A 'Fiscal Cliff' You Can't Avoid

Do you know what the one new tax is that is going into effect on January 1, 2013....and there isn't a thing that can be done about it?

It is called the 'New Medicare Tax on Unearned Income'.  It is being assessed at a rate of 3.8% not on payroll or earned income as it has always been in the past but on the sale of personal or investment real estate, stocks, bonds, gold, farms, small business or anything else that might have a large capital gain over a prolonged period of time.

It was not passed as part of any normal budget reconciliation process on Capitol Hill.  That is almost impossible to do when you have a US Senate under the 'leadership' (sic) of Senator Harry Reid of Nevada that has not even tried to pass a budget for the past 3 years and doesn't look like it plans to do in 2013 either.

No, this ground-breaking tax was passed as part of the famous, or infamous, Obamacare bill of March, 2010. For the first time in US history, a payroll tax that has always been applied against earned income of a taxpayer has been freed from its moorings on salary and wages to roam to any and all sales of capital that may have large amounts of capital gains due to prudential investing on your part.

Now, proponents will rightly point out that this new tax will apply only to very high amounts of capital gains that are typically reserved only for high net worth individuals like Donald Trump and Warren Buffett.  You know, the guys who buy and sell billions of dollars worth of real estate before they have breakfast, companies before noon and gold bullion before they go to a gala in their honor at night.

The limits that have to be breached before the 3.8% Medicare tax is triggered is $200,000 for individuals and $250,000 for married couples filing jointly. That is a lot of money, the proverbial top 1% of all income-earners in the nation.

That sounds like a lot of money to the vast majority of Americans.

But here's our sincere question to you:

'When was the last time Congress and the President passed a new tax on anyone...that did not expand and filter down to moderate levels of income as time went on?'

For one thing, these 'limits' do not appear to be indexed for inflation.  Over a period of time, believe it or not, $200,000 will become considered 'middle-income' as long as we have a United States of America.  Once it does, this 3.8% Medicare tax will apply to every sale of stocks or bonds or anything that has any capital gain in it no matter how large or how small.

The second thing is that all it would take is another Congress with a like-minded higher tax advocate in the White House to lower the limits from $200,000 to say $100,000 or even $50,000 and get a large score from CBO for future deficit-reduction for higher revenues based on static analysis.  These things can get buried in a large omnibus tax bill somewhere down the road and many people might not even know about it until it hits them in the next tax year.

You didn't know about this 'floating' Medicare tax, did you?  Didn't think so.

Elections indeed have consequences.  The fact that President Obama was re-elected and the Senate Democratic majority was increased in the most recent election pretty much insures that this tax will not be repealed or even touched for the next 4 years at least.

According to the Annenberg Center's FactCheck.org, there are actually two new taxes you need to be aware of:

'There will be a new 3.8 percent tax on "unearned" net investment income - such as capital gains from the sale of stocks or real estate, dividends, interest income, annuities, rents and royalties. Also starting Jan. 1 is a new 0.9 percent Medicare surcharge on top of the current Medicare payroll tax. Both taxes apply to taxable compensation that exceeds $200,000 for singles, or $250,000 for couples filing jointly. Those two taxes combined are projected to bring in nearly $210 billion over the next seven years, according to the nonpartisan Joint Committee on Taxation.'

We are not sure how much of this projected $210 billion will ever be collected by the US Treasury over the next 7 years. Our bet still lies with people making serious amounts of money over the $200,000 threshold finding smart tax accountants and lawyers to shelter their income or pair it off against other losses somehow so as to never pay these new taxes in the first place.

Anyone want to bet dollars-to-doughnuts that when we talk again in 2019 that the US Treasury will not have collected half of the $210 billion that CBO projected they would collect?  1/4?

Democrats trying to raise taxes on the truly wealthy is exactly like Wile E. Coyote trying to out-smart the Roadrunner and hit him on the head with an anvil or a Rube Goldberg contraption from Acme:

It Never Works.

The people that this tax will hit though are the ones not in the super-wealthy category who can't afford any fancy tax accountants or lawyers to shelter their income.  And the people who have a one-in-a-lifetime chance to sell the family farm or grandma's house that the grandchildren wanted to sell so they could send their children to a good college.

So get used to it.  The Obama Administration and the Senate Democrats have already got some time-bombs of higher taxes deeply embedded into the tax code where there is no way for them to be repealed or blunted for at least the next 4 years.

Plan accordingly.

Contributing Editor Frank Hill ran for Congress at the age of 28 and served as chief of staff for former Congressman Alex McMillan (NC-9) and Senator Elizabeth Dole (NC). He was a budget associate on the House Budget Committee for 4 years and worked on the 1994 Commission on Entitlement and Tax Reform. He now lives in Charlotte, North Carolina where he does some consulting and lots of worrying about federal spending issues.