Recent developments in individual taxation.

• Author: Cook, Ellen D.

This article covers recent significant developments affecting taxation of individuals, including cases, regulations, and legislative changes. The items are arranged in Code section order.

Sec. 1: Tax Imposed

Kiddie tax: The Small Business and Work Opportunity Tax Act of 2007, P.L. 110-28, increased the age requirements for Sec. 1(g) (the kiddie tax) effective for tax years after May 2007. The new law expands the application of the kiddie tax to investment income of children under age 19 (under age 24 if a student). Specifically, the kiddie tax now applies to a child aged 19-23 1. The child is a full-time student before the close of the tax year; and 2. The child's earned income does not exceed one-half of his or her support.

Foreign dividends: Notice 2006-101 (1) gives an expanded list of countries with treaties that satisfy the requirements of Sec. 1(h)(11)(C)(i), allowing for dividends paid by qualified foreign corporations in such countries to be taxed as capital gains. The notice lists 55 treaties. Two new treaties--those with Sri Lanka and Bangladesh--are on the list. A 2004 protocol to the U.S.-Barbados treaty has made that treaty satisfactory, and it too is now on the list. Three U.S. tax treaties do not meet the requirements: those with Bermuda, the Netherlands Antilles, and the U.S.S.R. (which applies to certain former Soviet republics).

Sec. 21: Child and Dependent Care Credit

Final regulations on the child and dependent care credit (TD 9354), issued effective August 14, 2007, closely follow the proposed regulations issued on May 24, 2006 (REG-139059-02). The final regulations include extensive examples that clarify who is a qualifying individual, what household services and educational programs may be included in employment-related expenses, and the timing and computation of employment-related expenses for child and dependent care credit purposes. For example, the regulations make it clear that expenses for a child in kindergarten or higher grades and for summer school, tutoring, and overnight camps do not qualify for the credit, but day programs such as math camp or computer camp may.

In determining what constitutes a "short, temporary absence" from work for purposes of the child and dependent care credit, the regulations provide a safe harbor that treats an absence from work of no more than two consecutive weeks as such. Unlike the proposed regulations, this safe harbor is not limited to taxpayers who pay for the dependent care on a weekly, monthly, or annual basis. (2)

Sec. 53: Credit for Prior Year Minimum Tax Liability

Some individuals have Large amounts of minimum tax credit (MTC) for alternative minimum tax (AMT) paid in prior years that was attributable to deferral adjustments, frequently caused by AMT resulting from the exercise of incentive stock options. Because the MTC is a nonrefundable credit, and because of the limitations of Sec. 53(c), many of these individuals are unlikely to ever be able to use much of their MTC.

New Sec. 53(e)(4), enacted by the Tax Relief and Health Care Act of 2006, PL. 109-432, makes the MTC refundable for individuals with long-term unused credits. The change applies to tax years beginning after December 20, 2006, but before January 1, 2013. Taxpayers who have long-term unused MTCs are entitled to an MTC equal to the greater of the AMT refundable credit amount or the amount of allowable MTC under the preexisting Sec. 53(c) limitations, but subject to adjusted gross income phaseouts.

Sec. 61: Gross Income

Tax gap: In August 2007, the Service released its report on the tax gap, Reducing the Federal Tax Gap: A Report on Improving Voluntary Compliance. The report, which builds on an earlier report, Comprehensive Strategy for Reducing the Tax Gap (September 2006), lists actions the IRS is taking and may take to reduce the tax gap.

Recommendations in the report include:

* Require more information reporting, such as for payments of $600 or more to corporations, basis reporting by stockbrokers, reporting by auction houses, or reporting by merchants who process credit card receipts for businesses.

* Require certified taxpayer identification numbers from contractors.

* Increase information matching and audit activity for individuals living abroad.

* Do a better job of selecting returns for audit.

* Improve taxpayer service.

* Work with Congress to further simplify the law regarding the uniform definition of a child, EITC eligibility, and the refundable child tax credit.

* Work with other...