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Release: Immediate

Time to plan for 1998 tax bill, accounting professor says

IOWA CITY, Iowa -- As tax bills for 1997 come due in the first part of the new year, students, parents and others should be planning for 1998 to take advantage of recent changes in tax law designed to provide incentives for education, a University of Iowa accounting professor says.

Amy Dunbar, assistant professor of accounting, says the "Taxpayer Relief Act of 1997," as the new law is known, contains several provisions designed to provide some tax relief for students and parents and to boost personal saving by taxpayers.

"The act encourages some very positive things in terms of saving for education and saving for retirement," Dunbar says. "To my way of thinking, these are good incentives to have in the tax code."

Signed into law by President Clinton Aug. 5, 1997, the Taxpayer Relief Act is expected to result in a net cut of about $95 billion in federal taxes by 2002. In addition to incentives for parents and students, the new law also contains changes in estate taxes and a reduction in the capital gains tax rate.

The new law, which Dunbar calls "one of the most complex tax laws enacted in recent memory," generally will not affect taxes for 1997. But beginning in 1998, taxpayers need to be aware of some major changes.

Dunbar also cautions that many of the new provisions are mutually exclusive and will require some serious study and planning on the part of taxpayers.

"There really is a lot to think about for 1998," Dunbar says.

Provisions designed to boost education include:

-- The HOPE credit for higher education. The provision allows a tax credit of up to $1,500 per student for qualified tuition paid during the first two years of a student's post-secondary education.

-- A Lifetime Learning credit. The provision allows a tax credit equal to 20 percent of up to $5,000 for higher education expenses, including graduate-level education, for improving or enhancing job skills. The credit applies for expenses for education that begins after June 30, 1998.

Both credits phase out for single filers with adjusted gross income between $40,000 and $50,000 and for joint filers with adjusted gross incomes between $80,000 and $100,000. Both credits cannot be taken for the same educational expenses.

-- "Education Savings Accounts." After 1997, individuals can make nondeductible contributions of up to $500 per beneficiary to an education Individual Retirement Account (IRA). The money can be withdrawn to pay for college expenses without taxes or penalties if certain conditions are met. The education IRA phases out for single filers with adjusted gross incomes between $95,000 and $110,000, and for joint filers with adjusted gross incomes between $150,000 and $160,000.

Filers who use the education IRA cannot claim either the HOPE or Lifetime Learning credits.

-- More flexibility for traditional IRAs. After 1997, filers can withdraw money from traditional IRAs to pay higher education expenses without penalty. The money is taxable as income.

-- Deductibility of interest on student loans. Part of qualified student loan interest due and paid after 1997 may be deductible. The maximum deductible amount is $1,000 for 1998. The amount increases by $500 a year through 2001 for a maximum deduction of $2,500. The deduction phases out for single filers with adjusted gross income between $40,000 and $55,000, and for joint filers with adjusted gross income between $60,000 and $75,000.

-- Employer-provided education aid. An exclusion that allows employees to receive up to $5,250 in educational assistance from their employers for undergraduate courses without having to pay taxes on the aid as income has been extended. A similar exclusion for graduate courses has been dropped.

Other new provisions include:

-- A $400 credit for children. In 1998, parents can claim a tax credit of $400 for each qualifying dependent child under the age of 17. The credit increases to $500 after 1998. It phases out for single filers with more than $75,000 in adjusted gross income and for joint filers with more than $110,000 in adjusted gross income ($55,000 for married persons filing singly).

-- The "Roth IRA." Named after the chairman of the Senate Finance Committee, a Roth IRA is a new type of IRA that allows individuals to contribute up to $2,000 a year to the account. Contributions to the Roth IRA cannot be deducted from annual income taxes as with a traditional IRA, but unlike the traditional IRA, disbursements from the account are tax-free. Contributions have to remain in the account for five years.

Money can be withdrawn at age 59 1/2, or if the individual becomes disabled or if paid to a beneficiary if the person dies. Withdrawals can also be made for certain first-time homebuyers. Eligibility is limited to individuals with less than $110,000 adjusted gross income or $160,000 for joint filers.

Dunbar says the benefits of a Roth IRA versus a traditional, tax-deductible IRA are not clear-cut. The benefits will depend on individuals' current tax liability and retirement programs, future tax rates, retirement incomes and other factors.

"If the tax rates stay the same, the two IRAs are pretty much a wash," Dunbar says. "The issue is do you pay your taxes on your IRA now or do you pay your taxes in the future?"

Dunbar also reminds taxpayers to remain flexible in some of their planning, especially for the long-term. Tax laws are frequently tinkered with, depending on political changes and other factors.

"None of this is a guarantee," Dunbar says. "Laws can change and lawmakers can change their minds," Dunbar says.

For more information about the Taxpayer Relief Act of 1997 and other tax-related resources, visit the UI College of Business Administration's website at: