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2006: A look back - A look ahead  
  Taxpayers cleaned up with new credits last year, but be forewarned: Big Brother will be looking more closely in 2007.
 Personal finance calendar  Personal finance calendar 

Taxes 2006: Year of the tax credit

Thanks to this tax change, the IRS can now collect taxes on more youth-held investment earnings based on their parents' tax rates. Government accountants estimate the age change will raise more than $2 billion throughout the next decade, primarily from upper-income families.

Even more distressing for affected taxpayers, when the law making the change was enacted in May, the new kiddie tax rules were made retroactive to the beginning of 2006. That means families who had savings, typically to pay for higher education costs, in a child's name so that the earnings would be taxed as the child's lower rate now are facing taxes on the money at the parents' higher tax bracket.

"A lot of good planning for college has come undone," says Lasser spokeswoman LeValley. "When people settle up their portfolio at the end of the year, they'll need to recheck how much they will owe in kiddie tax. They might have to sell more in the portfolio to cover additional taxes they thought they wouldn't have to pay."

Some good education savings news surfaced, however, in the new pension law when lawmakers used that bill to remove a tax concern that had been worrying folks who had been putting money into 529 college savings plans. Earlier legislation allowed money in this account to be withdrawn tax-free to pay for continued schooling, but that was set to expire in a few years. Now, thanks to the Pension Protection Act of 2005, distributions from these tax-free college savings plans are permanently tax-free.

A more demanding tax collector
The tougher kiddie tax is just one part of increased enforcement efforts authorized in 2006.

The Pension Protection Act included several tax provisions designed to make taxpayers more accountable, especially in the area of charitable giving. Of immediate concern is the new requirement that any clothing or household goods donated to a nonprofit be in good shape. This condition applies to items donated on Aug. 17 and later.

Not only will this help charities, who no longer will have to sort through "gifts" that, in effect, are worthless, but lawmakers hope the requirement, and potential that an IRS examiner will question some donation claims, will ensure that taxpayers are not inflating the items' values in order to claim exaggerated deductions.

And even more enhanced enforcement efforts will take effect next year. You'll find details in Bankrate's 2007 tax trends and best moves.

Unfinished business
While 2006 was an active year for tax legislation, election year politics also proved to be a roadblock for some measures.

Multiple attempts to permanently repeal the estate tax fell short, doomed in part by partisan debates over the fairness of the tax. Advocates of repeal argue that the tax is an unfair burden on small businesses and amounts to double taxation of assets. Lawmakers who want to keep the levy contend that it affects only the most wealthy taxpayers and even then, that segment represents only a very small percentage (less than 2 percent) of taxpayers who can afford to pay or restructure their estates to minimize its costs.

Whether the contentious estate tax topic is addressed later this year depends to some extent upon the post-election partisan makeup of Capitol Hill.

Other still-pending tax measures, however, are likely to receive a warmer Washington reception, regardless of the election results.

They include 3 popular tax breaks:

Each of these expired last Dec. 31. But Washington and tax watchers expect them to be resurrected and made applicable to allowable expenses incurred in all of 2006 before the end of the year. Stay tuned to tax news sources such as for the latest on these 2006, and other, tax proposals.

Freelance writer Kay Bell writes Bankrate's tax stories. She blogs daily at Don't Mess with Taxes from her home in Austin, Texas

-- Posted: Nov. 1, 2006
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