- Fall/Winter 2005
this newsletter (104K PDF)
Fall/Winter 2005 Tax Client Newsletter brings you up-to-date on
a number of important tax law changes for 2005. As a result of
2005 tax legislation, there are a number of significant tax law
changes affecting you this year and right now.
may be aware through media attention that many of the important
tax law changes are scheduled to "sunset" (go away)
at various dates - some sooner rather than later. You should think
of the "sunset" issue as a future concern and take advantage
of the opportunities that you have today.
you have any questions concerning any of the information being
reported on in the Tax Client Newsletter, please contact my office
to schedule an appointment.
Looking Back to October 2004
the stroke of his pen, President George Bush signed into law two
significant and separate tax bills last year: The Working Families
Tax Relief Act (October 4, 2004) and The American Jobs
Creation Act of 2004 (October 22, 2004). In this Tax Client
Newsletter, the new tax laws are referred to as 2004 Tax Act 1
and 2004 Tax Act 2. Significant provisions of both laws are effective
for 2005 and beyond.
reviewing the 2004 Tax Bills it is important to refresh your knowledge
of the 2003 Tax Act known as the Jobs and Growth Tax Relief
Reconciliation Act of 2003. This Newsletter refers to the
2003 tax legislation as the 2003 Tax Act.
you will read below, the 2005 Energy Bill, the Hurricane
Katrina Emergency Tax Relief Act of 2005, The Working Families
Tax Relief Act of 2004, The American Jobs Creation Act
of 2004 and the Jobs and Growth Tax Relief Reconciliation
Act of 2003 offer a wide-range of tax benefits and challenges
for many taxpayers.
2005 Energy Bill
August 2005, President Bush signed into law the Energy Policy
Act of 2005. While most the Energy Act is forward looking (2006
and beyond), there are provisions in the 2005 Act that might affect
decisions you are making before the end of the year. For example,
the 2005 Energy Act provides two new credits for energy efficient
improvements made to personal residences. While the improvements
must be made after 2005 - the availability of the future credits
might cause you to postpone certain actions now. The eligible
improvements in 2006 include:
home improvements on your principal residence (only your principal
residence). Examples of qualifying improvements include metal
roofs that contain heat-reduction paint; exterior windows; exterior
doors; skylights; insulation materials; systems designed to reduce
heat loss; energy efficient electric heat pumps; electric heat
pump hot water heaters; central air conditioning; circulating
fans, etc. This list is by no means a complete list of the available
new credit (available in 2006) will generally be equal to 30%
of your cost, limited to $2,000 per type of item. There are some
technical rules here (such as ones involving fuel cell property)
which I will be pleased to review with you. You can expect the
market place to take advantage of the available credits through
their marketing plans. In general, the above credits will apply
to property placed in service after 2005 but before
2008. You have time to take advantage of this opportunity.
2005 Energy Act also includes a new tax credit for energy efficient
dishwashers, clothes washers, and refrigerators manufactured in
2006 and 2007. Note that this is a manufacturer's credit and not
a consumer-taxpayer credit!
of the most significant features of the 2005 Energy Act
is a new incentive for the purchase of new hybrid (you must be
the original owner) vehicles. Up until the end of 2005, the tax
laws provide a maximum deduction of $2,000 for the purchase of
"qualifying" energy efficient vehicles. After 2005,
the deduction will be replaced with a new tax credit. In some
cases, the new credit may be as high as $3,400.
new credit for hybrid cars and trucks is made up of two parts.
Part 1 is a "fuel economy credit" and Part 2 is a "conservation
credit." The exact amounts of the credits available for qualifying
vehicles are not available at this time. It has been reported
(unofficial) that the Toyota Prius may qualify for a $3,150 credit
and the Honda Accord only $650.
decision regarding whether to purchase now or later is complicated
and depends on a number of tax-related issues. Again, I will be
pleased to review this issue and your tax situation with you.
While the 2005 Energy Act places a cap on the number of vehicles
that can be sold (and available for the credit), the number is
high enough that you do not have to run to the dealers!
interesting Websites to visit are: www.FuelEconomy.gov
2005 Katrina Emergency Tax Relief Act
their credit, Congress and President Bush reacted in a timely
manner by enacting the Katrina Emergency Tax Relief Act of
2005. While a majority of the Katrina Act provisions are applicable
to persons in the affected areas, there are a number of provisions
that offer tax benefits to many taxpayers regardless of where
normal circumstances, the amount of cash donations to IRS-approved
public charities that individual taxpayers can deduct (on Schedule
A) is limited to 50% of a taxpayer's adjusted gross income. Please
note that charitable deductions are also subject to a special
phase-out rule associated with itemized deductions. In any case,
the very good news is that the 2005 Katrina Act provides
that cash contributions between August 28, 2005 and December 31,
2005 is deductible up to 100% of your AGI. Unfortunately, there
is no change to the rule that limits charitable contribution deductions
to taxpayers who itemize and not to taxpayers who elect the Standard
valuable feature of the 2005 Katrina Act is an addition
$500 exemption (maximum of $2,000) for taxpayers who provide free
housing for a period of 60 consecutive days to an individual/s
displaced by Hurricane Katrina.
2005 Katrina Act increases the mileage rate for Katrina
related charity work. The new rate is 70% of the optional standard
mileage rate. Since the optional standard mileage rate increased
on September 1, 2005 from 40.5 cents per mile to 48.5 cents per
mile, the Katrina charitable mileage rates are 29 cents from August
25-August 31 and 34 cents from September 1-December 31.
Congress set out to address Hurricane Katrina concerns by way
of legislation, the IRS has issued pro-taxpayer administrative
rulings concerning Hurricanes Rita and Wilma.
Deduction for Educator Expenses
the 2004 Tax Act 1, Congress and the President agreed to
restore the special tax deduction available to elementary and
secondary school teachers, administrators, counselors and aides.
The deduction (maximum $250) for out-of-pocket expenses expired
on December 31, 2003. The good news is that the above-the-line
deduction is back and it was restored for all of 2004 and 2005.
Message to educators - save those receipts!
National Education Association estimates that the average teacher
spends about $450 per year on out-of-pocket classroom related
expenses. Note that any qualifying expenses above the $250 maximum
may be deducted as non-reimbursed employee business expenses on
Schedule A (as an itemized deduction). Unfortunately, Schedule
A requires that the additional deductible expenses be greater
than 2% of the taxpayer's Adjusted Gross Income.
Tax Bill 2 significantly changed the rules regarding the donation
of vehicles to a charity. Under the new rules (effective January
1, 2005) the donation of a car to a charity can result in a much
lower deduction since the amount of the deduction (in most cases)
will be "limited" to the amount that the donated vehicle
sells for at auction. There are exceptions such as where the charity
uses the vehicle, gives or sells the vehicle to a need family
or substantially improves the vehicle. It is important that you
receive written evidence regarding exactly what the eligible charity
did with your car.
2005 Mileage Rates: A Split Year
Standard Mileage Rate
2006 Mileage Rates
Government has announced that it will delay the release of the
2006 mileage rates. Apparently the government wants to monitor
closely the gasoline prices. The 2006 mileage amounts will be
available by the end of 2005.
Extending Tax Benefits
of the most important features of 2004 Tax Act was the
decision to extend for a period of several years certain tax benefits
that were soon to be expired. The big three include: (1) the 10%
tax bracket (2) the $1,000 child tax credit and (3) marriage penalty
Tax Brackets Reduced
of the most significant features of the recent tax law changes
was the lowering of income tax brackets. The 2001 Economic Growth
and Tax Relief Reconciliation Act provided that individual marginal
tax rates gradually decline over several years. The 2003 Tax Act
accelerated the reductions. The new tax rates/brackets
New rates are retroactive to January 1, 2003.
Investors Win: Lower Capital Gains Rates
came out a very big winner under the 2003 Tax Act. The
top capital gains rate was lowered from 20% to 15%. The lowest
capital gains rate decreased to 5% from 10%. Note that the lower
rates were effective for transaction after May 5, 2003.
The lower rates are scheduled to expire after 2008.
is no increase in the $3,000 annual limitation on deducting excess
2006 and 2006, the rates are 15% or 5% respectively.
in the lowest two brackets (10% and 15%) will get a one-year bonus
in 2008 when they will pay no federal taxes on capital gains.
The tax is reinstated after 2008.
Investors Win: Dividends Taxed at 15%
dividend income was taxed as ordinary income. Under the 2003 Tax
Act, the top dividend rate was lowered to 15%. Taxpayers in the
lowest two tax brackets pay 5%. This is a very significant change
when you consider the fact that the top rate for dividends was
38.6%. The new lower rates are effective for "qualified"
dividends received after December 31, 2002.
2005 and 2006, the rates are 15% and 5% respectively.
IRS reports that there has been significant confusion on the part
of companies and brokers in reporting whether the dividends are
"qualified" for the lower rates. The problem results
from a special holding period that Congress created. The tax professional
community anticipated this problem and warned the IRS that the
rules were far too complicated for the average taxpayer to deal
with. The IRS has recently taken steps to clarify the "qualifying
dividends" rules - the changes are pro-taxpayer.
line: Not all dividends qualify for the lower rate. There is a
special (more than 60 days in a 120 day period surrounding the
ex-dividend date) holding period. This becomes a very complicated
issue when the dividends are being paid out by mutual funds.
in the lowest two brackets will get a one-year bonus in 2008 when
they will pay no tax on dividend income. The tax is reinstated
Health Savings Accounts
of the most significant tax law changes for 2004 was the introduction
of Health Savings Accounts (HSAs). The HSAs were created in the
Medicare Prescription Drug Improvement and Modernization Act
of 2003. Effective January 1, 2004, HSAs allow deductible
contributions to be set aside to cover medical expenses that are
not covered by a high-deductible medical plan in which the taxpayer-employee
contributor to the HSA - either the employee of the employer -
gets a tax deduction for the contributions going into the HSA,
and then the employee is allowed to withdraw the funds tax-free
in the same year or in a future year to cover their unreimbursed
medical expenses. Contributions that are not used in any tax year
may be rolled over for future use. Upon reaching the age of 65,
accumulated funds in an HSA can be withdrawn tax-free to cover
medical expenses or they can be withdrawn penalty-free (but not
tax-free) for any purpose.
Itemized Deduction for State Sales Taxes
Tax Act 2 creates a new itemized deduction for state sales
taxes. While the deduction can only be taken on Schedule A (itemized
deductions) it will be a benefit to taxpayers who live in states
that do not have a state income tax. Those states include: Alaska,
Florida, Nevada, South Dakota, Tennessee, Texas, Washington and
Wyoming. Tennessee's state income tax is limited to dividends
and interest income. New Hampshire has no income or sales tax.
While Alaska does not have a sales tax, there are some local taxes.
deduction is available to all taxpayers. It is not taken in addition
to your state income taxes but in place of such. It is not likely
that most taxpayers in the remaining states with a state income
tax will find this an attractive alternative.
electing to deduct state sales taxes may rely on their actual
receipts or make use of state sales tax tables that the IRS releases
in Publication 600. In some cases additional state sales taxes
for expensive purchases may be added to the IRS tables.
bottom line here is that many more taxpayers will qualify to itemize
their deductions, rather than using the standard deduction. Unless
Congress acts, the popular deduction for state and local sales
taxes will expire at the end of 2005.
Tax Deduction for Tuition and Fees
above-the-line deduction for higher education expenses increased
in 2004 based on the 2001 Tax Act. The maximum deduction
increases to $4,000 for 2004 and 2005 (was $3,000). In addition,
some taxpayers who were not eligible for the deduction based on
their adjusted gross income are now eligible for a maximum $2,000
deduction. Unless Congress acts, the popular deduction for higher
education expenses will expire at the end of 2005.
of the tax law adjustments for 2004 relates to a schedule that
Congress created in the Taxpayer Relief Act of 1997. The
income eligibility limits for a deductible IRA contribution
increases to a range of $50,000 to $60,000 for single taxpayers
and $70,000 to $80,000 for a married couple filing jointly.
maximum IRA contribution for 2005 is $4,000 and an additional
$500 for taxpayers who are 50 years of age or older in 2005. Note
that the contribution limits in 2006 will be $4,000 and an increase
in the additional catching-up to $1,000.
IRAs continue to be an attractive investment option. The generous
AGI test ($95,000 - $110,000 for singles and $190,000 - $220,000
for married couples) makes this form of retirement savings available
to many taxpayers. Unlike the traditional deductible IRA, the
Roth IRA does not provide a current tax deduction but does provide
future tax-free growth. Two other benefits to the Roth IRA and
1) there are no minimum mandatory distribution rules and 2) you
can contribute to a Roth as long as you are working - no age limits.
amount of money that eligible taxpayers may contribute to a Roth
IRA in 2005 is $4,000 plus $500 catch-up (if 50 or older). For
2006, the contribution limits are $4,000 plus $1,000 in catch-up.
Traditional IRAs and Roth IRAs
Starting in 2009, the contribution amounts will be indexed for
NEW Roth 401(k) Plans
January 1, 2006, eligible employees may participate in a 401(k)
plans that operates like a Roth IRA with one big exception. There
is no Adjusted Gross Income test associated with the Roth 401(k)
plan. Since the account is designated as a Roth 401(k), the taxpayer-employee
pays taxes on the amount of the contributions now and receives
the tax-free reward later. The contribution limits on Roth 401(k)
plans is the same as for other 401(k) plans . Contributions may
be split between traditional 401(k) plans and the new Roth 401(k)
Estate and Gift Tax Rules Update
in the area of estate taxation have produced an increase in the
lifetime exclusion to $1.5 million for 2004 and 2005. The exclusion
goes up to $2,000,000 for 2006-2008. The maximum tax rate for
estate and gift tax for 2005 is 47% and 46% in 2006.
gift tax lifetime exclusion remains at $1 million, as does the
annual $11,000 per recipient (donee) tax-free gifts rule. For
2005, the $11,000 is doubled to $22,000 in the case of joint gifts
from a married couple. For 2006 the annual gift exclusion is $12,000/$24,000
529 College Savings Plans rules permit five years worth of gift
giving at one time. In 2005 an individual can contribute $55,000
to a 529 Plan and a married couple can contribute $110,000 to
a 529 Plan without any federal gift tax implications. While there
is a reporting requirement - no taxes will be owed on the gifts.
Bush's Tax Advisory Panel
November 1, 2005, President Bush's Tax Advisory Panel delivered
its final report to Treasury Secretary John Snowe. The report
created some controversy ever before it was released. The panel,
which began its work on February 16, offers two choices for changing
the tax system.
A calls for Streamlining the Income Tax by:
only 4 tax brackets
the home-mortgage interest deduction
the deduction for state and local income taxes
the AMT (and this alone will cost lots of money)
the tax on dividends
the tax on long-term capital gains
B is called the Progressive Consumption Tax. This proposal calls
5 tax brackets
a new "family credit"
a new "savers credit"
an incentive for dividends from a corporation's domestic activities
all taxpayers to deduct gifts to charities
above discussion is only part of what the Advisory Panel has proposed.
The next step is for the Treasury Department to review the report
and make recommendations to President Bush and Congress.
Did you know?
COLA increase for Social Security recipients is 4.1%. The 2005
increase was 2.7%.
Medicare Part B premiums are up 13% to $88.50 a month. The 2005
increase was 18%
2006 FICA wage base is $94,200. The 2005 FICA wage base was
2006, 161 million taxpayers will pay FICA taxes.
2006, 11.3 million taxpayers will pay higher taxes as a result
of the increase in the
FICA wage base.
Standard Deduction will likely be $10,300 for a married couple
filing jointly, $7,550 for Head of Household and $5,150 for
single taxpayers and married filing separately.
will likely be worth $3,200 in 2006.
year relief from AMT is estimated to cost as much as $22.6 billion.
new (2005) uniform definition of a child will make it harder
for some taxpayers to qualify for He ad of Household filing
2006 the exempted amount of annual gift giving will increase
($11,000 in 2005). $24,000 exclusion in the case of a married
couple making a joint gift.
2004 Tax Acts provide tax benefits for millions of taxpayers.
The bulk of the 2004 Tax Acts are effective for year 2005 and
Tax Act 2 is substantially a corporations/manufacturers Act.
2004 Tax Act 2 changes the rules for certain vehicle donations
(effective 2005), closes the so-called SUV loophole (effective
October 22, 2004), and creates a new itemized deduction for state
sales taxes for 2004 and 2005.
2003 Tax Act has been described as a bumpy series of starts
and stops - in some cases accelerating for brief periods some
provisions of the 2001 Tax Act, providing short-term business
investment incentives, and dramatically reducing income tax rates
on capital gains and dividends for a short period of time.
2005 Energy Act offers some interesting new tax credits
for energy efficient improvements to a personal residence. The
improvements must be made in 2006 or 2007. The 2005 Energy Act
creates a new tax credit (not a deduction anymore) for certain
new hybrid vehicles.
2005 Katrina Act offers tax benefits to taxpayers in and
out of the Hurricane affected areas.
into the crystal ball - 2006 will bring a national debate over
the subject of tax reform and proposals including abolishing the
tax code and replacing it with a national sales tax, consumption
tax or flat tax. While the President's Tax Advisory Panel has
not advocated a national sales tax or consumption tax the ideas
will be discussed. Each of the proposals will require careful
study and debate. Say what you want about the Advisory Panel -
some interesting ideas are up for discussion.
for its part must address expiring tax benefits. Scheduled to
expire at the end of 2005 are the 1) sales tax deduction, (2)
tuition and fees deduction and (3) educator's expense deduction.
The idea of making the 2001 tax cuts permanent will be under consideration
as will the repeal of the federal estate tax.
is not likely that the favorable tax rates on capital gains or
dividends will be changed in any negative way during 2006.
Security reform appears was high on President Bush's 2005 economic
agenda. President Bush endorsed the idea of establishing "limited"
private accounts out of Social Security savings. The word "inside
Washington" is that Social Security reform is off the table
for now and with 2006 being a congressional election year - likely
off the table until 2007.
always your individual focus should be on how the tax law changes
affect you and how the tax law changes may benefit you.
you for reviewing the Fall/Winter 2005 Tax Client Newsletter and
for the opportunity to serve as your tax professional.