Currently the maximum federal tax rate for qualified dividends and long-term capital gains is 15%. This is great for people like Warren Buffett, who live off of investment income. However, these low tax rates for wealthier investors will soon be a thing of the past.
Unless legislation is passed to continue the current rates for qualified dividends, next year all dividends will be taxed at ordinary income rates. The top rate for ordinary income, currently 35%, goes up to 39.6% in 2011. Then, in 2013, the 3.8% investment income surcharge kicks in, making the total maximum rate 43.4%.
The long-term capital gains rate will increase to 20% next year, and the surcharge beginning in 2013 will mean the top rate will be 23.8%.
These hefty tax increases will trigger a greater interest in tax deferral strategies such as cash value life insurance and tax-deferred annuities, and may motivate more intra-family income shifting strategies such as limited liability companies.