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, or your business. Some of these developments may be favorable for you while others may not be. Please contact us for more information about any of these developments and any steps you should take to capitalize on favorable developments and to minimize the impact of those that are unfavorable.

• On June 9, the House of Representatives passed H.R. 8, the "Death Tax Elimination Act of 2000." This bill would gradually phase out estate, gift and generation-skipping transfer taxes over a period of ten years. These transfer taxes would be gone entirely for decedents dying and gifts and generation-skipping transfers made after 2009. The current rule allowing a step-up in the basis of inherited assets to the date-of-death (or alternate valuation date) value would continue to apply only to $1.3 million of transfers to any beneficiaries, and an additional $3 million of transfers to surviving spouses. Assets transferred at death in excess of these amounts would carry over the decedent’s basis, meaning that when the assets were sold, taxes would be owed on appreciation that occurred during the decedent’s life. The basis changes would offset some of the tax savings from the transfer tax repeal by increasing income taxes on the sale of certain property received from a decedent, add planning complexities, and put a premium on good record keeping. In July, the Senate also considered estate and gift tax relief, and a bill now awaits a threatened Presidential veto.
  
  
• On June 28, the Senate Finance Committee approved the "Marriage Tax Relief Reconciliation Act of 2000" (S.2346). The main thrust of this bill is to provide relief for two-earner couples who file jointly and currently pay more tax than they would if each were not married and filed as a single taxpayer. The bill is similar to H.R. 6, the marriage penalty relief measure passed by the House of Representatives on Feb. 10. After 2000, the Senate Finance bill would give married couples filing a joint return a basic standard deduction that is twice the basic standard deduction for single individuals (currently marrieds get a standard deduction that’s only 1.67 times the one for singles), and after 2001, would gradually increase the size of the 15% and 28% income tax rate brackets for married couples filing a joint return and for surviving spouses. The rate bracket changes would result in more of a married couple’s income being taxed at lower rates than under current law. The full Senate has now also taken up marriage penalty relief, and like the estate tax bill, the marriage penalty relief bill now awaits a possible Presidential veto.

IRS allows most small businesses to use cash method. An enterprise generally must keep inventories when the production, purchase, or sale of merchandise is an income-producing factor in its business. Those enterprises that are required to account for inventories must use an accrual method of accounting for merchandise purchases and sales, unless the IRS says otherwise. The IRS recently announced that effective generally for tax years ending after December 16, 1999, taxpayers with average annual gross receipts of $1 million or less don’t have to account for inventories or use the accrual method of accounting for purchases and sales of merchandise. To qualify, taxpayers must use the cash method for book purposes. Taxpayers using the cash method under the newly liberalized rules may not deduct merchandise costs until the year in which the merchandise is consumed, used, or sold. The main advantages of the IRS’s liberalized allowance of the cash method are 

1. deferral of income until payment is received instead of taking income into account when billed, 
2. the ability to use the installment method of reporting gains (see below), and 
3. somewhat simplified bookkeeping.

IRS explains how installment-method ban affects accrual method sellers. Under the installment method, an eligible seller who receives one or more payments for his property after the year of sale may report and pay tax on his gain as payments are received (rather than reporting all of the gain in the year of sale). Due to a ’99 tax law change which went into effect for sales after December 16, 1999, the installment method can no longer be used by most accrual method taxpayers (there are exceptions for certain farm property, residential timeshares and lots). The IRS has issued guidance on how the installment method ban affects different corporate and partnership transactions, and the gain recognition rules that apply when an accrual method taxpayer sells for cash plus an installment obligation. For example, a cash-method partner who sells a partnership interest for cash and an installment obligation can report his gain on the installment method. However, an accrual method partnership can’t use the installment method to report gain from the sale of its assets in exchange for cash and an installment obligation. If a corporation is involved, the effect of the revised installment sale rules depends on a number of complex factors.

Per-diem travel rates released for 2000 travel within the continental U.S. Instead of reimbursing an employee’s actual lodging, meal and incidental expenses for business travel away from home, an employer may use a per-diem reimbursement. Per-diem reimbursements are payroll- and income-tax free if made under an "accountable plan" and the per-diem rate doesn’t exceed the federal per-diem rate (the maximum amount that the federal government reimburses its employees) for the locality of travel for that day (or part of a day). These per-diem rates generally vary from one locality to another. The IRS has released the per-diem rates that apply to travel during 2000 within the continental United States. The new standard rate for any locality not specifically mentioned by the IRS in its new-for-2000 tables is $85 ($55 for lodging and $30 for meals and incidental expenses, or M&IE). This standard rate is $5 higher than the standard rate of $80 for ’99, with all of the increase attributable to lodging (for ’99, the standard per-diem broke down to $50 for lodging and $30 for M&IE).

Costs of traveling to and attending conference on dependent’s disease are medical expenses. As a general rule, medical expenses (deductible for regular-tax purposes to the extent they exceed 7 ½% of adjusted gross income) only include expenditures for the diagnosis, treatment or prevention of a disease, and some transportation costs, if necessary to get medical treatment. In May, the IRS ruled that amounts paid by an individual for expenses of attending a medical conference relating to the chronic disease suffered by his dependent also are deductible as medical expenses. Attendance at the conference must be doctor-recommended, and the purpose of attending the event must be to obtain medical information that may be useful in making decisions about the dependent’s treatment or in providing care for the dependent. The costs of registering for the conference and round-trip travel costs are medical expenses, but the lodging and meal costs while at the conference are not.

Independent contractors who are reclassified as employees may be barred from participating in employer’s retirement plan. Contract workers are not eligible to participate in their client-company’s retirement plan and are responsible for providing their own benefits. However, if the contractors are later reclassified as employees, they may have to be permitted to participate in the company retirement plan. Microsoft Corp. found this out the hard way when some if its workers who were initially classified as independent contractors were later determined by the IRS to be common law employees for employment tax purposes. The workers went to court and won the right to benefits under Microsoft’s benefit plans. Subsequently, many employers amended their retirement plans to try to guard against the uncertainty of a retroactive determination that workers are employees rather than contractors. These plan amendments usually provide that workers engaged as independent contractors, or those not paid through the payroll system, are not eligible to participate in the retirement plan even if their classification as independent contractors is later determined to be erroneous. In a National Office Technical Advice Memo that has not been officially released, the IRS has indicated that a retirement plan may carry these restrictive provisions, and that they could under certain circumstances produce the desired effect of keeping contract workers who are later determined to be employees out of the retirement plan. Keep in mind that the rules for company sponsored retirement plans are notoriously complex. One company’s "fix" for the reclassified independent contractor problem may not work for another.