Tax Changes for 2005

With another new year comes another tax filing season -- and another bevy of tax changes to remember before you (or your tax professional) prepare your 2005 tax return. Here are a few that you'll want to pay special attention to.

Charitable contributions
If you donated a vehicle (including a boat or aircraft) with a claimed value of more than $500 to a qualified charitable organization in 2005, your deduction is limited to the gross proceeds from its sale by the organization. This law addresses various taxpayers' perceived abuse in overstating the value of vehicles, boats, and aircraft they donate to charity.

Furthermore, under the above circumstances, you must have a written acknowledgement of your donation from the organization attached to your return. Otherwise, you can't deduct your contribution. To read more about these changes, see my recent article.

Definition of "child"
As odd as it might seem, the tax code is so convoluted that the definition of a "child" varied from code section to code section, depending on the tax issues. But in 2005, the same definition of a qualifying child will apply for each of the following tax benefits:

• Dependency exemption
• Head of household filing status
• Earned income credit (EIC)
• Child tax credit
• Credit for child- and dependent-care expenses

Seems easy enough, right? Not so fast. If you have any unusual issues regarding your child (such as divorce, adoption, foster parenthood, etc.), make sure you know and understand the rules and the various tests that must be met. Read more about these new rules here.

Clean-fuel vehicles
The rules have changed significantly. For 2005, the proposed 50% reduction of the maximum electric vehicle credit and the clean-fuel deduction has been eliminated. You can claim the maximum electric vehicle credit allowed for a qualified electric vehicle you placed in service in 2005, and the maximum deduction allowed for qualified clean-fuel vehicles or other clean-fuel property placed in service in 2005. As I discussed in my recent article, there's more to come in 2006.

Standard mileage rates
Again, something so simple has now become complicated. There are now a number of different rates, depending on how and when you used your car. I can't make this stuff up. Here's an overview -- I'd call it "brief," but I can't do so with a straight face -- of the mileage rules:

For Jan. 1, 2005, through Aug. 31, 2005, the rates are:

• 40.5 cents a mile for business miles.
• 14 cents a mile for services provided to charitable organizations, but...
• 29 cents a mile for charitable services related to Hurricane Katrina, if driven after Aug. 24, 2005, and before Sept. 1, 2005.
• 15 cents a mile for medical reasons.
• 15 cents a mile for moving.

But because of the "gas crisis" near the end of the year, some of the rates changed. Here are the rates for Sept. 1, 2005, through Dec. 31, 2005:

• 48.5 cents a mile for business.
• 14 cents a mile, still, for charity.
• 34 cents a mile for Katrina-related charity.
• 22 cents a mile for medical reasons.
• 22 cents a mile for moving.

In effect, and in order to claim the appropriate deduction, you'll have to track your mileage by dates ... both before and after Sept. 1. Sheesh.

IRA contributions
If you have a traditional individual retirement account (IRA) and are covered by a retirement plan at work, you can now have a greater amount of income without being affected by the deduction phase-out. The amounts vary, depending on filing status. Again, these are a bit too complicated to note here, but you can read more about the increased income phase-out rules in this article.

Additionally, the amount you (and your spouse if filing jointly) may be able to deduct as a Roth or traditional IRA contribution will increase to $4,000, or $4,500 if you're age 50 or older at the end of 2005. But remember that the income phase-out rules regarding contributions to a Roth IRA have not changed.

Here are a few tax items that, while not technically changes for 2005, should not be overlooked:

Educators' deduction
This deduction was scheduled to have expired at the end of 2003, but was restored for two more years. Therefore, it's still available for qualified educators for 2005. Read more about it here.

Sales tax deduction
This deduction was new in 2004 and expired at the end of 2005, but is still available for use for the 2005 tax filing season. Essentially, taxpayers who itemize deductions will have a choice of claiming a state and local tax deduction for either sales or income taxes on their 2004 and 2005 returns. Sales taxes paid on motor vehicles and boats may be added to the table amount. Read more here.

Sale of personal residence acquired in a like-kind exchange
This is another change that might have slipped under the radar for many taxpayers -- but it's one you need to know. If you convert rental property to a principal residence, a tax law change may limit your ability to exclude the gain on the sale of that residence if you obtained the property through a like-kind exchange.

Generally, a taxpayer can exclude up to $250,000 of a gain on the sale of a home, provided he or she has owned and used it as a principal residence for two out of the five years before the sale. (The exclusion is $500,000 for a married couple, if both meet the use test.) However, the American Jobs Creation Act of 2004 does not allow any exclusion if the taxpayer sells the home within five years of acquiring the property through a like-kind exchange. The new law applies to sales after Oct. 22, 2004.

That should keep you busy as you're preparing your 2005 return. Good luck to all of us!

When he's not dealing with tax issues, Roy Lewis is a motivational speaker who lives in a trailer down by the river. He understands that The Motley Fool is all about investors writing for investors. You can take a look at the stocks he owns, as long as you promise not to ask him which stock to buy. He'll be glad to help you compute your gain or loss when you finally sell a stock, though.