filing jointly.

Other Phase-Outs

Numerous credits, deductions, and other benefits are phased out once income exceeds prescribed limits, including:

  • Earned income credit
  • Child credit
  • Dependent care credit
  • Traditional deductible and Roth individual retirement account contributions
  • Coverdell Education Savings Account contributions
  • Hope Scholarship and Lifetime Learning credits
  • Above-the-line higher education expense deduction
  • Student loan interest deductions
  • Rental real estate losses under passive loss rules
  • Adoption credit
  • Elderly and disabled credit

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