Ward and Meyers LLC Certified Public Accountants

Residential energy credits are allowed for certain energy efficient property additions or improvements placed in service before 2009. Additionally, there are new alternative fuel vehicle credits for various types of business use vehicles placed in service in 2006 and after.

New in 2007
You and Your Family

Social Security wage base rises to $ 97,500
Phase-out for itemized deductions and personal and dependent exemptions begins at AGI $156,400.
The adoption tax credit applies to expenses up to $ 11,390.
The phase-out for the HOPE and lifetime learning credits begins at $94,000 for married persons, $ 47,000 for singles. The maximum HOPE credit is $1,650.
$4,000 above-the-line deduction for higher education expenses.
The “kiddie tax” age cut-off is now under age 18.

Retirement

The pay-in limit for IRAs is still $4,000 – age 50 and older an additional $1,000; 401(k)s, 403(b)s and 457 plans $15,500 – extra $5,000 if age 50 or older. SIMPLES: $10,000 ($2,500 more for age 50 and older).
The start of the phase-out of tax-deductible contributions to traditional IRAs by “active participants” in employer-sponsored plans is $75,000 AGI for couples, and $50,000 for singles.

Estate Planning

The top Estate Tax rate is 45% and the exemption is $2 million. The annual Gift Tax exclusion is $12,000.

Businesses

“Section 179” expensing limit for smaller businesses rises to $125,000 and the phase-out threshold to $450,000.

You and Your Family
Each year changes are made to the tax code which may affect you and your family. Many tax-saving opportunities exist but you have to know where they are.

Familiar Strategies
A basic way to save on taxes is to shift income and deductions between two adjacent years, so as to minimize the taxes for the two of them combined. Itemize in one year and use the Standard Deduction the next. Usually you’ll shift income out of and deductions into, the high-bracket year, if you don’t push yourself into a high bracket. Always consider the effect on your adjusted gross income (AGI), a benchmark for deductions of IRA and retirement-plan contributions, medical expenses, and itemized deductions.

To shift income into next year or deductions into this year:

If you expect a year-end bonus, ask your employer to pay it (and/or other salary) early next year. If you’re in a high bracket, try to convert current income into deferred compensation, fringe benefits, or incentive stock options (ISOs).
If you run your own cash basis business, delay income by sending this year’s bills next year.
Contribute to retirement plans.
Shift your income or assets to other family members with lower brackets and wealth, to avoid income and estate taxes. Avoid Gift Tax by limiting gifts to $12,000 per person this year ($24,000 if your spouse agrees).
Gifts of a direct payment to providers for medical and education expenses do not count toward the annual Gift Tax limit.
If your AGI is close to the phase-out range for deductions and exemptions, consider selling investments that show capital losses and are unlikely to recover soon.
Review your records for deductible items.

Alternative Minimum Tax
The purpose of the Alternative Minimum Tax is to ensure that paying taxes can’t be circumvented with deductions and loopholes. Although the intended target was originally high-incomers, more of the middle class has fallen under the AMT in recent years. If your tax is higher under the AMT rules than under the regular tax, you must pay the AMT. Lower income tax rates subject more taxpayers to the AMT.

What can put you at risk for the AMT?

large, un-reimbursed employee business expenses
exercising incentive stock option (ISO) gains
living in high-tax states
large miscellaneous deductions
large number of personal exemptions (big families)
high medical expenses

Medical Expenses
Medical expenses are deductible to the extent they exceed 7.5% of AGI. Large medical insurance premiums put many taxpayers over the threshold. Check whether your employer offers a “flexible spending account” (FSA) or cafeteria plan for medical expenses not covered by insurance. Payments by states to providers of respite care are taxed; only payments for foster care can be tax-free.

Charitable Gifts
There are now strict rules on donations to charities of autos, boats and planes. If the donor claims the value of an item exceeds $500, there must be a written acknowledgement. If the charity sells the gift without rehabbing or using it, the donor’s deduction cannot exceed the selling price. There are a few exceptions, so check with your advisor.

In any year, you cannot deduct for contributions more than 50% of your AGI, and that limit falls to 30% for gifts to private charities. In general, there’s a five-year carryover for gifts you can’t deduct this year.

You can deduct the full market value of certain assets you donate to charities without paying long-term capital gains taxes on their appreciation (limited to 30% of your AGI). Rising interest rates help charitable remainder trusts. The deduction is greater as rates go up because the remainder is worth more. And spouses no longer need waive irrevocably their inheritance right; the trust will be disqualified only if the spouse exercises that right.

The IRS is examining easement donations closely for overvaluations.

Investments
Taxation of Capital Gains

Gains on assets held for more than 12 months are taxed at a top rate of 15% (5% for those in the lowest two brackets, and this rate falls to zero in 2008). These rates have been extended through 2010 and apply for both regular tax and AMT. Collectibles are taxed at 28%, and to the extent that depreciation was claimed on real property, gains are taxed at 25%.
Gains on assets held 12 months or less are taxed as ordinary income.
Profits up to $500,000 for a couple, or up to $250,000 for singles, upon the sale of a principal residence generally are exempt from tax. Vacation or second homes may qualify if they become the principal residence.

Retirement
Individual Retirement Accounts (IRAs)
If neither you nor your spouse is covered by a qualified employer-sponsored plan, you can contribute to an IRA and jointly exclude from current tax up to $8,000 of current income, (plus $1,000 for each individual age 50 or over) even if one spouse does not work. (But spouses cannot contribute more than their combined incomes.) If you or your spouse is covered by a qualified employer-sponsored plan, the deductibility of your IRA contribution will depend on your adjusted gross income.

If ineligible for a deductible IRA contribution (or over the AGI limit for a ROTH IRA), you can make non-deductible IRA contributions up to your earned income or $4,000, ($5,000 if age 50 or over) whichever is less.

Avoid dipping into tax-favored accounts; use taxable savings first. And consider tax-free loans form a retirement plan before a taxable withdrawal form an IRA. If cashed out of a plan when you depart a company, you should make every effort to reinvest quickly (roll over) into another qualified plan.

Penalty-free early withdrawals from IRAs (before age 59½) are allowed for: medical expenses and health insurance premiums in excess of 7.5% of AGI; up to $10,000 for the first-time purchase of a house; or to pay qualified higher education expenses. Tax will be owed on these withdrawals.

Roth IRAs
The largest benefits of Roth IRAs may be in their use to transfer wealth to heirs. A Roth may provide far more to a beneficiary than a plan subject to mandatory withdrawals. And a Roth’s assets can pass to heirs without current income tax if they were in the account for five years. The heir can spread the distributions over his or her expected life, and you need not select a beneficiary.

IRAs can be converted to Roths and Roths can be converted back to IRAs. Any conversion must meet certain conditions, so discuss your situation with your advisor.

The pay-ins to a Roth IRA are non-deductible but you can withdraw them without tax or penalty. After five years you can withdraw earnings early (before age 59½) with tax but without penalty, for your first purchase of a house ($10,000 limit), for education, or because of disability. After five years and age 59½, you can withdraw all of the Roth for any reason. The five year period starts with the tax year of the first conversion or contribution.

Social Security
The earnings test for Social Security benefits this year for those age 62 to 65 and eight months is: a debit of $1 for every $2 that income exceeds $12,960. The test applies to each person, not to couples. In the year you reach your full retirement age, the debit is $1 for every $3 that your income exceeds $33,440 (until the month you reach full retirement age).

There may be tax on your Social Security benefits if your “provisional income” exceeds set limits. The rules are complex, so seek advice. Tax-exempt income figures in the calculation of the taxability of Social Security benefits.

Real Estate
Gain of up to $500,000 on the sale of a principal residence by a couple (of any age) is exempt from tax. For individuals, $250,000 is exempt. This is by far the best tax break for many. A taxpayer can claim this exclusion once in any two-year period, for any number of periods.

If your gains are below the exemption amounts, you won’t have to keep records and account for the gains at tax time; if above those amounts, a 15% capital gains tax probably will apply. Homeowners with potential gains larger than the excludable amounts should keep excellent records of all houses they owned so as to reduce their gains by the amount of all eligible improvements.

To qualify for the exclusion, a taxpayer must have owned and used the property as a principal residence for a cumulative two years during the five years preceding the sale. To qualify for a full exclusion, either spouse can meet the ownership requirement but both must meet the use requirement.

But sales due to job changes, bad health or unforeseen circumstances get partial relief even if the two-year use and residency tests aren’t met. You can apply these rules retroactively to sales in which you didn’t claim eligible relief.

Home Loans
Mortgage points paid on the purchase of a main residence are fully deductible so long as the cash down payment at least equals the cost of the points. Not all points are deductible up front. You can deduct those on a refinanced loan evenly over the term of the loan. Refinancing the loan for a second time triggers the remaining balance of points from the last refinancing, which now become deductible in full. If you sell a residence while amortizing the points, any points not yet deducted are written off in full. If you use some of the refinancing proceeds to fix up your principal home, a portion of the points is deductible up front.

A full deduction for interest on up to $1 million of properly recorded Home Acquisition Debt remains a major tax shelter. (All of the interest is deductible if the mortgage dates from before October 31,1987.)

Interest on a Home Equity Loan up to $100,000 secured by a residence is fully deductible, with deductibility of amounts above that depending on use of the proceeds. If you use your house as security on a loan for your 401(k) or 403(b) annuity, the interest is deductible as mortgage interest even if the total of loans exceeds $100,000 and you are a key executive. Since only home-acquisition debt is deductible under the AMT, high home-equity debt might trigger the AMT.

Rental Investments
A rental activity in which the payment is for use of tangible property is “passive.” Losses from this type of activity can offset only gains from such activities, including profits from sales of the properties. Losses unusable this year can be carried forward to years when you have passive-activity income. The only other way to use suspended losses is to dispose of the entire activity. The depreciation period for nonresidential real property is 39 years for most property placed in service after May 12, 1993 and 27½ years for residential rental property.

Exception: If you “actively” participate in renting real estate (i.e., you are at least a 10%-owner and are deeply involved in its operation), you can deduct up to $25,000 from your non-passive income in rental real estate losses. The deduction is reduced by $1 for every $2 AGI exceeds $100,000 (joint returns). Realty pros can deduct rental losses from non-passive income if they meet certain requirements and spend 100 hours (500 in some situations) in rental activities. (Only one spouse in a couple needs to qualify.) Closely-held companies may qualify if more than half their annual receipts is from real estate.

“Repairs” to a rental property can be deducted for the year when made, but “improvements” must be depreciated over many years. If you want the write-offs as fast as possible, do “repairs.” If you want to delay taking write-offs (e.g., to a year when you’re in a higher bracket), you may prefer improvement deductions. To keep these types of work separate, do them at different times and get them billed separately, if possible by different contractors.