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New Tax Laws That
Could Affect Your 2002 Returns
Another tax season has arrived, bringing with it the perennial changes
in tax law.
The tax code modifications this time range from the very broad (a sixth
tax bracket affecting all taxpayers) to the more specific (a deduction
only for educators). In between are some tax tweaks to help homeowners,
investors, self-employed workers and adoptive parents.
Here's a closer look at 10 new tax rules that could help you save time or
money on your 2002 return:
The 10-percent solution
Lower tax rates created as part of the Bush Administration's sweeping tax
legislation continue to be phased in. In 2002, the 10 percent rate was in
place for the full year, meaning the first few thousand dollars each
individual earned last year were taxed at this new lowest rate. As a
result, plus some inflation adjustment to all the brackets, everyone's tax
bill was cut a bit.
Even better news: There's no confusing rate-reduction credit to worry
about this year like on last year's returns. Since the 10-percent was
effective for all of 2002, it is fully reflected in the Internal Revenue
Service tax tables. You don't have to make any additional computations to
get its benefit.
More investment income, fewer forms
Many investors will find the IRS took a virtual shredder to Schedule B.
This is the sheet on which interest and dividend income of $400 or more
was reported. No longer. Now you can simply put your investment income
amount on form 1040 if your earnings are $1,500 or less and not worry
about additional forms to fill out. The higher limit also applies to 1040A
filers who previously had to submit a Schedule 1.
And the higher limit should make it possible for more taxpayers to use the
simplest return of all, the 1040EZ. Now filers can earn up to $1,500 in
interest and still use this one-page form.
Credit for retirement savings
Credits help reduce your tax bill dollar-for-dollar because you take them
after you figure your final tax bill. On 2002 returns, a new credit could
pay off for some thrifty filers.
Both the 1040 and 1040A forms include the Saver's Credit, a tax break
designed to reward lower-wage earners who contribute to retirement
accounts. An eligible filer could use the credit to reduce his tax bill by
as much as $1,000. The actual tax break depends upon a worker's income,
filing status and just how much he puts into a retirement plan. Basically,
the lower the income, the bigger the credit.
While the Saver's Credit is limited to individuals who make $25,000 or
less ($50,000 for married filers), other retirement-plan enhancements
apply to a broader range of wage earners. The most notable is the
increased contribution amount. You can put up to $3,000 into an IRA,
either traditional or Roth, or $3,500 if you're 50 or older. You have
until April 15 to come up with the cash and have it count toward your 2002
taxes.
Enhanced education savings
A former individual retirement account has a new name and lots of new
tax benefits. Previously known as an education IRA, the Coverdell
Education Savings Account allows participants to put in up to $2,000 a
year to help pay for a child's schooling. In addition, you have longer to
put the money in (until April 15), can use it to pay for more types of
expenses (including some costs at public, private or parochial primary
schools) and can combine Coverdell cash with other favored education tax
breaks.
Student loans
The amount of student loan interest you can deduct remains at $2,500
for 2002, but this year you're no longer limited to deducting interest
paid during the first 60 months of the loan. So those long-term college
loans should be a bit more tax valuable. You also can earn a bit more this
year and still take the deduction: up to $65,000 if you're a single or
head-of-household filer, twice that if married filing jointly. This tax
break is available directly on both 1040 and 1040A forms, meaning a
taxpayer doesn't have to itemize to take advantage of it.
Extra education-related deductions
Two more deductions for filers who don't itemize debut this year. One
lets teachers write off some out-of-pocket expenses; the other is a
deduction for tuition and other school fees. These tax breaks can cut a
tax bill by letting the filer reduce overall income. The less income to
tax, the lower the tax bill.
With the educator expenses deduction, teachers and other public and
private school system employees can subtract from their incomes up to $250
they spent on classroom supplies. The amount is relatively small, but more
taxpayers should be able to claim at least a portion of their
school-related expenditures. In the past, educators could claim such costs
only if they included them as miscellaneous itemized deductions on
Schedule A. Even then, they couldn't be used unless all the filer's
allowable sundry costs totaled at least 2 percent of adjusted gross
income.
Then there's the tuition and fees deduction. If you're eligible to claim
this, you could reduce your taxable income by up to $3,000. You can count
IRS-accepted higher education expenses for yourself, your spouse or a
dependent. The deduction is not available, however, if you make more than
$65,000 or if you used another tax break, such as Coverdell funds or the
Hope or Lifetime Learning tax credits, to pay school costs.
Added adoption assistance
Although college costs for Junior may be down the road for adoptive
parents, they still may be able to take some immediate breaks. The
adoption tax credit helps defray up to $10,000 of adoption expenses,
double the previous credit for costs associated with adopting a child who
does not have special needs. This new amount also is available for
adoptions of special-needs children, previously a $6,000 limit. And the
income level at which the credit is reduced is doubled to $150,000.
Health insurance help for self-employed
If you started your own business on the side to boost income for your
growing family, Uncle Sam offers more help here, too. As part of your
business, did you pay for health care for yourself and your family? Then
you can deduct 70 percent of those premium costs on your 2002 return.
Don't forget to count premiums paid toward long-term care policies. You
get a partial break here, too.
Lower your weight and taxes
Health conscious taxpayers have a new friend in the IRS. On 2002 returns,
weight-loss programs in some instances can count as a deductible medical
expense, joining the stop-smoking programs the agency OK'd a couple of
years ago. But don't try to cheat on your calorie intake or the IRS. The
diet program must be medically necessary. Acceptable situations include,
for example, when a doctor recommends the regimen to reduce the health
risks of obesity or hypertension. And the allowable expenses still must
meet the 7.5 percent income threshold for medical deductions.
Home, sweet home tax breaks
Finally, the IRS has announced some changes that could put more dollars in
homeowners' pockets when they sell.
Years ago, to avoid paying tax on the sale of a residence a homeowner had
to use the sale proceeds to buy another house. In 1997, the law was
changed so that up to $250,000 in sales gain ($500,000 for married joint
filers) is tax free as long as the homeowner owned the property for two
years and lived in it for two of the five years before the sale.
These time limits meant a person who sold before meeting the ownership and
residency requirements owed tax on any profit. The IRS provides some tax
relief if the sale is because of a change in the owner's health,
employment or unforeseen circumstances. In these cases, the tax-free gain
amount is prorated.
But many sellers remained out of luck because, in part, while the law
allowed for a fractional exclusion due to "unforeseen circumstances," the
IRS did not define that term. Now it has, listing events that often force
homeowners to sell and under which they now can get some tax relief. They
include:
- Death
- Divorce or legal separation
- Job loss which entitles the homeowner
to collect unemployment
- Employment changes that make it
difficult for the homeowner to meet mortgage and basic living expenses
- Multiple births from the same
pregnancy
These situations must involve the
taxpayer, spouse, property co-owner or a family member living in the home.
In addition, a partial exclusion can be claimed if the sale was prompted
by residential damage from a natural or man-made disaster or the property
was "involuntarily converted," for example, taken by a local government
under eminent domain law.
Then there are folks who had to pay taxes on part of their sale proceeds
because they worked from home. Previously, when you claimed a home-based
business deduction, you owed tax on that percentage of your home when you
sold. A $100,000 profit on a home where 20 percent of the space was
dedicated to business meant taxes due on $20,000.
The IRS says taxpayers no longer have to allocate gain between business
and residential use if the business was conducted within the residence.
Your home office in the guest house in your backyard, however, still would
be taxable even though that separate structure was part of your overall
home sale.
Homeowners who paid tax on a recent sale and find their circumstances now
qualify for a partial exclusion should file an amended return. Tax law
generally allows for amended returns within three years of the original
filing, so taxpayers who reported gains on returns filed on April 15,
2000, or later are eligible to re-file.
Source: BankRate.com
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