With the recently enacted tax legislation, passed just before this article went to print, and changes made earlier in 2010, there are a number of changes that will impact business filings in 2010. Some of the major recent changes involve cost recovery and utilization of tax credits. After much debate, the bill was signed into law by President Obama on December 17, 2010.
“Many of these recent changes are very taxpayer friendly,” says Jim A. Forbes, CPA, principal with Skoda Minotti.
Smart Business spoke with Forbes about how these changes will affect businesses.
What are some recent changes in tax law regarding depreciation and cost recovery?
First, as a result of the most recent law change, bonus depreciation has been extended through 2011. You will need to separate your 2010 capital expenditures into two categories. Qualifying assets placed in service on or before September 8, 2010, will be eligible for 50 percent bonus depreciation. Qualifying assets placed in service after September 8, 2010, and before December 31, 2011, will be eligible for 100 percent first year depreciation.
Qualifying assets are generally shorter-lived assets such as computers, machinery, furniture and fixtures, and some leasehold improvements. Real property, such as buildings, will generally not qualify. In addition, it is limited to new property. Used property can be deducted under Section 179.
If I bought a new five-year piece of property before September 8, 2010, for $2 million, under current law, I can take a $500,000 deduction on my tax return from Section 179. Now I have $1.5 million remaining to deduct over some period. I get 50 percent of that as bonus depreciation: $750,000. Now I have $750,000 left, and I can take regular depreciation on that. Regular depreciation on a five-year asset at $750,000 is $150,000. That leaves $600,000.
So in year one, I deducted $1.4 million of $2 million. If this same property is purchased after September 8, 2010, and before December 31, 2011, I could take a $2 million deduction.
Companies looking to do significant capital expenditures of new property in the coming year should consider accelerating 2012 expenses into 2011 to take advantage of this new law. But, many states may not allow either the 50 or 100 percent bonus depreciation.
Second, the Section 179 deduction has changed. Unlike bonus depreciation, Section 179 is allowed for both new and used property. Under the old law, you could deduct an immediate expense for an asset purchase of up to $250,000. The phase-out began at $800,000 — once you spent more than $800,000, you had to reduce that $250,000 deduction dollar-for-dollar. For 2010 and 2011, they raised the phase-out to $2 million and they increased the expense deduction to $500,000.
These rules can be tricky. Generally, the best planning is to maximize allowable Section 179 deduction on purchases on or before September 8, 2010, and all ‘used’ property, then utilize the 50 or 100 percent bonus depreciation to maximize your tax deductions.
What are some recent changes in tax law regarding business credits?
If an eligible small business — corporations that are not publicly traded and partnerships or sole proprietors whose average annual gross receipts for the past three years are $50 million or less — identified a beneficial tax credit but couldn’t use it due to an operating loss for 2010, those credits would have to be carried forward. The new law says you can carry that credit back up to five years.
For example, if you were profitable and had taxable income in any of the previous five years, you can now carryback a 2010 tax credit and get a refund of prior year taxes even if you don’t have any taxes due in 2010 because you operated at a loss.
How can companies reduce 2010 tax liability?
Companies should review their tax accounting methods. If you’re not taking advantage of these, you could be leaving money on the table. Companies should review their prepaid expenses for possible accelerated tax deductions. Assume a calendar year corporation pays its annual insurance premium in Dec. 2010 and it covers them for calendar year 2011. For book purposes, that expense is prepaid and it gets deducted in 2011. For tax purposes, it’s possible to take qualified prepaid expenses and deduct them in 2010. In order to deduct this amount, you may have to file for an accounting method change with the IRS. This is an automatic change that does not require IRS approval and can be done with your timely filed 2010 income tax return.
Will implementing these ideas draw attention from the IRS?
They will look at it, but that does not mean you’re guaranteed an audit. This is not a hot issue with the IRS. If it’s a valid deduction, don’t be afraid of an audit.
What changes are occurring at the state and local level that are impacting businesses?
Many states are struggling to meet their budgets, so they are using Voluntary Disclosure Agreements (VDA) to get companies that may owe taxes to come forward. If you come forward voluntarily, the state can either reduce or eliminate the interest and penalties you would have to pay. For example, if you had a warehouse in California for 10 years and never filed a tax return, if they catch you, they could make you go back and file all those tax returns. The statute of limitation is often three years, but if you never filed, the statute never starts to run. From the state’s standpoint, it’s a win because they don’t have to spend any resources if you voluntarily come clean. It’s done anonymously, and can potentially save you interest and penalties.
Under recently enacted accounting rules, income tax liabilities for unfiled returns have to be disclosed on your financial statements, which can be seen by your bank or investors. Entering a VDA allows business owners to reduce or eliminate penalties and interest and sleep better at night knowing they don’t have to worry about their next phone call being from the California auditor.
Jim A. Forbes, CPA, is a principal with Skoda Minotti. Reach him at (440) 449-6800 or email@example.com.