Highlights of 2004 Changes in the Income Tax Laws

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Nobody likes paying more income tax than necessary. To avoid overpaying, know what you can and can't deduct, even if you use a professional tax preparer. This overview of changes to the 2004 income tax laws covers highlights.

Personal Exemption Amount

The amount you deduct from your income for each exemption you can claim increases to $3,100 in 2004. You'll lose all or part of your exemptions if your income is over the following 2004 limits:

• $107,025 for married filing separately
  
• $142,700 for singles
  
• $178,350 for heads of household
  
• $214,050 for married filing jointly and qualifying widow(er)s with dependent children.

The standard deduction, used if you don't itemize deductions, increases in 2004 to:

• $7,150 for head of household
  
• $9,700 for married filing jointly and qualifying widow(er)s
  
• $4,850 for single or married filing separately

• Your maximum contribution to your 401(k) or 403(b) retirement plan increases to $13,000.
  
• Your maximum contribution to your SIMPLE retirement plan increases to $9,000.

• An additional $3,000 for 401(k), 403(b), salary reduction SEP plans, and 457 plans.
  
• An additional $1,500 for SIMPLE plans.

The income limit for tax deductible contributions to an IRA if you're also covered by a retirement plan at work increases to $75,000 (modified adjusted gross income) for married filing jointly and $55,000 for singles or heads of household.

College Tuition Deduction

The deduction limit for college tuition increases to:

• $4,000 if you're single and your adjusted gross income (AGI) is $65,000 or less.
  
• $2,000 if you're single and your AGI is between $65,000 and $80,000.
  
• $4,000 if you're married and your adjusted gross income is $130,000 or less.
  
• $2,000 if you're married and your AGI is between $130,000 and $160,000.

Educators Deduction

The Educators Deduction, which allowed educators to claim a tax deduction for money they spent on books and classroom supplies, expired in 2003, but The Working Families Tax Relief Act of 2004 reinstated it.

State and Local Sales Tax Deduction

Ah, for the good old days when itemizers could claim a deduction for sales tax. Well, residents of the seven states with no state income tax will be able to deduct sales tax on their 2004 and 2005 federal income tax returns thanks to a new provision that gives taxpayers the choice of deducting either state income taxes or sales tax. Save receipts to show actual sales tax paid, or use IRS tables that are based on income. Add the sales tax you paid on boats or cars, which is not included in the tables.

Sports Utility Vehicle Deduction

A loophole in the income tax law allowed business owners of luxury SUVs to claim a $100,000 write-off. This SUV bonanza has come to an end. Now you can only take the deduction on vehicles weighing more than 14,000 pounds. The deduction for Hummers and other large sports utility vehicles is capped at $25,000.

Health Savings Accounts (HSAs)

The new tax law creates Health Savings Accounts (HSA) for taxpayers who have a high deductible health plan. You or your employer set up a tax-exempt account at a financial institution such as a bank or insurance company and make tax-free contributions to the account up to the amount of your annual deductible (but not more than $2,600 for yourself or $5,150 for family coverage). If you're over 55 years old, you may contribute up to $3,010 for yourself or $5,650 for family coverage. These funds are then used to pay you back for qualified medical expenses you incur.

Incentive Stock Options and Employee Stock Purchase Plans

If you exercised incentive stock options (ISOs) or employee stock purchase plan options (ESPPs) in 2004 you won't have to pay Social Security and Medicare (FICA) taxes or Railroad Retirement taxes on the resulting compensation.

If you have a disqualifying disposition of stock that you acquired by exercising a statutory stock option, your employer is no longer required to withhold federal income tax from your compensation if you exercised the option after the date the new tax law was enacted.

Car Donations

The IRS is tired of people donating their old clunkers to charity and taking a too-generous tax deduction, so they've increased the reporting requirements. After 2004, if you donate a car, boat, or airplane to charity and claim more than a $500 deduction on your income taxes, you must comply with new requirements. See the IRS Web site for details.

Standard Mileage Rate

The standard mileage rate for business use of your vehicle increases to 37.5 cents per mile. The rate for the use of your car for medical reasons is 14 cents per mile.