- The Tax Genie
Tax Changes that Take
January 1, 1997
From the pages of Accountant's Tax Weekly.
Here are 11 of the most important new-for-'97 changes.
- Expensing deduction.
Small businesses can elect to currently deduct--
"expense"--newly purchased equipment and
machinery rather than writing it off over a period of
years. But there is a limit on how much can be expensed
each year. Before 1997, the limit was $17,500. Starting
in 1997, the limit is gradually raised--from $18,000 in
1997 to $25,000 in 2003 and beyond.
- Medical Savings Accounts.
Starting in 1997, small businesses can set up a new kind
of plan that allows employees to save and pay for
out-of-pocket medical expenses on a tax-favored plan. If
the company covers employees under a high-deductible,
catastrophic-type health insurance plan, tax-deductible
contributions can be made to a "medical savings
account" (MSA), either by your company or the
employees. These contributions can later be withdrawn
tax-free to pay out-of-pocket medical expenses. MSA
balances that remain at year end can be carried over and
used in future years. If MSA funds are not needed for
medical expenses, they can be withdrawn at retirement,
much like an IRA. (Withdrawals not used for medical
expenses are subject to income tax and, if made before
age 65, a 15% penalty tax.)
- Savings Incentive Match
Plan for Employees. Beginning in
1997, small businesses can offer their employees a new
type of retirement plan -- a Savings Incentive Match Plan
for Employees, or SIMPLE. A SIMPLE plan can be set up
either as an IRA for each employee or as part of a 401(k)
plan to which employees may make pre-tax contributions of
up to $6,000 per year. In either case, your company will
not be subject to complex nondiscrimination testing as
long as (1) it matches employee contributions up to 3% of
the employee's compensation or (2) it makes nonmatching
contributions equal to 2% of the employee's compensation.
- Adoption credit.
Taxpayers will be allowed a tax credit of up to $5,000
per child for adoption expenses, starting in 1997.
Eligible expenses include adoption fees, court costs, and
attorneys' fees. The credit is increased to $6,000 for
special needs adoptions (other than foreign adoptions).
Unused credits may be carried forward up to five years.
Another change allows taxpayers to receive up to $5,000
($6,000 for nonforeign special needs adoptions) of
tax-free, company-provided adoption assistance. The tax
breaks for adoptions are phased out for taxpayers with
adjusted gross incomes above $75,000.
- IRA withdrawals.
Beginning in 1997, taxpayers can make penalty-free
withdrawals from an individual retirement account (IRA)
to pay for medical expenses in excess of 7.5% of adjusted
gross income (AGI). In addition, penalty-free withdrawals
may also be made for medical insurance (without regard to
the 7.5% of AGI floor) if a taxpayer has received
unemployment compensation for at least 12 weeks.
- Required retirement plan
payouts. In the past, members of
company retirement plans had to begin receiving
distributions by age 70 1/2--even if they still worked
for the company. But starting in 1997, distributions can
generally be postponed until an employee retires.
However, the old rule will continue to apply to plan
members who also own 5% or more of the company.
- S corporations. Several
changes that are designed to make it easier to qualify
and operate as an S corporation take effect in 1997. For
example, an S corporation can have as many as 75
shareholders, up from the old 35-shareholder limit. And
for the first time, an S corporation can have
subsidiaries, which may be either other S corporations or
regular C corporations.
- Long-term care. Beginning
in 1997, taxpayers can claim a medical expense deduction
for the cost of long-term care insurance. The medical
expense deduction is subject to dollar caps that vary
according to age. In addition, a tax exemption is also
allowed for benefits received under a long-term care
policy and for coverage under company-provided long-term
care insurance. The medical expense deduction is subject
to dollar caps that vary according to the age of the
- Spousal IRA. Before
1997, married taxpayers could claim a deduction of up to
$2,250 for IRA contributions when one spouse did not work
outside the home. A recent change permits deductible IRA
contributions of up to $2,000 to be made for each spouse
if the combined earnings of both spouses is at least
equal to the contributed amount.
- Expatriates. Starting
in 1997, there is a new crackdown for U.S. citizens who
expatriate to avoid tax. The new changes build on
existing rules that subject citizens who expatriate to
special U.S. taxes for 10 years following the
expatriation. Specifically, the new law presumes that
certain high-income taxpayers have a tax avoidance
purpose for expatriating, and it expands the type of
income subject to tax during the 10-year period following
expatriation. Finally, the law applies the expatriation
rules to certain long-term resident aliens who relinquish
their U.S. residency.
- Health insurance.
Self-employed taxpayers can deduct a portion of their
health insurance premiums, whether or not they itemize
their deductions. Starting in 1997, self-employeds can
deduct 40% of their premium payments, up from 30% in
1996. The deductible portion will gradually increase
until it reaches 80% in 2006.