Tax Changes and Your 2006 Return
by Gerald Townsend, Financial Editor
February 2007

Perhaps you are an early-bird and have already finished your 2006 tax return – but I doubt it. You’re probably still gathering your information and dreading the annual tax filing chore. Well, as in most years, there are changes in the tax laws, bringing both good news and bad news.

Sales Tax Deduction: A 2004 law allowing an itemized deduction for either sales taxes or state income taxes (but not both), has been extended through 2007. Taxpayers living in states with no income tax (such as Florida) obviously benefit, but anyone with very little taxable state income may also find the sales tax deduction providing greater tax savings. For example, a state retiree whose state pension is not taxable to North Carolina might claim the sales tax deduction in lieu of a state income tax deduction.

Education Tuition Deduction: Also extended, for 2006 and 2007, is an “above-the-line” deduction for higher education tuition and qualifying fees. The deduction limit is $4,000 for single taxpayers with less than $65,000 in adjusted gross income or joint filers with less than $130,000; or $2,000 for single filers with adjusted gross income of less than $80,000 or joint filers with less than $160,000. The deduction benefits taxpayers who cannot claim the HOPE or Lifetime Learning Credits due to the lower phase-out level on those credits. You cannot claim the deduction and also claim a credit for the same student.

Teachers’ Classroom Deduction: Teachers and other education workers often incur non-reimbursed costs for classroom supplies, such as paper, pens, books, equipment, etc. A deduction for up to $250 of these costs was to expire, but has been extended.

Phone Tax Credit: A one-time credit is available for federal excise taxes paid on telephone service for the period 2/28/03 – 8/1/06. The standard credit ranges from $30 to $60, depending on your number of exemptions, but for all you pack rats who kept your phone bills, you can claim a credit for the actual amount you paid if it is higher. The credit is claimed on line 71 of the Form 1040.

Direct Deposit of Refund: If you have your tax refund directly deposited to your bank account, you can now split the refund among up to three different accounts. Note that you can have your refund deposited into an existing IRA, which is a great way to painlessly fund your retirement account instead of blowing your refund on a big-screen TV.

Restrictions on Contribution Deductions: If you make a donation to a charity, you now need a cancelled check or a receipt from the charity to claim the deduction. Therefore, a donation in cash cannot be deducted unless the charity acknowledges the donation, in writing. Also, for donations of clothing and household items, after 8/17/06, you can only claim a deduction if the items are in “good used condition or better.” This new rule does not apply for an item valued more than $500 and for which you obtain a qualified appraisal.

NC Deduction for 529 Contributions: A deduction is available on the NC tax return for contributions to the state’s 529 college savings plan. The deduction amount is limited to $750 on a single return or $1,500 for joint filers. It is only for contributions to the NC plan and is phased out when adjusted gross income exceeds $80,000 (single filers) or $100,000 (joint filers).