Income taxes rarely play a major role in decisions about marriage, but most couples eventually consider how their official union affects their finances.
Some married couples discover they pay more in taxes than they would as unmarried individuals, and this so-called marriage penalty has long been embedded in the structure of the U.S. tax code.
In addition, tax increases that took effect last year have the potential to hit married couples harder than single individuals, especially when both spouses earn high salaries (and/or have investment income).
One study found that married couples who stayed married built as much as four times more wealth over their lifetimes compared with their single or divorced counterparts.1 Still, couples who aren’t aware of a looming marriage penalty could be surprised by a higher bill at tax time.
Many middle-income couples could receive a tax benefit from being married.2 When one spouse makes significantly less money than the other or doesn’t have a job, their combined income — while taking advantage of deductions and exemptions for both spouses — may fall into a lower tax bracket, so the family may actually pay less in taxes overall.
Two partners with similar incomes are more likely to encounter a penalty — generally once a couple’s combined taxable income rises above the 25% tax bracket — simply because the joint income thresholds of higher brackets are less than double the amounts for single filers.
Higher-income couples tend to take the biggest hit, because there is only a $50,000 difference between the thresholds for single filers ($406,750) and joint filers ($457,600) in the top 39.6% bracket created by the American Taxpayer Relief Act of 2012. The same tax law reinstated a phaseout of personal exemptions (PEP) and the limitation of itemized deductions (Pease) starting at $254,200 of adjusted gross income (AGI) for single filers and $305,050 for married joint filers in 2014 (these thresholds are indexed annually for inflation).
In addition, two new taxes associated with the Affordable Care Act took effect in 2013: a rather complex 3.8% income tax on net investment income and an additional 0.9% Medicare tax on earnings above unindexed thresholds — $200,000 AGI for single filers and $250,000 AGI for joint filers. To see this type of marriage penalty at work, consider that two single individuals, each earning $200,000, wouldn’t owe the 0.9% Medicare tax, but if married they would likely pay an extra $1,350.
It’s important for married taxpayers to arrange employer withholding to cover taxes based on their combined incomes; otherwise, they could end up paying out of pocket at tax time. In most cases, filing separately is unlikely to ease the situation.
Contributing more money to tax-deferred retirement accounts could help some married workers stay below certain income thresholds and reduce their tax liability. Many couples may find it helpful to estimate their taxes at least once before year-end, when there might still be time to make adjustments.
1) Today.com, February 13, 2013
2) Tax Foundation, 2013
The information in this article is not intended to be tax or legal advice, and it may not be relied on for the purpose of avoiding any federal tax penalties. You are encouraged to seek tax or legal advice from an independent professional advisor. The content is derived from sources believed to be accurate. Neither the information presented nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. This material was written and prepared by Emerald. © 2015 Emerald Connect, LLC