Though there are a handful of tax-law changes to smile about as you begin to contemplate the upcoming tax season, overall this years changes likely will give you little to cheer, tax advisers here say.
Most of this years tax-law changes were included in the Pension Protection Act of 2006, which took effect Aug. 17. In it are provisions that accountants here say will benefit taxpayers, including one aimed at charitable contributions by seniors and another that makes permanent the ability to make tax-free withdrawals from Section 529 education plans.
More notably, however, is what wasnt included in this years tax billthe extension of some breaks that expired at the end of last year, including the sales-tax deduction made available in the two previous tax years to Washington state taxpayers.
Also, tax advisers now warn that more people are falling under the alternative-minimum tax, and the Internal Revenue Service is stepping up its efforts here to pursue taxlaw abusers.
First, the good news.
One of the provisions in the Pension Protection Act benefited seniors who withdraw money from an IRA and donate it to a charity, says David Green, a tax partner at the Spokane office of Seattle-based Moss Adams LLP. Taxpayers who are at least 70 1/2 years old now can donate up to $100,000 a year directly to a qualified charity from their IRA without paying taxes on the donated amount, Green says. In addition, they can count that donation toward their required minimum IRA distribution for the year.
In the past, a donor had to recognize withdrawals from an IRA as income if he or she donated that money to charity. While the new provision isnt a tax deduction, taxpayers now can avoid paying taxes on the donated amount, he says. It applies for the 2006 and 2007 tax years only.
For the average person this is no big deal, but for the high-income folks, its attractive because it saves a little bit on taxes, Green says.
Another provision makes permanent a rule that allows for the tax-free withdrawal of funds from whats known as a 529 education-savings fund, he says.
Such plans allow people to put away money for college in accounts that can grow tax-free, then withdraw the funds to pay for qualified higher education expenses, but the withdrawals had been due to become taxable again after 2010, he says.
This is good because an account for your 15-year-old would have been exempt, but one for your 5-year-old would have been subject to tax, he says. This allows more people to plan for their childrens education.
Andrew McDirmid, a partner at Spokane-based McDirmid, Mikkelsen & Seacrest PS, says there are other potentially beneficial changes this year, including provisions that:
Grant permanent status to the savers tax credit, which provides taxpayers with low to moderate incomes a special tax credit of up to $1,000 for contributing to workplace retirement-savings plans. The law, which indexes the credit to inflation, was set to expire after this year.
Grant permanent status to the Roth 401(k), one of the temporary retirement-related savings provisions under the Economic Growth and Tax Relief Reconciliation Act of 2001 that was set to expire after 2010.
Other provisions in that bill that have been granted permanent status are higher annual contribution limits for IRAs and workplace 401(k) plans, and catch-up contributions to IRAs and the workplace retirement-savings plans for individuals age 50 and older.
Allow non-spouse beneficiaries who inherit assets from workplace retirement-savings plans to transfer those funds to an inherited IRA directly, starting next year.
Allow direct rollovers from retirement plans to Roth IRAs, starting in 2008.
Allow taxpayers to deposit tax refunds directly into an IRA, starting in 2007.
Chris Hesse, director of taxation for Spokane-based LeMaster & Daniels PLLC, says taxpayers should be aware of some important provisions that have expired and wont be available for the 2006 tax year unless Congress passes new laws soon.
Most significantly to people living in Washington state, the deduction for sales-tax payments expired at the beginning of this year, Hesse says. In the 2004 and 2005 tax years, federal taxpayers could choose to deduct either state income taxes or state sales taxes from their taxable income. Since Washington doesnt have an income tax, the provision meant an additional itemized deduction for residents of the state.
Congress can pass a law to extend the sales-tax deduction retroactively to include this year, but must do so by Dec. 31, Hesse says.
Green says taxpayers who are wondering whether to buy a pricey item, such as a car or boat, this year, shouldnt wait to see if Congress will retroactively extend the sales-tax deduction.
Nobody should let the tax tail wag the dog, Green says. Theres no guarantee Congress will even extend it to next year (either), so you should decide whats best financially and then see if you can improve your situation through the tax code.
Another provision that expired this year is the research and experimentation tax credit, Hesse says. Under that provision, a business that does research to develop or improve a product can receive a tax credit for the costs of doing that research, in addition to expensing those costs, he says.
Several other expired tax-relief measures havent been extended yet, and taxpayers should talk to their tax advisers to get more details, Hesse says.
Meanwhile, the tax law has gotten stricter about small charitable donations, Green says.
Beginning last Jan. 1, donors who give any amount of cash to a charity must have a bank record, cancelled check, or written communication from the charity documenting the donation, he says. In the past, donors could rely on oral testimony alone for donations of less than $250.
When youre dropping $20 into the church plate, make sure you write a check or use the envelope system so the church can write you a receipt, Green says.
In terms of noncash contributions, individuals, partnerships, and S-corporations as of Aug. 17 can only donate clothing and household items in good, used condition or better to receive a tax deduction, he says. The exception to that rule is for single items that have an appraised value of more than $500.
This means no more junk, Green says. The IRS was concerned that people were dropping off garbage and claiming over-inflated contributions.
Alternative minimum tax
One aspect of tax law that hasnt changed, but is applying to more taxpayers, is the alternative-minimum tax, says McDirmid, of McDirmid, Mikkelsen & Seacrest. Under that law, individual taxpayers who take a large number of deductions or write-offs, enabling them to pay little or no tax, can be subject to an alternative-minimum tax, or AMT. A taxpayer pays the larger of the alternative-minimum tax or the amount of tax owed after the deductions.
The AMT was intended to prevent wealthy individuals from finding loopholes to avoid taxes, but it hasnt been indexed for inflation, so the number of people who are subject to the tax has been increasing, particularly in the middle-income category, McDirmid says.
The alternative-minimum tax is sneaking up on people who have never paid attention to it before, McDirmid says. Its surprising more and more people, and will continue to do so in 2006 and 2007.
Meanwhile, both McDirmid and Hesse have noticed increases in the number of IRS auditors working here and the number of audits being performed. Although the IRS disclosed plans to conduct more audits nationally last year, Hesse says the aggressive tactic didnt hit here until recently.
As a taxpayer, I appreciate that the government is looking out for the budget, and that people pay the amount of tax theyre supposed to pay, Hesse says. But there are times when weve had to meet with the auditors and defend against the IRS wanting to add more income to the tax return.
Contact Emily Brandler at (509) 344-1265 or via e-mail at email@example.com.
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