Act 2 for Business Tax Incentives
With the 2010 Tax Relief Act, Congress puts businesses in the spotlight for a second time in three months.
Enacted in the waning days of the 111th Congress, the Tax Relief, Unemployment Insurance Reauthorization and Job Creation Act of 2010 (2010 Tax Relief Act, PL 111-312) was a creature of political compromise.
But the act nonetheless built upon already attractive incentives that had been passed only a few months before in the Small Business Jobs Act of 2010 (PL 111-240). The jobs act, as explained in the JofA article “2010 Small Business Jobs Act: Good for Big Business” (Dec. 2010, page 30), authorized a host of business incentives that, although designated for “small businesses,” statistically could apply to 99.9 percent of all U.S. businesses. The 2010 Tax Relief Act steps in where the Small Business Jobs Act ends, enhancing and extending business incentives, including IRC § 179 expensing, bonus depreciation and tax credits.
In this article, we compare the two acts’ primary incentive provisions, then analyze the enhanced benefit produced by combining them. Finally, we provide guidance on how three typical company types (a loss company with a valuation allowance; profitable company with a net operating losses (NOL) carryforward and valuation allowance; and a profitable company without a valuation allowance) will be affected by the acts from a cash flow and accounting perspective, along with their key financial statement and tax return considerations.
Strategically Applying the Acts’ Provisions Together
The Small Business Jobs Act and the 2010 Tax Relief Act are each significant to businesses on their own merits, as shown in the chart summarizing their important business incentive provisions (see Exhibit 1).
When the provisions of the Small Business Jobs Act and the 2010 Tax Relief Act are strategically merged, the benefits to businesses may be lucrative.
Research credit and five-year carryback. Perhaps the greatest tax savings opportunity from the interplay of the two acts is that of the research credit and the general business credit five-year carryback. The Small Business Jobs Act in IRC § 39(a)(4) authorized eligible small businesses to carry back general business credits generated during 2010 to the prior five tax years (2005 to 2009). Eligible small businesses are corporations whose stock isn’t publicly traded, partnerships or sole proprietorships that have average annual gross receipts for the three-tax-year period preceding the tax year of no more than $50 million (section 38(c)(5)(C)).
The problem was that the act did not extend one of the most popular and most used federal general business credits, the IRC § 41 credit for increasing research activities that had expired Dec. 31, 2009. Without an extension to 2010 of the research credit, the credit carryback opportunity was of little or no value to many businesses. It was only when the 2010 Tax Relief Act was passed, extending the federal research credit retroactively through 2010, that the credit carryback became meaningful to many eligible small businesses.
Research credit and AMT offset. In addition to the general business credit carryback, the Small Business Jobs Act authorized general business credits for eligible small businesses to offset alternative minimum tax (AMT) during 2010 and for the five-year carryback period. Once again, the problem faced by many businesses in using this tax savings opportunity was that the ever-popular research credit had expired. And, once again, the 2010 Tax Relief Act extension of the credit retroactively through 2010 reopened the potential for businesses generating federal research credits to offset their 2010 AMT, as well as AMT in the prior five years via the credit carryback opportunity.
Leasehold improvement and bonus depreciation. The Small Business Jobs Act extended 50 percent bonus depreciation for all businesses through Dec. 31, 2010. What the act did not do was broaden the definition of what constitutes qualified leasehold improvements for purposes of bonus depreciation.The provision is significant to many businesses, as leasehold improvements typically are depreciated over 39 years, resulting in lower annual depreciation deductions. The 2010 Tax Relief Act fills this gap by extending through 2011 the section 168(e)(3)(E)(iv) rule treating qualified leasehold improvement property as 15-year property. Thus, such property is once again eligible for bonus depreciation.
The 2010 Tax Relief Act also extends through 2011 the section 168(e)(3)(E)(v) rule and the section 168(e)(3)(E)(ix) rule treating qualified restaurant property and qualified retail improvement property, respectively, as 15-year property. However, under sections 168(e)(7)(B) and 168(e)(8)(D), these types of property are not treated as qualified property for purposes of the bonus depreciation rules in section 168(k) and thus aren’t eligible for bonus depreciation.
Bonus depreciation enhancement and extension. Although the two acts’ provisions do not differ in kind, they work together to lengthen the period and extent to which bonus depreciation is available. The Small Business Jobs Act extended bonus depreciation through 2010, but at 50 percent. The 2010 Tax Relief Act bolsters this depreciation acceleration to 100 percent for qualified property purchased and placed in service between Sept. 8, 2010 and Dec. 31, 2011. Although this depreciation acceleration is merely a timing difference rather than a reduction in federal taxes, when applied to fixed assets of longer class lives (such as qualifying leasehold improvements at 15 years) the time value of money becomes significant. While interest rates are currently low, the accelerated depreciation may provide enhanced net operating loss carryback opportunities or guarantee that the deduction may be used to reduce taxes if 2010 or 2011 is profitable.
Section 179 expensing enhancement and extension. The Small Business Jobs Act expanded the section 179 expensing limit and phase-out threshold to $500,000 and $2 million, respectively, along with expanding the definition of qualified real property, but only through Dec. 31, 2011. The 2010 Tax Relief Act continues through Dec. 31, 2012, higher limits than if they had reverted in 2012 to prior-law rates (maximum expensing amount of $25,000 and phase-out threshold of $200,000).
This article has been excerpted from the Journal of Accountancy. View the full article here.