Updates for
Taxation for Decision Makers, 2007 edition
On December 20, 2006, the President signed into law the Tax Relief and Health Care Act of 2006. The changes made by this act, along with changes made by the Pension Protection Act of 2006, are organized below by chapter. The 2007 inflation adjustments released by the IRS then follow in a separate section.
Chapter / Page / Description2 / 58 / Whistleblower Rewards. IRS is authorized to pay rewards to informers (known as “whistleblowers”). Rewards are paid from the amount collected. The reward percentage will now be at least 15%, but not more than 30%, and the base on which the percentage is applied is expanded to include interest as well as taxes and penalties. The reward may be limited to 10%, however, if the whistleblower’s contribution is not considered substantial. A new Whistleblower Office will be created within the IRS to administer the reward program; this new office will determine the extent to which the whistleblower substantially contributed to the administrative or judicial action and the amount of the award.
4 / 151 / Roth IRAs. Tax Planning: In 2010, the current $100,000 AGI limit for converting a traditional IRA to a Roth IRA will be eliminated. Taxpayers who convert in 2010 can elect to spread the income and resulting tax payments on the converted funds over two years (2011 and 2012). For conversions after 2010, the full amount of income from the conversion must be included in the year of conversion. A taxpayer whose income is too high to make a Roth IRA contribution for the current year may wish to start making nondeductible contributions to a traditional IRA now; then in 2010, convert the nondeductible IRA to a Roth IRA.
6 / 213 / Depreciation. The 15-year straight line cost recovery for qualified leasehold and restaurant property has been extended through 2007 (see footnote 14).
6 / 229 / Bonus Depreciation. The placed-in-service deadline for Gulf Opportunity Zone property has been extended for certain property through 2010.
7 / 245 / Capital Gains Treatment for Musical Compositions. The election to treat musical compositions or copyrights that are created by the taxpayer as capital assets, originally set to expire at the end of 2010, was made permanent.
9 / 331 / Tax Credits. The research credit and work opportunity credit, which expired at the end of 2005, were reinstated and extended through 2007. The welfare-to-work credit, which expired at the end of 2005, was reinstated but for 2007 is consolidated into an expanded version of the work opportunity credit.
Chapter / Page / Description
11 / 404 / Educator Expenses. The deduction for up to $250 of unreimbursed classroom expenses of kindergarten through 12th-grade teachers that expired at the end of 2005 has been reinstated and extended through 2007. Because Congress did not vote for this extension until after IRS had sent the 2006 tax forms to the printers, there is no line on the 2006 Form 1040 for this deduction. To claim the deduction for 2006, enter it on Form 1040, line 23, the line for the Archer MSA deduction. Then enter “E” on the dotted line to the left of that entry to indicate that the educator expense deduction is claimed. Enter “B” if claiming both the educator deduction and the MSA deduction and then attach a schedule showing the amounts claimed for each deduction.
11 / 405 / Tuition and Fees Deduction. The deduction for higher-education expenses that expired at the end of 2005 was reinstated and extended through 2007; the dollar limits remain the same. Because Congress did not vote for this extension until after IRS had sent the 2006 tax forms to the printers, there is no line on the 2006 Form 1040 for this deduction. To claim the deduction for 2006, enter it on Form 1040 line 35, the line for the domestic production activities deduction. Then enter “T” on the dotted line to the left of that line entry to indicate the tuition deduction is claimed. Enter “B” if claiming both the tuition deduction and the domestic production activities deduction and then attach a schedule showing the amount claimed for each deduction.
11 / 420 / State and Local Sales Taxes. The election to deduct state and local sales taxes (instead of state and local income taxes) that expired at the end of 2005 was reinstated and extended through 2007.Because Congress did not vote for this extension until after IRS had sent the 2006 tax forms to the printers, there is no line on the 2006 tax forms for this deduction. To claim this deduction for 2006, enter the deduction on Schedule A for Form 1040 on line 5, the line for state and local income taxes. Then enter “ST” on the dotted line to the left of line 5 to indicate that sales taxes are claimed instead of state and local income taxes. IRS provides sales tax tables in its Publication 600.
11 / 422
New / Deduction for Mortgage Insurance Premiums. For 2007 only, the Tax Relief and Health Care Act added a new itemized deduction for the cost of mortgage insurance premiums paid on the purchase of a qualified residence. Taxpayers may qualify for this new deduction if they purchase a home with a low or no down payment and are required by the lender to buy mortgage insurance. These mortgage insurance premiums will be classified as deductible mortgage interest if they are paid in connection with qualified acquisition debt. The deduction is gradually phased out at the rate of 10% for each $1,000 (or fraction thereof) of AGI over $100,000 so that no deduction is permitted once AGI exceeds $109,000. For married taxpayers filing separately, the phase-out rate is 10% for each $500 in excess of $50,000 AGI.
Chapter / Page / Description
11 / 425 / Charitable Contributions. The Pension Protection Act of 2006 included several tax changes that affect charitable contributions. Donations of clothing and household items (such as furniture, appliances, and electronics) made to charities after August 17, 2006, must be in “good used condition” or better to be deductible. IRS has not defined what it means by good used condition. Tax Planning Tip: Before donating used items, take a picture of them; photos might help substantiate that the items were in good condition.
Starting in 2007, to deduct any charitable donation of money, the taxpayer must have a bank record (such as a canceled check, bank statement, or credit card statement) or a written communication from the charity showing the name of the charity and the date and amount of the contribution. Bank statements should show the name of the charity and the date and amount paid; credit card statements should show the name of the charity and the transaction posting date. For payroll deductions, retain a pay stub, Form W-2 wage statement or other document furnished by an employer showing the total amount withheld for charity, along with the pledge card showing the name of the charity. Tax Planning Tip: This means that instead of dropping cash in the church collection plate, it would be better to drop in a check to preserve the tax deduction.
11 / 425
New / New Benefit for Charitable Contributions from IRA. Tax Planning: Retirees are eligible for a new charitable tax break in 2006 and 2007, even if they do not itemize deductions. After age 70½, retirees must begin taking minimum distributions each year from a traditional IRA, resulting in taxable income. Retirees who want to give to charity can now take tax-free distributions of up to $100,000 a year from their IRA if the money is donated directly to a charity. Any IRA distributions sent directly to a charity will count toward the required minimum distribution but not be taxed as income. Although there is no double benefit (meaning a charitable contribution deduction cannot also be claimed for this amount), this tax break is valuable because these retirees will not have to include the IRA distribution in their adjusted gross income. By lowering AGI, taxpayers may get other tax benefits, such as lower taxes on Social Security benefits or a higher deduction for medical expenses.
11 / 433 / Credits for Energy Efficient Property. The 30% credit for qualified solar property has been extended through 2008.
Although not a change made by one of the two recent tax acts, it is important to note that because Toyota has now sold more than 60,000 hybrid vehicles, the hybrid vehicle tax credit starts to phase out for vehicles manufactured by Toyota. Toyotas purchased after 9/30/06 and before 4/1/07 will only qualify for 50% of the otherwise allowable credit. Toyotas purchased after 3/31/07 and before 10/1/07 will qualify for only 25% and Toyotas purchased after 9/30/07 are not eligible for any hybrid credit. Hybrids vehicles manufacturedby other companies (such as Honda, Ford and GM) are still eligible for their full credit.
Chapter / Page / Description
11 / 433
New / Federal Telephone Excise Tax Credit. A new one-time credit can be claimed on 2006 tax returns to recover the overpayment of federal excise tax on long-distance telephone calls paid between March 1, 2003 and July 31, 2006. Individuals claiming the refund can either: (1) calculate and document the amount of excise tax they actually paid over this 41-month period or (2) claim a standard credit of $30 to $60 (based on household size). The standard amounts are $30 for a person filing a return with one exemption, $40 for 2 exemptions, $50 for 3 exemptions and $60 for 4 or more exemptions. This credit is claimed on line 71 of Form 1040. Taxpayers who otherwise do not need to file a return for 2006 can use Form 1040EZ-T to claim the credit.
11 / 438 New / Refundable AMT Credit. When taxpayers pay AMT, they may be entitled to carry forward a minimum tax credit to future years in which their tentative minimum tax is less than their regular tax liability. Many individuals who paid AMT as a result of exercising incentive stock options had credits that could be used to reduce regular tax in the year the stock was eventually sold, but they could not get a refund for them. A refundable AMT credit will now be allowed until 2012. This refundable credit starts phasing out once a taxpayer’s AGI reaches the same threshold that applies to the phaseout of personal and dependency exemptions.
12 / 465 / Inherited Retirement Accounts. Beginning in 2007, all beneficiaries who inherit qualified retirement accounts will be able rollover those balances to an IRA. This is a very favorable provision because income tax will be deferred until the funds are distributed from the IRA.
Taxation for Decision Makers, 2007 edition
2007 Inflation Adjustments
The 2007 inflation adjusted numbers released by the IRS since this text went to print are presented below by chapter, except for the 2007 tax rate schedules that are included at the end of this update.
Chapter / Page / Description1 / 11 / Standard Deductions.2007 standard deduction amounts are as follows: $10,700 for married taxpayers filing joint returns (up from $10,300 in 2006), $5,350 for single individuals and married taxpayers filing separately (up from $5,150 in 2006) and $7,850 for heads of household (up from $7,550 in 2006).
1 / 11 / Exemption Deduction.The 2007 personal and dependency exemption amount is $3,400 (up from $3,300 in 2006)
1 / 27 / Social Security Tax.The Social Security portion of the FICA tax applies to wages of up to $97,500 for 2007 (up from $94,200 in 2006)
3 / 93 / Interest Income Exclusion.In footnote 48, the 2007 phaseout for the interest exclusion from savings bonds redeemed to pay education expenses will begin at modified adjusted gross income above $65,600 or $98,400 for joint returns (up from $63,100 and $94,700 in 2006)
3 / 103 / Foreign Gifts. In footnote 94, if the value of gifts received in 2007 by a U.S. person from a nonresident alien or foreign estate exceeds $100,000 (same as for 2006) or $13,258 (up from $12,760 in 2006) from a foreign corporation or partnership, the U.S. person must report each foreign gift to the IRS.
3 / 105 / Long-term Care Insurance. In footnote 110,up to $260 (up from $250 in 2006) per day received in 2007 from qualified long-term care insurance is excludable.
4 / 123 / Payroll Taxes.The Social Security portion of the FICA tax applies to wages of up to $97,500 for 2007 (up from $94,200 in 2006). The rate remains the same.
4 / 128 / Foreign Earned Income Exclusion. The foreign earned income exclusion amount increases to $85,700 in 2007 (up from $82,400 in 2006).
In footnote 21, IRS announced in Notice 2006-87that a higher housing exclusion will be allowed for certain high-cost areas; for example, the maximum housing exclusion is $101,116 for Hong Kong, $66,116 for Paris, and $58,916 or London.
4 / 136 / Transportation Benefits.For 2007, an employee will be able to exclude up to $110 a month (up from $105 in 2006) for mass transit passes and up to $215 (up from $205 in 2006) a month for free or discounted parking.
4 / 136 / Vehicle Mileage Rate. Under the vehicle cents-per-mile method, the employer taxes the employee at the rate of 48.5 cents per mile for 2007 (up from 44.5 cent in 2006). In footnote 59, this cents-per-mile method may only be used in 2007 if the fair market value of the vehicle does not exceed $15,100 for autos and $16,100 for trucks, vans, and SUVs (up from $15,000 for autos but down from $16,400 for trucks, vans and SUVs in 2006).
Chapter / Page / Description
4 / 138 / Employee Relocation Expenses. Themileage rate increases to 20 cents per mile for 2007 (up from 18 cent in 2006).
4 / 147
148 / Contribution Limits. For 2007, the limit on the annual benefit under a defined benefit plan is $180,000 (up from $175,000 in 2006).
For defined contributions plans, the limit increases to $45,000 (up from $44,000 in 2006).
For 401(k) plans, the limit increases to $15,500 (up from $15,000 in 2006) but the catch-up contribution limit remains at $5,000.
For SIMPLE plans (in footnote 103), the limit increases to $10,500 (up from $10,000 in 2006).
4 / 149
150 / Individual Retirement Accounts. The maximum dollar limit for IRA contributions remains at $4,000 ($5,000 for taxpayers age 50 or older).
The AGI phase-out limits for deductible IRAs increases for 2007 as follows:for single individuals the new phase-out range is $52,000 to $62,000 (up from $50,000 to $60,000 in 2006) and for married taxpayers filing jointly is it $83,000 to $103,000 (up from $75,000 to $95,000 in 2006). For married taxpayers filing separately, the phase-out threshold remains at zero (footnote 108).
For married taxpayers who are not active plan participants but whose spouse is a participant, the otherwise deductible contribution for 2007 will be phased out over an AGI range of $156,000 to $166,000 (up from $150,000 and $160,000 in 2006).
4 / 150 / Roth IRAs. For 2007, otherwise allowable contributions to a Roth IRA will be phased out for single taxpayers with AGI from $99,000 to $114,000 (up from $95,000 to $110,000 in 2006) and for joint filers with AGI between $156,000 and $166,000 (up from $150,000 to $160,000 in 2006). For married taxpayers filing separately, the phase-out threshold remains at zero.
4 / 152 / Self-Employment Tax. The ceiling for the Social Security portion of self-employment tax is $97,500 for 2007 (up from $94,200 in 2006). The rate remains the same.
4 / 153 / Retirement Plan Limit. The maximum contribution to a Keogh money purchase or profit-sharing plan for 2007 is $45,000 (up from $44,000 in 2006).
5 / 179 / Transportation Expenses.The standard mileage rate increased to 48.5 cents per mile for 2007 (up from 44.5 cent in 2006).
6 / 218 / Section 179 Expensing. The amount that can be expensed under Section 179 in 2007 is $112,000 (up from $108,000 in 2006). For 2007, this expensing limit will be reduced when more than $450,000 (up from $430,000 in 2006) of eligible property is placed in service.
Chapter / Page / Description
11 / 405 / Student Loan Interest Deduction. For 2007, the deduction phases out for taxpayers other than joint filers with modified AGI between $55,000 and $70,000 (up from $50,000 and $65,000 in 2006); the phase out range is $110,000 to $140,000 for joint files in 2007 (up from $105,000 to $135,000 in 2006).
11 / 406 / Health Savings Accounts. For 2007, a high deductible health plan is a plan with an annual deductible of at least $1,100 for individual coverage (up from $1,050 in 2006) or $2,200 for family coverage (up from $2,100 in 2006). Maximum out-of-pocket expenses cannot exceed $5,500 (up from $5,250 in 2006) for individual coverage and $11,000 (up from $10,500 in 2006) for family coverage. The maximum annual deduction is $2,850 (up from $2,700 in 2006) for individual coverage or $5,650 (up from $5,450 in 2006) for family coverage (and the amount of the annual policy deductible no longer limits this deduction).
For MSAs, the 2007 annual deductible for individual coverage must be at least $1,900 but not more than $2,850 (up from $1,800 and $2,700 in 2006). For family coverage, the 2007 deductible must be at least $3,750 but not more than $5,650 (up from $3,650 and $5,450 in 2006).
11 / 409 / Exemption Amount. The 2007 personal and dependency exemption amount is $3,400 (up from $3,300 in 2006)
11 / 412 / Exemption Phaseout.The phaseout of exemptions for 2007 begins at AGI of $156,400 (up from $150,500 in 2006) for single individuals, $195,500 (up from $188,150 in 2006) for heads of household, $234,600 (up from $225,750 in 2006) for married taxpayers filing jointly, and $117,300 (up from $112,875 in 2006) for married taxpayers filing separately.Additionally, 2/3 in line 3 of the phaseout formula is replaced by 1/3.
11 / 416
417 / Standard Deductions.2007 standard deduction amounts are as follows: $5,350 for single individuals and married taxpayers filing separately (up from $5,150 in 2006); $7,850 for heads of household (up from $7,550 in 2006) and $10,700 for married taxpayers filing joint returns or surviving spouses (up from $10,300 in 2006).
The additional standard deduction for elderly or blind taxpayers who are unmarried is $1,300 for 2007 (up from $1,250 in 2006) and $1,050 for 2007 (up from $1,000 in 2006) for married taxpayers.
The standard deduction for dependents does not change.
11 / 419 / Long-Term Care Premiums. In footnote 37, the 2007 deductible premiums are: $290 (up from $280 in 2006) for taxpayers age 40 or younger; $550 (up from $530 in 2006) for taxpayers more than 40 but not more than 50; $1,110 (up from $1,060 in 2006) for taxpayers more than 50 but not more than 60; $2,950 (up from $2,830 in 2006) for taxpayers more than 60 but not more than 70; $3,680 (up from $3,530 in 2006) for taxpayers over age 70.
Chapter / Page / Description
11 / 423 / De Minimis Charitable Benefits. In footnote 50,contributions will befully deductible in 2007 if the donor makes a payment of at least $44.50 (up from $43.00 in 2006) and receives benefits that cost no more than $8.90 (up from $8.60 in 2006). Additionally, the contribution is fully deductible if the benefit is no more than the lesser of $89 (up from $86 in 2006) or 2% of the amount contributed.
11 / 426-427 / Itemized Deduction Phaseout. The phaseout of itemized deductions for 2007 will begin at $78,200 (up from $75,250 in 2006) for married taxpayers filing separately and at $156,400 (up from $150,500 in 2006) for all other taxpayers. Additionally, 2/3 in the reduction formula is replaced by 1/3.
11 / 429 / Child Tax Credit. The child tax credit is unchanged for 2007, but the additional credit for expenses incurred to adopt an eligible child is increased to $11,390 (up from $10,960 in 2006).
In footnote 62, for 2007 the child credit is refundable to the extent of the greater of 15% of earned income above $11,750 (up from $11,300 in 2006) or for taxpayers with three or more qualifying children, the excess of the taxpayer’s social security taxes for the year over the earned income credit for the year.
11 / 430 / Education Credits. For 2007, the Hope and Lifetime Learning credits phase out for single taxpayer with modified AGI of $47,000 to $57,000 (up from $45,000 to $55,000 in 2006) and $94,000 to $114,000 (up from $90,000 to $110,000 in 2006) for taxpayers filing joint returns.
The maximum dollar amounts for the credits remain unchanged.
11 / 431 / Earned Income Credit. In 2007, the maximum amount of earned income on which the earned income tax credit will be computed is $8,390 (up from $8,080 in 2006) for taxpayers with one qualifying child and $11,790 (up from $11,340 in 2006) for taxpayers with 2 or more qualifying children. In 2007, the allowable credit will begin to phaseout when income is $17,390 (up from $16,810 in 2006) for married taxpayers filing joint returns and $15,390 for others (up from $14,810 in 2006). The maximum credit for 2007 is $4,716 (up from $4,536 in 2006) for taxpayers with 2 or more qualifying children and $2,853 (up from $2,747 in 2006) for one qualifying child. For taxpayers without children, the $428 maximum credit is computed on an income of $5,590 (up from $5,380 in 2006) and gradually phases out when income exceeds $9,000 (up from $8,740 in 2006) for married taxpayers filing joint returns and $7,000 (up from $6,740 in 2006) for others. If the taxpayer has $2,900 (up from $2,800 in 2006) or more investment income, the credit is lost.
Chapter / Page / Description
11 / 432 / Retirement Contributions by Low-Income Wage Earners. For 2007, a 50% credit is allowed for joint filers with AGI up to $31,000 (up from $30,000 in 2006) and single individuals with AGI up to $15,500 (up from $15,000 in 2006). A 20% credit is allowed for joint filers with AGI of $31,000 - $34,000 (up from $30,000 - $32,500 in 2006) and single individuals with AGI of $15,500 - $17,000 (up from $15,000 - $16,250 in 2006). A 10% credit is allowed for joint filers with AGI of $34,000 - $52,000 (up from $32,500 - $50,000 in 2006) and single individuals with AGI of $17,000 - $26,000 (up from $16,250 - $25,000 in 2006). No credit is allowed for married taxpayers once their AGI reaches $52,000 and for single individuals once their AGI reaches $26,000.
11 / 432 / Excess Payroll Tax. The Social Security ceiling is $97,500 for 2007 (up from $94,200 in 2006). The rate remains the same.
12 / 456 / Gifts to a Noncitizen Spouse. In footnote 29, only $125,000 (up from $120,000 in 2006) of gifts made in 2007 to a noncitizen spouse can be excluded.
2007 Tax Rate Schedules