We also do not have tax on dividends, off-shore sourced income (EDIT: defined as most income), capital gains or sales. It would take too many government employees to rule in the alternative system.
But your Tax in Wonderland is better protected ;0)
forbes.com
Chugs, Jay
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Communications
Mad Tax Party
Janet Novack, Forbes Magazine, 07.09.01
The 1.35 trillion tax cut is law. Here's how to plan in Wonderland without losing your head.
Time to settle back and enjoy that huge tax cut George Bush just handed you? No. There is a distinct probability that the law will save you less money than you will spend on accountants trying to understand it. The legislation changed 441 sections of the tax code and created 24 new tax rates, according to tax publisher CCH. The benefits for high-income taxpayers are for the most part loaded onto the back end of the law's ten-year span, and at the end of that period the whole thing vanishes in a puff of smoke.
And yet you cannot ignore the thing. Make the wrong moves or fail to plan and you might pay tens of thousands of dollars too much in income taxes.
We have identified three topics in tax planning to which you should pay particular attention now. They have to do with the alternative minimum tax (AMT), a punitive system that remains in place; pensions, which have been liberalized, especially for the self-employed; and college savings plans, which just got more compelling.
•AMT The standard advice, when rates are falling, is to defer income and accelerate deductions--say, by paying state or local taxes due next year before Dec. 31 of this year. But, for people who are either now paying the alternative minimum tax or are close to the line, that advice could backfire. Many accelerated deductions (other than for depreciation) are lost forever if they push you into the AMT, warns accountant David Lifson of Hays & Co. in New York.
The AMT is a shadow tax system ostensibly designed to make sure that fat cats with tax breaks like oil-well depletion pay at least some tax. But it also disallows personal exemptions, such itemized deductions as unreimbursed employee business expenses and deductions for state and local taxes. (That's right: Getting hosed by the tax collector in Albany or Sacramento makes you a fat cat; so does having too many children.) And unlike the regular tax system, the AMT regime doesn't index the exemption or the brackets for inflation.
So a growing army of angry taxpayers must calculate their taxes twice, first the regular way, then the AMT way, and pay the higher. The new law worsens the problem by cutting regular, but not AMT, rates. It also loses taxpayers the dependent care credit and the Hope and Lifetime Learning college credits to the AMT in 2002 and beyond. Those credits were previously protected, and it's unclear if Congress will fix this.
The pols did temporarily, through 2004, raise the AMT exemption, which phases out anyway as income rises. But the number of AMT payers is still projected to double next year to 2.7 million and hit 13 million in 2005.
AMT sufferers, particularly if they have incentive stock options, usually need professional tax help. But if your only fat-cat breaks are high local taxes and kids, you can get an idea if you're in danger by playing with the "tax relief estimator" at www.quicken.com/taxes. (Click "detailed calculations" to see the AMT.) If you're at risk, calculate your AMT exposure before making your last 2001 state tax payment or prepaying 2002 real estate taxes.
For 2002 try to reduce your gross income instead of claiming deductions and credits. Divert salary (a maximum of $5,000 is allowed) into a dependent care account instead of claiming a child care credit. If your company doesn't offer these pretax accounts, lobby; the boss may have AMT problems, too. If you have big unreimbursed business expenses, consider asking for a generous expense account in lieu of a raise. And contribute every pretax penny you can to a 401(k).
Also, be wary of investments that generate passive losses--they're often not allowed in AMT. Instead of tapping your home equity for college costs, have your kid take more student loans. The equity interest isn't deductible under the AMT and the new law liberalizes deductions for student loan interest.
•PENSIONS If you're self-employed or have a small business or professional partnership, bigger benefits for you kick in on Jan. 1. You may want to revamp a plan or start a new one before then.
A tax-favored defined benefit plan can pay a retiring 62-year-old a pension equivalent to a lump sum of $1.8 million in 2002, up from $1.3 million this year. (This kind of plan spells out a monthly dollar benefit for retirees.) That translates into bigger deductions now, particularly for a business funding pensions for middle-aged owners. Robert Eastwood of Actuarial Consultants in Torrance, Calif. calculates that in 2002 a partnership setting up a new defined benefitplan could put $121,960 (up from $80,037 in 2001) aside for each of two 52-year-old lawyers earning $300,000. In this example, it also puts $4,800 away for a 30-year-old, $50,000-a-year secretary, the same as in 2001.
Defined contribution plans, which are simpler because they spell out only the money going in, are getting more generous, too. The limit on pretax contributions to these, including Keoghs for the self-employed, rises from $35,000 to $40,000 per person next year. And a grab bag of technical changes makes it far easier for small-business and self-employed types to qualify to defer the full $40,000 than it was to qualify for the old $35,000.
For example, if you're self-employed and earning $250,000, you can put $40,000 into a single profit-sharing Keogh in 2002, up from $25,500 this year. In the past, to contribute the legal maximum you also needed a less-flexible "money-purchase" Keogh, which requires contributions every year. (But be careful how you end a money purchase plan; a mistake can have disastrous tax consequences.)
•COLLEGE SAVINGS The new law makes the state-sponsored Section 529 college plans even more attractive. Money going into these plans (up to $250,000 per child in some plans) isn't federally deductible. But earnings, if used for higher education, are federally tax free as of 2002. Previously they were taxable income to the student.
All the states offer or are developing a plan. And 30 plans, run by the likes of TIAA-CREF and Fidelity, are now open to residents of any state. They're all described at www.savingforcollege.com. Choosing among the plans is daunting (FORBES, Oct. 30, 2000). But now you can more easily change your mind; the new law allows you to move a child's account to another state every 12 months.
Nineteen states offer residents a 2001 state income tax deduction for contributions to their plans. Deposits count as gifts to the child for federal gift tax purposes. But remember, you can give anyone $10,000 in gifts annually without worrying about gift taxes. Act before Jan. 1.
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