October 28, 2009

Effects of Recession on Tax

In these recessionary times, the IRS may have to take measures to reduce workers' contributions to their 401(k) plans. In October, the IRS will announce the plan to limit 2010 contributions based on a formula linked to the rate of inflation in the 3rd quarter versus the rate of the same quarter last year.

In 2009, most workers can contribute up to $16,500 to their 401(k) plans plus an additional $5,500 if they are 50 years old or older. But if the current recession causes deflationary pressures and prices of goods and services go down, then the IRS may be forced to reduce the limit to $16,000 while the limit for catch-up contributions will be brought down to $5,000 in 2010. This would be the first time that such a downward revision is done.

However, it is still premature to predict the exact limits for 2010 that the IRS will set because some official economic figures for inflation are still outstanding.

A negative inflation rate may affect those on Social Security benefits as it would reduce their cost of living adjustments for 2010 and 2011, according to a prediction by the trustees overseeing Social Security. This would again be an unenviable first for seniors since cost of living adjustments were initiated in 1975. Seniors have never failed to receive a cost of living adjustment since its inception. The Social Security Administration will make an official announcement about next year's adjustment in October.

The Social Security benefits themselves do not decline, being prohibited by law from being decreased. But the Medicare Drug Program premiums are expected to rise by 11% next year and seniors who opt to deduct this from their benefits will experience a drop in their payments.

Ever since March this year, the inflation rate has been negative as prices of goods and services tumbled. It was at 4.94% at September last year mainly due to the rising price of fuel at that time.

The average 401(k) plan fell 28% in 2008 according to official statistics of Fidelity Investments. Unless Congress comes up with a new law or makes revisions to the existing ones, the IRS will be left with no choice but to reduce the limit of 401(k) contributions for next year. But any reduction in the amount workers can save will not go down well at all with the public and may spark a severe political backlash.

Darrin T. Mish is a veteran, nationally recognized tax attorney who has focused on providing IRS help to taxpayers for over a decade. He regularly travels the country training other attorneys, CPAs and enrolled agents on how to handle their toughest cases with the IRS. He is highly ranked among the top attorneys in the country, with an AV rating from Martindale-Hubbell and a perfect 10 on Avvo.com. Martindale-Hubbell has also honored him with a listing in their Bar Register of Preeminent Lawyers. He is a member of the American Society of IRS Problem Solvers and the Tax Freedom Institute. With clients on every continent but Antarctica, he has what it takes to solve your IRS problems no matter where you live in the world. If you would like more information about his practice and how he can help you, please call his office at (813) 229-7100 or toll free at 1-888-GET-MISH.

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