Here are some of the recent tax law changes that may affect your 2004, and 2005 Tax Years. These are the highlights, and user should check for updates and and more details at the IRS web site at www.irs.gov or other tax publications

Child Tax Credit:

Taxpayers with a credit amount more than their tax could get a refund of the difference, up to 10% of the amount by which their 2004 taxable earned income exceeds $10,750. This percentage was raised to 15% for 2004, meaning a larger refund for many of these taxpayers.

Educators’ Deduction:

The Working Families Tax Relief Act of 2004 reinstated the educator expense deduction, which had expired at the end of last year, for both 2004 and 2005. The deduction is available to eligible educators in public or private elementary or secondary schools. To be eligible, a person must work at least 900 hours during a school year as a teacher, instructor, counselor, principal or aide. An educator may subtract up to $250 of qualified out-of-pocket expenses when figuring adjusted gross income (AGI). This deduction is available whether or not the taxpayer itemizes deductions on Schedule A.

Clean Fuel Vehicle Deduction

Under the recently signed Working Families Tax Relief Act of 2004, the clean-burning fuel deduction is up to $2,000 for certified vehicles first put into service in 2004 and 2005. The deduction will be limited to $500 for vehicles placed in service in 2006 and no deduction will be allowed after that year. The one-time deduction must be taken in the year the vehicle is originally used. The taxpayer must be the original owner. Individuals take this benefit as an adjustment to income on Form 1040. They do not have to itemize deductions on their tax returns to claim it.

Combat Pay

Some military personnel receiving combat pay get larger tax credits because of two law changes. The new law counts excludable combat pay as income when figuring the Child Tax Credit and gives the taxpayer the option of counting or ignoring combat pay as income when figuring the Earned Income Tax Credit. Counting combat pay as income when calculating these credits does not change the exclusion of combat pay from taxable income.

Tuition and Fees Deduction

Tuition and fees deduction increases to $4,000 (from $3,000) if the AGI is not more than $65,000 ($130,000 if MFJ), and $2,000 (from $0) if the AGI is greater than $65,000 but not more than $80,000 ($130,000 and $160,000 if MFJ in 2004 and 2005). This deduction expires after 2005

Child Tax Credit

The credit decreases from $1,000 in 2004 to $700 in 2005 per qualifying child. Taxpayers who have a qualifying dependent child are eligible for the child tax credit.

Retirement Contribution Limits

Retirement Contribution Limits Increased. The changes for 2005 are as follows:

• The maximum IRA (traditional or Roth) contribution increases from $3,000 to $4,000 per person
• The maximum 401(k) and 403(b) employee contribution increases to $14,000
• The maximum SIMPLE employee contribution increases to $10,000.

Taxpayers who are at least age 50 before the end of 2005 can increase their contribution limits by the following amounts for the following plans (called the catch-up contribution limit):

• An additional $4,000 for 401(k), 403(b), salary reduction SEP plans, and 457 plans
• An additional $2,000 for SIMPLE plans

Higher Income Limits for Deductible IRAs

Taxpayers covered by a retirement plan at work, can take an IRA deduction if their modified adjusted gross income is less than $80,000 (married filing joint) or $60,000 (single or head of household).

Marriage Penalty

The tax legislation of 2001 and 2003 made changes to reduce the marriage penalty, however, these changes expire after 2004, so the marriage penalty may affect married taxpayer as follows:

• In 2003 and 2004, the standard deduction for married couples is 200% of that for singles. In 2005, the married standard deduction drops back down to 175% of the single filer’s deduction.
• In 2003 and 2004, the endpoint of the married 15% tax bracket is 200% of that for singles. In 2005, the 15% tax bracket drops back down to 180% of the single filer’s amount

Expense Limit for SUVs reduced

Businesses should be aware of a change regarding the deduction for certain sport utility vehicles (SUVs) placed in service after Oct. 22.  Under the American Jobs Creation Act of 2004, businesses cannot take a first-year deduction of more than $25,000 for an SUV.  The business would depreciate the remaining cost. (Last year the limit was $100,000.) The new limit, does not affect other types of property where the taxpayer decides to expense the cost instead of depreciating the property.

Sale of personal residence acquired in a like-kind exchange

Taxpayers who convert rental property to a principal residence should know that the American Jobs Creation Act of 2004, they may limit their ability to exclude gain on the sale of that residence if they obtained the property through a like-kind exchange. Generally, a taxpayer can exclude up to $250,000 of gain on the sale of a home, provided the individual has owned and used it as a principal residence for two out of the five years before the sale. The exclusion is $500,000 for a married couple if both meet the use test. The American Jobs Creation Act of 2004 does not allow any exclusion if the taxpayer sells the home within five years of acquiring the property through a like-kind exchange. The new law applies to sales after October 22, 2004

dividends

For most individuals, qualified dividend income continues to be taxed at a maximum rate of 15 percent (generally 5 percent for taxpayers in the 10 percent or 15 percent income tax brackets). The 15 percent rate is effective on distributions after December 31, 2002 and on or before December 31, 2008. The 5 percent rate is effective on distributions after December 31, 2002 and on or before December 31, 2007 and drops to 0 percent for 2008

Capital Gain Tax Rates

Capital gain tax rates for sales and exchanges on or after May 6, 2003 and on or before December 31, 2007 remain at 5 percent and 15 percent. Long-term capital gain rates for collectibles will remain at 28 percent. Unrecaptured Code Sec. 1250 gains will continue to be taxed at a maximum rate of 25 percent. The five-year property rates (8 percent and 18 percent) have been repealed until 2009.

Earned Income Credit

The maximum Earned Income Credit increases to:

• $4,300 - credit for two qualifying children (from $4,207)
• $2,604 - credit for one qualifying child (from $2,547)
• $390 - credit for taxpayers with no children (from $378)

Taxpayers who are single, head of household, or qualifying widow(er) must have earned income and AGI less than the following amounts to be eligible for the credit:

• $34,458 for two qualifying children (from $33,692)
• $30,338 for one qualifying child (from $29,666)
• $11,490 for taxpayers with no children (from $11,230)

Taxpayers who are married filing jointly must have earned income and AGI less than the following amounts to be eligible for the credit:

• $35,458 for two qualifying children (from $34,692)
• $31,338 for one qualifying child (from $30,666)
• $12,490 for taxpayers with no children (from $12,230)

If the investment income is over $2,650 (from $2,600), the taxpayer is not eligible for the Earned Income Credit.

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Last modified: May 09, 2009