Taxes Set To Soar & Punish Productive Americans

The new Medicare tax on investment income and an increase in capital gains and dividend taxes means investors will soon face much higher costs.

Productive Americans beware: Desperate to raise money to fund its profligate lifestyle, Congress is in confiscatory taxation mode.

By 2013, investment taxes for wealthy Americans will rise to roughly 24% from the current level of 15%. The tax applies to roughly 1 million individuals who earn over $200,000 and 4 million couples who rake in more than $250,000.

While this group makes up just 2% of the population, it's a far bigger driver of market activity than the other 98%.

In addition, the higher rates aren't tied to inflation, meaning middle-class Americans will eventually price into the group.

The psychological impact may be profound in the market. With the U.S. economy still reeling in the aftermath of the worst recession since the 1930s, investors have more reason to show caution in the near term.

"You'll probably see more of a sideways pattern in the stock market over the next few years, but it's a little muddy as to how the higher taxes might factor in," said Linda Duessel, equity market strategist at Federated Investors.

With some of the 2003 tax cuts expiring at the end of this year, wealthy Americans will likely see a boost in long-term capital gains taxes to 20% from 15%.

Starting in 2013, they'll also pay additional Medicare taxes - an extra 0.9% of their wage income and an extra 3.8% on investment income.

For many investors, the rally over the last 12 months only served to cut or erase the losses they racked up in 2008's bloodletting.

Having only just recovered some or all of their holdings, investors may see the threat of higher taxes as a catalyst to bail, said Ken Grant, partner at Waterstone Private Wealth Management.

"If you're thinking of selling and you know you're going to see a tax of 20% in 2011 and 15% in 2010, you're going to sell ahead of the higher rate that's coming," Grant said.