July 15, 2001 Tax Law I - Cinderella Tax Law You heard that Congress passed President Bush`s radical tax law and you think you can surmise it is Bush`s Tax Law, but you would be wrong because it really seems to have been given to us by Cinderella`s fairy godmother. All the provisions disappear at midnight, like Cinderella`s gown, carriage, horse and horsemen, to be exact; on or before midnight, December 31, 2010. On January 1, 2011, it is as if we are back to December 31, 2000. Enjoy it while ye may! To Republicans, this tax bill was not enough; to Democrats, it was too much. So the Senate Democrats backloaded it so the real tax relief does not start until 2006, five years from now. Because the law phases in the tax rate reductions, wise taxpayers will defer income and accelerate deductions like mortgage interest and charitable contributions. Additionally, estate and income tax planners will have a bonanza because the law will be held hostage for the next nine years by the Democrats. They merely need to obtain control in the next nine years of either the Presidency or one of the houses of Congress in order to block the renewal of the law. The prevailing government logic is that the tax surplus is supposed to last for ten years, until the baby boomers retire and then larger tax revenues will be needed by soaking the baby bust and echo boom generations. If the surplus still exists, then the lower taxes can be extended for as long as the surplus lasts. I will discuss the law in this and the next two newsletters. In this one, I will discuss the personal income tax changes that affect you, in the August issue the retirement tax changes and finally in September, the Estate and Gift Tax Changes. Tax Rate Reduction Individual Tax Rates will decline beginning July 1, 2001 with reductions fully implemented by 2006. A new 10% tax bracket will apply retroactive to January 1, 2001. To swiftly deliver the benefits of the new lower bracket this year, the law provides for a tax credit of 5% (the difference between the old 15% and the new 10% rates) that will be provided as the much talked about tax credit. Single and married filing separate taxpayers will be eligible to receive up to $300, heads of households up to $500 and marrieds filing jointly up to $600. Other tax rates will gradually be reduced by 3% and, in general, by up to 1% per year with this year being a 1% drop in rates as of July 1, 2001 which means an effective rate drop of 1/2 of 1%. When fully phased in the new tax rate structure will be 10%, 15%, 25%, 28%, 33% and 35%. The backup withholding rate of 31% will also decline on July 1, 2001 to 30%. Child Tax Credit Taxpayers can claim a tax credit for each dependent child under age 17 subject to phasing out at certain dollar thresholds. For 2001, the maximum credit increases to $600 per child increasing gradually thereafter to $1,000 in 2010. Dependent Care Credit The amount of dependent care expenses eligible for the credit will increase from the current $2,400 to $3,000 for one eligible dependent and from $4,800 to $6,000 for more than one. The maximum credit percentage will also increase from 30% to 35%. Employer Provided Educational Assistance The exclusion from an employee`s gross income for up to $5,250 of educational assistance provided under an employer`s qualified plan has been made permanent. In addition, it has been extended to graduate courses starting in 2002. Adoption Credit The family values of the Republicans were expressed by equalizing the cost to adopt a child with that of having a child naturally. The adoption credit is permanently extended to cover adoptions of children other than special needs children. For tax years beginning after 2001, the maximum credit is increased to $10,000 per eligible child including special needs children. The phaseout range is increased from a range of $75,000 to $115,000 to a range of $150,000 to $190,000 of modified AGI. In addition, the adoption credit is allowed, permanently, against the Alternative Minimum Tax. For tax years beginning after 2002, the $10,000 credit will be available for special needs adoptions in the year the adoption becomes final, regardless of whether the taxpayer has qualified adoption expenses. Corporate Estimated Tax Payments The corporate estimated tax payment that would otherwise be due September 17,2001 will be partially delayed, For this payment, 30% will be due on September 17 and the balance will be due on October 1, 2001, (so that the income is in the federal government`s next fiscal year). Marriage Penalty Relief from the marriage penalty begins in 2005 and is fully phased in by 2009. Phaseouts For most tristate taxpayers, phaseouts of itemized deductions and personal exemptions will begin to be repealed in 2006 until they are fully repealed in 2010. Alternative Minimum Tax There are two federal tax systems, one to calculate the regular tax and the other to calculate the alternative minimum tax. The alternative minimum tax is a special tax that applies if it is more than the regular income tax. To figure the AMT, an individual begins with taxable income and adds back deductions not allowed for the AMT and adds back some tax exempt income and then subtracts an exemption amount. The result is alternative minimum taxable income which is subject to an AMT tax rate of at least 26%. Some deductions not allowed are state and local income taxes, real estate taxes, personal exemptions, dependents and unreimbursed employee business expenses. The new law increases the AMT personal exemption The increased exemption amounts will provide some AMT relief but only temporarily. In 2005, the old lower exemption amounts will again apply unless the law is changed. By way of note, this tax is disproportionally found in the states of the Northeast that voted for Mr. Gore. This tax, the one that was supposed to only affect millionaires, affects approximately 5% of all my clients. If you have questions about these or any other tax and financial matters, please call us. Remember, We`re Here For You!