What has changed now that Congress has averted the fiscal cliff?


Now that the wrangling over the fiscal cliff is finally over, let’s sort out exactly what happened and how it will affect doctors and other highly paid professionals.  First of all, a big thank you to Mitch McConnell and Joe Biden, the only two of our national leaders who apparently still remember what the word compromise means- that no one gets everything they want.  They managed to pull together an agreement that was passed by 172/188 House Democrats, 85/236 House Republicans, 89/97 Senators (mostly those who want to run for president in 2016 voted against it), and 1 Democratic President.  That’s pretty darn good in my opinion.

For the typical doctor, this bill was a big winner with a few downsides that will increase your taxes a little bit.  Let’s look at the various parts.

Doc Fix Was Passed

I hated to see the Medicare “Doc Fix” get tied up with the fiscal cliff bill, but since it was, that was the main reason I was happy to see the bill pass.  No 27% pay cut for docs taking Medicare.  That was the most important benefit in the bill to me.

Doctors Are No Longer “Rich”

President Obama over the last year or so has somehow managed to define “rich” as a taxable income over $200K/$250K (single/married).  That was revised in this bill to $400K/$450K.  While I don’t have exact figures, I would guess that means only 10% of doctors are “rich” instead of perhaps 40%.  On a national basis, the rich are no longer the “top 2%”, but rather the top 0.6%.  All marginal tax brackets stay the same until you hit $400K/$450K.  That should save a married doctor making $450K over $10K in taxes per year.  Capital gains and dividend taxes were increased, but again only for those with a taxable income over $400K/$450K, excluding most doctors and similar professionals.  To make things better, these tax brackets are now made permanent, which they never were under the “Bush” tax cuts.

AMT Finally Indexed To Inflation

The AMT exemption was never properly indexed to inflation and thus every year has hit more and more Americans.  Doctors are especially hard hit, especially in high income tax states like New York and California.  For 2013 the exemptions are set at $50,600/$78,750 (single/married) and are now indexed to inflation.  I very much appreciate whoever slipped that one into the bill as it may keep me out of the AMT in the future, and it should lower the AMT for those who actually do get caught up in its net.

Social Security Funded Again

The employee portion of the Social Security tax was cut from 6.2% to 4.2% two years ago as an economic stimulus, then extended through 2012.  Now I liked the extra $2K in my pocket as much as the next guy, but the truth is this was a dumb idea.  We took a popular program that was already underfunded and instead of saving it by cutting benefits a little, we cut the existing funding for it.  That was idiotic in my opinion.  This was eliminated in the fiscal cliff deal, restoring funding for a good program.  This will raise everyone’s taxes ($1000 per year for a worker with a taxable income of $50K per year) and will raise taxes on most doctors by $2274 (double that if you’re in a two-doc family) but the truth is this tax increase actually needed to happen.

No Marriage Penalty

The “married filing jointly” standard deduction, 10% bracket, and 15% bracket will continue to be double that of a single filer.  That’s good policy, especially for us married folk.

Estate Tax Exemption Remains High

The estate tax exemption will remain at $5 Million (actually $5.12 Million) per spouse and will be indexed to inflation going forward.  That will keep most doctors from ever paying estate taxes, which is a good thing.  For those few who do have to pay this tax, it was increased from 35% to 40%.  Good thing doctors aren’t rich any more.

Limited Deductions and Exemptions

Highly paid doctors will get hit with a bit of a stealth tax in that deductions and exemptions ($3800 for each dependent) will start getting limited at $250K/$300K.  The phase-out occurs over $100-200K, so it shouldn’t hit most doctors very hard at all, but many will pay at least a little more in taxes because of it.  I’m not entirely clear how this will be calculated, but I believe it will do something like reduce your deductions by 1/3-2/3ds of 3% of your income over $250K/$300K up to 80% of your deductions.  So if you’re married with a taxable income of $400K, you’ll lose maybe $2000 in deductions, for maybe $800 in additional taxes.  The exemption phase-out for a taxable income of $400K will probably cause an additional tax of about $1500 for you and each of your dependents.

Other Tax Breaks

Other tax breaks were also preserved, but most of them are aimed at lower earners and won’t affect highly paid professionals much.  These include the child tax credit, earned income tax credit, American opportunity tax credit, teacher credit, tuition credit, and tax-free short sale debt forgiveness.  State and local income taxes will continue to be deductible, and you will continue to be able to donate your IRA RMDs to charity without paying taxes on them.  Obamacare taxes, of course, weren’t affected by the bill.  That increases employee Medicare taxes by 0.9% on taxable income over $250K and capital gains taxes by 3.8% on investment income for those with taxable income over $250K.

Like everyone else in America, there were parts of this bill I didn’t like, but for doctors, there was far more right with this bill than wrong with it.