The tax bill passed by the House last week would have a sweeping impact on almost every one of America's 101 million taxpayers, cutting taxes by 9 percent on average.
The broadest change in the bill is a reduction in personal tax rates that drops the top rate from the current 50 percent to 38 percent and replaces the current 14 tax brackets with four.
Generally, the tax bill before the Senate would benefit low-income taxpayers the most. Many other taxpayers also would benefit from the lower rates, but its impact would vary. Some taxpayers even may pay more taxes if the bill becomes law.
This article is designed to help you calculate what your taxes would be under the revision proposal, based on your 1984 income, by using your 1984 tax return. A copy of a return is on Page K5.
A few warnings are in order first: Only the income items and deductions claimed by most individual taxpayers are discussed here. Numerous changes that affect mostly businesses but also are used by individuals, such as depreciation deductions, are not included. More taxpayers also may find they would have to calculate their taxes under the broadened minimum tax, which is not discussed here. The minimum tax is an alternate set of calculations required for those who would have to pay little or no taxes using the standard calculations.
Also, the results of this exercise will make your taxes under the House bill slightly lower than they actually would be. The tax brackets in the legislation are set for incomes for 1986, while you will be calculating the results with 1984 figures and comparing them to your actual 1984 taxes. Readers willing to use a little math to overcome that discrepancy will find instructions at the end of the article.
These computations, compiled with assistance from Stephen Corrick, tax partner with the accounting firm of Arthur Andersen & Co., assume that the rate reductions are fully effective in 1986. In the bill, they do not begin until July 1 of next year, even though the changes in deductions are scheduled to take effect Jan. 1. So your taxes would be higher in the first year than these calculations will show.
So, get out your tax return from last year, either the 1040 long form or the shorter 1040A. Users of the shortest form, the 1040EZ, would experience only a few changes summarized later.
Income. Now, start with the income items on the first page of your form. There would be the following changes in that section:
*On line 9b (8b on the 1040A), the exclusion for dividend income would be repealed. That space would be blank.
*On line 13 (this is not on the 1040A), the amount will reflect a change in the income excluded from the tax on capital gains. The exclusion for capital gains as calculated on schedule D would be 42 percent instead of the current 60 percent. A short-cut way to get the new amount is to add to the figure on line 13 of your 1984 return 30 percent of the amount claimed under the exclusion.
*On line 20a (9a on the short form), enter all the unemployment compensation you received. It would be fully taxed under the bill. Do not use the worksheet.
*If you yourself (as opposed to your employer) contributed more than $7,000 to a 401(k) retirement plan, the excess over $7,000 should be entered as income in a new line on both forms.
*If your employer paid more than $5,000 for day care for your child or dependent, the excess over $5,000 must be counted as income in another new line.
You now should be able to recalculate your total income on line 23 (line 10 of form 1040A).
Adjustments to Income. In the next section on your tax form, the bill also includes several changes in the adjustments to income:
*On line 25 (there is no equivalent on the short form), employe business expenses can be claimed only by itemizers, and it has been moved to Schedule A. Take it out now; it will be discussed later.
*On line 26a (11a and b on the short form), reduce your IRA deduction by any amount you have contributed to a 401(k) retirement plan. If you have $2,000 or more in a 401(k), your IRA deduction would be zero. The limitation applies only to individuals, so that a working spouse could have a full IRA even if his or her spouse had a large 401(k).
*On line 30 (12 on the 1040A), the two-earner deduction would be repealed, and the amount you claimed for 1984 could not be deducted.
You now should be able to recalculate your adjusted gross income and enter the new figure on line 32 on the long form or line 14 on the short form.
Tax Computation. The going gets a little tricky in the next section. The bill does away with the zero bracket amount -- the amount of money a taxpayer may earn before any tax is owed -- and replaces it with an enlarged standard deduction. The effect is the same, but the change makes the tax calculations different.
Because the standard deduction for all three categories of taxpayers is larger than the current zero bracket amount, the change also may affect a taxpayer's decision on whether to itemize deductions. Added to that is the fact that the personal exemption under the new bill is $500 larger for each taxpayer or dependent if the standard deduction is taken. A third change would extend the deduction for contributions to charity by nonitemizers to the extent those contributions exceed $100.
The result of those three changes is that, even if you itemized last year, you might be better off calculating your taxes under the bill by taking the standard deduction. The best way to tell is probably to try it both ways.
For those who itemize their deductions, here are the changes they should enter on Schedule A:
*On lines 11, 12 and 13 of that form, you can deduct interest on mortgages for up to two homes. If the total of all additional interest paid is greater than $10,000 for a single taxpayer and $20,000 for a joint return plus your net investment income, you cannot deduct the excess.
*On line 20, the deductions for employe business expenses have been combined with the deduction for union and professional dues, and the total can be taken as a deduction only to the extent that it exceeds 1 percent of adjusted gross income.
*On line 25, Schedule A tells you to enter one of three figures offered and subtract it from your itemized deductions. Because of the change from the zero bracket amount to the standard deduction, you should not do that. You will want to enter your total deductions on line 34a of the long form.
Nonitemizers, on the other hand, should alter what they did in 1984 by subtracting the new standard deduction from their adjusted gross income before calculating their personal exemptions. The proposed standard deductions are as follows:
*Married filing jointly or surviving spouses: $4,800.
*Single heads of household: $4,200.
*Single individuals: $2,950.
*Elderly and/or blind: an additional $600.
Those figures can be entered on line 34a of the long form to arrive at a taxable-income figure. There is no comparable line on the short form, so you will just have to pretend there is a line on which to enter the standard deduction between lines 15 and 16.
Nonitemizers now should recalculate their deduction for contributions to charity on line 34b of the 1040 or 16 of the 1040A, entering the total amount of contributions minus $100. This can be done before or after taking the standard deduction.
Nonitemizers next should calculate the value of their personal exemptions by multiplying $2,000 times the number of exemptions claimed. Itemizers multiply the number of exemptions times $1,500. Elderly and blind taxpayers could take only a single exemption, not the double one they get now.
1040EZ Forms. Users of the 1040EZ form can use the following tax-rate table if they make two changes in their 1984 returns:
*On line 4, enter the amount of your contributions to charity minus $100.
*On line 6, the personal exemption is $2,000.
Tax-Rate Tables. Now users of all three kinds of tax forms should be able to calculate their tax from the following tax-rate information. Remember that this is not your final tax bill; you still have to subtract tax credits, as described below.
If you used Schedule G last year to average your income over the last three years, you will have to recalculate your taxes without it, as the plan repeals income averaging.
The following information is not the same as what is in the tax tables you use when filling out your return in the normal way. Instead, using this information will take a little math. Find the filing category you fit in, then find the range where your taxable income fits. Then apply the appropriate percentage.
For example, if your taxable income for a married couple is $50,000, your tax would be $10,950 -- $8,500 plus 35 percent of the $7,000 amount over $43,000, which is $2,450. Married filing jointly 0-$22,500: 15 percent. $22,500-$43,000: $3,375 plus 25 percent of amount over $22,500. $43,000-$100,000: $8,500 plus 35 percent of amount over $43,000. $100,000+: $28,450 plus 38 percent of amount over $100,000. Single: 0-$12,500: 15 percent. $12,500-$30,000: $1,875 plus 25 percent of amount over $12,500. $30,000-$60,000: $6,250 plus 35 percent of amount over $30,000. $60,000+: $16,750 plus 38 percent of amount over $60,000.Single head of household 0-$16,000: 15 percent. $16,000-$34,000: $2,400 plus 25 percent of amount over $16,000. $34,000-$75,000: $6,900 plus 35 percent of amount over $34,000. $75,000+: $21,250 plus 38 percent of amount over $75,000.
Tax Credits. The end is near. But you still have to recalculate some of the tax credits available in 1984:
*On line 43 of form 1040, the credit for expenditures on energy-efficient installations in the home would be repealed.
*On line 44 (21b on the short form), the tax credit for political contributions would be changed. The new credit would cover 100 percent of contributions (the current credit covers 50 percent) up to $100. It would include only contributions to congressional candidates, not candidates for state and local office.
*On line 59 (line 24b on the 1040A), the earned income tax credit would be increased. It would cover 14 percent of the first $5,000 of earned income, up to $700. The level of adjusted gross income at which the credit would begin phasing out is $9,000, and the credit could not be taken at all when adjusted gross income reached $16,000.
*On line 62 of the 1040 form, the credit for special fuels would be repealed.
That should enable you to reach a bottom line that you can compare with the taxes you actually paid in 1984. If you want to adjust your taxes so that the discrepancy brought about by inflation indexing is accounted for, increase the amount of your adjusted gross income in the recalculation by 8 percent (an approximation of two years of inflation). Do the same to your recalculated itemized deductions (but not to the new standard deduction). Find your taxable income and calculate the tax. To make your 1984 taxes comparable to your adjusted taxes under the recalculation, increase them by 8 percent as well.