PLANNING OPPORTUNITIES AFTER THE 2001 TAX ACT

Year-end tax planning is always important. However, Anytime we have a major tax bill such as the one earlier this year, it becomes doubly important--since changes to the tax laws frequently provide significant opportunities. Here are a few ideas on how you may be able to benefit from the new provisions. Call us if you'd like more information or other suggestions.

Rate reductions. You probably already know most of this year's rate reduction benefit comes in the form of advance payment checks from the IRS for up to $600. The planning opportunity with the rate reductions relates to what takes place next year and beyond. With the rates above the 15% tax bracket scheduled to fall, pushing income (such as deferred compensation) into 2002 or later can lower your overall tax bill. The same principle generally applies if you can pull deductions (such as charitable contributions) into this year (rather than 2002). In both cases, though, it's important before completing any plans to make sure the anticipated savings aren't grabbed by the dreaded alternative minimum tax.

Increased IRA contributions. The general contribution limit for traditional and Roth IRAs rises to $3,000 nextyear (or $3,500 if you're at least age 50 by the end of 2002). Thus, on a joint return, a married couple who are both at least 50 generally will be able to stuff an extra $3,000 (for a total of $7,000) in their Roth IRAs for 2002 if their income is below the $150,000 - $160,000 contribution limit. Ifyou've got the extra cash, that's probably not a bad way to help offset some of the less-than-exciting returns most of us are seeing in our retirement accounts these days.

4Ol(k) deferrals. Several changes in the retirement plan area bode well for participants in 401 (k) plans. For example, the limit on how much salary you can defer into the plan goes to $11,000 next year and $12,000 in 2003 (the limit for those age 50 and over will be $12,000 and $14,000, respectively). In addition, employees will be allowed to contribute up to
100% of their compensation to the extent it doesn't exceed the applicable deferral limit [assuming the particular 401 (k) plan is amended to allow it]. Taken together, this
means someone such as a spouse reentering the workforce could defer up to 100% of his or her compensation (less any required withholding such as the FICA tax) until the applicable deferral limit is reached. This could really give a boost to the family's retirement nest egg.

Tuition Deduction. A new deduction of up to $3,000 is available beginning next year for college tuition costs if your income is no more than $130,000 (on a joint return) or $65,OO0 (for singles or head of household). Although the deduction is available regardless of whether you itemize deductions, it isn't allowed if you claim the Hope or Lifetime Learning credit for the same student (you could, though, claim the deduction for one student's tuition while claiming one of the credits for the expenses of another). If it looks like you'll benefit from the deduction and you've got tuition bills that can be paid in December or January, delaying the payment until January should be your better option.

Estate tax changes. With the jump in the estate tax exemption from $675,O00 this year to $ I million next year, some couples will need to redo their estate plans. For example, a family trust that the will provides is to be funded to the extent of the available estate tax exemption could receive more than was anticipated while the surviving spouse might receive less than was expected. This is probably most likely to happen to couples with estates in the $ I to $3 million range.

WHICH IS BEST, A NEW OR USED AUTOMOBILE?

you're buying a car and can't decide whether to buy new or used. Both have their advantages, and disadvantages, but you'll need to evaluate your priorities when determining which option is best foryou.

Buying a new car gives you the latest technology and styling, plus a decent warranty. You'll also have more control over the options you want.  And of course, you get that new car smell. Ifyou plan to own your vehicle longer than the typical four to six years, it might even be more economical for you to buy new. By being the first owner, you should be able to increase the car's life span by giving it the proper care and maintenance.

Most people look to used cars to save money.  For example, the original owner generally absorbs the largest portion of the depreciation cost, as cars tend to stabilize in value once they are a few years old.

If you're going the pre-owned route,you may want to consider a "certified used" car that has been refurbished to like-new standards. Although generally a little more expensive than other used cars, the extra expense may provide additional peace of mind. Previously leased cars may also be an attractive option since they tend to be better maintained due to mileage restrictions and maintenance requirements.

The final decision may boil down to whether emotions or economics rule the day. Economically, you'll nearly always come out ahead buying a one- to three-year-old vehicle rather than a new one. But, of course, sometimes the call of that new car is just too strong to resist.

INTERESTING WEBSITES

Salary surveys. Even in a tougher job market where some days it is just nice to have a job, it's still worth knowing whether you're being paid fairly. Plus, if you're the employer, it's helpful to know what the average salaries for various positions are in your area when you're making new job offers and setting salary levels for the next year. A good place to start for this type of information is obviously salary surveys--and the web has lots to offer on the topic. The following sites offer free information: www.careerjournal.com, www.salary.com, and http://jobstar.org.

How does your business compare? One of the things most business owners hunger for is information on how they're doing compared to their peers. Such information is handy whether you're looking for ways to improve your operations or just wanting to confirm that you're on the right track. A free site sponsored by Business Week online at www.businessweek.com/smallbiz/bizminer/bizminer.btm provides loads of information on such items as sales growth, average employee counts, and various financial ratios (from current ratios to return on assets and net worth). The data is broken out by 70 different industry categories and further divided by mature businesses, businesses with no more than 25 employees, and businesses less than a year old.

Unofficial car warranties. We're all familiar with the standard warranties that come with a new car (and some used vehicles as well). But, invariably it seems like if something is going to break right before or right after the warranty expires, it's going to be afterwards. So does the repair cost just come out of your pocket at that point? Not necessarily. If the problem is fairly common to that particular make and model, there may be what's referred to as a hidden warranty or technical service bulletin that will allow the dealer to fix the problem at little or no cost to you-~even though your official warranty has already expired. How do you find out about such deals? Sometimes you can just ask the dealer, plus try these websites: www. nhtsa.gov/and www.motorminute.com.

UPCOMING TAX DEADLINES

October 1--Estimated tax payments for corporations that otherwise would have been due on September 15 are due today because of a change made by the 2001 Tax Act.

October 15--Deadline for filing 2000 Form 1040 if an extension was filed in August.
--Forms 5500 that were automatically extended in July are also due today.

October15--The same is true for calendar-year partnership returns (Form 1065) and trust returns (Form 1041) on an extension.

October 31-- File Form 941 (quarterly payroll tax return) for the third quarter. (Employers who deposited all taxes on time have until November 13.)

                --Year-to-date undeposited federal unemployment taxes are due if your undeposited liability was more than $100 on September 30.

COMPARISON OF EDUCATION BENFITS  

 
The 2001 Tax Act significantly improved the availability of tax-favored education benefits. Here's a comparison of the major provisions related to saving or paying for college (as they are currently expected to apply in 2002). As the chart shows, many of the benefits may be combined and used in the same year. However, generally the same qualifying expenses can't be used for more than one benefit. Thus, for example, if you have $4,000 of qualifying education expenses for a freshman in college, the first $2,000 could be used to claim any otherwise allowable Hope Credit while the remaining $2,000 could be used to
make an up-to-$2,000 distribution from a Qualified Tuition (Section 529) Plan nontaxable.

Tthe costs of machinery and equipment, furniure and fixtures, and similar property normally must be capitalized if the assets have a useful life extending substantially beyond the taxyear in which they're acquired. Of course, in lieu of capitalizing and depreciating acquisitions, most small businesses qualify for what's referred to as a Section 179 deduction of up to $24,000 (in 2001) for quailing property.

For businesses that don't qualify for the Section 179 deduction (because they'll place more than $224,000 of qualifying property in service this year), or who have more than $24,000 of acquisitions they'd like to immediately write off, can'tyou just expense smaller purchases that cost no more than some minimum capitalization floor as long as this policy is consistently followed from year toyear? It sure seems like the answer to this question should be "yes." Unfortunately, a new Tax Court decision casts doubt on the issue.

The taxpayer in this case (Alacare Home Health Services, Inc.) had to comply with Medicare's accounting guidelines, which, in part, stated that if a depreciable asset cost at least $500 and had a useful life of at least twoyears, it must be capitalized. According to Medicare's rules, Alacare was free to choose a lower threshold--it just couldn't choose a higher one. Alacare selected a $500 threshold and used this same threshold for income tax purposes from the date of its incorporation in 1982 until theyears at issue in the case (1995 and 1996).

When the IRS audited Alacare, it determined the
company's policy of expensing assets that cost less than $500 wasn't a proper method of accounting and the

practice distorted income. Thus, it disallowed approximately $470,000 of office expense in oneyear and roughly $350,000 in the otheryear, noting that these expenses were for assets (such as bookcases, chairs, credenzas, and desks) that had a useful life of more than ayear. Unfortunately, the Tax Court went along with this disallowance, saying that instead of immediately expensing the items, the costs should be capitalized and written off through depreciation or amortization.

In supporting its decision, the Tax Court made several interesting comments. For example, it noted that the disputed amounts represented 165% of Alacare's taxable income in oneyear and 84% in the otheryear. (On a gross receipts basis, the expensed items were .85% and .71% of Alacare's gross income.) In addition, Alacare was merely required to use no more than a $500 expensing threshold. No information was presented to the court to support that Medicare had determined that a $500 or less threshold would not distort income.

Although Alacare could be overturned on appeal, right now it's another arrow in the IRS's quiver when auditing taxpayers. So where does this leave us regarding use of a minimum capitalization floor? Unfortunately, there just aren't any hard and fast rules. Two Court of Claims decisions from the '70s involving railroads do lend support for some kind of threshold, and even the Tax Court acknowledged in a 1979 case (Galazin) that assets with a greater-than-one-year useful life can cost so little that they just aren't worth capitalizing. However, the bottom line seems to be that if a minimum capitalization floor is used, it can't distort the taxpayer's income. That concept is what kept the railroads (and even Mr. Galazin) out of trouble, because their expensing didn't distort their income. It also caused Alacare to lose its case, because its expensing activity was too large relative to its income-~especially its net income.