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Tax breaks under the Working Families Tax Relief Act of 2004.

Despite deficit concerns, Congress passed a tax package creating $146 billion in new tax breaks (H.R. 1308). Many of the breaks are temporary extensions of expired or expiring provisions, while some of the breaks will not take affect until 2005.

Breaks for Families

Child tax credit. The child tax credit was scheduled to decrease in 2005 to $700; the new law retains the current $1,000 credit amount through 2009. The maximum child tax credit will be $1,000 per child for taxable years 2005 through 2010. Also, the new law accelerates to 2004 the refundable credit to 15 percent of earned income in excess of $10,750 (which will be indexed after 2004). Combat pay, which is generally excludable from gross income, can be treated as earned income for purposes of the child tax credit. Military personnel can elect in 2004 and 2005 to include combat pay in gross income for purposes of the earned income credit--used to determine the refundable amount of the child tax credit.

Marriage penalty relief. The standard deduction for married persons filing jointly remains at double the amount for singles through 2008; it was scheduled to decline to merely a percentage of the standard deduction for singles in 2005. The basic standard deduction for returns will be twice the standard deduction for single returns for taxable years 2005 through 2010. Similarly, the 15 percent tax bracket for married persons filing jointly remains at double the size for singles through 2007; it, too was scheduled to decline to a percentage of the bracket for singles in 2005. The size of the 15 percent rate bracket for joint returns will be twice the size of the corresponding rate bracket for single returns for taxable years 2005 through 2010.

Expanded 10 percent tax bracket. The new law extends the size of the 10 percent bracket for 2005 through 2010 at $7,000 for single individuals, $10,000 for heads of households and $14,000 for married individuals with annual indexing from 2003.

AMT relief. As tax breaks continue to reduce the regular income tax burden, an ever-growing number of individuals are becoming subject to the alternative minimum tax (AMT). The new law provides a temporary fix to the problem by retaining the exemption amounts that were increased by the 2003 Tax Act for one more year. The exemptions are scheduled to decline after 2005.

Also, nonrefundable personal tax credits (i.e., dependent care credit, the credit for the elderly and disabled, the adoption credit, the child credit, the credit on interest for certain home mortgages, the Hope Scholarship credit and Lifetime Learning credit, and the credit for savers) continue to offset AMT liability. They were usable for this purpose only through 2003; the new law extends this treatment through 2005.


A cautionary note: Only three nonrefundable personal credits, the adoption credit, child credit and credit for savers, will be allowed for AMT for 2006 and beyond in the absence of further "extended" legislation.

Definition of qualifying child. The Internal Revenue Code contains several different definitions of a qualifying child. After 2004, a single definition will apply for the purposes of the dependency exemption, the child tax credit, the earned income credit, the dependent care credit and head of household filing status. This provides simplification to an estimated 40 million taxpayers.

A qualifying child is a child who satisfies three tests:

1. The child has the same principal place of abode as the tax-payer for more than half the year.

2. The child has a specified relationship to the taxpayer (son, daughter, stepson, stepdaughter, brother, sister, stepbrother, stepsister or descendant of any such individual, as well as a child placed by an adoption agency or a legally placed foster child).

3. The child has not attained a specified age. The age varies with the benefit (e.g., under age 13 for the dependent care credit).

The new definition eliminates the need to meet the current law support and gross income tests for the dependency exemption.

Teachers' classroom expenses. The above-the-line deduction of up to $250 for classroom expenses that expired at the end of 2003 was extended through 2005.

D.C. first-time homebuyer credit. The tax credit of up to $5,000 for first-time homebuyers in the District of Columbia, that expired at the end of 2003, was extended for two years (through 2005).

Environmentally-friendly vehicles. The 10 percent tax credit for the purchase of a car powered by electricity (up to a maximum of $4,000) and a deduction for the purchase of a cleanfuel vehicle (a hybrid car) of up to $2,000, was scheduled to decrease in 2004 through 2006, and be eliminated thereafter. The new law extends the current breaks through 2005.

Breaks for Businesses

Tax credits. The new law extends the following business tax credits through 2005:

* Work opportunity credit (expired on Dec. 31, 2003).

* Welfare to work credit (expired on Dec. 31, 2003).

* Research credit (expired on June 30, 2004).

* Indian employment tax credit (scheduled to expire on Dec. 31, 2004).

Donations of computers for educational purposes. The enhanced charitable contribution deduction for C corporations that donate computers and peripherals to schools and libraries, that expired at the end of 2003, was extended through 2005.

Environmental remediation costs. The opportunity to expense cleanup costs for contaminated sites, that expired at the end of 2003, was extended through 2005. The deduction applies for both regular tax and AMT purposes.

Archer medical savings accounts. Self-employed individuals and small businesses can save on healthcare costs by supplementing a high-deductible health plan with a savings-type account. These accounts were limited to those set up before 2004. The new law extends the option to use MSAs through 2005. Note: Any individual, not just self-employed persons or those working for small businesses, can use the new health savings accounts if they are covered by a high-deductible health plan.

Technical Corrections

The new law includes more than two dozen technical corrections to seven different tax acts. Two key provisions:

* An increase in the required holding period for stock on which qualifying dividends are paid to 121 days (instead of 120 days).

* A clarification that the maximum amount of adjusted net capital gain eligible for the 5 percent rate under AMT is the excess of the maximum amount of taxable income that may be taxed at a rate of less than 25 percent under the regular tax over the taxable income reduced by the adjusted net capital gain.

Mr. Kess is the author of 25 books on tax related topics. He is probably best known for lecturing to more than 45 State societies and more than 700,000 practitioners on tax and estate planning issues. In 2003 he received special recognition from the AICPA and CCH for his many contributions to the tax profession. He created and moderates the annual AICPA Conference on Tax Strategies for the High-Income Individual. He is a graduate of Harvard Law School and received his L.L.M. from New York University.
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Author:Kess, Sidney
Publication:The National Public Accountant
Geographic Code:1USA
Date:Nov 1, 2004
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