Expect a more complicated tax filing this year

PERSONAL FINANCE

January 25, 2004|By EILEEN AMBROSE

LAST YEAR, the most common mistake taxpayers made was writing the wrong Social Security number on their federal tax return or forgetting to jot it down altogether.

If only that was the worst thing filers had to worry about.

Taxes are more complicated than ever. With many recent changes in the tax law, it's easy for filers to get confused, experts said.

To make matters worse, con artists are busy this time of year coming up with new schemes or twists on old ones to bilk taxpayers out of money or steal their identities.

So before getting too buried in your 1040, here are some common pitfalls that experts advise to look out for:

Refund anticipation loans. These are marketed to taxpayers who don't want to wait for Uncle Sam to send their refund.

Basically, filers take out a loan, tied to the size of their expected refund, and receive the money immediately or within a couple of days. The loan is repaid and fees collected when the IRS deposits the refund in a temporary bank account set up for the borrower.

But speed comes at too high a price, consumer advocates say.

Taxpayers generally pay loan fees of $35 to $90, plus another $40 for electronic filing fees, according to a report released last year by the Consumer Federation of America and the National Consumer Law Center. Based on these loan costs, the annual percentage rate for the average refund of $1,980 was about 223 percent, the report said.

There are other problems, too, said Jean Ann Fox, the Consumer Federation's director of consumer protection. If the IRS rejects any of your deductions, your refund might not cover the cost of the loan, and you could end up owing money, she said.

The better, and far cheaper, solution is to open a bank account if you don't have one and file electronically, Fox said. You can get your refund within 14 days, she said. "You may get it faster than that and you get all of it," she said.

The IRS also offers free electronic filing for the majority of taxpayers through a partnership with private companies. For more information, visit www.irs.gov.

Tax schemes. Every year, scammers try to cheat filers out of their money through tax schemes. Victims also can end up owing interest and penalties to the IRS.

The IRS is warning military families of a scheme that emerged at the end of last year's tax season. A scammer posing as an IRS employee telephoned families and told them they were entitled to a $4,000 refund because their relative is in the military. Families were asked for a credit-card number to pay for the refund's $42 postage.

The IRS doesn't ask for credit-card numbers or charge such fees. The con artist racked up charges on victims' cards instead.

Alternative minimum tax. This was created decades ago to prevent the rich from using so many deductions that they avoided paying taxes. Filers pay taxes under regular income tax or the AMT, whichever generates more revenue for the government.

The AMT doesn't allow the same deductions as regular income tax. It often hits families who make more than $75,000, take many exemptions for children or claim lots of deductions, the IRS said.

"It's not a rich person's tax anymore," said Alan Friedland, a Cockeysville accountant and father of four who was hit with the AMT last year.

More people are falling under the AMT because it was never adjusted for inflation. Also, regular tax rates have come down, but the AMT rates have stayed the same, making it more likely that taxpayers will owe more under AMT, Friedland said.

If there's a chance you might qualify for the AMT, fill out a Form 6251 to find out for sure, Friedland advised. Otherwise if the IRS discovers you owe AMT, you will pay additional taxes and interest, and possibly a penalty, he said.

Tax changes. "The biggest mistake I see is people don't take sufficient time to look at the new tax laws," said Eric Tyson, co-author of Taxes for Dummies.

That can lead to overlooking a new tax break or revisions to an old one. The IRS Web site and reference books available at libraries and bookstores are among the many resources for information on tax law changes.

If you need more time to study tax changes than the April deadline allows, consider asking for an extension, Tyson said. "Get yourself an extra four months' worth of time so you have sufficient time to learn about what tax breaks there are to take advantage of," he said.

You still will have to estimate your tax bill and pay it by April 15 to avoid interest and penalties, he added.

State taxes. Around this time, states send out notices to filers, reminding them to report state income tax refunds received the year before on their federal tax returns, said Bob Scharin, editor of RIA's Practical Tax Strategies. Read the fine print, he advised.

Generally, taxpayers who filed an itemized return last year will have to report the state refund as income now, Scharin said. Those who took the standard deduction without itemizing don't have to report the refund.

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