On August 5, 1997, President Clinton sign the new tax legislation into law. Below we have outlined the changes. We will update this as more information becomes available. As always, if you have any questions please contact us here.

Capital gains rate reductions. Effective generally for sales after May 6, '97, the top rate on net capital gains drops from 28% to 20%. For sales after July 28, '97, assets will have to be held for more than 18 months to qualify for the 20% rate. An even lower 18% maximum rate will apply for assets purchased after the year 2000 that are held for at least five years.

Observation: Although the capital gains indexing provision in the House bill was not adopted, this lower maximum rate, in effect, excludes from tax some of the gains over the five-year or longer holding period that may be attributable to the effects of inflation.

The maximum rate will remain in effect for assets held for more than 12 months but for not more than 18 months when they are sold.

For taxpayers in the 15% bracket, the top capital gains rate drops to 10%, and to 8% for assets purchased after 2000 that are held for 5 years.

Homesale exclusion. As included in both the earlier House and Senate passed bills, gains of up to $500,000 on a joint return ($250,000 for single filers) from the sale of a principal residence after May 6, '97 are excluded from income.

Child credit. Beginning in '98, a $400 tax credit for each child under age 17 will be available. For lower income taxpayers, the credit will be partially refundable against payroll taxes. The credit will phase out at income levels above $110,000 ($75,000 for singles). For '99 and thereafter, the credit will be $500 per child. Unlike the original Senate bill, there is no requirement that the credit be deposited in an education IRA for children over 12.

Education tax breaks. A "Hope" tax credit will be available after '97 for 100% of the first $1,000 and 50% of the second $1,000 of first and second year post-secondary education tuition expenses. For the third and fourth years of post-secondary schooling, the credit will be 20% of up to $5,000 of tuition. Up to $2,500 per year of student loan interest will be deductible.

State prepaid tuition plans will receive tax-free treatment, but there will be a 10% penalty on amounts not used for tuition, books, room and board.

Contributions of up to $500 per child can be made to Education IRAs, with a phase out of benefits beginning at $95,000 for singles and $150,000 for joint filers. In addition, penalty-free withdrawals for education expenses will be permitted from regular IRAs.

The exclusion for up to $5,250 of benefits per year from employer sponsored educational assistance plans (EAPs), which had expired for courses beginning after June 30, '97, will be extended for three years.

Individual Retirement Accounts. The AGI-based phase-out threshold for deductible IRAs for taxpayers who are participants in an employer retirement plan (currently $40,000 for joint filers and $25,000 for singles) will be raised by $10,000 for joint filers and $5,000 for singles in each of '98, 2002, 2003, and 2004, eventually doubling the current thresholds. Nonworking spouses will be permitted to make full $2,000 annual contributions even if the working spouse is covered by an employer retirement plan, subject to phase-out beginning at $150,000. Penalty-free withdrawals would be permitted for certain education and first-time home purchase expenses.

Back-loaded IRAs will be available, for which contributions are nondeductible, but withdrawals are tax-free if the account has been established for at least five years and the account holder is at least age 59-1/2. The availability of these accounts will begin to phase-out at income of $95,000 for singles and $150,000 for joint filers.

Small business tax breaks. A home office will qualify as a principal place of business if it is used by the taxpayer to conduct administrative or management activities and the business has no other fixed location where these activities can be conducted.

The increases in the above-the-line health insurance deduction for self-employed taxpayers, currently allowed for 40% of premiums with scheduled increases to 80% for 2006 and later years, will be accelerated.

Estate tax relief. The unified estate and gift tax credit, which now shelters $600,000 of assets from transfer tax, will be increased gradually until it shelters $1 million of assets by 2007. Relief would be greater and quicker for owners of family farms and small businesses. Effective in '98, they would get a $700,000 estate tax exclusion that would apply in addition to the $600,000 sheltered by the unified credit, resulting in a total of $1.3 million of sheltered assets.

AMT relief. Small businesses will be exempted from the AMT, and the AMT depreciation adjustment will be repealed.

Excise taxes. The airline ticket tax will be reduced from 10% to 7.5% over three years (with a 9% rate effective in October '97), but each segment of a flight will be subject to a new $1 fee in '98, increasing to $3 in 2002. There also will be a $12 arrival and departure fee for international flights.

Tobacco taxes (contained in the spending bill) will increase 10 cents a pack beginning in 2000, and an additional 5 cents in 2002, bringing the tax to 39 cents a pack.

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