Tax Reduction Overview Part 2

DEDUCT HEALTH INSURANCE COSTS

Even if your total medical expenses do not exceed 7.5% of adjusted gross income, you may be able to deduct a portion of your medical insurance premiums. This deduction is available to self-employed individuals who are not eligible for an employer’s subsidized plan, including one provided by a spouse’s employer. Partners and more-than-2% shareholders in S corporations also qualify. This provision has been extended several times. The deduction is now 100% after having gradually increased.

Employee contributions to a Health Savings Account (HSA) are also deductible from income. Distributions from the HSA remain tax free if used exclusively to pay qualified medical expenses.

PAY YOUR PARENT’S MEDICAL EXPENSES

If you provide more than half of a parent’s support, you may be able to deduct the amounts you pay for medical expenses. This deduction is available even if you cannot claim the parent as an exemption. If your parent is in a nursing home for medical, as opposed to “retirement” reasons, the costs, including meals and lodging may also be deductible.

CHILD AND DEPENDENT CARE CREDIT

Between 20% and 35% of the cost of caring for one or two children under age 13 or certain other dependents, such as an elderly parent, may be claimed as a tax credit. As your income rises, the credit percentage drops. You are eligible for the credit only if the care enables you and your spouse to work or look for work. There is a dollar limit on the amount of your work-related expenses you can use to figure the credit. The limit is $3,000 for one qualifying person or $6,000 for two or more qualifying people.

CHILD TAX CREDIT

A child tax credit is available for each qualifying child of eligible taxpayers who meet certain income requirements. For 2005 through 2010, the child tax credit is $1,000 (as amended by WFTRA 2004). The increased child tax credit will sunset (expire) for tax years beginning after December 31, 2010, at which time the child tax credit will return to its pre-EGTRRA level (i.e., $500).

“Qualifying child” means, with respect to any taxpayer for any taxable year, an individual:

• who is the taxpayer’s “child” or a descendant of such a child, or the taxpayer’s brother, sister, stepbrother, or stepsister or a descendant of any such relative;
• who has the same principal place of abode as the taxpayer for more than one-half of the taxable year;
• who has not provided over one-half of such individual’s own support for the calendar year in which the taxpayer’s taxable year begins (as amended by WFTRA 2004) and
• Who is a U.S. Citizen, National or legal resident

Under the law, higher income taxpayers must reduce the allowable child credit by $50 for each $1,000 (or fraction thereof) by which modified adjusted income exceeds $110,000 for joint returns, $75,000 for an unmarried individual and $55,000 for married individuals filing separate returns.

DON’T OVERLOOK YOUR IRA

IRAs are more flexible than most people realize. Under certain circumstances, you can withdraw funds from an IRA before you reach age 59 ½ without the 10% penalty. Distributions that are part of a scheduled series of substantially equal payments are not subject to the penalty. The distributions must be over the life expectancy of the IRA owner or over the joint lives of the participant and a beneficiary.

You may also be exempt from the 10% penalty on your IRA if funds are withdrawn for disability, educational needs or first time homebuyers of up to $10,000. Tax-favored withdrawals, repayments and loans from certain retirement plans are now available to taxpayers who suffered economic loss as a result of Hurricane Katrina, Rita or Wilma. (See IRA Publication 4492 at www.irs.gov for details.)

An IRA can also help meet your short-term cash needs. You can withdraw the entire amount from your IRA with no tax or penalty as long as you put the same amount into another IRA account within 60 days. You can roll over your IRA only once in a 12-month period. However, this 60-day “window” can be important for meeting short-term cash needs. However, you need to be careful. Canceling a certificate of deposit before maturity may reduce the interest income.

If one spouse actively participates in an employer sponsored plan and the other does not, the spouse who does not participate may have a deductible IRA contribution, provided AGI on the joint return is $150,000 or less. The amount deductible is phased out with AGI over $150,000 and fully phased out at $160,000. The maximum annual Individual Retirement Account (IRA) contribution, which had been set at $2,000 for 20 years, has been raised as follows: for 2005 - 2007, $4,000 and for 2008, $5,000.

ESTIMATED TAX RULES

The general rule is that taxpayers avoid a penalty if their withholding and estimated tax payments exceed 90% of their current year’s liability or 100% of the tax shown on the return for the preceding year. (Only if the preceding year consisted of 12 months and a return was filed for that year).

For a taxpayer whose adjusted gross income exceeds $150,000 (75,000 if married filing separately) the required annual payment is 90% of the current year's liability or 110% of the tax shown on the return for the previous year. It will now be necessary for many more taxpayers to monitor their income and adjust their payments throughout the year to avoid penalties.

Sources: Tax Facts, National Underwriter Company www.irs.gov

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