Tax Alert 2007

Tax Savers Tax Alert BrochureWhile 2007 is not marked with major tax legislation, there are a number of changes from previous tax bills that should be kept in mind as you prepare to file your taxes this year. Highlighted here are some of the more common tax changes that may impact your situation.

individual taxes

Charitable Contribution Changes

Many changes made in 2006 to limit what qualifies as a deductible charitable donation go into full effect in 2007. The major changes to remember this year are:

Kiddie Tax Rule Changes

In 2007, a child's investment income over $1,700 is subject to tax at the parent's higher rate if the child is under 18 years old (this age limit was under 14 years old prior to 2006).

Now, as a result of the Small Business and Work Opportunity Tax Act of 2007, the Kiddie Tax will apply to children under the age of 19 OR under age 24 if the child is a dependent and a full-time student. This new, stricter provision is effective for tax years beginning after May 25, 2007.

Last Year for Some Deductions?

In 2005 three popular tax deductions expired only to get new life in tax laws passed late in 2006. These deductions are now once again set to expire after 2007 unless extended within new tax legislation.

  1. Educator Expense Deduction. If you are a qualified educator you can deduct up to $250 of qualified classroom expenses during 2007 on page one of Form 1040. Since this deduction is taken directly on the 1040, you do not need to itemize deductions to qualify. Eligibility rules apply, including being an eligible K-12 teacher, instructor, counselor, principal or aide who works in a school for at least 900 hours during the school year. Home schooling expenses and non-athletic supplies for health or physical education do not apply.
  2. Tuition and Fees Deduction. The provision to deduct qualified tuition and fees paid for you, your spouse or your dependents is available through 2007. The eligible deduction is between $2,000 - $4,000. The deduction is eliminated for those with incomes above $80,000 ($160,000 if married filing jointly). Expenses for room, board, transportation, books and personal living expenses DO NOT apply.
  3. General Sales Tax Deduction. You can once again deduct EITHER general sales tax OR state income taxes as an itemized deduction on Schedule A. The sales tax option is great for those who live in states that have low or no income taxes or if you have made major purchases during the year.

Health Savings Accounts

Health Savings Accounts (HSAs) are an attractive alternative to traditional health insurance programs. Now with additional tax law changes, they are even more attractive. HSA's are medical savings accounts that are set up to pay for out-of-pocket medical costs not covered by qualified High Deductible Health Plans (HDHP). If you do not use up the funds in the account you can carry over the balance tax-free as long as the proceeds are used to cover qualified medical expenses. So what changes in 2007?

You cannot set up an HSA if you do not have a qualified HDHP. Because an HSA is quickly becoming an economic way to fund health insurance, a lot of people are converting from their traditional health insurance plans.

Mortgage Insurance Premium Deduction

Beginning in 2007, premiums you pay for "qualified mortgage insurance" in connection with home acquisition debt are deductible as an itemized deduction. This is a one-year provision unless Congress acts to extend the allowance. The amount you can deduct phases out by 10% for every $1,000 which your adjusted gross income exceeds $100,000 (the phase out is 10% for every $500 of AGI over $50,000 if married filing separately). Other limits and qualifications apply, so you may wish to have your situation reviewed for deductibility.

The AMT Dilemma

In 2006, the Alternative Minimum Tax (AMT) exemption amounts were $62,550 for married couples and $42,500 for single filers. Unless Congress acts the AMT exemption amounts DECREASE in 2007 to $45,000 for married couples, $33,750 for single/head of household, and $22,500 if married filing separately.

In addition, certain credits will no longer reduce your AMT exposure. Those credits include child and dependent care expenses, residential energy credits, mortgage interest credits and District of Columbia first-time homebuyer credit. But stay tuned as this area in the tax code is a major political bargaining chip and changes were made to the 2006 limits at the last minute.

E-Mail Scams

The IRS DOES NOT INITIATE CONTACT VIA E-MAIL. This says it all.

Do not reply to any e-mail that comes from the IRS. The IRS has warned taxpayers of numerous e-mail scams that are currently being circulated. From receiving $80 for filling out an IRS e-mail survey to e-mails from the IRS "Fraud Department" to file an investigation report. All are cases where crooks are trying to get your confidential information.

business taxes

Domestic Production Deduction Doubles in 2007

Beginning in 2007, the Domestic Production Activities Deduction percentage doubles from 3% to 6%. This deduction is for qualified domestic business activities including manufacturing, producing, growing and extracting tangible personal property. If you have a small business in agriculture, manufacturing, construction, software development or other production activities you may qualify for this deduction.

Section 179 Limits

The maximum section 179 deduction for property placed in service in 2007 increases to $125,000. This limit is reduced by purchases of qualified property in excess of $500,000. Section 179 allows small business owners to expense versus depreciate qualified property up to the published limits.

Minimum Wage Increases

While not a tax provision per se, the Federal minimum wage will be rising from $5.15 per hour to $7.25 per hour over the next three years.

This is a brief summary of some of the broadest tax provision changes in 2007. There are also many pre-programmed changes built into the tax code. Should you have any questions regarding your situation, please call.

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Cutting Your Taxes

Tax Saver Cutting Your TaxesIf you are like most taxpayers there are probably several things you can do to legally reduce the taxes you pay. Outlined below are 10 Tax$aver tips you may be able to use to reduce your tax burden.

Tax$aver Tips

  1. Tax Deferred Savings
  2. Leverage Home Equity
  3. Shift Income
  4. Shift Expenses
  5. Tax Exempt Savings
  6. Passing Income to Dependents
  7. Non-Cash Contributions
  8. Tax Credits
  9. Capital Gains/Dividends Management
  10. Using Business Expenses

The list is by no means complete. It is best to set up an appointment to review your situation.

Tax$aver Tip #1: Maximize Tax Deferred Retirement Savings Alternatives

There are numerous savings vehicles that defer paying income taxes until funds are withdrawn. The primary vehicles are Individual Retirement Accounts (IRAs) and 401(k) or 403(b) retirement savings plans. With these programs you can invest some of your income into a savings plan without paying income tax. You pay the tax when the funds are withdrawn.

The key benefit: Your investment earnings compound over the years on a larger (pre-tax) dollar base. In addition, many employers also match your contributions in 401(k) and 403(b) plans.

Tax$aver Alert: Tax legislation raises the annual amounts one may invest in IRA and 401(k) type plans each year. For instance, the once static per person traditional IRA contribution of $2,000 is now $4,000 with an additional $1,000 if you're over the age of 50. Since these programs' annual tax deferred contribution limits now change it is important to check the program each year and adjust your contributions accordingly.

Tax$aver Tip #2: Utilize Home Equity Loans Versus Other Loan Types

The interest on most home mortgages is fully deductible. In addition, you can leverage the equity in your home via a home equity loan, use the funds for other purposes AND still deduct the interest expense.

Example: You live in a home with a market value of $150,000. Your outstanding loan balance is $60,000. Benefit #1: The interest on the home loan of $60,000 is tax deductible as an itemized deduction. Benefit #2: You can take out a home equity loan on the $90,000 you own of your home ($150,000 home value minus $60,000 remaining mortgage). The interest on this new loan is generally tax deductible. You can use the funds for other purposes and still deduct the interest! Common uses could be to: buy a car, pay for education, pay medical bills, or buy a lawn mower.

Caution: There are upper limits to the loan interest deductibility for home equity loans and mortgages. In addition, home equity loans use your home as collateral. If you default, you could lose your home.

Tax$aver Tip #3: Shift Income

In its effort to shift the tax burden to the more affluent, the tax code establishes tax brackets that increase as more income is earned. There are six brackets ranging from 10% to 35%. Once you reach the next threshold, each additional dollar you earn is taxed at the higher rate (this is called your marginal tax rate). Knowing your income relative to the next "jump" in tax bracket can be beneficial. Where possible, it might make sense to shift income from one year to the next or file separately versus jointly to stay in a lower tax rate bracket. Some ideas:

Tax$aver Tip #4: Shift Deductions/Expenses

Another common way to lower taxes is to shift controllable expenses into the year they will benefit you the most.

Example: Make a thirteenth house payment in a year with atypically high income. This will give you an additional amount of interest and property taxes to use as an itemized deduction. While this shift can only be done once, the impact on that year's taxes can be significant. Other ideas:

Tax$aver Tip #5: Explore Tax Exempt Savings and Investments

Municipal bonds are the primary vehicle available to avoid paying federal taxes on the interest earned. In many cases state taxes too may be avoided if the bonds are issued from your state. It is important to calculate the after tax yield of other savings and investment vehicles and compare them to the traditionally lower rate of return on municipal bonds. Other tax exempt savings options are College Savings Plans (529s), Coverdell Education Savings Accounts and Roth IRA's.

Tax$aver Tip #6: Pass Income to Dependents

Income earned by a child or dependent can be taxed at their rate versus your higher rate if handled correctly. This is especially useful if you are self-employed and you employ your child to do work for your business. You can also pass income to your children via a gift. But be careful, excess gift giving can be taxed.

Caution: There is a "kiddie tax" formula that is in place to ensure excess income is not being deferred to a child. Make sure earned income (wages) versus unearned income (interest) is clearly tracked.

Call for advice on whether gifting is a Tax$aver technique for you.

Tax$aver Tip #7: Non-Cash Charitable Contributions

How many times have you donated clothing or furnishings without keeping track of the items given? This often overlooked itemized deduction is a great way to reduce your tax burden. Even the mileage to and from the charitable location is deductible.
Stock can make a better donation than donating cash. If done correctly, you can avoid paying a gain on appreciated stock, while taking full advantage of the increased market value of the stock as an itemized deduction!

Caution: The rules for deducting donations of vehicles to charities have changed. If the charity sells your vehicle without using or improving the vehicle, your deduction is limited to the gross proceeds from the sale not what could be a higher fair market value. In addition, the quality of donated property must be in good or better condition.

Tax$aver Tip #8: Take Full advantage of Tax Credits

Some of the more common tax credits that can directly reduce your tax obligation are:

Tax$aver Tip #9: Leverage Special Tax Rate on Capital Gains and Dividends

The federal tax rate on dividends and long term capital gains are 15% through 2010 (wage earners in the 10-15% tax bracket only pay 5%). Former tax rates were as high as 20% on long term capital gains and 38.6% on dividends.

Tax$aver Tip #10: Combining Business and Vacations

Expenses for trips taken primarily for business purposes can be deducted, even if some vacation time is spent while on the trip. Make sure the trip is primarily for business. Expenses that are clearly for vacation are not deductible.

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Itemized Deductions

Tax Savers Itemized DeductionsItemized deductions are captured on Schedule A as an alternative to taking the standard allowable deduction. To determine which is more favorable for your situation, it is often best to calculate your return both ways. Generally, if you own your own home you will itemize deductions. To help you gather and retain the correct records, a checklist is provided here for your use. While the list is not all inclusive, it is a good starting point.

Medical & Dental Costs

Medical and Dental expenses are generally deductible to the extent they exceed 7.5% of your income. Some of the more common expenses:

Taxes

The following taxes are generally 100% deductible.

* Starting in 2004 you may now deduct either general state/local sales tax or state/local income tax.

Interest Expense

While most personal interest is no longer deductible (credit card interest, car loans, and the like), there are still interest expense deductions available to you.

Charitable Contributions

(donating money or property)

Both cash and property are generally deductible if donated to qualified organizations. Qualified organizations include:

Tax$aver Tip: New in 2007. Now all cash donations require a bank record or receipt.

Tax$aver Tip: Make sure you also keep track of your mileage to and from the charity. It is also deductible.

Caution: The rules for deducting donations of vehicles to charities have changed. If the charity sells your vehicle without using or improving the vehicle, your deduction is limited to the gross proceeds from the sale and not what could be a higher "fair market value".

Casualty & Theft Losses

Casualty and Theft losses are generally deductible to the extent they exceed 10% of your adjusted gross income, are not reimbursable via insurance, and each event exceeds $100.

Miscellaneous Deductions

Most miscellaneous deductions are only deductible to the extent they exceed 2% of your adjusted gross income. Items with an "*" are usually not subject to the income threshold.

Non-deductible Expenses

The following are common non-deductible items:

Tax$aver Tip: Qualified educators (K-12 with 900 hours/year teaching) may deduct up to $250 of non-reimbursed educator expenses as a direct reduction in income.

Tax Savings Tips

Tax$aver Tip #1: Expense Shifting

Whenever possible shift expenses into categories of itemized deductions to surpass the IRS thresholds in a given year.

Example: You have surgery during the year resulting in high medical costs for that year. The IRS 7.5% of income threshold is surpassed, so every incremental Medical and Dental expense is now deductible. If possible, now is a good time to get eyes checked, to get family physicals, and to get other medical and dental work completed. Next year you will again have to reach the 7.5% threshold before you can deduct the expense.

Tax$aver Tip #2: Miles, Miles, Miles

Capture all your mileage for business travel, charitable travel, and medical travel. Keep a log book in your car and note the miles to and from the doctor or dentist. Track the miles to drop off charitable donations, or to go to and from your charity. This area of deductible expense is often not taken or is poorly captured.

Tax$aver Tip #3: Missing a few things

What is deductible? What is not? When in doubt save the canceled check, the proof of payment, and receipt. Without the proof, the expense cannot be taken.

Tax$aver Tip #4: Non-cash donations

How many times have you dropped off a bag of clothes or a lamp and not kept a record of the gift? All of these donations that are in good or better condition are deductible. Keep a list of items you plan to give away. Put the list next to or inside the bag of items you plan to drop off. The required itemization of items donated can be prepared when the bag is ready to be dropped off at your favorite charity.

Tax$aver Tip #5: New Donation Traps

You must now have a bank statement, cancelled check or receipt for all cash donations. So, write checks to your church versus cash in the collection plate. Send in a check to the Salvation Army or favorite charity instead of cash in the kettle! Should you have any questions or concerns regarding your situation please call.

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Recordkeeping

Tax Savers RecordkeepingImagine you've been selected by the IRS for an audit. Do you have the proper documentation to support your income and deductions? What does the IRS look for to validate your claimed income, deductions or tax credits? A little work now can mean little or no headaches later should you need to defend your return. Generally, you need to consider three things when defining the record keeping requirements for the Internal Revenue Service.
  1. What to Keep
  2. How Long to Keep Records
  3. What is Required as Proof

What to Keep

The requirements of what to keep vary depending on the area under review by the IRS. To assist you in keeping good records, a basic retention checklist is presented for your use. Key record keeping requirements for specific areas on the return are reviewed in "What is Required as Proof."

What to Keep Checklist

How Long To Keep Records

Per the IRS, "You must keep your records as long as they are important for any federal tax law." Usually this means:
Helpful Hints:
  • If you file your return early (prior to April 15th) the IRS still uses April 15th as the filing date.
  • If in doubt, keep all your 1040s and supporting schedules indefinitely.
Exceptions Make sure you keep your return for a longer period of time for two reasons:
  1. Valuation of Property. You will need to keep returns AND supporting proof of expenses to determine the value of property you own and then later sell. Common examples are stocks and your home. Make sure all purchase and selling documents are retained. Keep track of all expenditures that add to the value of your property as they will be used to help reduce any potential capital gains when you sell.
  2. IRA and Retirement plan information. Keep all records relating to IRAs and any pre-tax contributions to retirement plans such as 401(k)s. This is especially important if you contributed some funds to your plan in after-tax dollars. When you take the funds out at a later date you will need to prove that you have already paid taxes on the funds. Keep these records until all the funds have been distributed.

What is Required As Proof

You've kept your records for the right time frame, but the IRS says you must prove your claimed deductions. The trick here is that "PROOF" has a sliding definition depending upon what is being reviewed.

The Basics

Generally, proof of payment is a canceled check or cash receipt. If neither is available, an account statement is often acceptable. To be adequate proof the following must be clearly shown:

Specific Retention Requirements

Adoption: Bills, canceled checks, legal agreements, receipts
Child Care: Bills, canceled checks, statement from child care provider
Medical & Dental: Bills, canceled checks, statements, receipts, mileage log
Mileage Log: Date, miles driven, to/from destinations, purpose, PLUS; expenses for tolls, parking fees, taxi and bus fares
Interest: Statements, notes, canceled checks, Form 1098 (mortgage) or Form 1099 (interest and dividends)
Taxes: Form W-2, canceled checks, statements
Miscellaneous: Receipts, canceled checks, statements

Charitable Contributions: Cash Donation

Amount Required Proof
less than $250 Canceled Check and Receipt from Charity or bank statement
more than $250 Same as above PLUS charity acknowledgment or payroll records

Donation of Property (in good or better condition)

Amount Required Proof
less than $250 Receipt from charity with date; location; name; and property description PLUS written record of each item donated
$250-$500 Above PLUS acknowledgment from the charity
$500-5000 All of the above PLUS additional records PLUS file Form 8283
$5001+ All the above PLUS substantiation Vehicles: Statements from charity (Form 1098C or equivalent) that shows the value of your donation.

Common Questions & Answers

Q. When is a credit card transaction deemed tax deductible? When the transaction is made or when you pay the credit card bill? What proof is required? Credit card transactions are tax deductible when the transaction is made. Example: You make a contribution to the Boy Scouts using a credit card on December 31st. You pay the credit card bill on January 15th. The contribution can be deducted in the year the transaction was conducted, not when the credit card bill was paid. Your credit card statement is then used as proof of the transaction along with any receipts.

Q. My bank does not return canceled checks, can the duplicate copy be used? Yes, but only in conjunction with the bank statement showing the checks clearing. You may also use a copy of a paid invoice or statement. In a pinch, often you can get copies of canceled checks from your bank for a fee.

Q. Should I keep track of non-payroll deposits in my savings account? Yes! If you are audited, the IRS will often look into your bank accounts and ask for explanations of any deposits over and above your claimed income. Often these deposits are gifts, reimbursements for employee expenses or simply transfers between accounts.

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Homeowners

Tax Savers HomeownersThe tax advantages of owning a home include:
  1. Deducting some of your closing costs
  2. Deducting mortgage interest
  3. Deducting property taxes
  4. Deducting Home Equity interest
  5. Excluding up to $250,000 ($500,000 if married filing joint) of home sale capital gains
  6. Deducting potential home office expenses
  7. Free rental income for 14 days
  8. Deducting qualified home mortgage insurance premiums for policies initiated in 2007
Here are some Tax$aver ideas to help take full advantage of your home ownership.

When Buying A Home

Buying a home has become very complex with new exotic mortgages and lenders loosened credit standards. What can you do to ensure your "Dream Home" is not the next one on the lender's foreclosure list?

Use the lending rule of thumb when determining whether you can afford a particular home. Rule 1: Do not purchase a home valued at more than 2 1/2 times your annual income. Rule 2: (8/36 rule): Assume you can afford to pay no more than 28% of your income on your mortgage's principle, interest, property taxes and insurance combined. Plus make sure your total debt is not more than 36% of your income.

Tax$aver Tip: Never sign up for a mortgage you don't understand. Negative amortization mortgages and variable rate mortgages may be good for some, but are often the cause of financial hardship.

Tax$aver Tip: Negotiate. Many lender fees are negotiable, even the rate of interest.

What Is Deductible

The deductibility of homeowner expenses is a significant area of tax savings.

Deductible expenses include:

What Isn't Deductible

When You Sell

When you sell your home you may be able to exclude up to $500,000 (married couples) or $250,000 (single person) of your gain when selling your house. This tax-free gain can be used once every two years for your primary residence. To compute the gain you must subtract your home basis (the purchase price of your home plus any home improvements) from the adjusted selling price. When computing this gain you must also account for any gain rollovers from prior home sales under old tax law.

To qualify for the gain exclusion you must meet a two year out of the last five residency requirement. But even this qualification has some exceptions if you were required to move due to a change in job or other unforeseen circumstances.

Tax$aver Tip: Remember to continue to save all receipts for home improvements even though you may not have to report a gain. Many homeowners fail to anticipate their homes' appreciation in value over time.

Tax$aver Tip: Use the home gain tax exclusion as a tax planning idea if you are willing to move.

Home Improvements

Should you track them?

All qualified home improvements can be added to your home's value to reduce the possible gain. However, the need to track home improvements has diminished with the ability to exclude from tax up to $500,000 of the gain when you sell your home. If you think you no longer need to keep track of these improvements be careful! It is recommended you keep good records if:

What is an improvement?

Home improvements add to your home's value (basis), they include: adding a room, finishing an unfinished basement, adding a new roof, or paving your driveway. Home repair/maintenance items do not add to your home's value (painting, wallpapering, etc). However, these expenses can be used as an improvement if done in conjunction with a remodeling project.

Home Office

A home office deduction is available to you if:

You are limited to home office deductions equal to but not greater than the gross income of the business less non-home-use business activity expenses. The allocation of the home use expenses on a proportionate share cannot create or increase a net loss in the business.

Vacation Home Rental

Your vacation home is another potential source for tax savings. Briefly, the rules are:

Foreclosure

With uncertainty in the housing market and the dramatic increase in foreclosures what can you do if you are worried about this happening to you?

  1. Talk to the lender. Often the lender will develop a work out program. They may defer the upcoming bump in your variable loan interest rate or develop an alternative payment schedule.
  2. Convert your exotic mortgage to a conventional mortgage before trouble hits.
  3. Look for new tax legislation. There are pending provisions in congress to give tax breaks to those being foreclosed upon.

If you must go through a foreclosure be careful. If the debt wiped out exceeds your home's value the excess is seen by the IRS as taxable income. If this happens to you make sure to call for a consultation.

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Seniors

Tax Savers SeniorsYou have been saving your entire working life for retirement. You may have a pension, personal savings, a retirement plan and are planning on Social Security income. What can you do to ensure you get the maximum benefit with as little tax bite as possible?

To ensure your "Golden Years" are truly golden this Tax$avers brochure discusses some common topics that can save you money;

  1. Social Security
  2. Retirement Plans
  3. Estate Plans
  4. Tax Code Benefits for Seniors

Social Security

Started in 1935, Social Security was built to provide a safety net for workers during retirement years.

Do I qualify?

To receive benefits you must apply by calling 1 (800) 772-1213 or go to the administration web site: www.ssa.gov. The Social Security payments do not commence automatically.

How much do I get?

Your benefit amount will change depending on your age when you apply to receive Social Security benefits, your annual earnings prior to retirement, the amounts you contributed to the account, and whether you receive other income.

Tax$aver Tips: Please call if you would like assistance in estimating your benefits.

Retirement Plans

If you have alternative savings resources ready for your retirement years, make sure you review their status to ensure you maximize their benefits.

Pension programs

If your company is providing you with a pension plan, make sure you are receiving an annual review of the plan. It should tell you;

Tax$aver Tips:

401 (k)s, IRAs, and similar programs

You may have taken advantage of the opportunity to contribute pre-tax earnings to a savings plan like a 401(k) or an IRA. If you have not yet retired, these savings alternatives are often the best tax bet in town. Why?

If you are currently in a plan, it is best to review the alternatives available for fund distribution to minimize the potential tax bite. Some items to consider:

Tax$aver Tips:

Roth IRAs: The Roth IRA allows you and your spouse to contribute funds into an account on an after tax basis. If you keep the funds in the account for five years the earnings are tax-free. With a few exceptions, there is a tax and a 10% penalty if the funds are withdrawn prior to age 591/2. Unlike Traditional IRAs, with a Roth IRA you may make contributions after age 701/2 and there are no mandatory minimum withdrawal requirements.

Estate Plans

One of the biggest potential tax risks to you may be on the assets you wish to leave to your loved ones. The size of your estate generally determines the complexity of the estate planning you must do:

Tax Code Benefits for Senior Taxpayers

The tax code has been written to provide some benefits to you after you reach retirement age. Some of the more important provisions are:

With senior taxpayer status, you have many tax and financial planning topics to review. By planning properly you can ensure that your "Golden Years" can be truly golden.

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