Thread: New Tax Law Retains Low Rates

The Tax Increase Prevention and Reconciliation Act (TIPRA)
has just been signed into law. As its name reveals, its
main purpose is to prevent a tax increase: it retains the
low rates on most stock dividends and long-term capital gains.

Under prior law, stock dividends were taxed as ordinary
income. Today, that rate could go as high as 35 percent
Long-term gains were taxed at rates up to 20 percent.
Those rates were scheduled to go back into effect in 2009.

Instead, TIPRA extends current low rates for two years,
through 2010. For the next four-and-a-half years,
long-term gains and qualified dividends will be taxed
no higher than 15 percent.

The new tax law, therefore, allows you to extend your
investment planning. It makes sense to buy dividend-paying
stocks and hold them in your taxable account, where the
tax bite will be less painful. In the meantime, taxable
bonds and bond funds can be held in your IRA or other
tax-deferred account. Bond interest is still taxed at
rates up to 35 percent so it pays to defer those taxes.

Similarly, the sale of appreciated assets can be stretched
over two more years, through 2010, to take advantage of
the 15 percent rate. If the new law had not been passed,
good planning would have called for such sales to take
place by the end of 2008.

The new tax law also extends special tax treatment for
taxpayers in the two lowest federal income tax brackets
(10 percent and 15 percent). Those taxpayers now owe only
5 percent on qualified dividends and long-term gains.

What's more, those low-bracket taxpayers were to pay 0
percent on qualified dividends and long-term gains in 2008.
The two-year extension applies to the 2008 tax rates so the
0 percent rate for low-bracket taxpayers will be available
in 2008, 2009, and 2010.

In practice, the 0 percent tax rate will apply to many
college students, young workers just beginning their careers,
and one-income couples. Also, many retirees probably will
meet the income requirements for tax-free dividends and
long-term capital gains in 2008, 2009, and 2010.

Therefore, you might want to transfer appreciated assets
that you intend to sell to your children and perhaps to
your retired parents. As long as they remain in low tax
brackets, they can sell appreciated assets and owe no
federal income tax in 2008, 2009, and 2010. Keep in mind,
though, that your children will have to be at least 18
years old in the year of sale to take full advantage of
this tax break.

swsop