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Focus on Personal Finance - Where's the Beef in Tax Relief?

The immediate benefits are small.

Focus on Personal Finance
Where's the Beef in Tax Relief?
The immediate benefits are small.
BY RICHARD J. ALPHONSO, JD, CPA/PFS, M.S.T., AND ANITA S. FRANK, CPA

Billed as the largest single comprehensive tax reduction in two decades and the first individual income tax rate relief since 1986, the stage is set for the newly signed 10-year, $1.35 trillion tax cut. The tax bill contains immediate, though modest, benefits to all taxpayers, and it could provide substantial savings to you over the long haul.

But that's assuming Congress doesn't change its mind over the next 10 years. The most costly provisions of the new law don't even kick in until 2003 and beyond, making one wonder whether they'll even survive under a new Democrat-controlled Congress.

How will this new tax law, with its many complicated and long-range provisions, affect you? In this month's column, we'll provide insights that will answer at least some of your questions. But you should also consult with your accountant or financial adviser to develop a plan to maximize your savings.

WHAT'S CHANGING?

Although the new tax law contains comprehensive changes intended to stimulate the economy, its major provisions are an immediate reduction in income tax rates by 1%, the creation of a new 10% marginal rate bracket, and a reduction in estate tax rates coupled with the eventual elimination of the estate tax and generation-skipping tax after 2009. It also expands opportunities to sock away more tax-deferred qualified pension and individual retirement plan money, and provides numerous opportunities to let Uncle Sam subsidize your children's college educations.

SOME RELIEF IS IMMEDIATE

The first real benefit you can expect to receive from the new tax law reflects the drop in the tax rate from 15% to 10% for everyone's first $6,000 of taxable income, retroactive to Jan. 1.

Beginning in late summer, the Treasury plans to distribute checks for as much as $600 to married couples filing joint returns, $300 to single filers, and $500 for heads of households. The new law also reduces the other regular tax rates by 1%, effective July 1. The top 39.6% marginal rate bracket will then be gradually reduced to 35% by 2006.

But now comes the tricky part.

Key provisions of the new tax law, including the elimination of the estate and generation-skipping taxes, may either be drastically changed or reversed by a Democrat-controlled Congress. You're now faced with a dilemma in regard to estate planning. The safest course is to continue to plan as if the estate tax won't be permanently repealed. This way, your estate's assets have the best chance of being preserved.

OTHER PROVISIONS SHOULD STICK

Because both parties agree on the need for tax incentives that encourage saving for retirement and college expenses, the liberalized benefits of the new tax law in these areas should stand.

As a high earner, you can increase your annual contribution to a defined contribution retirement plan to $40,000 from $30,000 starting next year. Contribution limits for IRAs and 401k plans will also go up. And small businesses with 100 or fewer employees will get a tax credit for new retirement plan expenses for the first 3 years of the plan.

The new law also allows totally tax-free distributions for tuition and living expenses from §529 college savings plans, and makes all distributions from qualified tuition plans tax-free.

In a $10 trillion U.S. economy, the economic impact of the $74 billion in tax relief that occurs this year will be negligible. If much of the ballyhooed $1.35 trillion tax cut never becomes a reality, we'll have every right to ask that old question: "So where's the beef?" 

Richard J. Alphonso, JD, CPA/PFS, M.S.T., and Anita S. Frank, CPA, are president and tax manager respectively, of The Financial Advisory Group, Inc., in Houston. The Financial Advisory Group provides personalized fee-only financial planning, investment management and business consulting services.