Corrections to the 1986 tax bill, the extension of tax breaks, and the new taxpayer's bill of rights
C ongress Puts New Wrinkles On An Old Bill
Congress not only corrected some portions of the Tax Reform Act of 1986 but also authorized extensions of expiring tax breaks. Some of the major stipulations:
* Corporate estimated taxes. These rules have become tougher. If you discover your company has underpaid estimated taxes when it switches from an annualized estimating method to another method, you must make up 100% -- not 90% -- of any shortfall before the year's last estimated payment.
* Research credit. The 20% research credit has been extended through December 31, 1989. Now, though, you'll have to reduce any research costs that you expense or capitalize this year by 50% of whatever credit you take.
* Educational assistance. The $5,250 tax-free cap for educational assistance to employees was extended through December 31, 1988; in most cases, postgraduate work does not qualify.
* Jobs tax credit. The targeted jobs tax credit has been extended through December 31, 1989. The maximum age for eligible economically disadvantaged youths drops, however, from 24 to 23. The tax credit for summer workers was slashed from 85% to 40%.
* Business energy tax credits. The business energy tax credits have been extended through December 31, 1989.
* Alternative minimum tax. Personal exemptions are no longer allowed in figuring the alternative minimum tax. This provision is retroactive to 1987, so if you took the ex-emption on your 1987 return, expect to pay an additional tax -- but no interest penalties.
* Home phones. This year you cannot deduct a telephone line charge for the first phone in your home -- whether or not you use it for business. You still can deduct such business-related phone options as call-waiting or three-way calls, equipment rentals, and business toll calls.
* Liquidating corporations. Such companies can no longer claim a loss on transactions made within two years of the liquidation, or on distributions made by an 80% owner to minority shareholders.
* Contractors' income. Regardless of when they are paid, contractors must now declare income based on 90% of the percentage-completion method. That means if they have completed half of a $100,000 contract, they must declare as income $45,000 (90% of $50,000). Last year contractors had to declare only 70% of the percentage completed.
* Returns for children under 14. Beginning with the 1989 income-tax return, parents may include the income of certain children under 14 on their income-tax forms instead of filing separately. If you do file separately, you no longer have to include your income on your child's return.
* College tuition. U.S. EE savings bonds could become an even better college-tuition savings tool. Beginning in 1990, parents who buy bonds in their own name and redeem them in a year they are paying for their child's college tuition will not be taxed on the interest earned -- provided the interest and principal does not exceed the tuition bills. There are income limits, however. For couples, the exclusion is phased out for gross income between $60,000 and $90,000.
* Single-premium life insurance. In the wake of the Tax Reform Act of 1986, single-premium life insurance was ballyhooed by insurers as one of the great remaining tax shelters: after paying your lump-sum premium, you could borrow from the policy tax free. Now, you'll be taxed. In most cases you'll also be hit with a 10% early-withdrawal penalty if you receive such a loan or distribution before you reach age 59½. The changes apply to policies purchased after June 20, 1988.
* Dependent-care support. Finally, Congress put a crimp in the dependent-care support we described in December. We said your employees could set aside as much as $5,000 a year, pretax, from their salaries to pay for child care. Over that, they could use the dependent-care tax credit -- up to $720 for one child and $1,440 for two or more. No more. Now, every dollar spent in a salary-reduction program reduces the amount eligible for the child-care credit, dollar for dollar.
Jay Brandzel, CPA, is national tax partner of Laventhol & Horwath and is based in Philadelphia.
TIP OF THE MONTH
Incentive stock options
Your company may now take a deduction for incentive stock options (ISOs), provided they are treated as nonqualified options instead of ISOs. Although employees will have to declare the income on nonqualified options earlier, they also can benefit from such options -- unlike ISOs, they are not a tax-preference item under the alternative minimum tax. Until February 9 you can retroactively change ISOs issued after 1986 and before November 11, 1988 to a nonqualified option.
THE TAXPAYER'S BILL OF RIGHTS
At the end of 1988, Congress approved a first -- a taxpayer's bill of rights. The provisions could have been stronger, but here are some highlights:
* Taxpayers need not be present when represented by a CPA, attorney, or other authorized representative in dealing with the IRS.
* The bill provides for an IRS taxpayer ombudsman to stop the service from enforcing any penalty when the ombudsman feels it would result in any unusual, unnecessary or significant hardship to the taxpayer.
* The IRS must rescind any penalty that results from a taxpayer following incorrect written advice from the IRS.
* The IRS may not evaluate the performance of its employees involved in collection activities on the basis of quotas either for production or enforcement.
* The time before the IRS can seize savings and other accounts is extended from 10 to 30 days after a bill is sent.
* The IRS may enter into installment agreements with taxpayers for collection of delinquent taxes.
* Taxpayers may sue to recover damages from an unreasonable collection action -- if the IRS "recklessly or intentionally disregards" a law or regulation -- and recover their legal costs if they win. If, however, the IRS proves it had substantial justification for bringing the case (even if it loses it), legal costs are not collectible.