January 1999 Issue

MINOR ACTS OF THE TAXPAYER RELIEF ACT OF 1997

By Cynthia Bolt-Lee

Tax legislation in 1997 brought about major, highly-publicized changes. The Taxpayer Relief Act, signed into law August 5, 1997, contained more than 800 amendments and more than 300 new provisions, adding 800 pages to the IRC. High profile areas of the legislation include changes in tax laws related to capital gains rates, the child tax credit, taxation of gains on the sale of the principal residence, new and improved IRAs, education assistance, and indexing for the estate and gift tax credit. Portions of the law that have received less attention still provide positive tax benefits for the middle-class taxpayer. These range from the complex, such as the MedicarePlus Choice Medical Savings Accounts, to the simple, such as changes in the deduction for charitable mileage. The following less-publicized portions of the act are nonetheless important to the individual taxpayer.

Charitable Mileage

IRC section 170(i), pertaining to deductions related to volunteer and charitable activity, allows the taxpayer to deduct unreimbursed out-of-pocket expenses, such as the cost of gas and oil, for the operation of an automobile while performing eleemosynary services. Expenses related to repairs, maintenance, depreciation, and insurance are disallowed. Thirteen years ago, the charitable standard mileage rate was set at 12 cents per mile for those preferring to use a standard rate to figure their deduction. The changes in the standard rate in the 1997 law are the first in the deduction's history. Beginning January 1, 1998, the mileage rate for individuals who use their personal passenger automobiles for charitable use will be 14 cents. Parking fees and tolls are deductible whether the standard rate or actual expenses are used in the calculation. Automobile expenses incurred while performing services for a charitable organization, including transportation expenses while away from home performing a charitable service, are deductible only if there is no significant element of personal pleasure, recreation, or vacation involved in the activity.

Standard Deductions for Dependents

Beginning January 1, 1998, dependents of another taxpayer who are also employed are allowed a standard deduction equal to the individual's earned income (not to exceed the standard deduction of a single taxpayer) plus up to $250 in unearned income. Previously, dependents (who do not receive a personal exemption) were allowed a standard deduction equal only to that of their earned income. This amended law is intended to benefit working college students who have relatively small earnings from investments.

The original law, passed in 1986, was written to prevent wealthy parents from transferring investment income to their dependents to take advantage of their lower tax rates. The law allowed dependents a $500 standard deduction on unearned income, and if earned income was present, the standard deduction was increased to the greater of $500 or earned income. The $500 is indexed for inflation and is projected to be $700 for 1998. The result of the former law was that students earning their way through college were required to pay tax on any savings accumulated. Current law therefore allows a dependent to receive up to the standard deduction for a single individual (estimated to be $4250 in 1998) for their 1998 standard deduction in earned income, plus another $250 in interest and/or dividends, and not incur a tax liability. After 1998, the $250 amount will be indexed for inflation.

The new exclusion will also apply to dependents under the age of 14 who are taxed under the "kiddie tax" rules if earned income is present. If no earned income is present for a child under age 14, the tax on the net unearned income over $1400 (projected for 1998) will continue to be figured by reference to the parents' tax rate if higher than the child's rate.

Employer-Provided Parking

Parking is a popular fringe benefit. With city parking spaces costing between $100 and $250 per month, employers often provide parking for employees to allow a tax-free increase in compensation. IRC section 132 (Certain Fringe Benefits) allowed up to $155 per month tax free for employee parking. This amount was increased to $170 in 1997 due to the index for inflation. Effective December 31, 1997, employers are allowed to offer employees a choice between a parking space and the cash equivalent without the loss of the employees' exclusion for employer-provided parking. The $155-per-month maximum (indexed) still applies.

Parking will continue to be excluded, but employees who elect the cash option will be taxed. Previously, if the employer provided a cash option, the parking benefit was no longer excluded from tax.

Qualified parking is defined in the IRC as parking provided to an employee on or near the business premises of the employer or on or near a location from which the employee commutes to work by mass transit, a commuter highway vehicle, or carpool. This amendment is expected to provide a tax increase from taxpayers electing the cash option who will choose to use public transportation. Congress also anticipates an environmental benefit, due to the reduction in the number of commuters resulting from employers now willing to provide cash transportation reimbursement.

Payment of Tax by Commercially Acceptable Means

Prior to the Taxpayer Relief Act of 1997, only checks and money orders were allowed as payment for internal revenue taxes. IRC section 6311, formerly entitled "Payment by Check or Money Order," has been changed to "Payment of Tax by Commercially Acceptable Means." Commercially acceptable means is the phrase used by Congress defining the new options permissible for payment of a tax liability. The Secretary of the Treasury has been given the authority to specify the methods of acceptable payments, specify when payment will be considered received, and ensure that financial intermediaries are not involved in tax matters. The intention is for credit cards, debit cards, or charge cards to be allowed in the future as an acceptable means of payment in lieu of checks and money orders. Additionally, refunds resulting from billing errors are to be placed on the same debit or credit card. Issues of privacy, disclosure, liability, and resolution of dispute related to the Truth-in-Lending Act and the Electronic Funds Transfer Acts are all addressed in the amended code section.

Beginning with returns filed in 1998, taxpayers can use their MasterCard, American Express, and Discover card to make payments. The TRA '97 prohibits the payment of a fee or commission related to the collection of tax. Despite heavy lobbying by the credit card associations, banks that handle credit card transactions will not receive the standard one to two percent fee for processing transactions. Consequently, the IRS has been forced to administer the plan by requiring taxpayers who use their credit cards to pay a "convenience fee," which is essentially the processing fee normally paid by merchants. The required fee will be based on the size of the tax payment. Visa, the largest credit card company, will not be participating. According to a September 11, 1998, article in the Wall Street Journal, Visa has stated that company bylaws don't allow a surcharge to be imposed on credit card users, and they consider the fees to be "excessive."

The pilot program is being run by US Audiotex, a private company out of California. Taxpayers can dial (888) 2PAYTAX to charge their balances to their credit card regardless of how their returns are prepared. Additionally, users of TurboTax or MacInTax software can prepare, file, and pay their tax bill electronically through their personal computers.

MedicarePlus Choice Medical Savings Accounts

Beginning January 1, 1999, MedicarePlus Choice Medical Savings Accounts (MSAs) will be allowed for a four-year trial period. MedicarePlus Choice MSAs allow qualifying senior citizens to utilize a Money Savings Account or MSA to fund their health care expenses. Currently more than 33 million senior citizens are eligible for Medicare, and this program is designed to test the potential benefits of the MSA concept on Medicare recipients. Establishment of such an MSA allows tax-exempt contributions made by the Secretary of Health and Human Services (i.e., the Medicare Program) for the insured into an account in conjunction with a high-deductible MedicarePlus Choice MSA health plan. The program is designed to operate as a tax-exempt trust or custodial account created to pay qualified medical expenses. Returns on the account's investments are tax exempt and withdrawals for qualified medical expenses are excluded from income.

MedicarePlus Choice programs are a new section to the Social Security Act, representing the first change in the Medicare program since its inception in 1965. Several health plans are being added to the Medicare program, including preferred provider organizations, provider sponsored organizations, private fee-for-service plans and Medical Savings Accounts. The MedicarePlus Choice Medical Savings Account, or Medicare MSA Plan, is available on a first come, first served basis. Qualifying seniors may choose between either the traditional Medicare program or a MedicarePlus Choice plan. Congress has indicated that more than 400,000 Medicare beneficiaries spend over $5,000 in out-of-pocket costs annually. MedicarePlus Choice health plans contain a high annual deductible of up to $6,000 before reimbursing a senior citizen's medical expenses. Medical expenses that do not exceed the deductible amount will be paid for with funds from the MSA.

The Medicare MSA contains two portions: a health insurance plan and a Medical Savings Account. Medicare will pay for the health insurance premium and make a deposit into the Medicare MSA established by the individual. Medicare recipients can choose their own Medicare insurance policy from a selection of those approved by the Medicare Program. Additionally, they will select a bank or other institution to establish their MSA. The MSA trustee must be registered with Medicare. The amount deposited into the MSA by the Department of Health and Human Services is dependent upon the policy chosen and the area the insured lives in. The MSA account will not be funded with an amount equal to the health insurance policy deductible; therefore medical bills greater than the balance available in the MSA will have to be paid for personally. According to a June 18, 1998, press release from the Department of Health and Human Resources, individuals who choose the Medicare MSA are locked in for the entire year in which they enroll. Additionally, the Medicare MSA Plan does not limit what medical service providers can charge for services or products; individuals should discuss these issues with their doctors and other medical services providers.

Qualifying distributions include those medical expenses of the insured as defined under IRC section 213. Payments for insurance premiums are not considered excludible distributions unless they are made for long-term care insurance, COBRA, or insurance while unemployed. Distributions to pay for medical expenses do not also qualify as a deductible medical expense. Should the individual die, the surviving spouse beneficiary may continue the MSA for him- or herself for qualifying medical expenses. Nonqualifying distributions are included in taxable income and tax penalties of 50% apply for nonqualifying distributions that exceed an annual limit based on a formula established in the code.

According to Irving Albrecht, Blue Cross Blue Shield director of marketing and product development, the MedicarePlus Choice MSA will be marketed by insurance agents and promoted by CPAs, personal financial planners, attorneys, and other tax planners. The Secretary of Health and Human Services is working with insurance companies on the design of the MedicarePlus Choice health plan and the MSA. Provisions related to the type of organization eligible to provide the Medicare MSA and the types of benefits that must be offered have been strictly detailed. Stipulations have been made regarding the licensing of insurance policy and MSA account providers. Marketing materials must be approved before distribution.

Individuals on Medicare were not previously entitled to establish an MSA until TRA '97. The Health Insurance Portability and Accountability Act of 1996 established the Medical Savings Account for self-employed individuals, and employees/spouses of small companies. The original MSAs were set up under a four-year "test" as well. Congress created the MSA as an "IRA for medical expenses" for individuals who purchase high-deductible health insurance plans. The insured makes personal contributions to an MSA set up with a trustee and distributions are used to pay qualifying medical expenses not covered. The MSA was designed to give qualifying individuals an alternative to the high cost of medical insurance. MSAs allow the individual their choice of care and doctors and additionally encourage responsible spending on health care. However, more than a year after the MSA was made available, few have been opened. Criticism has centered around the difficulty of administering an MSA program and the risks related to the plan. The MedicarePlus Choice MSA program is available to the first 390,000 Medicare eligible seniors and ends December 31, 2002. *

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