Tax law changes may affect you
Feb 4th, 2008 by Afiya
Within the past few months, Congress has quietly passed legislation that contains significant changes to federal income tax laws. Some of these changes might affect your 2007 tax return.
The Alternative Minimum Tax, originally designed to ensure that high-income taxpayers pay their fair share of taxes, has affected a growing number of middle-income Americans in recent years because the exemption amounts have not been adjusted for inflation.
Although the changes aren’t nearly significant enough, the Tax Increase Prevention Act of 2007 will relieve thousands of taxpayers from the AMT burden, at least for one year.
For 2007 tax returns, the exemptions are increasing from their 2006 levels as follows:
- Single and head of household: from $42,500 to $44,350;
- Married filing jointly: from $62,550 to $66,250;
- Married filing separately: from $31,275 to $33,125.
The act also allows taxpayers to use most of their personal credits that were previously not refundable to offset AMT liability for 2007.
The Mortgage Forgiveness Debt Relief Act also became law at the end of 2007. Previously, the amount of a forgiven or discharged debt has been included in the debtor’s taxable income.
In an attempt to avoid compounding the problems created by the subprime mortgage crisis, the new law will permit taxpayers to exclude up to $2 million of forgiven home-equity debt that was incurred for the purchase, construction or improvement of a primary residence. This legislation provides tax relief from Jan. 1, 2007, through Dec. 31, 2009, but it doesn’t give the taxpayer a free ride: the amount of reduced taxable income reduces the cost basis of the residence dollar for dollar, potentially increasing the future capital gain when the residence is eventually sold.
A provision attached to the Mortgage Forgiveness Debt Relief Act provides additional tax relief to surviving spouses who sell their primary residence after Dec. 31, 2007. A surviving spouse may now exclude up to $500,000 of gain from the sale of a residence, as long as the sale would have met the holding period and primary residence qualifications for the exclusion as of the deceased spouse’s date of death, and if the sale takes place within two years from the date of death. Prior to enactment of this legislation, only $250,000 of the gain was excludable from the seller’s income when the sale took place after one spouse’s death.
One method the IRS has used in the last several years to increase tax revenues without increasing the actual tax rates has been to phase out itemized deductions and personal exemptions for taxpayers whose income exceeds certain amounts. For 2007, the income exemptions for those phaseouts have been increased. The standard deduction has increased for most taxpayers as well.
The maximum allowable 2007 IRA and Roth IRA contribution remains at $4,000, or $5,000 for taxpayers age 50 and older by the end of 2007. For 2008, the contribution limits are increasing to $5,000 and $6,000, respectively. You have until April 15, 2008, to make your 2007 contribution.
If your modified adjusted gross income falls between the following amounts, your ability to contribute to a Roth IRA will be phased out. You can no longer make Roth contributions if your income exceeds the upper amounts.
- Single, head of household: 2007-$99,000-$114,000, 2008-$101,000-$116,000;
- Married filing jointly: 2007-$156,000-$166,000, 2008-$159,000-$169,000.
Your ability to make deductible contributions to a traditional IRA will depend upon whether you (and/or your spouse, if married) are a participant in an employer’s retirement plan, but income levels have increased.
Taxpayers in the 10 and 15 percent federal brackets will pay no taxes on dividends or long-term capital gains for tax years 2008 through 2010.
The recent changes haven’t all been in favor of the taxpayer, however. For example, tax law has historically disallowed a loss if a taxpayer who sells a security in a taxable account at a loss repurchases substantially identical securities within 30 days.
In the past, creative investors have attempted to circumvent this regulation by re-purchasing the security in an IRA or Roth IRA. The IRS has recently issued a revenue ruling, which clarifies its informal position that such a strategy will also result in the disallowance of the loss. Since the ruling does not stipulate an effective date, it will apply retroactively to prior transactions.
Recent changes to the “Kiddie Tax” rules have significantly reduced parents’ ability to lower their taxes by shifting income to their children. Beginning in 2008, unearned income over $1,800 of children under age 19, or dependent full-time students under age 24, will be taxed at their parents’ marginal rate.
These are just a few of the tax law changes that might affect you. For additional information, visit www.irs.gov and search “tax law changes.”
Elaine Morgillo is a Certified Financial Planner and president of Morgillo Financial Management Inc. She has offices in York, Maine, and North Andover, Mass., and can be reached at emorgillo@morgillofinancial.com
