On Monday, September 27th, President Obama signed the Small Business Jobs Act of 2010 (“the Act”). Included in the Act are $12 billion in tax breaks for small businesses including:
- Expansion of Code Section 179 Expensing (Dollar Limit and Property Type)
- Extension of the Bonus Depreciation Allowance to 2010
- Increased Deduction for New Business Start-Up Expenses
- Deduction for Health Insurance Costs in Computing Self-Employment Tax
- Removal of Cell Phones from Listed Property
- Exclusion of Gain From Investment in Qualified Small Business Stock
- Decrease in Recognition Period for S Corporation Built-In Gains Tax
Revenue-raisers to offset the cost of the bill include the following:
- Requirement for Information Reporting for Rental Property Expense Payments
- Increase in Information Return Penalties
- Rollovers from Elective Deferral Plans to Roth Designated Accounts
Expansion of Code Section 179 Expensing
The Act allows immediate expensing (vs. capitalization) for some capital purchases, up to a dollar limit of $500,000 for tax years beginning in 2010 and 2011. The previous dollar limit for 2010 was $250,000. Additionally the investment limitation increased to $2 million, from $800,000, meaning that the expensing dollar limit is reduced dollar for dollar for qualifying property placed in service over this limitation amount. Therefore for taxpayers that normally place in service large amounts of property each year, this higher investment limit allows you to take better advantage of immediate expensing. However, remember that Section 179 is deducted only to the extent of taxable income each year. Any excess elected is rolled over to the next tax year.
Additionally the type of property that qualifies for expensing has been expanded under this new Act. Traditionally, eligible property is depreciable tangible personal property (e.g. furniture, equipment, etc.) Now, up to $250,000 of the $500,000 section 179 deduction limit for 2010 and 2011 can be attributable to “qualified real property.” “Qualified real property” is qualified leasehold improvement property, qualified restaurant property, and qualified retail improvement property. However, any amount expensed with respect to qualified real property that is disallowed under the income limitation may be carried forward only to 2011. At that point, if any remains due to taxable income limitations, it will be considered as placed in service in 2011 for regular depreciation calculations.
See “Bonus Depreciation” below for a definition of “qualified leasehold improvement property.”
Extension of the Bonus Depreciation Allowance to 2010
The Act extends through 2010 the 50-percent bonus depreciation deduction allowed for qualifying MACRS property that is placed in service before January 1, 2011. There is no taxable income limitation related to bonus depreciation, so 50% of the cost of qualified property can be immediately deducted in the year placed in service.
The bonus allowance is only available for new property that is depreciable under MACRS and has a recovery period of 20 years or less, is qualified off-the shelf computer software depreciable over three years, or is qualified leasehold improvement property.
Qualified leasehold improvement property is defined as an improvement to an interior portion of nonresidential real property by a lessor or lessee under or pursuant to a lease. The improvement must be placed in service more than 3 years after the building was first placed in service and the lessor/lessee may not be related persons. Expenditures for the enlargement of a building, an elevator/escalator, any structural component that benefits a common area, or the internal structural framework of the building do not qualify.
Increased Deduction for New Business Start-Up Expenses
For new businesses, the Act increases the amount of start-up expenses that may be deducted by a taxpayer from $5,000 to $10,000, effective for tax years beginning in 2010. In addition, the threshold limit for reducing the deduction dollar-for-dollar (but not below zero) is increased from $50,000 to $60,000. Thus, a taxpayer that pays or incurs $70,000 or more of start-up expenses in 2010 before their active trade or business begins may not claim a current expense deduction for the expenses. Any start-up expenses that are not currently deductible must be amortized ratably over a 180-month period (15 years) beginning with the month in which the active trade or business begins.
Unless extended by Congress next year, this relief is only available for the 2010 tax year.
Deduction for Health Insurance Costs in Computing Self-Employment Tax
The Act allows self-employed persons to deduct the cost of health insurance incurred in 2010 for themselves and their family members in the calculation of their 2010 self-employment tax. Thus, self-employed persons may deduct 100 percent of the premiums for medical care insurance for themselves, their spouses, their dependents, and any child of the taxpayer who as of the end of the tax year has not attained the age of 27. The deduction continues to be taken from gross income in arriving at adjusted gross income.
Practically, this deduction could reduce your tax liability by a total of 15.3% of the health insurance premiums paid during the tax year. This deduction only currently applies to tax year 2010.
Removal of Cell Phones From Listed Property
The Act removes cellular telephones and other similar telecommunications equipment from the “listed property” classification for deduction and depreciation purposes. This change lightens the record-keeping burden for the taxpayer by determining that an estimate of business vs. personal usage will now be acceptable proof of the deduction.
Taxpayers are generally required to substantiate all claimed deductions for listed property by maintaining books and records showing the amount of each business vs. personal use. Related to the widespread use of cell phones, Congress has recognized that this requirement has become overly burdensome for taxpayers and, with this Act, has reduced the required record-keeping requirements.
Exclusion of Gain From Investment in Qualified Small Business Stock
To further encourage investment in small businesses, the Act increases the percentage of gain from the sale or exchange of qualified small business stock that may be excluded from gross income by a non-corporate taxpayer from 75 percent to 100 percent for stock acquired after the date of enactment and before January 1, 2011. In addition, none of the excluded gain on such stock will be considered an alternative minimum tax (AMT) preference.
The issuing corporation must be a domestic C corporation and have had aggregate gross assets that did not exceed $50 million both before and immediately after the stock’s issuance. To be eligible for the exclusion, the small business stock must be acquired by the individual at its original issue (directly or through an underwriter) for money, property other than stock, or as compensation for services provided to the corporation. The qualified small business stock must be held for more than five years to qualify for the gain exclusion.
Decrease in Recognition Period for S Corporation Built-In Gains Tax
The Act includes this change to benefit corporations that (1) are S corporations in 2011, (2) converted from C to S corporation status in most cases on or before January 1, 2006, and (3) intend to sell assets in 2011 held at the time of conversion. The Act reduces the “recognition period” for purposes of computing the built-in gains tax to 5 years from the previous 10 or 7 years. This change is intended to encourage S corporations to engage in transactions without concern for the potential additional 35% tax.
A corporate-level tax, at the highest marginal rate applicable to corporation (currently 35%), is imposed on an S corporation’s gain that arose prior to the conversion of the C corporation to an S corporation and is recognized by the S corporation during the “recognition period.” The recognition period, previously the 10-year period after the S election became effective, is now a five-year period beginning with the first day of the first tax year for which the corporation was an S corporation.
Requirement for Information Reporting for Rental Property Expense Payments
Under the Act, a person receiving rental income from real estate is now considered to be engaged in the business of renting property. Therefore for payments made after December 31, 2010, the lessor will generally be required to file an information return, such as Form 1099-MISC, for certain payments to another person aggregating $600 or more in any tax year. Common payments related to rental real estate could include items such as compensation for maintenance and landscaping fees.
Currently, this reporting requirement includes primarily service-based compensation. However, remember that the health care reform acts have expanded this requirement to also include compensation for property for payments made after December 31, 2011.
Increase in Information Return Penalties
The IRS is placing more emphasis on timely information return filings due to their reliance on them to determine whether other taxpayers have properly reported income, deductions, and credits. The Act increases the penalties for the failure to timely file a correct information return with the IRS and the failure to timely furnish a payee statement to the recipient. These increased penalties range from $30 per statement if filed up to 30 days late to $100 per statement if filed after August 1 of the year when due. The minimum penalty for failure to file a correct information return that is due to intentional disregard of a filing requirement is increased to $250.
Therefore, for a non-filer who should have provided 5 Forms 1099-MISC to recipients, the failure to timely file penalty could be as high as $500 ($100 per statement). This change is effective for returns to be filed and furnished on or after January 1, 2011.
Rollovers from Elective Deferral Plans to Roth Designated Accounts
Similar to the previously passed rules allowing conversions of traditional IRAs to Roth IRAs, under the Act, 401(k), 403(b), or governmental 457(b) plans may permit certain participants to roll their pre-tax account balances into a Roth account within the same plan. The rollover amount is taxable, and the participant can choose to pay the tax ratably in 2011 and 2012 or to pay it all in 2010.
The 10 percent additional tax does not apply to rollover distributions under these rules. However, it would apply if the amount rolled over is subsequently distributed from the Roth account within the 5-year period beginning with the tax year in which the contribution was made.
Items to note concerning this type of rollover – (1) if a plan does not otherwise have a designated Roth program, it is not allowed to establish designated Roth accounts solely to accept these rollover contributions; and (2) the distribution to be rolled over must be otherwise allowed under the plan, meaning the employer may have to amend its non-Roth plan to allow in-service distributions or distributions prior to normal retirement age. However, 401(k) plans are not allowed to provide in-service distributions of elective deferrals unless the participant is at least 59 ½ years old. It is not conclusive at this point if Congress intended to limit this type of rollover strictly to older participants or if they intended this to be an exception to the general rule.
Additional information should follow soon clarifying this information.If you would like to discuss the i
mpact of this new legislation on you or your business, please contact Heather Martin at (800) 270-9629.
