The American Recovery and Reinvestment Act of 2009
A Summary of Incentives and Tax-Related Provisions for Business Owners
On February 17, 2009, an economic stimulus package entitled the American Recovery and Reinvestment Act of 2009 (ARRA) was signed into law. The ARRA was birthed to jumpstart a failing U.S. economy that was marked by a floundering stock market, a hemorrhaging automotive industry and a housing market that was on a second flush down the toilet. Controversy surrounded the bill from the getgo. With President Barrack Obama as their leader, Democrats wanted a bill that would create jobs and grow the economy. Republicans contested that the bill would not grow the economy, but rather grow our government and place an enormous deficit burden on the next generation. The act was drawn up, amended and settled in record time, passing with 60 votes—the minimum needed to pass. However, this was not the bipartisan legislation Obama had whimsically hoped for, as only three Republicans voted for the legislation and seven Democrats voted against it.
The Congressional Budget Office estimates the act’s total cost at $787 billion over the 2009-2019 period, with $212 billion allocated to tax relief, $308 billion for appropriations and $267 billion assigned to direct spending. The ARRA provides tax-related provisions and relief for individuals and families; energy incentives; economic recovery zone tools; bonds for local governments; municipalities and schools; and tax provisions related to health coverage improvements. Woven within the convoluted text of the legislation’s 185,947 words, the ARRA also has several incentives and tax-related benefits for business owners.
Special Allowance for Certain Property Acquired During 2009
Capital expenditures are depreciated over time according to a depreciation schedule, which effectively allows businesses to recover the cost of the expenditure over time. In 2008, businesses were allowed to accelerate the recovery faster with an immediate 50 percent write off of the cost of the depreciable property acquired in 2008. With the new legislation, Congress has extended the additional 50 percent first-year depreciation deduction allowed for one year, generally for property acquired through 2009 (through 2010 for certain longer-lived and transportation property). Examples of eligible depreciable property are equipment, tractors, wind turbines, solar panels, computers, etc., that are purchased during 2009.
Alternatively, corporations may increase their research credit or alternative minimum tax (AMT) credit limitation by the bonus depreciation amount with respect to certain property placed in service in 2009 (2010 in the case of certain longer-lived and transportation property). Under new law, a taxpayer that has made an election to increase the research credit or minimum tax credit limitation for eligible qualified property for its first taxable year ending after March 31, 2008, may choose not to make this election for qualified extension property.
The extension of the additional first-year depreciation deduction is generally effective for property placed in service after December 31, 2008. The extension of the election to accelerate AMT and research credits in lieu of bonus depreciation is effective for taxable years ending after December 31, 2008.
Temporary Increase in Limitations on Expensing of Certain Depreciable Business Assets
To help small businesses quickly recover the cost of certain capital expenses, small business taxpayers may elect to write off the cost of these expenses in the year of acquisition in lieu of recovering these costs over time through depreciation. A taxpayer with a sufficiently small amount of annual investment may elect to deduct otherwise depreciable costs under Internal Revenue Code (IRC) Section 179. The existing law would limit this amount to $125,000 (indexed for inflation) of capital expenditures subject to a phase-out once capital expenditures exceed $500,000 (indexed for inflation). In 2008, Congress temporarily increased the amount to $250,000 and increased the phase-out threshold to $800,000. The new law extends the 2008 provision for 2009 and beyond, and this proposal is estimated to cost $41 million over 10 years.
Five-Year Carryback of Operating Losses of Small Businesses
A net operating loss (NOL) is extremely beneficial to companies by allowing their losses from previous years to be carried forward to future years to offset taxable income in those years. NOLs can generally be carried back two years and carried over 20 years to offset taxable income in those years. Different carryover periods apply with respect to NOLs arising in certain circumstances. Losses that are carried back may generally only be used to offset 90 percent of a taxpayer’s alternative minimum tax liability.
For 2008 and 2009 losses, the bill will extend the maximum carryback period to eligible small businesses for net operating losses from two years to five years and will allow net operating loss carrybacks to be used to offset 100 percent of the taxpayer’s alternative minimum tax liability. An eligible small business is generally one that has average annual gross receipts for the three-taxable- year period ending with the year prior to the year of the NOL of $15 million or less. This benefit would be denied to companies that received money from the Temporary Asset Relief Program (TARP), but were otherwise qualified for the provision as well. This proposal is estimated to cost $15 billion over 10 years.
Decreased Required Estimated Tax Payments in 2009 for Certain Small Businesses
The IRC specifies the amount of quarterly estimated tax payments that must be made in order to avoid underpayment penalties. This amount is determined by the reference to the required annual payment. The required annual payment is generally the lesser of 90 percent of the tax shown on the return or 100 percent of the tax shown on the return for the prior taxable year (110 percent if the adjusted gross income for the preceding year exceeded $150,000).
Estimated tax payments required in 2009 are reduced for certain individuals with adjusted gross income of less than $500,000 in the prior year, more than 50 percent of which was from a small trade or business. The new law provides that the required annual payment of a qualified individual for taxable years beginning in 2009 is not greater than 90 percent of the tax liability shown on the tax return for the preceding taxable year. A “small trade or business” is one that employed no more than 500 persons, on average, during the calendar year ending in or with the preceding taxable year.
Incentives to Hire Unemployed Veterans and Disconnected Youth
Existing law provides a work opportunity tax credit for employers hiring individuals from one or more of nine targeted groups. The credit is equal to 40 percent of the first $6,000 of wages paid to these types of employees. The ARRA created two more target groups: unemployed veterans and disconnected youth. Unemployed veterans and disconnected youth who begin work in 2009 or 2010 are treated as a targeted group for purposes of the work opportunity credit.
An individual would qualify as an unemployed veteran if he or she was discharged or released from active duty from the Armed Forces during 2008, 2009 or 2010 and received unemployment compensation for more than four weeks during the year before being hired. An individual qualifies as a disconnected youth if he or she is between the ages of 16 and 25 and has not been regularly employed or attended school in the past six months. This proposal is estimated to cost $208 million over 10 years.
Temporary Rules for Qualified Small Business Stock
Qualified small business stock has generally allowed individuals to exclude 50 percent of the gain from the sale of the qualifying small business stock acquired at original issue and held for more than five years. A qualified small business is a C corporation, the gross assets of which at all times do not exceed $50 million (without regard to liabilities). The corporation must be an “active business” rather than simply an investment company.
The ARRA increases the percentage exclusion for qualified small business stock sold by an individual from 50 percent (60 percent for certain empowerment zone businesses) to 75 percent. As a result of the increased exclusion, gain from the sale of qualified small business stock to which the provision applies is taxed at effective rates of seven percent under the regular tax and 12.88 percent under the AMT.
Temporary Reduction in Recognition Period for Built-In Gains Tax for Company Changing from C Corporation to S Corporation Status
The recognition period during which S corporations may be liable for the built-in gains tax (commonly known as the BIG tax) has been 10 years. This means that S corporations must pay a 35 percent tax on certain built-in gains that arose prior to the conversion of the C corporation to an S corporation, and which are recognized by the S corporation during the first 10 taxable years that the S election is in effect. The built-in gains tax also applies to gains with respect to net recognized built-in gain attributable to property received by an S corporation from a C corporation in a carryover basis transaction. The amount of the built-in gains tax is treated as a loss taken into account by the shareholders in computing their individual income tax.
The new bill reduced this recognition period from 10 years to seven years, effective for any taxable year beginning in 2009 and 2010. Thus, with respect to gain that arose prior to the conversion of a C corporation to an S corporation, no tax will be imposed after the seventh taxable year the S corporation election is in effect. In the case of built-in gain attributable to an asset received by an S corporation from a C corporation in a carryover basis transaction, no tax will be imposed if the gain is recognized after the date that is seven years following the date on which the asset was acquired.
Temporary Expansion of Availability of Industrial Development Bonds for Facilities Manufacturing Intangible Property
Qualified small issue bonds (commonly referred to as “industrial development bonds” or “small issue IDBs”) are tax-exempt bonds issued by state and local governments to finance private business manufacturing facilities (including certain directly related and ancillary facilities), or the acquisition of land and equipment by certain farmers. For purposes of these bond provisions, a manufacturing facility is any facility that is used in the manufacturing or production of tangible personal property.
New law expands the definition of “manufacturing facility” for bonds issued after February 17, 2009, and before 2011. For these bonds, a manufacturing facility is any facility that is used in the manufacturing, creation or production of tangible property or intangible property. In addition, facilities that are functionally related and subordinate to the manufacturing facility need only be located on the same site as the manufacturing facility to be eligible for bond funding.
Credit for Investment in Advanced Energy Facilities
In general, an income tax credit is allowed for the production of electricity from qualified energy resources at qualified facilities. Qualified energy resources comprise wind, closed-loop biomass, open-loop biomass, geothermal energy, solar energy, small irrigation power, municipal solid waste, qualified hydropower production and marine and hydrokinetic renewable. Qualified facilities are, generally, facilities that generate electricity using qualified energy resources.
The ARRA provides for an enhanced 30 percent credit in taxable years beginning in 2009 and 2010 for research expenditures incurred in the fields of fuel cells, battery technology, renewable energy, energy conservation technology, efficient transmission and distribution of electricity and carbon capture and sequestration. This proposal is estimated to cost $18 million over 10 years.
Although the president signed the act on February 17, 2009, some provisions in the new law are effective on different dates and many end on different dates. These legislative benefits are available to millions of small business owners. Now is the time to take advantage of these great tax breaks and incentives while they last. However, many business owners will not know how to take advantage of all benefits available to them; therefore, it is highly recommended that you seek professional tax and legal advice to ensure proper utilization of the benefits provided by the American Recovery and Reinvestment Act.