Last fall, Congress passed two major tax bills with big names that are easy to forget.
But taxpayers should remember that there are new tax breaks available as they prepare this season's returns.
In some cases, the tax breaks aren't new, but rather renewed. The deductions and credits had expired or were on the verge of doing so, and Congress extended them. That makes the filing season a lot less chaotic than it could have been.
Beyond actions taken under the Working Families Tax Relief Act of 2004 and the American Jobs Creation Act of 2004, changes in older tax regulations kick in this year, too.
So, whether you shop, send a child to college or save for retirement, you might be able to keep more money in your pocket instead of sending it to Uncle Sam.
For Marylanders, the important change is that the state last year split from federal estate tax rules. That means residents could get hit with a bill from the state if they don't plan properly.
Here are some of this season's tax highlights:
Keep those receipts. The big change from last year is that Congress revived an old deduction: the sales tax. Filers can now choose to deduct the state and local sales taxes they paid over the year on their federal tax returns or continue to deduct their state and local income taxes. You must file an itemized return to use this deduction.
For residents of states with low or even no income taxes, such as Texas, Florida and Nevada, taking the sales tax deduction is a no brainer.
Residents in states with higher income taxes -- and Maryland is in that category -- generally will be better off sticking to deducting income taxes. However, if residents in these states made a major purchase, such as a boat, car or home-building materials, it could be to their advantage to deduct sales taxes.
You can deduct the sales taxes you actually paid last year or use an estimate created by the Internal Revenue Service and listed in Publication 600.
"Very few people kept all their receipts, since the law was enacted late in the year," said Bob D. Scharin, editor of RIA's Practical Tax Strategies, a publication for tax professionals.
The IRS estimates, available online at www.irs.gov, are based on a filer's state, income and family size.
Filers who pay local sales taxes on top of a state sales tax will need to complete a worksheet in the publication to figure their deduction. "Nothing is simple there," Scharin said.
As of now, this tax break is only in effect for last year and this year.
Simpler times ahead: Form 1040 has 75 lines and Schedule A, where you itemize deductions, has an additional 28. Filling out both these forms -- from start to mailing the finished return to the IRS -- is expected to take an average of 19 hours and 12 minutes this year.
A year ago, anyone with taxable income of $50,000 and over had to file the 1040. Now that income limit has been raised, making more people eligible to use easier forms.
Anyone with taxable income of less than $100,000 can file Form 1040A (48 lines; 10 hours and 25 minutes) or the 1040EZ (12 lines; 3 1/2 hours.) "If you are itemizing, you would still need the 1040," Scharin said.
A little help for the armed forces. There's an earned-income tax credit designed to help low-income individuals by reducing their tax bill or giving them a refund if they don't owe taxes. Some of those low wage earners are members of the military.
Combat pay isn't taxed, so it's not considered "earned income" when figuring the credit. But beginning this tax season, members of the military can include all or none of their combat pay when figuring the credit, depending on which option provides the biggest benefit.
This tax provision expires at the end of this year.
Higher deduction for higher education. Filers can deduct up to $4,000 spent on college tuition and fees last year, an increase of $1,000. Single filers with adjusted gross income of up to $65,000 and joint filers with income of up to $130,000 are eligible.
A new perk for higher earners allows them to deduct up to $2,000 in tuition and fees paid. It's available for single filers with adjusted income of more than $65,000 but less than $80,000 and joint filers with income of more than $130,000 but less $160,000. The tax break expires at the end of this year.
Car donations. Many people rushed to donate cars to charities in the last few weeks in December, trying to get their gift under the wire before a new tax law kicked in this year.
If you gave a car to charity last year, you can still deduct its fair market value on this season's return. But donate a vehicle this year, and the deduction could be less substantial.
That's because Congress has tried to stop filers from abusing this deduction by inflating the value of their old vehicles. Starting with this year's donations, filers seeking a deduction of more than $500 will be allowed to deduct only the amount the charity received if it quickly sold the car. If the charity keeps the vehicle, filers can deduct the market value.
"It looks like the IRS is probably going to be a little suspicious of those year-end [contributors]," said Mark Luscombe, the principal federal tax analyst for CCH Inc., a tax information provider in Riverwoods, Ill.
Tsunami relief. To encourage donations for the victims of the southern Asia tsunami that struck in late December, federal legislation was passed a few weeks ago to allow January donations to be deducted on 2004 tax returns. To qualify, the money must go toward an IRS-approved charity and be used for tsunami relief.
To find out if a charity gets the thumbs up from the IRS, check Publication 78.
Extended engagement. Some tax breaks that were on their way out have been revived to live at least another tax season or two.
Elementary and high school teachers, for instance, can continue to deduct up to $250 they spend out-of-pocket on classroom supplies. They don't have to itemize to take the deduction. This perk was supposed to expire in 2003 but it was extended to the end of this year.
The child tax credit remains at $1,000 per child, age 17 and younger, instead of dropping to $700 -- the higher credit was extended through 2010. This credit begins to phase out once income reaches $110,000 for joint filers and $75,000 for singles.
Not too late to save. It's 2005, but you still can make a contribution for 2004 to an individual retirement account. The deadline is April 15. The contribution limits for 2004 are a maximum of $3,000 for younger workers, plus an extra $500 for those 50 and older.
If you're not covered by an employer or self-employed retirement plan, your contributions to a traditional IRA are fully deductible, no matter your income. If you participate in a workplace plan, then deductions begin to phase out once income exceeds $45,000 for a single filer and $65,000 for joint filers.
Another option is the Roth IRA, where you don't get a deduction upfront, but the principal and earnings can be withdrawn tax-free in retirement. Contributions begin to be phased out once adjusted gross income reaches $95,000 for single filers and $150,000 for joint filers.
The contribution limit for IRAs rises to $4,000 this year, although the catch-up contribution for those 50 and older remains the same.
More reasons to save more. This won't affect your current tax return, but the amount of dollars you can squirrel away in tax-friendly retirement accounts at work goes up this year, too. Workers can contribute up to $14,000 this year, or $1,000 more, in a 401(k) or similar type plan. Those 50 and older can sock away an additional $4,000, or $1,000 more, if their employer permits catch-up contributions.
Money goes into 401(k)s before taxes are paid on it, so it reduces your taxable income now. You'll pay regular income tax on the money when you make withdrawals.
Maryland millionaires. Maryland's estate tax laws used to just go along with whatever changes the federal government made. Not any more.
An individual now can shelter up to $1.5 million from federal estate taxes, and the amount is set to go even higher. But Maryland, seeing a loss of revenue, split from the federal law last year. Residents can shelter a maximum of $1 million from the state. The potential Maryland estate tax on that $500,000 difference is about $64,000.
"You can have a situation where you're not even liable for filing a federal estate tax return, but have to pay Maryland estate tax," said Joel S. Maller, a certified public accountant with the Maller Group in Rockville.
Most likely, married couples with estates over $1 million and who have set up trusts based on the federal exemption will need to amend their documents, said Jeffrey K. Gonya, a Baltimore lawyer. In these cases, a will may have to be revised to give a surviving spouse the flexibility of when to recognize Maryland taxes, he said.
For some, the changes in Maryland law could cause them to accelerate efforts to give away assets to children and others to reduce the size of their estate.
You might not feel like a million bucks, but it's easier than you think for your estate to reach that point. With rapid house appreciation in recent years, life insurance policies, retirement and investment accounts, a couple's estate could top $1 million without them knowing it, Maller said.
A variety of community groups are offering free tax help for low- to moderate-income individuals or older taxpayers.
Here are sources to find the nearest location and information about appointments:
Internal Revenue Service: 800-829-1040
Maryland Volunteer Lawyer Service: 800-510-0050
United Way's First Call for Help: 800-492-0618
Baltimore Creating Assets, Savings and Hope Campaign: Online at www.baltimorecash.org.
Audits of wealthy increased in 2004
Hey, big earner, the Internal Revenue Service is keeping a closer eye on you.
For the year that ended in September, the IRS conducted more than 195,000 audits of taxpayers with earnings of $100,000 or more, a 40 percent increase over the year before.
Put another way, the IRS audited 1.47 percent of returns reporting income of six figures and up. That's compared with 0.77 percent for all returns.
With limited manpower, the IRS figured it's better to audit higher-income folks who might owe more in back taxes and penalties than those earning less, tax experts said.
Overall, the IRS conducted more than 1 million audits in 2004, a 19 percent increase over 2003. Tax experts say the IRS still isn't doing enough.
"The level of audits is so low at this point that even if you tripled it, you are still talking about an audit range of 2.5 percent of all told," said Joel S. Maller, a certified public accountant with the Maller Group in Rockville. "I would love to see people who are cheating on their taxes pay their taxes."
IRS Commissioner Mark W. Everson said the agency expects to audit small businesses more this year.
- Eileen Ambrose
1. Choosing the wrong filing status.
2. Failing to include or using incorrect Social Security numbers.
3. Failing to use the correct forms and schedules.
4. Failing to sign and date the return.
5. Claiming ineligible dependents.
6. Failing to file for the Earned Income Tax Credit.
7. Improperly claiming the Earned Income Tax Credit.
8. Failing to pay and report domestic payroll taxes.
9. Failing to report income because it was not included on a Form W-2, Form 1099 or other information return.
10. Treating employees as independent contractors.
11. Failing to file a return when due a refund.
12. Failing to check liability for the alternative minimum tax.
Source: Internal Revenue Service
Here are some of the strategies to consider when preparing for this year's tax season:
SALES TAX DEDUCTION
Filers can deduct the sales taxes paid or their state and local income taxes from their federal tax return.
Donations for tsunami victims made last month can be deducted from this season's returns.
If you gave a car to charity last year, you can still deduct the fair market value. Beginning this year, the rules get stricter.
The state has split from federal estate tax rules. Review estate documents and revise if necessary.
Contribution limits to individual retirement accounts go up this year. Workers can contribute to an IRA for 2004 until April 15.