New 1040: Less Tax, More Work

Tax season this year is likely to prove a little less costly -- and a little more time-consuming -- because of a host of tax changes that kicked in during 2003.

Rates were cut for all income levels and new breaks were added, boosting the chance that people will get refunds. But a number of rules were also changed, so you may need to pay more attention or even seek professional help.

“For many taxpayers, this will be a challenging year,” said Roger Stinnett, senior manager at Ernst & Young in Los Angeles. “We have a new federal tax law. We have changes in California -- there’s just a lot more stuff to worry about this year.”

Indeed, dozens of tax law changes went into effect during 2003. There are new brackets, new rates for capital gains and dividends and a laundry list of other revisions.

What do you need to know? Here’s a look at the significant changes to federal and state income tax laws that could affect how returns due April 15 are filled out:

* The child tax credit -- for having a dependent child under the age of 17 -- rose in 2003 to $1,000 from $600 for each child. However, those who claimed the credit in 2002 got an advance payment of $400 in checks mailed out last summer.

Taxpayers are supposed to deduct the value of that check from the child tax credit amount claimed on 2003 returns, but the IRS says that about 500,000 taxpayers so far have failed to do so. Those who got a check should fill out the child tax credit worksheet in the 1040 booklet.

It’s also worth noting that more taxpayers will qualify for the credit in 2003. The maximum amount a married couple with two eligible children could earn and still claim at least some of the credit is $150,000, up from $134,000 on 2002 returns.

For single parents, the maximum is now $115,000 for two children, up from $99,000 in the 2002 filing year.

The full credit is available only to single parents who earn less than $75,000, and married couples earning less than $110,000. After that, taxpayers lose $50 of credit for every $1,000 they earn above those thresholds.

A single filer with one child who earns $85,000 a year, for example, would be eligible for $500 in tax credits -- or half what she could have claimed if she earned $75,000.

* Rates on capital gains, which are profits from the sale of securities, dropped to a maximum of 15%, but only for those selling shares after May 5, 2003. The old maximum rate of 20% applies to securities sales before that date.

Taxpayers are expected to add up their gains and losses for the whole year, then separately account for the gains and losses that occurred after May 5, said Mark Luscombe, principal tax analyst with CCH Inc. The bad news: This has added 13 lines and an extra column to the already complicated Schedule D, Capital Gain and Loss form. The good news: Those who carefully slog through it are likely to pay less tax.

* Tax rates on stock and other investment dividends were also slashed from a maximum of 38.6% to 15%. The rate cut affects all qualified dividends earned in 2003, noted Luscombe. The main complication is figuring out what’s qualified and what’s not. Some preferred stock dividends, for example, are qualified dividends that are taxed at the new lower rate, but other preferred stock dividends are essentially interest payments, rather than true stock dividends, which means they don’t qualify for the lower rate.

Bankers and brokers paying the dividends are supposed to separate qualified dividends and nonqualified dividends on 1099 forms provided to the taxpayer. But many brokerage firms didn’t have the information systems in place to differentiate dividends properly, said Stinnett.

Stinnett believes that many investors will get revised 1099s in the next few months as their investment firms sort it all out. His advice: procrastinate.

“Don’t be in a big rush to file this year,” he said. Delay may save taxpayers from having to file amended returns when they receive amended dividend statements, he said.

* Married couples get a bigger standard deduction, thanks to an effort to reduce the so-called marriage penalty that causes two-income married couples to pay more tax than singles in similar circumstances. The standard deduction for marrieds jumped by $1,650 to $9,500 in 2003.

That may allow far more married couples to save time by taking the standard deduction rather than itemizing and also may allow them to use simpler tax forms, such as the 1040A or 1040EZ, rather than the 1040.

* Self-employed filers can write off 100% of their health insurance premium payments for the first time in 2003, up from 70% in 2002.

* The child and dependent care tax credit -- that’s a credit for parents who must pay child care expenses to work -- also rose substantially in 2003.

Parents with dependent children below the age of 13 can now claim a credit of as much as 35% of child care expenses. People can claim the credit for up to $3,000 a year in expenses for one child, or $6,000 a year for two or more children. To claim the credit, parents must fill out a Schedule 2441. Previously, the maximum credit amount was 30% of up to $2,400 in expenses for one child, or $4,800 in expenses for two or more children.

* The Lifetime Learning credit, a lucrative tax break for people paying college expenses for themselves or their children, doubled to $2,000 in 2003.

* The adoption credit, which is aimed at reimbursing parents for adoption-related expenses, was tweaked to allow those adopting special-needs children to claim the full amount of the credit, even if their qualified expenses are less. The maximum credit amount: $10,160.

The two most significant changes that affect just Californians:

* A new line will appear on all state tax forms aimed at reporting so-called use taxes. A use tax is essentially a California sales tax imposed on goods purchased from other states or over the Internet.

California residents are supposed to add up all the items that they didn’t pay sales tax on, look up a tax rate that’s based on where the goods were “used or consumed” -- that’s usually the taxpayer’s city of residence -- and calculate and pay the appropriate tax. Only 912 of the 1.7 million Californians who have filed state tax returns through Feb. 20 paid use taxes, according to Denise Azimi, a spokeswoman for California’s Franchise Tax Board.

* The Teacher Retention Tax Credit, which is aimed at encouraging teachers to remain in the classrooms, is back. It provides a significant reduction in state taxes for those with at least four years of teaching experience.

Suspended in 2002, this lucrative break is staggered based on years in the field and income earned from teaching. It can provide a maximum state tax cut of $1,500 for those with more than 20 years of teaching experience.