On December 18, President Obama signed into law the bipartisan Protecting Americans from Tax Hikes Act of 2015 (the PATH Act). It makes many popular tax breaks — including some highly valued by businesses — permanent, while extending others through 2016 or 2019. The PATH Act also enhances certain breaks and puts a moratorium on some of the Affordable Care Act’s (ACA’s) controversial taxes.
Several provisions in particular may produce significant tax savings for businesses in 2015 and beyond.
Section 179 expensing election
Sec. 179 of the Internal Revenue Code (IRC) allows businesses to elect to immediately deduct — or “expense” — the cost of certain tangible personal property acquired and placed in service during the tax year, instead of recovering the costs more slowly through depreciation deductions. The deduction is limited to the taxable income of the trade or business activities.
The election is also subject to annual dollar limits. For 2014, businesses could expense up to $500,000 in qualified new or used assets, subject to a dollar-for-dollar phaseout once the cost of all qualifying property placed in service during the tax year exceeded $2 million. Without the PATH Act, the expensing limit and the phaseout amounts for 2015 would have decreased to $25,000 and $200,000, respectively.
The new law makes the 2014 limits permanent, indexing them for inflation beginning in 2016. It also makes permanent the ability to apply Sec. 179 expensing to qualified real property, reviving the 2014 limit of $250,000 on such property for 2015 but raising it to the full Sec. 179 limit beginning in 2016. Qualified real property includes qualified leasehold-improvement, restaurant and retail-improvement property.
Finally, the new law permanently includes off-the-shelf computer software on the list of qualified property. And, beginning in 2016, it adds air conditioning and heating units to the list.
If your business is eligible for full Sec. 179 expensing, you might obtain a greater benefit from it than from bonus depreciation (discussed below) because the expensing provision can allow you to deduct 100% of an asset acquisition’s cost. Moreover, you can use Sec. 179 expensing for both new and used property.
The news is mixed on bonus depreciation, which allows businesses to recover the costs of depreciable property more quickly by claiming bonus first-year depreciation for qualified assets. It’s been extended, but only through 2019 and with declining benefits in the later years. For property placed in service during 2015, 2016 and 2017, the bonus depreciation percentage is 50%. It drops to 40% for 2018 and 30% for 2019.
The provision continues to allow businesses to claim unused AMT credits in lieu of bonus depreciation. Beginning in 2016, the amount of unused AMT credits that may be claimed increases.
Qualified assets include new tangible property with a recovery period of 20 years or less (such as office furniture and equipment), off-the-shelf computer software, water utility property and qualified leasehold-improvement property. Beginning in 2016, qualified improvement property doesn’t have to be leased to be eligible for bonus depreciation.
Note that, if you qualify for Sec. 179 expensing, it could provide a greater tax benefit than bonus depreciation. (See above.) But bonus depreciation could benefit more taxpayers than Sec. 179 expensing, because it isn’t subject to any asset purchase limit or net income requirement. One can first utilize Sec. 179 expensing and then apply the bonus deprecation rules.
Accelerated depreciation of certain qualified real property
The PATH Act permanently extends the 15-year straight-line cost recovery period for qualified leasehold improvements (alterations in a building to suit the needs of a particular tenant), qualified restaurant property and qualified retail-improvement property. The provision exempts these expenditures from the normal 39-year depreciation period.
This is especially welcome news for restaurants and retailers, which typically remodel every five to seven years. If eligible, they may first apply Sec. 179 expensing and then enjoy this accelerated depreciation on qualified expenses in excess of the applicable Sec. 179 limit.
The research credit (commonly referred to as the “research and development” or “research and experimentation” credit) provides an incentive for businesses to increase their investments in research. But, businesses have long complained that the annual threat of extinction to the credit deterred them from pursuing critical research into new products and technologies.
In a welcome change, the PATH Act permanently extends the credit. Additionally, beginning in 2016, businesses with $50 million or less in gross receipts can claim the credit against alternative minimum tax (AMT) liability, and certain start-ups (in general, those with less than $5 million in gross receipts) that haven’t yet incurred any income tax liability can use the credit against their payroll tax.
While the credit is complicated to compute, the tax savings can prove significant.
Work Opportunity credit
The Work Opportunity credit for employers that hire individuals who are members of a “target group” has been extended through 2019. The PATH Act also expands the credit beginning in 2016 to apply to employers that hire qualified individuals who have been unemployed for 27 weeks or more and increases the credit with respect to such individuals to 40% of the first $6,000 of wages.
Donations of food inventory
The PATH Act makes permanent the enhanced deduction for contributions of food inventory for noncorporate business taxpayers. Under the enhanced deduction (which is already permanently available to C corporations), the lesser of basis plus one-half of the item’s appreciation or two times basis can be deducted, rather than only the lesser of basis or fair market value.
Beginning in 2016, the limit on deductible contributions of such inventory increases from 10% to 15% of the business’s adjusted gross income per year.
S corporation recognition period for built-in gains tax
The PATH Act permanently extends the recognition period of five years( as compared to ten years) for which an S corporation needs to hold its assets following conversion from C corporation status in order to avoid the corporate level tax on built-in gains.
Transit benefit parity
The PATH Act makes permanent the provision that established equal limits for the amounts that can be excluded from an employee’s wages for income and payroll tax purposes for parking fringe benefits and van-pooling / mass transit benefits. The limits for both types of benefits are now $250 per month for 2015. Without the extension of parity, the limit for van-pooling / mass transit would be only $130.
The PATH ACT delays the start of the so-called “Cadillac” tax on high-cost employer-provided health insurance from 2018 to 2020. The 40% tax would be applied to health coverage that costs more than $10,200 for individuals and $27,500 for families, with annual threshold increases based on inflation. The tax would be assessed on the difference between the total cost of health benefits for an employee in a year and the applicable threshold amount.
Additionally, the PATH Act halts the 2.3% excise tax on the sale of medical devices in 2016 and 2017.
EXCLUSION OF 100% OF GAIN ON SMALL BUSINESS STOCK
Sec. 1202 allows for an exclusion of gain on the sale of qualified small business C Corporation stock for non-corporate taxpayers, if held for more than 5 years. Current law provides for a 50% gain exclusion and requires an AMT preference adjustment. The PATH Act permanently extends the 100% gain exclusion. And, most importantly, it permanently eliminates the gain as an AMT preference item.
These changes make the Sec. 1202 exclusion a much more viable tax planning technique for taxpayers, potentially resulting in significant tax savings. And, in the right situations, could tilt the entity selection decision from partnership structure to that of C corporation format.
The PATH Act made sweeping revisions regarding REIT’s. They include:
- Restrictions on tax-free spinoffs allowing for tax-free treatment only if both the distributing and controlled corporation are REITs. The provision generally applies to distributions on or after December 7, 2015.
- Effective for tax years beginning after 2017, the percentage limitation on assets of a REIT which may consist of taxable REIT subsidiaries is decreased from 25% under current law to 20%,
- Effective for tax years beginning after 2014, the preferential dividend rule for publicly offered REITs is repealed.
- Effective for tax distributions in tax years beginning after 2014, designated qualified or capital gain dividends are limited to the dividends actually paid by the REIT.
- Increasing the percentage of maximum stock ownership by a shareholder from 5% to 10% in order to avoid that corporation being classified as a U.S. Real Property Holding Company for FIRPTA purposes.
- Effective after the date of enactment, any U.S. real property interest held by a foreign pension fund is exempted from FIRPTA withholding.
- Effective 60 days after enactment, the rate of withholding tax on dispositions of U.S. real property interests is increased to 15% from 10%.
- For purposes of calculating the dividends received deduction, dividends from RICs and REITs are not treated as dividends from domestic corporations. Capital gain dividends are limited to the dividends actually paid by the REIT.
The PATH Act also made changes to other provisions, including:
- Permanent extension of the rule that a shareholder’s basis in S corporation stock is reduced by the shareholder’s pro rata share of the adjusted basis of property (as compared to value) made as charitable contributions by the S corporation.
- Permanent extension of the Subpart F exception for active financing income.
- Extension through 2019 for the look-through treatment for payments of dividends, interest, rents, and royalties between related CFC’s.
- Sec. 181 generally provides for the expensing of the first $15 million of certain film and television costs. This provision is extended through 2016.
- Effective for the 2017 filing season, all W-2, W-3 Form 1099-MISC forms must be filed on or before January 31 of the year following the calendar year to which such returns relate.
- Effective for the 2017 filing season, a safe harbor from penalty protection is introduced for errors of $ 100 or less($ 25 or less in the case of withholding).In such case the issuer of the information return is not required to file a corrected return and ITIN’s- The PATH Act provides that the IRS may issue international identification numbers if the applicant submits the required documentation either(a) in person to an IRS employee or an agent authorized by the IRS, or (b) by mail. Individuals issued ITIN’s before 2013 are required to renew them on a staggered schedule between 2017 and 2020. An ITIN will expire if an individual fails to file a tax return for three consecutive years. The goal is to adopt a system by 2020 that would require all applications to be filed in person.
The PATH Act’s temporary and permanent extensions of numerous valuable tax breaks for businesses provide significant tax planning opportunities. This Alert provides only a summary of the provisions that could produce significant tax savings for your business. Citrin Cooperman can provide the expertise and guidance that you need in order to maximize utilization of these tax breaks. In such context, please contact your Citrin Cooperman partner.