Don't Mess With Taxes

The IRS this afternoon announced how it plans to handle the tax legislation -- the Tax Relief and Health Care Act of 2006 aka extender tax breaks -- that was signed into law just a couple of days ago.

The first thing to know is that the 2007 filing season will begin on time. You can still file your return next month as soon as you get all your necessary documentation.

But, and it's a big but, the IRS warns that the recent law changes mean it won't be able to process a "small percentage" of individual tax returns until early February.

One estimate is that about 1 million out of the 136 million expected returns will be delayed. They primarily will be from filers claiming the long-delayed and highly-publicized state and local sales tax deduction, which has to be itemized, as well as the higher education tuition and fees and educator expenses adjustments to income, both of which can be claimed regardless of whether you itemize or claim the standard deduction.

The most problematic is the sales tax deduction, since the amounts vary in each of the states in which the taxes are collected. To help filers who plan to take this deduction know what they need to do and what to look out for on the now-outdated forms, in early January the IRS will be sending about 6 million filers Publication 600, which includes the applicable sales tax tables and instructions.

If you don't get the document in the mail, don't worry. It was posted Friday at the IRS Web site.

In the coming weeks, the IRS site probably will become your best filing friend (next to me and Don't Mess With Taxes, of course!). The agency plans to continually post relevant filing data regarding the problems caused by Congress' late passage of laws affecting 2006 returns. Let's hope they do indeed follow through with that promise.

E-filing efficiency: Of course, if you file electronically, either paying around $15 to do so or at no cost if you qualify for IRS Free File, the tax software will be updated to include the late-breaking provisions.

I spoke with a TurboTax rep in early December, while Congress was still screwing around, and she assured me that the company was on top of the situation.

"Our desktop software was out in retail stores right before Thanksgiving. Same timing as in prior years," said Julie Miller, spokesperson for Intuit, maker of TurboTax. "Every year, we release the product before all IRS forms are final. Many of our customers like to get a jump on tax planning, etc.

"We are watching the extender bill closely and will update TurboTax software accordingly once those decisions are finalized. It typically takes us 10 to 14 working days to translate the changes and get the update out to customers, so the turn-around is quick.

"As you know, we push updates to the software well into February, as federal and state tax forms are finalized. Customers just click a button to get the most updated tax forms via the Web. We create a 'hard stop' in the product at the print/file screen that requires customers to update before they complete their return to ensure they have all final forms."

I suspect it's the same playbook for the other tax software makers, such as TaxCut and TaxACT. They all should be used to the routine, as lawmakers seem to like putting off doing their jobs until the very last moment, regardless of what the issues are and who's in ostensible charge of Capitol Hill.

IRS Commissioner Mark Everson is encouraging filers who think they'll claim one of the three extenders to do so electronically. That way the questions of exactly where to enter the relevant data will be answered by the updated software.

The raw numbers are part of why the commissioner is pushing for e-filing. According to the IRS, on 2005 returns the sales tax deduction was claimed on approximately 11.2 million returns, the tuition and fees deduction on about 4.7 million and the educator expense deduction on 3.5 million returns.

But if the 2006 claims are on electronically updated forms that take the tax breaks into account, it'll make things easier -- and quicker -- for the tax processors.

Putting pencil to paper: If you insist on filing your taxes via paper and snail mail, you're going to have to use existing lines on the 2006 Form 1040 and Schedule A to claim the extender provisions. All tax forms, as noted previously in DMWT, went to print in early November and reflected the law in effect at that time.

Since the paper forms won't be updated, here's where you'll need to enter your claims the old-fashioned way.

State and Local General Sales Tax Deduction: You'll claim this on line 5 of Schedule A, listed as "State and local income taxes." Enter "ST" on the dotted line next to where the amount goes to indicate you're taking the general sales tax deduction.

Higher Education Tuition and Fees Deduction: To claim this tax adjustment, which could reduce your taxable income by as much as $4,000, you'll have to file Form 1040 (yes, it used to be available on 1040A, but not this year). On line 35 of the 1040 form, which is labeled "domestic production activities deduction," write "T" on the dotted line and then enter the tuition and fees amount you are claiming.

If you're also taking the domestic production deduction, add both amounts and enter the figure on line 35 and on the dotted line write "B." In this case, you'll also need to attach a breakdown showing the amounts claimed for each deduction.

Educator Expense Adjustment to Income: This tax break for up to $250 of out-of-pocket classroom expenses also can be claimed only on Form 1040 this year. You'll enter the amount on line 23, which is designated for "Archer MSA Deduction" claims and enter "E" on the dotted line.

If you're claiming both an Archer deduction and the educator expenses, the drill is the same as noted earlier. Write "B" on the dotted line and attach a breakdown showing the amounts claimed for each deduction.

Got all that? Sure, it'll be a bit of a pain, especially if you file using paper forms. But it's not an insurmountable challenge. The harder thing is going to be waiting for the agency to process your 1040 and get your money back to you!