Tax Tips for Individuals

A CPA's Guide For Taxpayers

INTRODUCTION

There are some important changes which take affect in 2003 that could affect your estimated tax payments for 2003. More information on these and other changes can be found in IRS Publication 553.

NEW TAX LAWS IN 2003 

Standard mileage rates. For tax years beginning in 2003, the standard mileage rate for the cost of operating your car decreases to 36 cents a mile for all business miles driven, 12 cents a mile for the use of your car for medical reasons, and 12 cents a mile for the use of your car for determining moving expenses.

Lifetime learning credit. Beginning in 2003, the amount of qualified tuition and related expenses you may take into account in figuring your lifetime learning credit increases from $5,000 to $10,000. The credit will equal 20 percent of these qualified expenses, with the maximum credit being $2,000.

Student loan interest deduction. Beginning in 2003, the modified adjusted gross income ranges for phasing out the student loan interest deduction may be adjusted annually for inflation.

Estimated tax safe harbor for higher income individuals. For estimated tax payments for tax years beginning in 2003, the estimated tax safe harbor for higher income individuals (other than farmers and fishermen) has been modified. If your 2002 adjusted gross income is more than $150,000 ($75,000 if you are married filing a separate return for 2003), you must have deposited the smaller of 90 percent of your expected tax for 2003 or 110 percent of the tax shown on your 2002 return to avoid an estimated tax penalty.

Child and dependent care credit. Significant changes to the child and dependent care credit take effect in 2003. The credit amount can be as much as 35 percent (previously 30 percent) of your qualifying expanses. The maximum adjusted gross income amount that qualifies for the highest rate increases to $15,000 (previously $10,000). The limit on the amount of qualifying expenses increases to $3,000 for one qualifying individual and $6,000 for two or more qualifying individuals. The amount of income that is treated as having been earned by a spouse who is either a full-time student or not able to care for himself or herself increases. This amount increases to $250 a month if there is one qualifying individual and $500 a month if there are two or more qualifying individuals.

Tax benefits for adoption. Beginning in 2003, the adoption credit and the exclusion from income of benefits under an adoption assistance program for the adoption of a child with special needs is $10,160 regardless of the amount of qualified adoption expenses. The modified adjusted gross income limit will be adjusted annually for inflation.

Retirement savings plans:

Traditional IRA income limits. If you have a traditional IRA and are covered by a retirement plan at work, the amount of income you can have and not be affected by the deduction phase-out increases. The amounts vary depending on filing status.

Deemed IRAs. For plan years beginning after 2002, a qualified employer plan (retirement plan) can maintain a separate account or annuity under the plan (a deemed IRA) to receive voluntary employee contributions. An employee's account can be treated as a traditional IRA or a Roth IRA.

Limit  on  elective  deferrals. The maximum amount of elective deferrals under a salary reduction agreement that can be contributed to a qualified plan increases to $12,000 ($14,000 If you are age 50 or over). However, for SIMPLE plans, the amount increases to $8,000 ($9,000 if you are age 50 or over).

Simplified rules for required minimum distributions. There are new rules for determining the amount of a required minimum distribution for a year beginning after 2002. The new rules, including new life expectancy tables, are in IRS Publication 590, Individual  Retirement Arrangements  (IRAs).

Self-employed  health  insurance deduction. You can deduct 100 percent of your self-employed health insurance premiums as an adjustment to income.

THIS YEAR’S BASICS

Standard Deductions
Standard deductions have been adjusted upward from 2001 levels to the following:

If your Filing Status is ...	Your Standard Deduction is:
Single	$4,700
Married filing joint return or Qualifying widow(er) with dependent child	7,850
Married filing separate return	3,925
Head of household	6,900

Exemptions Each personal exemption in 2002 is worth $3,000. You may claim an exemption for any dependent relative, whether a child or a parent, as long as you provide more than half of the support for the relative.

Exemption Phase-Out The amount you can claim as a deduction for exemptions is phased out once your adjusted gross income (AGI) goes above a certain level for your filing status. These levels are as follows:

AGI Level Which Reduces Exemption Filing Status Amount 

Married filing separately	$103,000
Single	137,300
Head of household	171,650
Married filing jointly	206,000
Qualifying widow(er)	206,000

You must reduce the dollar amount of your exemptions by 2% for each $2,500, or part of $2,500 ($1,250 if you are married filing separately), that your AGI exceeds the amount shown above for your filing status. If your AGI exceeds the amount shown by more than $122,500 ($61,250 if married filing separately), the amount of your deduction for exemptions is reduced to zero.

A DOZEN WAYS TO SAVE ON YOUR 2003 TAX BILL

Maximize a 401(k). These retirement plans allow you to defer taxes on the money you put into them. Starting in 2002, the maximum amount you can put into your employer's 401(k) or 403(b) plan starts increasing. The limit is now $11,000, and it sharply increases for the next four years according to the following schedule:

Year	Deferral Limit
2003	$12,000
2004	$13,000
2005	$14,000
2006 and later	$15,000

Every dollar you shift from your salary into the plan saves you tax dollars. For example, if your annual salary for 2002 is $80,000, a deferral of $11,000 will save you $2,970 in taxes if your marginal tax rate is 27%. If it makes sense for your overall financial picture, defer as close to the maximum as possible, especially if your employer matches a portion of your contribution.

Reevaluate IRAs. The IRA contribution limit increases to $3,000 for 2002 through 2004, then $4,000 for 2005 through 2007, topping out at $5,000 in 2008.

If you're 50 years old or over, the news gets better. The new contribution limits are increased and extra $500 for 2002 through 2005 and an extra $1,000 for years 2006 through 2008.

So it might be time to open an IRA account if you haven't done so before. The increased limits apply to both traditional IRAs and Roth IRAs, meaning that you have just as much flexibility as before, but more savings opportunity. However, if you have a limited amount of funds to put toward a retirement vehicle and you can choose between an IRA and your employer's 401(k) plan, consider whether your employer has a matching feature. You may want to channel contributions to the 401(k) plan to obtain the maximum matching possible first before making contributions to an IRA.

Transfer Lump Sums. If you may be changing jobs this year, your options for moving your retirement funds have been expanded. Individual plans permitting, you are now allowed to roll your retirement funds over from one qualified plan, 403(b) annuity or section 457 plan to another such plan.

It's tempting just to cash out retirement funds, but you will be faced with a steep early withdrawal penalty tax of 10%, plus regular income tax on the taxable portion of those funds if you do.

Transferring funds to an IRA is an attractive option, but if you're set on having all of your funds in one place, check with the plan administrator of your new company's plan to see if the new plan will accept rollover contributions.

You can also roll over after-tax contributions to qualified plans or IRAs (via direct transfer only). Previous law permitted only rollovers of pre-tax contributions.

Caution: Your after-tax contributions in an IRA account can't be rolled over to a qualified plan, 403(b) annuity, or a section 457 plan.

Open a Keogh. Keoghs are available to individuals with any amount of self-employment income. Generally, if you qualify, you can contribute to a defined contribution plan and deduct your contribution between 15%-25% (depending on the type of plan) of your net self-employment income, but subject to a maximum of $30,000.

Adjust Withholding. Before the end of the year, match your withholding to your estimated tax liability. If you've moved up to a higher tax bracket, adjust your withholding or you may be hit with an underpayment penalty. Conversely, you may be giving the IRS more than you need to; if you received a tax refund last year, you may want to adjust your withholding, and invest the extra cash.

Shift Income. The new 10% rate bracket in effect for 2002 will provide greater tax savings to your entire family if you shift income-producing assets to your children. A child age 14 or older will be able to take advantage of this 10% rate, just as you will.

Example: If your child reports $6,750 in income in 2002 that you would otherwise report, your child would pay $600 in tax on that income ($6,750 less the child's $750 exemption is $6,000, taxed at 10%). Contrast this with what you would pay on the same income at, say, 35%: $2,362.50.

So now when you move income-producing assets to your children you take advantage of the lower income tax rates. While this general strategy has always been attractive, the new 10% rate makes this strategy even more appealing.

Give Gifts. To minimize the tax burden for your heirs, consider a gift-giving plan. You and your spouse each can give up to $10,000 a year to as many recipients as you wish with no gift tax.

Donate to Charity. As long as you itemize, charitable donations are generally fully deductible up to 50% of your AGI. However, the rules require written documentation for any donation of $250 or more, and for donations of $75 or more where you receive something in exchange. For those who donate appreciated securities, a double tax break is available. Generally, if you have held securities long-term, you can deduct the securities’ fair market value up to 30% of your AGI, and not pay tax on its appreciation. Donating your time and energies to a charity? Certain expenses you incur for charity work are deductible, but documentation is required.

If you're planning on making a sizeable charitable contribution, make it sooner rather than later. Because tax rates are higher now, contributing now garners you a more valuable deduction.

If you're in the 35% tax bracket, a donation of $15,000 in 2002 saves you $5,250 in tax dollars. The same donation in 2006 would save you only $4,950 -- a $300 difference.

Take Advantage of the Expanded College Savings Vehicles. Beginning in 2002, you can contribute $2,000 to an Education Savings Account each year for each student, which is a significant boost from the $500 per-year contribution limit in 2001.

If you contribute $2,000 to an Education Savings Account for 18 years and you earn an average investment return of 8%, you'll have over $80,000 saved for college costs!

The contribution isn't deductible on your tax return, but on the other side of the coin, distributions from the IRA at tuition payment time are tax-free as long as you have qualified educational expenses at least as much as the distribution.

In addition to the Education Savings Account, you can choose from among section 529 college tuition plans. These plans, typically offered in various forms by states, are now offered by private institutions as well. As with Education Savings Accounts, contributions to the plans aren't deductible, but withdrawals of funds to pay for educational expenses won't be taxable income either.

The year 2002 also brings a new deduction for educational expenses. The deduction will be around for four years, and can be as much as $4,000, depending on the tax year and your income level.

Both the Education Savings Account and the new deduction are available only to taxpayers with incomes that don't exceed certain limits. 

Bunch Miscellaneous Deductions. Miscellaneous deductions generally fall into one of three categories: unreimbursed employee business expenses, investment expenses, and tax-related expenses. These expenses are deductible only if they are above 2% of your AGI. If your miscellaneous expenses hover around the 2% limit, try to bunch them into alternate years to increase your deduction.

Use Your Home to Your Advantage. You can deduct your mortgage interest, points paid to secure a mortgage on a principal residence, and property taxes. But, for a refinanced mortgage, generally the sum of any points paid must be ratably deducted each year over the term of the loan. If you have debt on credit cards charging high interest rates, consider a home equity loan. Interest rates are generally lower, and interest payments are generally tax deductible.

Watch Out for the AMT. The alternative minimum tax (AMT) rates didn't change along with the lower income tax rates. What did change, at least for years 2001 through 2004, is the AMT exemption amount.

In an effort to delay application of this parallel minimum tax to more and more taxpayers, Congress increased the exemption amount by $4,000 for married couples and by $2,000 for all others for this four-year period.

Most experts agree that the AMT laws must be revisited soon. This taxing system was originally developed to prevent certain people with high gross income and a lot of deductions from paying much less in tax than lower-income people with few deductions.

The best action you can take is to be proactive about your tax planning: evaluate the year's income tax liability before the end of the year and determine whether you're subject to (or close to) AMT before you accelerate your mortgage or tax payments. Remember: Many of the expenses that you can claim as deductions on your regular tax return disappear on the AMT, making your income look a lot more substantial, and, possibly, increasing your taxes.

2003 TAX RATES

Wondering what you’ll owe for 2003? Here are the preliminary tax rate schedules, based on the Consumer Price Index averages released for the 12-month period ending in August, 2002:

Single persons:

If your taxable income is:	Then your tax is:
$6,000 or less	10% of your taxable income
Over $6,000 but not over $28,400	$600.00 + 15% of the amount over $6,000
Over $28,400 but not over $68,800	$3,960.00 + 27% of the amount over $28,400
Over $68,800 but not over $143,500	$14,868.00 + 30% of the amount over $68,800
Over $143,500 but not over $311,950	$37,278.00 + 35% of the amount over $143,500
Over $311,950	$96,235.50 + 38.6% of the amount over $311,950

Married persons filing a joint return, and qualifying widow(er):

If your taxable income is:	Then your tax is:
$12,000 or less	10% of your taxable income
Over $12,000 but not over $47,450	$1,200.00 + 15% of the amount over $12,000
Over $47,450 but not over $114,650	$6,517.50 + 27% of the amount over $47,450
Over $114,650 but not over $174,700	$24,661.50 + 30% of the amount over $114,650
Over $174,700 but not over $311,950	$42,676.50 + 35% of the amount over $174,700
Over $311,950	$90,714.00 + 38.6% of the amount over $311,950

Married persons filing separate returns:

If your taxable income is:	Then your tax is:
$6,000 or less	10% of your taxable income
Over $6,000 but not over $23,725	$600.00 + 15% of the amount over $6,000
Over $23,725 but not over $57,325	$3,258.75 + 27% of the amount over $23,725
Over $57,325 but not over $87,350	$12,330.75 + 30% of the amount over $57,325
Over $87,350 but not over $155,975	$21,338.25 + 35% of the amount over $87,350
Over $155,975	$45,357.00 + 38.6% of the amount over $155,975

Head of Household:

If your taxable income is:	Then your tax is:
$10,000 or less	10% of your taxable income
Over $10,000 but not over $38,050	$1,000.00 + 15% of the amount over $10,000
Over $38,050 but not over $98,250	$5,207.50 + 27% of the amount over $38,050
Over $98,250 but not over $159,100	$21,461.50 + 30% of the amount over $98,250
Over $159,100 but not over $311,950	$39,716.50 + 35% of the amount over $159,100
Over $311,950	$93,214.00 + 38.6% of the amount over $311,950