Important Changes for 2002

This section summarizes important tax changes that take effect in 2002 and that could affect your estimated tax payments for 2002. More information on these and other changes can be found in Publication 553.

Tax rates reduced. For tax years beginning in 2002, the income tax rates have been reduced. The following items highlight these changes.

10% tax rate. The 10% tax rate is reflected in the tax tables and tax schedules. You do not have to make a separate computation or figure a credit to get the benefits of this rate.

Other tax rates. The other tax rates, 27.5%, 30.5%, 35.5%, and 39.1% are reduced to 27%, 30%, 35%, and 38.6%, respectively. These reduced rates should be reflected in amounts withheld (such as backup withholding) on certain payments made after 2001.

Earned income credit (EIC). Significant changes to the EIC take effect in 2002.

• Earned income will no longer include nontaxable employee compensation.
• EIC will be based, in part, on adjusted gross income (AGI), not modified AGI.
• New rules will be used to determine which person can claim a qualifying child when two or more persons may be able to claim the same child.
• The definition of an eligible foster child will change. The child will have to live with you for more than half of the year, instead of the whole year.
• EIC will no longer be reduced by the amount of alternative minimum tax shown on your return.

Estimated tax safe harbor for higher income individuals. For estimated tax payments for tax years beginning in 2002, the estimated tax safe harbor for higher income individuals (other than farmers and fishermen) has been modified. If your 2001 adjusted gross income is more than $150,000 ($75,000 if you are married filing a separate return for 2002), you will have to pay the smaller of 90% of your expected tax for 2002 or 112% of the tax shown on your 2001 return to avoid an estimated tax penalty. See chapter 5.

Higher education expenses. You may be able to deduct as an adjustment to income up to $3,000 of qualified tuition and related expenses you paid. The expenses can be for you, your spouse, or your dependent.

Interest on student loans. Two changes apply to the deduction for student loan interest.

• The provision that limited your deduction to interest paid during the first 60 months is repealed.
• The modified AGI phaseout amounts are increased.

For more information on the deduction for student loan interest, see Publication 970.

Coverdell education savings accounts. The following changes apply to Coverdell education savings accounts.

• Contribution limit increases to $2,000 per beneficiary.
• The income phase out increases for joint filers.
• Qualified education expenses include elementary and secondary school expenses.
• Age limits do not apply to "special needs" beneficiaries.
• Contributions may be made until April 15 of the following year.
• Tax-free distributions can be used for special needs services.

Employer-provided educational assistance. The following changes apply to employer-provided educational assistance.

• Exclusion made permanent.
• Exclusion applies to graduate level courses.

Qualified tuition programs. The qualified tuition program (formerly qualified state tuition program) includes programs established and maintained by one or more eligible educational institutions. Two other changes affect this program.

• Distributions from a state program that are used to pay qualified higher education expenses are tax free. Other distributions are subject to 10% additional tax.
• Tax-free distributions can be used for special needs services.

Tax benefits for adoption. Changes apply to the adoption credit and to the exclusion for benefits under an employer-provided adoption assistance program. These changes include the following.

• The credit for children without special needs is made permanent.
• The exclusion under an adoption assistance program is made permanent.
• The credit and exclusion amounts increased to a maximum of $10,000.
• The modified AGI phaseout amounts increased.

Benefits for public safety officer's survivors. For tax years beginning after 2001, a survivor annuity received by the spouse, former spouse, or child of a public safety officer killed in the line of duty will generally be excluded from the recipient's income regardless of the date of the officer's death. Survivor benefits received before 2002 are excluded only if the officer died after 1996. See chapter 13.

Foreign earned income exclusion. The amount of foreign earned income that you can exclude will increase to $80,000. See Publication 54.

Self-employed health insurance deduction. The part of your self-employed health insurance premiums that you can deduct as an adjustment to income increases to 70%.

Retirement savings plans. The following paragraphs highlight changes that affect individual retirement arrangements (IRAs) and pension plans.

Increased IRA contribution and deduction limit. Your maximum contribution (and any allowable deduction) limit is increased. Previously, the limit was $2,000. The new limit depends on your age at the end of the year.

• If you are under age 50, the most you can contribute is the smaller of $3,000, or your taxable compensation.
• If you are age 50 or older, the most you can contribute is the smaller of $3,500, or your taxable compensation.

Rollovers of IRAs into qualified plans. For distributions after December 31, 2001, you may be able to roll over tax free, a distribution from your IRA into a qualified plan.

Rollovers of distributions from employer plans. For distributions after December 31, 2001, you can roll over both the taxable and nontaxable part of a distribution from a qualified plan into a traditional IRA.

Hardship exception to the 60-day rule. For distributions after December 31, 2001, the IRS may waive the 60-day requirement to roll over distributions from your IRA or your employer's pension plan where the failure to do so would be against equity or good conscience, including casualty, disaster, or other events beyond your reasonable control.

Limit on elective deferrals. The maximum amount of elective deferrals under a salary reduction agreement that can be contributed to a qualified plan is increased to $11,000 ($12,000 if you are age 50 or over). However, for SIMPLE plans, the amount is increased to $7,000 ($7,500 if you are age 50 or over).

New credit for elective deferrals and IRA contributions. You may be able to take a credit of up to $1,000 for qualified retirement savings contributions.

Meal expenses when subject to "hours of service limits." If you are subject to the Department of Transportation's "hours of service" limits, the percentage of your business-related meal expenses that you can deduct has increased. For 2002 and 2003, you can deduct 65% if the meals take place during or incident to the period subject to those limits. See chapter 28.

Previous| First | Next

Publication Index | IRS-Forms Main | Home