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Saturday, October 9, 2010

Stimulus Act Provides Businesses Tax-Saving and More


On February 17, 2009, President Obama signed into law the American Recovery and Reinvestment Act of 2009 (ARRA). The nearly $800 billion act’s government spending initiatives and tax incentives for private spending will benefit many companies.

Spending Initiatives Will Create Business Opportunities

Spending initiatives make up approximately two-thirds of ARRA’s cost. A portion of those dollars will be used to fund education and health care and to provide relief to workers hurt by the recession. But a substantial amount will fund projects that will create significant opportunities for businesses in several sectors.

Businesses in the construction, energy, science and technology, and transportation sectors will want to start taking steps immediately to prepare for pursuing these projects, because the government wants to get them going quickly.

New Tax Breaks for Many

The act provides some new breaks that will benefit many businesses:

Reduced estimated tax payment requirements. For 2009, ARRA reduces the estimated tax payment requirements for many small business owners. To avoid penalties, taxpayers generally need to make sure their estimated payments or withholding equals at least 90% of their tax liability for the current year or 110% of the prior year’s tax — 100% if their adjusted gross income (AGI) for the prior year was $150,000 or less. Under ARRA, the 110% — or 100% — becomes 90% for qualifying business owners.

Owners generally will qualify for the reduced estimated tax payments if their AGI for 2008 was less than $500,000 and if more than 50% of their 2009 gross income is generated from a “small business,” which is defined as a business that, on average, had fewer than 500 employees during 2008.

Example: Assume you qualify for the break and your 2008 tax was $140,000. Before ARRA, your 2009 estimated tax would have been 110% of this amount, or $154,000. It can now be 90% of the amount, or $126,000, which means a tax deferral of $28,000. You may end up owing more on April 15, 2010, because you won’t have prepaid as much tax. But until then, you’ll have the $28,000 in your pocket to use as you need to keep your business running.

Deferral of income from cancellation of debt. Taxpayers generally must recognize cancellation-of-debt income (CODI) when they cancel — or repurchase — debt for an amount less than its adjusted issue price. In certain situations, ARRA allows businesses to defer CODI generated from repurchasing business debt after Dec. 31, 2008, and before Jan. 1, 2011, until calendar year 2014 (five-year deferral for 2009 CODI and four-year deferral for 2010 CODI) and then report the income ratably over the 2014 through 2018 tax years. CODI is the excess of the old debt’s adjusted issue price over the repurchase price.

Example: Let’s say that on Jan. 1, 2009, your business recognized $100,000 of CODI. If you qualified for deferral, you could defer reporting the income until your 2014 tax return. If you were in the 35% tax bracket, this would provide you with $35,000 in tax savings for 2009. You would then report $20,000 of income per year for 2014 through 2018. Assuming you remain in the 35% tax bracket, your total tax liability would remain the same, but in essence you’d be getting an interest-free loan on the tax liability.

S corporation built-in gains tax relief. Although a C corporation conversion to an S corporation isn’t a taxable event, the S corporation normally must hold on to its assets for 10 years to avoid tax on any built-in gains that existed at the time of the conversion. Under ARRA, for tax years beginning in 2009 and 2010, there generally will be no tax on an S corporation’s net unrecognized built-in gain if the seventh tax year in the recognition period occurred before the 2009 and 2010 tax years.

Other Breaks Expanded

The act expands some important tax breaks for businesses:

Net operating loss carryback. Generally, a net operating loss (NOL) may be carried back two years to generate a current tax refund, providing a cash infusion in times of loss. For 2008 (not 2009), ARRA extends the maximum NOL carryback to five years for qualified small businesses with gross receipts of $15 million or less, making the potential cash infusion even more powerful.

Any loss not absorbed in the carryback period can be carried forward up to 20 years. Businesses also have the option to waive the carryback period and carry the entire loss forward. This may be beneficial if your marginal tax rate in the carryback years is unusually low or if the alternative minimum tax (AMT) in prior years makes the carryback less beneficial.

Work Opportunity credit. Employers can claim a credit equal to 40% of the first $6,000 of wages paid to employees in certain target groups, such as ex-felons, food stamp recipients and disabled veterans. ARRA expands the eligible target groups to include unemployed veterans and disconnected youth.

An unemployed veteran is an individual who was discharged or released from active duty in the Armed Forces during the five-year period before hiring and received unemployment compensation for more than four weeks during the year before hiring. A disconnected youth is an individual between the ages of 16 and 25 who hasn’t been regularly employed or attended school in the past six months.

This expanded benefit applies to such workers hired in 2009 and 2010. It is also important to note that the Work Opportunity credit is set to expire after Aug. 31, 2011.

Depreciation Breaks Extended

To spur additional investment, ARRA extends the increase in the Section 179 limit for initial year expensing to $250,000 (from $125,000 indexed for inflation). The Sec. 179 expensing election allows a current deduction for newly acquired assets that otherwise would have to be depreciated over a number of years. Because this tax break is designed to benefit primarily smaller businesses, the expensing election begins to phase out dollar for dollar when total asset acquisitions for the tax year exceed $800,000 (up from $500,000 indexed for inflation). The new higher limit applies for calendar year 2009 or a business’s fiscal year that begins in 2009.

Another depreciation-related provision extends the special allowance for certain property, generally if acquired in 2009. This is in addition to any such property that qualifies for Sec. 179 expensing. For eligible property, the special depreciation amount is equal to 50% of its adjusted basis. The following types of property are qualified for this special depreciation:

  • Tangible property with a recovery period of 20 years or less
  • Computer software purchased by the business
  • Water utility property
  • Qualified leasehold improvement property

Because both the Sec. 179 limit increases and the 50% depreciation allowance can provide large 2009 deductions, you may want to consider making major asset purchases this year if your business would qualify for these breaks. Last year, corporate taxpayers were also allowed to accelerate their AMT and research and development (R&D) credits in lieu of taking the 50% bonus depreciation. That break has now been extended through 2009.

Many More Ways to Benefit

We hope we’ve provided a helpful overview of the key ARRA provisions that may affect your business. But ARRA is hundreds of pages long and includes many more spending and tax-saving provisions than we could discuss here. We encourage you to consult with us to learn how to fully take advantage of all the opportunities it may offer your business.

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