by Cecily Fraser and Kara Stefan, July 11, 2001

HAMPTON ROADS, Va. (CBS.MW) – Since the $1.35 trillion tax bill was enacted last month, financial planners have been outlining strategies that their older clients can use to maximize tax savings. It’s a complex process because many benefits are phased in, and some won’t take effect for years. And many key provisions in the package are directed toward a younger constituency, experts say.

“The trend in the last decade has been to not give much in the way of tax breaks to older Americans.”
– Bob McIntyre,Citizens for Tax Justice

“Lately, there’s been a big focus on increasing tax breaks for children, which almost by definition excludes the elderly,” said Bob McIntyre, director of Citizens for Tax Justice. “So the trend in the last decade has been to not give much in the way of tax breaks to older Americans.”

Still, sweeping retirement savings reform and catch-up provisions are heralded as one of the bill’s biggest perks for the over-50 crowd. The new law also reduces the so-called marriage penalty and expands tax breaks for education.

Yet other provisions, such as the eventual repeal of the estate tax, are as much a cause for confusion as relief, experts said. Here’s a look at how the legislation affects older Americans:

Tax cuts

The median tax cut for elderly couples and singles will total $176 a year once the bill is fully phased in, McIntyre said. For non-elderly people, or those under age 65, the median is $699. “The elderly get about a quarter of what the rest of the population gets,” he said.

Some interest groups and lawmakers are concerned the $176 cut will endanger older Americans’ retirement by constraining spending on national priorities such as Medicare and Social Security. “To the extent that we use up all the resources, whether it be for tax cuts or other spending priorities, if there’s not sufficient funds left over to shore up Social Security and Medicare, that would be a missed opportunity,” said David Certner, AARP’s director of economics.

Retirement savings perks

Americans over 50 will be allowed to supercharge their retirement savings. For example, they can sock away $500 more in Individual Retirement Accounts between 2002 and 2005, and an extra $1,000 between 2006 and 2008, said Joyce Franklin, principal at Franklin Financial Advisors.

They can also put in their 401(k)s plans an additional $1,000 next year, rising in $1,000-a-year stages to an extra $5,000 in 2006 and later years.

Maximum contributions to 401(k) plans will rise from $10,500 to $11,000 in 2002, and then increase by $1,000 a year until they reach $15,000 in 2006. At that point, people over 50 can contribute an additional $5,000, so they could “catch up” their retirement savings. Franklin said.

The plan also affects 403(b) plans for employees at schools and non-profit organizations, and government workers’ 457 plans. See full story.

“You’re able to save a little extra by contributing to a retirement plan because you are not taxed on the earnings,” until withdrawn, she said.

Education incentives

New provisions to education savings plans allow seniors to transfer more assets out of their estates to provide for their grandkids’ education. In 2002, contributions to the Education IRA will increase to $2,000 from the current $500. An additional incentive is that the use of these funds has been expanded to payment of a K-12 private education.

While the already-generous contribution limit for state 529 college savings plans remains the same, seniors may view the new federal tax-free distributions for qualified expenses as an additional incentive for transferring more of their estate into these plans. In addition, grandparents funding Section 529 plans now have the option to change beneficiaries if they see fit, Franklin said.

Sunset provision

If you can plan to die in 2010, then you’re in great shape. That’s the advice from certified financial planner Steve Pomerantz of Boca Raton, Fla. The estate and generation-skipping transfer taxes are scheduled to be eliminated by 2010, starting with a reduction from 55 percent to 50 percent in 2002 and eventually phasing down to 45 percent in 2009.

Furthermore, the so-called “death tax” is slated for full repeal in 2010. Yet the abolishment is a bit like a Cinderella story: It turns back into a pumpkin on January 1, 2011.

“Clearly the legislation cannot stay this way — it would be a nightmare,” said Larry Torella, a tax partner with the accounting firm of Richard A. Eisner & Company in New York. “Seniors should not assume their estates will be okay as long as they live until 2010.” The prospect for repeal has created indecision among seniors about what to do with their estates, Milner said. Before, the goal was to restructure affairs to avoid the 55 percent estate tax.

“But now, the phase out is very modest in the first year,” Milner said. “There’s not that dramatic a change until 2010.”

Bottom line: If you already have an estate tax in place, Milner said it’s best for older Americans to maintain the status quo, as the new provisions won’t make much of a difference.

However, if haven’t devised an estate plan, don’t just say, “screw it … I’m going to live 10 more years and then do something about my estate in 2010.”

Increasing lifetime exclusion

One provision that will immediately benefit heirs of high-net-worth seniors is the increase in the amount exempt from gift and estate taxes, from $675,000 to $1 million, effective in 2002.

This allows seniors who have already used up their $675,000 exemption to grant an extra $325,000 ($650,000 if married) more in tax-free gifts to heirs. Regardless of whether the estate tax is repealed, you can take advantage of this opportunity to move more money out of your estate.

Torella hastened to point out that future increases in the lifetime exclusion make it necessary for many seniors to change the language in their wills. “Many wills use the standard language that the entire estate will go to the surviving spouse, minus the current exemption, which will pass on to their children.”

The problem, according to Torella, is that by 2009, the exclusion will rise as high as $3.5 million. “If your estate is only worth $3.5 million, you’ll end up leaving the bulk of it to your kids and nothing to your wife,” Torella said. The solution is to change the language in your will to state the exact amount you wish to leave to your children.

Marriage no longer a liability

Previously, married couples filing jointly in the 15 percent tax bracket paid more in taxes than the single taxpayer, and were also denied double the standard deduction of a single tax filer.

However, in 2005, the new tax plan attempts to eliminate this penalty by increasing the size of the 15 percent regular income tax bracket for married couples filing jointly so that by 2008, it will be twice the amount of the 15 percent bracket of a single taxpayer. In addition, the standard deduction for married couples will increase each year until 2009, when it will equal twice that of a single tax filer.

This is good news for seniors, who do not tend to be big deductors — considering many live on fixed incomes and own their homes outright. “Most end up taking the standard deduction,” Milner said, “So the phase-in of the greater standard deduction is definitely a benefit to a large number of seniors.”

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