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LOISELLE,
GOODWIN & HINDS
CERTIFIED PUBLIC ACCOUNTANTS
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The following is a summary of the most important tax developments that have occurred in the past few months that may affect you, your family, your investments, and your livelihood. Please contact us for more information about any of these developments and what steps you should take to take advantage of favorable developments and to minimize the impact of those that are unfavorable.
1998 IRA contributions can be recharacterized as late as October 15, 1999
Final regulations lower the tax cost of group term life insurance
Cost of stop-smoking programs deductible as medical expenses
Alternative minimum tax poses a growing hazard for individuals
Self-employeds' "back-door" 100% deduction for health insurance premiums
Stay-on-premises policy yields tax-free meals for employees, 100% deduction for employers
No amortization for acquisition expenses incurred after purchase decision is made
1998 IRA contributions can be recharacterized as late as October 15, 1999. The IRS has announced that individuals who have already filed their 1998 federal income tax returns and want to recharacterize 1998 IRA contributions can do so as late as six months after the unextended due date for filing their returns (that is, by Oct. 15, 1999, for calendar-year taxpayers). The six-month deadline applies to all recharacterizations, including amounts converted from traditional IRAs to Roth IRAs. For example, if a calendar-year individual converted $10,000 from a traditional IRA to a Roth IRA during 1998, he has until October 15, 1999, to "change his mind" by using the recharacterization rule. In effect, this allows the individual to treat the $10,000 (and the earnings on that amount while it was in the Roth IRA) as if it had never been taken out of a traditional IRA. The IRS’s previous rules required the individual to make the recharacterization election no later than the due date (including extensions) for the 1998 return.
Keep in mind that there will be extra paperwork if you already filed your 1998 return, and now want to recharacterize a 1998 IRA contribution. You will have to file an amended return for 1998 reflecting your recharacterized IRA contribution.
Education credits can be claimed on an amended return. The IRS has announced that individuals who could have claimed the education credit for 1998 but failed to do so on their original returns may claim the credit on an amended return for 1998. In general, an amended return (Form 1040X) may be filed within 3 years from the date your return was filed or within 2 years from the time the tax was paid, whichever is later. The education tax credit is claimed by attaching Form 8863 to the original federal income tax return, or to the amended return. Previously, the IRS had said that the education credit wasn’t allowed for the 1998 year unless you elected to claim it on your timely filed (including extensions) return for 1998.
The new rule creates a refund opportunity for those who filed their 1998 returns without claiming an education credit that they were entitled to.
Final regulations lower the tax cost of group term life insurance. In general, up to $50,000 of employer-provided group-term life insurance plan coverage is tax-free to employees. Additional coverage is taxable, with the value determined using rates found in a table in the IRS regulations (which gives values per month for each $1,000 of face amount of coverage, depending on the insured’s age) less any amount paid by the employee. The IRS has revised the table used to value additional coverage to reflect significant improvements in life expectancies. The new uniform premium rates in the table are lower than the rates in the previous table. For example, under the old table, the cost per $1,000 of protection in excess of $50,000 was 29 cents a month for those age 45 to 49; under the new table, the cost drops to 15 cents a month.
Besides saving income taxes for employees, the decrease in the table rates reduces employer and employee FICA costs for excess employer-paid group-term coverage.
The new table is effective for group-term life insurance provided after June 30, 1999. Transitional rules help employers deal with the administrative burden of shifting to the new table.
Cost of stop-smoking programs deductible as medical expenses. The IRS recently ruled that an individual’s out-of-pocket costs of participating in a stop-smoking program and for prescribed drugs designed to alleviate nicotine withdrawal are deductible as medical expenses. However, no deductions are allowed for non-prescription nicotine gum and patches.
Individuals who paid for stop-smoking programs in "open" years may be able to get a refund by filing an amended tax return. Those who already had enough medical expenses to deduct them should amend their returns to include the smoking program costs. Others should check their returns to see if the added expenses would give them enough medical expenses to itemize.
Keep in mind that since medical expenses are deductible only to the extent they cumulatively exceed 7½% of adjusted gross income, most people still won’t be able to deduct them. However, now that stop-smoking program costs and prescription nicotine-withdrawal medications qualify as medical expenses, they can be covered as tax-free benefits under employer medical plans, and may be paid from pre-tax contributions to medical flexible spending accounts.
Alternative minimum tax poses a growing hazard for individuals. The alternative minimum tax (AMT) was designed to assure that those who use sophisticated tax techniques pay at least a minimum amount of tax. The AMT equals the excess of the tentative minimum tax (calculated by taking certain tax preferences and adjustments into account) over the regular income tax. Unfortunately, the AMT is now ensnaring those whose tax returns are anything but sophisticated. The reason is that there are no inflation-adjustments in the key figures that determine if you owe the AMT. Specifically, although personal exemptions, standard deductions, and tax bracket break points for regular tax purposes are indexed for inflation, the AMT exemption amounts and tax bracket break points are not. As a result, a government report estimates that the number of taxpayers paying AMT in 1999 will be close to double the number who paid AMT in 1996. In particular, middle income taxpayers will begin feeling the AMT’s pinch where it never bit before.
Those individuals at greatest risk for AMT liability are taxpayers with large families, those who pay high state income and/or property taxes, and those with large interest payments on home equity debt (deductible within limits for regular tax purposes, but not deductible at all for AMT purposes unless used to buy, build or improve a qualified residence).
Another word of caution applies if you claimed substantial tax credits in 1998 (for example, the child credit or the education credit) and are looking forward to large tax credits for 1999. You may not be able to claim the full credits you’re entitled to in 1999 even if you’re not subject to AMT, because your tentative minimum tax does not exceed your regular tax. After 1998, unless Congress acts to change the rule now in effect, the so-called nonrefundable credits (like the child credit, the education credit, and the credit for dependent care) can only be claimed to the extent your regular tax bill exceeds the tentative minimum tax. For example, if your regular tax is $10,000 in 1999, and your tentative minimum tax is $9,800, you could claim only $200 of nonrefundable credits.
Tax relief for personnel in Operation Allied Force. Several forms of tax relief were extended to armed forces personnel serving in areas in and around Yugoslavia that were designated as a combat zone by the President. For example, part or all of their pay is treated as combat pay (excluded from income but subject to social security and medicare tax), and the time for performing many tax-related obligations (such as filing returns) is suspended.
Self-employeds' "back-door" 100% deduction for health insurance premiums. An employer generally can claim a full deduction for the cost of providing health insurance for employees, but if you’re self-employed, you can only claim a 60% deduction for your own health insurance premiums (if several conditions are met). The deductible percentage is scheduled to rise to 70% in 2002 and 100% after 2002. However, if your spouse is a bona-fide employee of your unincorporated business, you may be able to arrange for an immediate 100% deduction of health insurance premiums. Here’s how: You cover your spouse under a health insurance plan for employees. By covering the spouse-employee’s family – including yourself, of course – you succeed in placing your personal coverage on a 100% deductible basis. The IRS recently explained what must be done to make this "back door" deduction work. For example, the spouse must be involved in your unincorporated business as an employee, not as a joint owner, co-owner or partner. And the policy must be bought in the name of the business, not in the name of the owner of the sole proprietorship.
Stay-on-premises policy yields tax-free meals for employees, 100% deduction for employers. The value of free on-premises meals is not taxed to employees if they are provided for the convenience of the employer. In turn, an employer may deduct 100% of the cost of providing those meals (instead of being subject to the 50% deduction that normally applies to meals and entertainment). The Ninth Circuit Court of Appeals recently held that the convenience of employer test is met if a company provides free on-premises meals in order to enforce a "stay-on-premises" policy (one that requires employees to remain on the premises during their entire shift).
No amortization for acquisition expenses incurred after purchase decision is made. Business startup expenses may be written off (amortized) over a period of 60 months. These expenses include costs of investigating the creation or purchase of an active business. The IRS recently ruled that expenses incurred in an attempt to acquire a specific business don’t qualify as startup expenses and therefore aren’t eligible for the 60-month write-off. The dividing line is the point at which the taxpayer decides whether to enter a new business, and which new business it will enter or acquire. Costs incurred after these decisions have been made must be capitalized (that is, they are not eligible for 60-month amortization) even if a legally binding obligation to acquire another business does not yet exist.
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