Congress passed two tax acts in 2004 — the American Jobs Creation Act (AJCA) and the Working Families Tax Relief Act (WFTRA) — that will continue to impact both businesses and individual taxpayers as they plan for 2005.
American Jobs Creation Act
AJCA ushered in the largest business-tax reform since 1986. The tax act began as a phase-out of the export subsidy, but it eventually mushroomed into a major tax law benefiting most businesses and some individual taxpayers.
- Take advantage. Congress devoted a portion of AJCA to a new deduction for manufacturers. The term manufacturer has been broadly defined to cover more businesses than just traditional manufacturers, so the deduction is available to businesses engaged in activities such as construction, engineering, architectural services, computer software production and agricultural processing. The deduction applies to domestic production activity, but contains no export requirement.
Plan now to maximize your benefit from this new deduction. Determine whether your business qualifies, if there are ways to maximize your deduction and how to capture the necessary information from your accounting system.
- Keep an eye on deferred compensation. Another significant portion of this legislation involves compensation plans that are defined as nonqualified deferred compensation. These arrangements are a promise to pay executives and key employees sometime in the future for services they currently perform, and include phantom stock plans, certain stock appreciation rights and other programs in which income is delayed.
If a plan fails to meet the provisions and new requirements, it will result in loss of the tax deferral. The result is taxability on all amounts previously deferred, plus charged interest and a penalty tax of 20 percent.
Nonqualified compensation can still be an effective way to compensate employees. However, you need to determine whether your plans are covered by the new rules and then map out how to bring them into compliance by December 31, 2005.
- Expense when you can. Generally, equipment with a useful life of beyond the taxable year must be capitalized. AJCA extends the increased Section 179 expensing deduction amount and allows for faster depreciation on qualified leasehold improvements.
The Section 179 expensing election allows for a current deduction for assets that would otherwise be subject to normal depreciation rules. In 2005, the Section 179 deduction is $105,000, but for tax years beginning after 2007, this amount is scheduled to drop back to $25,000.
So it may be appropriate to schedule major capital asset purchases in the next couple of years, when the greatest tax benefit may be available. And if you have more than the maximum $105,000 limit in 2005, choose those assets for expensing that would have had the longest life under normal depreciation rules. If total asset acquisitions exceed $420,000, the expensing election begins to phase out.
- A choice for individual taxpayers. Congress couldn’t resist the opportunity to further tweak individual itemized deductions. An election, similar to 2004, allows for a taxpayer to choose between deducting state and local income taxes, and state and local sales or use taxes. A review of major taxable purchases should take place to see if the sales or use tax paid in 2005 may benefit you. Also, a review of prior year purchases (2004) could result in an opportunity to amend that return.
Working Families Tax Relief Act
WFTRA extends a number of individual tax breaks, including the $1,00-per-child tax credit, the expanded 10 percent tax bracket and the increased alternative minimum tax (AMT) exemption amount. Increasing the 15 percent tax bracket range and standard deduction amount on jointly filed returns provides marriage penalty relief for a while longer.
Although such breaks may not make a significant dollar difference individually on a tax return, they will benefit millions of taxpayers across our nation. Moreover, WFTRA also extended some business credits.
James P. O’Rilley is a Certified Public Accountant and director of taxation at Doeren Mayhew, a regional accounting firm in Troy, Michigan. Doeren Mayhew provides a wide range of professional services to middle-market companies. Contact O’Rilley at [email protected] or (248) 244-3171.
