ABC’s of the Fiscal Cliff

Written by: Valencia Higuera

With the race for the White House over, the U.S. turns its attention to debt and the impending fiscal cliff.

The fiscal cliff is a term coined to describe a set of government policies which are scheduled to go into effect or expire on January 1, 2013 — unless the president and Congress can compromise and reach a solution. Together, they must decide whether to continue carrying out these existing policies, postpone these policies, replace them or cancel them.

With upcoming policy changes, the government will increase taxes for consumers and business owners, as well as reduce government spending. While the fiscal cliff may appear to be a practical solution to the nation’s debt problem, thus helping to lower the deficient, many economists believe that the impact of these policies can push the U.S. economy into a recession. According to some predictions, these policies could take more than $500 billion out of the economy.

Here is a summary of the main components of the fiscal cliff:

1. Spending Cuts

Approximately $55 billion will be cut from discretionary defense spending, as well as $55 billion from non-defense spending over a period of 10 years. Non-defense spending includes more than 1,000 government programs, including Medicare and educational programs.

2. Expiration of the Bush Tax Cuts

Temporary tax cuts enacted by President George W. Bush are scheduled to expire on January 1, 2013. As a result, income taxes will increase for all tax brackets. For example, taxpayers who currently pay an income tax rate of 25% and 28% will pay a rate of 28% and 31%, respectively.

Additionally, capital gains rates will rise to 20% from 15%, and the child tax credit will drop from $1,000 per child to $500 per child. Higher-income taxpayers may no longer be eligible for certain itemized deductions, and the expiration of the marriage penalty relief could trigger higher taxes for low and middle-class households.

3. Expiration of the Middle Class Tax Relief and Job Creation Act of 2012

This policy change will increase Social Security payroll tax from 4.2% to 6.2%, thus increasing the amount of taxes paid by people who earn income.

4. Medicare Taxes

Under the Patient Protection and Affordable Care Act, certain employees will pay higher Medicare tax – 2.35% up from 1.45%. Additionally, self-employed people will see an increase in their Medicare taxes – 3.8% up from 2.9%.

5. Unemployment Benefits Extension

Federal extensions for unemployment benefits are set to expire at the end of 2012. This limits the number of months one can receive unemployment benefits. By means of federal extensions, unemployed people received benefits for as long as 99 weeks. With the expiration of extensions, the unemployed will only receive benefits for up to 26 weeks. This will cause many to lose their benefits on January 1, 2013.


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ABC’s of the Fiscal Cliff

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