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Many tax law changes go into effect in 2010

While everyone is now focused on getting their information together to prepare and file their 2009 individual income tax returns, it is important to note many tax changes that go into effect in 2010 as you prepare for the upcoming year. Some of the most important changes that will affect many taxpayers in 2010 follow.

A couple of the biggest changes this year are in the area of individual retirement accounts and other retirement plans. For individuals aged 70 ½ or over, required minimum distributions are now again required. The required minimum distributions were waived for 2009 (with exception to the 2008 distributions due by April 1, 2009) due to the severe downturn in the stock market. For 2010, individuals will have to take a mandatory distribution as they have in the past and enter it as taxable income. The firms who administer these retirement accounts will or should be issuing notices on how much your required distribution will be, but if you manage your own you will need to calculate this amount and have it withdrawn in order to avoid a penalty.

Another significant item related to retirement accounts related to conversions from traditional IRAs to Roth IRAs. Beginning with tax year 2010, taxpayers with more than $100,000 of modified adjusted gross income can convert traditional IRAs to Roth IRAs where under prior law they could not do so. Taxpayers who are married but file separately are now allowed to convert traditional IRAs into ROTH IRAs where before they were not allowed to do so. To further sweeten the pot, for conversions made in 2010, the income from the conversion will be split in equal amounts in tax years 2011 and 2012, unless an election is made to include the entire amount in 2010 income. The effect of letting taxpayers “split” this income over two years means that typically, as long as income is fairly even over the two years, a lower overall tax will be paid on the conversion and tax is deferred for a longer period of time. A con of this approach is that tax rates may be higher in year 2001 and 2012 and that definitely has to be taken into account. While this seems on the surface to be a great idea, there is much planning that needs to be done before this strategy is executed. This is definitely not a “one size fits all” approach.

There are also several changes related to deductions and credits in 2010. Taxpayers with higher levels of adjusted gross income will no longer have to endure a phase out of their personal exemptions or their itemized deductions. This usually occurred when adjusted gross income reached approximately $250,000 for jointly filed returns and $167,000 for single filers.

Taxpayers who claimed a first-time homebuyer credit for homes bought after Apr. 8, 2008 and before Jan. 1, 2009, must begin repaying the credit in 2010. The credit must be repaid in equal installments (no interest on this) over a 15-year period. This amount will be reflected as additional tax on the tax return. If a taxpayer sells this residence or it ceases to be a principal residence (i.e., a conversion to rental property) before the end of the 15-year period, the entire balance of the unpaid credit is due that tax year.

There are many tax breaks that will expire unless Congress acts to retroactively reinstate them. Historically, Congress has waited until close to the end of the year to act upon extender type items. So it is quite possible that items allowed for 2009 will not be available in 2010, or at least we can’t expect them to be available for planning purposes.

The more significant items that are not set in stone and may not be available are as follows:
(1) up to $2,400 of unemployment compensation benefits received in 2009 was excluded from gross income
(2) the ability to take an itemized deduction for State and local general sales taxes instead of the itemized deduction permitted for State and local income taxes.
(3) the additional deduction for State and local real property taxes, limited to the lesser of the amount allowable as an itemized deduction for real property taxes or $500 ($1,000 on a joint return)
(4) the ability to claim either an itemized deduction or increased standard deduction for state or local sales or excise taxes on the purchase of a new motor vehicle
(5) the above-the-line tax deduction for qualified tuition and related expenses
(6) the $250 above-the-line tax deduction for teachers and other school professionals for expenses paid or incurred for books, certain supplies, computer equipment, other equipment, and supplementary materials used by the educator in the classroom, and
(7) the allowance of taxpayers who are age 70 1/2 or older to make tax-free distributions to charity from an Individual Retirement Account (IRA) of up to $100,000 per taxpayer, per tax year.

As you can see, there is much to be excited or nervous about for the upcoming tax year based on your situation. As usual, only time will tell what will happen to pending tax legislation so pay careful attention before you make permanent decisions on tax strategy for 2010.

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