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landmark federal legislation enacted that made comprehensive changes in the system of U.S. taxation. Among the law's major provisions:
Provisions Affecting Individuals
- lowered maximum marginal tax rates from 50% to 28% beginning in 1988 and reduced the number of basic tax bracket from 15 to 2-28% and 15%. Also instituted a 5% rate surcharge for highincome taxpayers.
- eliminated the preferential tax treatment of capital gain . Starting in 1988, all gains realized on asset sales were taxed at ordinary income rates, no matter how long the asset was held.
- increased the personal exemption to $1,900 in 1987, $1,950 in 1988, and $2,000 in 1989. Phased out exemption for high-income taxpayers.
- increased the standard deduction , and indexed it to inflation starting in 1989.
- repealed the deduction for two-earner married couples.
- repealed income averaging for all taxpayers.
- repealed the $100 ($200 for couples) dividend exclusion.
- restricted the deductibility of IRA contributions.
- mandated the phaseout of consumer interest deductibility by 1991.
- allowed investment interest expense to be offset against investment income, dollar-for-dollar, without limitation.
- limited unreimbursed medical expenses that could be deducted to amounts in excess of 7.5% of adjusted gross income.
- limited the tax deductibility of interest on a first or second home mortgage to the purchase price of the house plus the cost of improvements and amounts used for medical or educational purposes.
- repealed the deductibility of state and local sales taxes.
- limited miscellaneous deductions to expenses exceeding 2% of adjusted gross income.
- limited the deductibility of itemized charitable contributions.
- strengthened the Alternative Minimum Tax (AMT) , and raised the rate to 21%.
- tightened home office deductions.
- lowered the deductibility of business entertainment and meal expenses from 100% to 80%.
- eliminated the benefits of clifford trust and other incomeshifting devices by taxing unearned income over $1,000 on gifts to children under 14 years old at the grantor's tax rate.
- repealed the tax credit for political contributions.
- limited the use of losses from passive activity to offsetting income from passive activity.
- lowered the top rehabilitation tax credit from 25% to 20%.
- made all unemployment compensation benefits taxable.
- repealed the deduction for attending investment seminars.
- eased the rules for exercise of Incentive Stock Option (ISO) .
- imposed new limitations on salary reduction plan and Simplified Employee Pension (SEP) Plans .
- lowered the top corporate tax rate to 34% from 46%, and lowered the number of corporate tax brackets from five to three.
- applied the Alternative Minimum Tax (AMT) to corporations, and set a 20% rate.
- repealed the investment tax credit for property placed in service after 1985.
- altered the method of calculating depreciation .
- limited the deductibility of charges to bad debt reserves to financial institutions with less than $500 million in assets.
- extended the research and development tax credit, but lowered the rate from 25% to 20%.
- eliminated the deductibility of interest that banks pay to finance tax-exempt securities holdings.
- eliminated the deductibility of greenmail payments by companies warding off hostile takeover attempts.
- restricted completed contract method accounting for tax purposes.
- limited the ability of a company acquiring more than 50% of another firm to use Net Operating Losses to offset taxes.
- reduced the corporate dividend exclusion from 85% to 80%.
- restricted tax-exemption on municipal bond to public purpose bond and specified private purpose bond . Imposed caps on the dollar amount of permitted private purpose bonds. Limited prerefunding . Made interest on certain private purpose bonds subject to the AMT.
- amended the rules for qualifying as a Real Estate Investment Trust (REIT) and the taxation of REITs.
- set up tax rules for real estate mortgage investment conduits (REMICs).
- changed many rules relating to taxation of foreign operations of U.S. multinational companies.
- liberalized the requirements for employee vesting rules in a company's qualified pension plan, and changed other rules affecting employee benefit plans.
- enhanced benefit of Subchapter S corporation status.
Provisions Affecting Business
act passed by Congress that simplified the tax code and eliminated some deductions. The Tax Act of 1986 was the most significant change in the tax structure of the United States in over 50 years. Important provisions include:
-lowered the top corporate tax rate from 46% to 34%, the individual tax rate from 50% to 28%.
-set a new corporate alternative minimum tax on depreciable expenses such as accelerated depreciation on capital equipment.
-imposed a 5% surcharge, effective in 1988, for some taxpayers.
-limited the special deduction for loan loss reserves in banks above $500 million in assets. Larger banks may claim losses only when loans are written off.
-limited the deduction of interest payments on residential mortgages to principal homes and second homes, granted after August 15, 1986.
-reduced the annual limit on individual contributions to 401(k) employee savings plans from $30,000 a year to $7,000 a year.
-eliminated the 15% investment tax credit previously allowed equipment lessors.
-restricted the use of passive tax shelters to income gains or losses from investment portfolios, instead of a taxpayer's gross income.
-limited foreign tax credits on non-U.S. investments, including financial services income, passive investments, and dividends from foreign corporations in which a U.S. corporation has a minority interest. A transition period for the new tax rules extended through 1994.
-allowed net operating losses to be carried back three years and forward 15 years, except for losses attributable to bad debts. Bad debt losses retained the ten-year carry back through 1993.
-authorized sale of mortgage-backed securities through Real Estate Mortgage Investment Conduits (REMICs).
-eliminated the 100% deduction of the interest attributed to tax-exempt obligations (municipal bonds) acquired after August 7, 1986.
-imposed a 20% corporate alternative minimum tax on nonessential municipal bonds issued after August 7, 1986.
-prohibited use of cash basis accounting by banks after 1986, phased in over a four-year period.
-retained the accelerated cost recovery system for depreciating assets. However, machinery and equipment must be depreciated over a longer period.
-increased the recovery period for residential real estate, for depreciation purposes, from 19 years to 27 1/2 years, and from 19 years to 31 1/2 years for commercial real estate. Both will be depreciated under the straight line basis under the new law.
-limited fully deductible Individual Retirement AccountS to taxpayers not covered by a qualified pension plan, or individuals whose gross income is less than $40,000 on joint returns (less than $25,000 for taxpayers filing as singles).
-taxed Clifford Trusts to the trust grantor, and required that trusts and estates follow the calendar year for tax purposes.
-limited tax deductions from passive real estate tax shelters.
-eliminated the use of the installment method for sales made under revolving credit plans.
-phased out the deductibility of consumer interest charges over a five-year period, ending in 1991, and ended the deduction for state and local sales taxes.
-limited deduction of only 80% of business related expenses.
legislation to eliminate most tax shelters and write-offs in exchange for lower rates for both corporation and individuals. It was intended to be revenue neutral; that is, to bring in the same amount of revenue as the previous law.
- For individuals, it eliminated deductions for most tax shelters such as tax-advantaged limited partnerships; it eliminated special treatment for capital gains by taxing them at the same rate as ordinary income.
- Deductions for an Individual Retirement Account (IRA) no longer applied to those with incomes above $35,000 and couples above $50,000 unless they had no company pension plan. Individuals with incomes between $25,000 and $35,000 and couples between $40,000 and $50,000 got a partial deduction.
- For company-sponsored 401 (k) salary reduction plans, the maximum annual limit was reduced from $30,000 to $7000; antidiscrimination rules were tightened; and a 10% penalty was imposed for withdrawals before age 59½.
- Other administrative changes made it more expensive for companies to start or maintain a company pension plan.
- cash value life insurance was one of the few retirement vehicles to retain its tax-deferred status.
- Top individual tax rates were reduced from a series of rates going up to 50% to two rates: 15% and 28%, although the top marginal rate was 33%.
- The top corporate rate down from 46% to 34%.
- The investment tax credit was eliminated and depreciation schedules were lengthened.
- Many industries lost special advantages they held under the old code.
- The alternative minimum tax was stiffened for individuals and one was added for corporations.
most sweeping tax legislation since the beginning of World War II, having the objective of requiring people with the same amount of income to pay the same amount of taxes. It reduced the importance of tax incentives to cure social and economic problems and instead relied on taxes as a means to collect revenues.
tax benefits of life insurance
treatment of gains and losses
Copyright c 2006, 2000, 1997, 1993, 1990 by Barron's Educational Series, Inc. Reprinted by arrangement with Publisher.
Copyright © 2000, 1995, 1991, 1987 by Barron's Educational Series, Inc. Reprinted by arrangement with Publisher.
Copyright © 2007, 2000, 1997, 1987, by Barron's Educational Series, Inc. Reprinted by arrangement with Publisher.