LOISELLE, GOODWIN & HINDS
CERTIFIED PUBLIC ACCOUNTANTS

Top Ten New-for-2002 Tax Changes

The 2002 year is going to be a pivotal one for taxpayers. Many of the key changes made by the Economic Growth and Tax Relief Reconciliation Act of 2001, as well as changes made by earlier tax laws (such as the Consolidated Appropriations Act of 2001), go into effect for the first time in 2002. Additionally, a number of key tax figures, such as the standard deduction and personal exemptions, also will rise due to built-in inflation adjustments. The following summary is designed to help you keep track of the most important new-for-2002 tax changes. It focuses on the "top ten" changes, those that have the biggest impact on the widest range of individuals.

1. Revised tax rate structure. This year, the top four tax brackets are one-half of one percentage point lower than they were for 2001. They are 27%, 30%, 35%, and 38.5% (for 2001, they were 27%, 30.5%, 35.5%, and 39.1%). Additionally, a new 10% tax bracket is in place for 2002 (for 2001, many people realized the benefit of the 10% bracket in the form of a rate reduction payment or credit, or by filling out a special worksheet in the Form 1040 or 1040A Instructions). Also, the range of the 15% and higher individual income tax brackets for 2002 has been adjusted for inflation so that more income will be taxed at lower rates. These changes will result in a lower tax liability for many individuals. Many wage earners will benefit immediately in the form of reduced income tax withholding. For example, a married person with between $2,360 and $2,380 in biweekly wages and claiming two withholding allowances will have $33 less taken out of each paycheck this year than last (if the employer uses the "wage bracket" withholding method).
   
   
2. Overall reduction in personal credits. The AMT (alternative minimum tax) usually means a higher tax bill only if the "tentative minimum tax" (the tax found by applying the AMT rules) exceeds the regular tax bill. For 2002, however, you could have an AMT-related tax problem even if you don’t actually owe AMT. Unless Congress acts to fix the problem, nonrefundable personal credits for 2002 (other than the adoption expense credit, the child tax credit, and the credit for low-income savers for elective deferrals and IRA contributions) will be allowed only to the extent a taxpayer’s regular tax liability exceeds his or her "tentative minimum tax". As a result, this credit limitation may reduce an individual’s nonrefundable personal credits (and thus cause the individual to pay more tax) even if he or she has no AMT liability. This limitation didn’t apply last year. For 2001, nonrefundable personal tax credits offset both the regular tax and the AMT.
   
   
3. Tax-free payouts from qualified tuition programs. Qualified tuition programs (also called "Section 529 Programs") generally allow taxpayers to buy tuition credits or certificates for their children or make contributions to an account set up to meet the qualified higher education expenses of their children. Distributions in 2002 from state-sponsored qualified tuition programs are tax-free if used for qualified higher education expenses (e.g., college tuition). The earnings part of such distributions made in 2001 was taxable to the child.
   
   
4. Coverdell education savings accounts are more powerful tools. Coverdell education savings accounts (formally known as Education IRAs) are liberalized significantly. The annual contribution limit for such an account is $2,000, up from $500 for 2001. Additionally, these accounts may now be used for a wide array of education expenses, such as elementary and secondary public, private, and religious school tuition and expenses, extended day programs, and computer purchases. Last year, the accounts could only be used for higher-education-type expenses.
   
   
5. New deduction for higher-education expenses. For 2002, eligible taxpayers may claim a new deduction for higher education expenses. This deduction is available whether or not the taxpayer itemizes other deductions or claims the standard deduction. It’s an up-to-$3,000 deduction for qualifying joint filers whose modified AGI (adjusted gross income) doesn’t exceed $130,000 and for qualifying singles or heads of household whose modified AGI doesn’t exceed $65,000.
   
   
6. New tax credit for low-income savers. Beginning in 2002, eligible lower-income taxpayers may claim an annual tax credit for elective deferrals to qualified plans and IRAs (including Roth IRAs). The credit rate (50%, 20%, or 10%), which is applied against contributions of up to $2,000 per taxpayer, depends on filing status and AGI.
   
   
7. Higher elective deferral limits. For 2002, the 401(k) elective deferral limit is $11,000 (up from $10,500 for 2001), and those age 50 or older can make extra, catch-up contributions of $1,000 (if the plan permits catch-up contributions to be made). These limits also apply generally to 403(b) annuities, salary reduction SEPs, and Sec. 457 (governmental) plans. Additionally, the maximum annual deferral limit in a SIMPLE plan is $7,000 for 2002 (was $6,500 for 2001), and those age 50 or older can make extra, catch-up contributions of $500 (if the plan permits catch-up contributions to be made).
   
   
8. Higher IRA/Roth IRA contribution limits. For 2002, the maximum annual contribution to an IRA is $3,000 (it was $2,000 for 2001), and a taxpayer age 50 or older can make an additional catch-up contribution of $500. Note that the higher IRA contribution limits also apply to Roth IRAs.
   
   
9. Enhanced portability for tax-sheltered retirement funds. Workers who move from job to job have more flexibility when it comes to investing their retirement plan funds. Tax-free rollovers are permitted between more types of plans. For example, rollovers are now allowed between 403(b) plans and other types of eligible retirement plans, and after-tax qualified plan contributions may be rolled over to an IRA. And more choices are available to surviving spouses who want to roll over a decedent’s distribution. A surviving spouse may roll over a distribution from a qualified plan or IRA into an IRA or into a qualified plan, 403(b) annuity, or 457 plan in which the surviving spouse participates. Before 2002, a pay-out to the surviving spouse from the decedent’s qualified plan or IRA could only be rolled over into another IRA.
   
   
10. Liberalized estate and gift tax rules. A number of important rules have changed for individuals dying and gifts made in 2002:

• The annual per-donee gift-tax exclusion is $11,000 (it was $10,000 for 2001); $22,000 for spouses who split gifts (up from $20,000 for 2001).
• The unified credit exemption equivalent amount for both estate and gift tax purposes (the aggregate amount that can be transferred free of estate or gift tax during life or at death) is $1 million (it was $675,000 for 2001).
• The top estate and gift tax rate, and the GST (generation-skipping transfer) tax rate is 50% (it was 55% for 2001).
• The 5% surtax that phases out the benefit of graduated tax rates on estates over $10 million has been replaced.
• The state death tax credit will be reduced by 22% from the pre-2001 Act amount.

Please remember that we’ve only covered the high points of the complex new rules for 2002. Contact us and we’ll set up an appointment to discuss in detail how the changes affect you, your family, and your business.

(01/03/02)

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Last modified: June 06, 2003