Partisan bickering shelved hopes for a major tax bill in 1996, but Congress passed significant tax changes by folding them into three recent pieces of legislation that the president has promised to sign into law.
In fact, when taken together, the changes included in the minimum wage act, the health insurance portability bill and the welfare reform law are the most extensive package of new tax laws passed in a decade, according to CCH Inc., a publisher of tax information based in Riverwoods, Ill.
Here’s a look at some of the less publicized consumer-oriented changes.
– Accelerated death benefits gain tax-favored treatment. A long-standing question about the taxability of accelerated death benefits–also known as viatical settlements–has been answered by the health-care bill. Starting next year, terminally ill people who sell their life insurance contracts will not have to pay federal income taxes on the income they receive from that sale. Chronically ill individuals–those who have more than 24 months to live, but who have suffered functional impairments because of their disease–would be able to exclude up to $175 per day in accelerated life insurance benefits, if the benefits are paid pursuant to a rider that treats the policy like a long-term care insurance contract.
– Adoption assistance offered. In the past, if you adopted a special-needs child–one who was unlikely to be adopted because of physical, emotional or mental handicaps or other problems–you could have received up to $1,000 in non-taxable government assistance to reimburse you for some adoption expenditures.
The minimum-wage law provides an additional tax break to all adoptive parents, regardless of the child’s special needs. This non-refundable tax credit would amount to the family’s qualified adoption expenses up to $5,000 per child. Those who adopt special-needs children would get an additional $1,000 credit for a total of $6,000.
What are qualified adoption expenses? Attorney’s fees, court costs and other expenses directly related to a legal adoption. Even construction and renovation costs would be eligible for the credit if a state agency required you to add on to your house to adopt a child, according to a summary of the legislation prepared by the Bureau of National Affairs in Washington, D.C.
Any portion of the credit that wasn’t used up in the year the expenses incurred could be carried forward and used in subsequent tax years.
However, no credits are allowed for illegal adoptions, surrogate parent arrangements or in connection with adopting the child of the taxpayer’s spouse. The credit is phased out for those with modified adjusted gross income above $75,000 and is completely eliminated for those with more than $115,000 in modified AGI.
– Damage awards land new tax treatment. In the past, if you won compensatory damages in a court case involving a personal injury, the damages were exempt from federal income taxes, says Philip J. Holthouse, partner at Holthouse Carlin & Van Trigt in Los Angeles. However, the minimum wage law stipulates that compensatory damages are only tax free when there is a physical injury. Emotional and other personal injuries will not qualify for the preferential tax treatment, he says. In addition, punitive damages will always be taxable–regardless of whether or not they result from a physical injury–thanks to the new law.
These rules go into effect on the date of enactment, but settlements involving continuing payments will continue to be tax free if they were entered into by Sept. 13, 1995.
– Expatriates penalized. The health insurance bill raises revenue by penalizing people who give up their U.S. citizenship and move to foreign lands.
Under current law, expatriates can be subject to U.S. taxes if the Internal Revenue Service can prove that they left the country to avoid taxes, says Holthouse. However, the new law eliminates that burden of proof. In the future, the government will assume that those with annual income exceeding $100,000 or assets in excess of $500,000 who leave the United States and renounce their citizenship have moved to avoid taxes. That gives the government the ability to tax these expatriates on their U.S. source income for up to 10 years, Holthouse says.
There are a few minor exceptions for people who currently have dual citizenship or were born in foreign countries.
