For a change, there aren’t many tax law changes to digest this year. Many of the changes are the result of pre-2007 tax legislation with delayed effective dates.
Beginning with donations in 2007, you need to have a bank record or receipt to back up any money donation that you claim on your return. This is a major change from the old recordkeeping rules, which only kicked in at the $250 donation level. You don’t need to send in the back-up—just keep it for your records.
As Congress adjourned for the holidays in December, it passed anxiously-awaited AMT legislation preventing an estimated 20 million Americans from having to the pay the AMT for 2007.
The AMT began life as a defense against wealthy taxpayers who deducted their way out of paying income tax. Thanks to lower tax rates and inflation, the AMT has extended its reach to affect many people beyond the original intent. To turn back the clock on this process, each year Congress gives taxpayers a one-year reprieve by bumping up the AMT exemption and allowing popular personal credits such as the child care credit to reduce the AMT. The exemption is like a standard deduction for the AMT, and protects the not-so-wealthy from the AMT’s sting.
Our November 2007 release of TaxCut used the lower personal exemptions that the law reverted to at the end of 2006—$45,000 ($33,750 if you file a single return), and didn’t allow certain personal credits for the AMT.
Now that Congress has enacted AMT relief for 2007, the exemptions are $66,250 for joint returns ($44,350 if unmarried) and personal credits other than the hybrid vehicle credit may be applied against AMT.
Previously, taxpayers who paid alternative minimum tax (AMT) due to an unusual item on their return, such as having exercised an incentive stock option (ISO), could claim the AMT back as a credit in later years when they didn’t owe AMT. This seemed to work well until the dot-com bubble burst. When this occurred, some people were whipsawed by the AMT rules. They had to pay AMT on paper ISO profits that evaporated, but the AMT credit rules weren’t powerful enough to make them whole.
To remedy this situation, Congress has decided to allow these people, and any others with long-term unused AMT credits, a more potent credit. The new rules allow a larger credit that’s refundable. You can claim the credit in the form of a refund even if you don’t have enough tax to offset the credit.
Beginning in 2007, you can either make a one-time transfer of a balance in a flex spending account or a health reimbursement account to a health savings account (HSA), or you can make a one-time, once-in-a-lifetime rollover from an IRA to an HSA. In addition, deductions are no longer limited to the annual plan deductible, and the part-year coverage contribution limit has been expanded. We cover the details in our HSA interview.
You may be able to deduct your mortgage insurance premiums along with your mortgage interest if you took out the mortgage insurance policy in 2007. Premiums for private mortgage insurance (as defined in section 2 of the Homeowners Protection Act of 1998 as in effect on December 20, 2006) and mortgage insurance provided by the Veterans Administration, the Federal Housing Administration, and the Rural Housing Administration are eligible for the deduction. The deduction begins to phase out when your adjusted gross income reaches $100,000 ($50,000 if married filing a separate return).
Late in 2007, Congress passed a bill to help out homeowners whose lenders have forgiven their home mortgage debt. Cancellation of debt income generally must be included in income; under the relief legislation you can exclude qualifying home mortgage forgiveness from income. The exclusion is capped at $2,000,000 of forgiven debt ($1,000,000 if married filing a separate return) and is available if the loan was used to buy, build, or substantially improve your main home and the mortgage was on that home.
Due to higher oil prices, the standard mileage rate for business-related driving in 2007 is 48.5 cents a mile, up from 44.5 cents in 2006. Other mileage rates in 2007 are:
Charitable volunteer work—14 cents per mile
Medical treatment—20 cents per mile
Moving—20 cents per mile
Contribution limits for both IRAs and 401(k)s will increase in 2008, to $5,000 for IRAs and $16,000 for 401(k)s. If you’re age 50 or over at any time in 2008, you can add a catch-up contribution of $1,000 for IRAs and $5,000 for 401(k)s.
Wealthy taxpayers have been on the sidelines for the popular Roth IRA, unable to either convert an existing IRA or contribute funds to a Roth due to income cutoffs. This will change in 2010 when the income cap on conversions will be lifted, and the conversion tax can be spread over 2011 and 2012. Sound strange? It’s all part of a budget gimmick. When Congress enacted the new rule, it anticipated a surge of conversions in 2010, with an accompanying surge in tax revenues from the taxes due on the conversions. The extra revenue went on the plus side of the ledger when Congress scored the tax bill that included the new rule, while the tax savings that Roth owners will enjoy in the future wasn’t considered at all because the timeframe was beyond the range of years used in the analysis.
If you have a high income, you may have noticed that each year you have to give back some of your itemized deductions and personal exemptions. This is the other stealth tax—in addition to the AMT—that high-income individuals must contend with. It’s called a phaseout, and the way it works is the higher your income, the less you can claim of your itemized deductions and personal exemptions. Back in 2001, Congress decided that the stealth tax wasn’t a good way to raise revenue, and repealed it in slow motion. Between 2006 and 2009, the itemized deductions and personal exemption phaseouts are being reduced one-third at a time, until they disappear altogether. The next scheduled reduction is in 2008.
Many home sales are tax-free due to the $250,000 home sale gain exclusion ($500,000 for joint filers). Recognizing that many widows and widowers sell their homes within a short time of losing their spouse, but after the year in which their spouse died, Congress decided to allow eligible widow(er)s to use the $500,000 home sale gain exclusion cap if the sale is after the year their spouse died and no more than two years after their spouse died. This new rule takes effect in 2008.
On February 13, President Bush signed the Economic Stimulus Act of 2008. The idea behind the bill is that encouraging individuals and businesses to spend money will prevent or shorten a recession.
Some of the Act's $170 billion in tax benefits may be headed your way as early as May 2008 in the form of a rebate check or direct deposit from the U.S. Treasury. Here's how it works:
The stimulus legislation also gives businesses more generous depreciation deductions by modifying the Section 179 write-off, bonus depreciation, and luxury automobile rules.
Stay alert for developments that affect you and your tax bill, and check for updates at www.taxcut.com.