An autopilot tax cut
You'll probably get one no matter who is president
Tax cut. Tax hike. That's for politicians to decide. But the tax code also has long had a mind of its own. Just about everyone is on tap for a tax cut next year because of built-in adjustments to counter inflation's power to erode the value of income and deductions. But the benefit may be offset for the increasing number of taxpayers snared by the alternative minimum tax.
Even with inflation tame, the modest tweaking provides relief. Claim the standard deduction? A couple who can take $9,700 on their return for 2004 will be able to deduct $10,000 on 2005's return, and singles will get a $150 boost to $5,000--no congressional vote required. Have dependents? Each exemption will be worth $3,200 in 2005, up $100 from 2004.
Helping hand. More than 90 computations are required to index the code. Tax research firms RIA and CCH have done their own advance calculations for 2005 using the numbers and formulas the government will use. "The changes are almost always helpful," notes William Massey, a tax analyst at RIA.
Some adjustments may be affected if Congress alters the law next year. But for now taxpayers of all stripes will see more of their income fall into the lower tax-rate brackets. Without indexing, for example, the 25 percent rate next year would start to bite a couple when their income after deductions tops $58,100. With indexing, that won't happen until $59,400--a $130 tax saving. People in the top 35 percent bracket benefit because the lower rate brackets will cover more of their income. That could nick $580 off tax next year for a couple with $400,000 of taxable income.
Indexing also affects such items as the earned income tax credit, the "kiddie tax" on children's investment income, and a credit for adoption. It can also raise income caps that limit eligibility for some breaks. Taxpayers won't have to shave 2005's itemized deductions, for example, until adjusted gross income tops $145,950, up from 2004's threshold of $142,700.
Without indexing, tax rules can become outdated. Not indexed is the cap set in 1998 that bars converting a regular IRA to a Roth IRA if adjusted gross income exceeds $100,000."I see no good reason why that amount should stay stuck," says Mark Luscombe, principal analyst at CCH. A lack of indexing is one reason the alternative minimum tax, which is supposed to nab high-income tax avoiders, is entangling more middle-income people with ordinary finances.
Indexed adjustments are based on formulas that may postpone an increase until a minimum change is required. The annual gift tax exemption for estates was raised to $11,000 in 2002 but remains at that level awaiting a minimum $1,000 boost. By contrast, an exemption for job-related parking benefits could change by only $5.
The IRS does some updating on its own. In 2002, it raised from $400 to $1,500 the interest or dividends that can be received before a detailed schedule must be filed. And for 2004, self-employed people who use the simplified C-EZ form will be able to deduct $5,000 of expenses instead of just $2,500.
This story appears in the October 25, 2004 print edition of U.S. News & World Report.
advertisement
