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by Alfred Giovetti
There are several new tax breaks in the recently-passed Taxpayer Relief Act of 1997 (the Act) that will benefit the average family. Starting in 1998, you can claim a new child tax credit of $400 for each child under 17. The credit increases to $500 in 1999. This credit is a dollar-for dollar reduction in your income taxes owed. There is a phase-out of the credit if you are married and your adjusted gross income (AGI) is above $110,000, or if you are single and your AGI is above $75,000.
Two new credits for education expenses are established under the Act. The first, the Hope Scholarship Credit, allows taxpayers to take up to a $1,500 credit per student per year for tuition and related expenses during the first two years of post-secondary education beginning in 1998. The other credit, the Lifetime Learning Credit, provides a credit of 20% of up to $5,000 ($10,000 after 2002) on qualified tuition and related expenses for under-graduate or graduate-level courses beginning after June 30, 1998. Both credits apply to education for yourself, your spouse, or your dependents, and you can elect to take the credit that provides the greater tax savings.
Beginning in 1998, you can establish a new education IRA for each child under age 18. The contribution is nondeductible and is limited to $500 per child. Withdrawals are tax-free up to the amount of qualified education expenses. Any remaining balance in the education IRA must be distributed when the beneficiary reaches age 30 or transferred before age 30 to a new education IRA for another family member. AGI phase-out limits apply to education IRA contributions. Finally, in any year that an exclusion is claimed for a distribution from an education IRA, the HOPE credit and Lifetime Learning credit are not allowed.
After 1997, withdrawals from IRA accounts for payment of higher education expenses and first-time homebuyers are now allowed penalty free. Regular income tax still must be paid on the withdrawal. For education expenses, the funds can be used for the benefit of yourself, your spouse, and any children or grandchildren. For homebuyer's expenses, the funds must be used within 120 days, and neither spouse can have owned a home within 2 years of purchase. There is a $10,000 lifetime limit on withdrawals for first-time homebuyers' expenses.
Interest on student loans is once again deductible, but only for the first five years of loan repayment. The maximum deduction is $1,000 for 1998, $1,500 for 1999, $2,000 for 2000, and $2,500 for 2001. The interest deduction on loans that began before 1998 is prorated.
The sale of your home is now free of tax on the first $250,000 of gain ($500,000 for joint returns) for sales after May 6, 1997. To qualify, you must have used the home as your principal residence for 2 of the 5 years before the sale and cannot have used the exclusion in the previous two-years. The old rules for rolling over gain on the sale of a residence and the $125,000 once-in-a-lifetime exclusion for sales over age 55 have been repealed. If you have used the age 55 exclusion already, you can still use the new exclusion.
The Act permanently repeals the 15% tax on excess distributions from qualified retirement plans beginning after 1996.
Finally, if you find yourself in a situation where you owe Uncle Sam you now can charge the tax to your credit or debit card. The effective date for this new payment option is May 5, 1998.
With new credits available for your child and for paying education expenses, changes to IRA withdrawals, and new rules on the sale of your home, tax relief is finally on its way.
This information is provided as a public service, and should not be construed as individual accounting or tax planning advice. For information on how these general principles apply to your situation, please consult an accounting or tax professional.