Social Security Entitlements: The proposals to “fix” Social Security address the transition from today, when current worker contributions still fund benefits to present retirees, to sometime after 2040, when there will be a short fall as the inflow will be less than the promised benefits. (In fact, Social Security has had a surplus that it lends out, but that in turn causes budget problems to pay interest and principal on that loan.)

There are several alternative solutions proposed. President Bush wants to “privatize” individual accounts, in hopes that stock market returns will make up the short fall. However, many future beneficiaries may be unwilling to take this risk or may take the risk and lose money. This could therefore exacerbate the problem. Another solution is to remove the cap on FICA taxes to provide more funds so there will not be a short fall. This is unlikely to pass as many oppose the increased tax. Another solution is to reduce future benefits. This is a likely outcome, but not a popular one, as social security has been considered an entitlement for generations. We will keep monitoring this issue for future developments.

Income Taxes: Many found that they had to pay the Alternative Minimum Tax or AMT this year. Some describe this as a stealth tax, hitting 2.9 million taxpayers with an average of $6,000 over the regular tax for 2004. (The AMT could hit 18 million people by 2006.)

This answers the cynics who predicted that the Bush administration, plagued by budget deficits, had to eventually raise taxes. With a 28% bracket, the AMT is complex and nearly impossible to calculate without the aid of software. It was created in 1969 and has not received the same inflation adjustments that have been given other tax provisions. (For strategies on avoiding the AMT, see the March 22 update below.)

Home office: The use of a dedicated space as a home office received more favorable treatment from the IRS over the last few years. If you run a business from your home, you can deduct the allocable portion of utilities, insurance and repairs, as well as property taxes and mortgage interest. The IRS also requires that you depreciate the home office. Thus, you get a tax benefit now but when you sell your home, that depreciation comes back as a taxable capital gain.

Estate taxes: The current federal credit is scheduled to rise to $3.5 million in 2009, the estate tax then disappears for the year 2010, and then the credit falls back to $1 million. President Bush wanted to eliminate the “death tax” but does not have the votes. What seems more likely to pass Congress is a permanent increase in the credit so that estate under $5 million or so will not be taxed. We will update you on this when something more formal occurs.

Investing: Interest rates have continued to rise, so that long-term corporate bonds now pay more than CDs with similar maturities. People holding cash should consider cautiously moving into bonds with intermediate maturities. At the same time, cash available for investment should also be added to international funds if you do not presently have an adequate allocation.