Some Highlights of the Recently Enacted Stimulus Bill

On Feb. 17, 2009, the newly elected President Obama signed into law the colossal $800 billion American Recovery and Reinvestment Act of 2009 (the “Act”). This 1,000-plus-page piece of legislation contains many important tax-breaks and enhancements that can benefit law firms and their clients, as well as individual attorneys and staff members and their families. This article addresses several of these key tax provisions included in the new act that may be advantageous.

For Businesses

Depreciation Changes

Under the 2008 Economic Stimulus Act, the Section 179 expense deduction limit increased to $250,000 and the investment amount at which the Section 179 deduction begins to phase out increased to $800,000 in order to encourage law firms to invest in certain business assets and capital improvements. The new act extends the increased Section 179 limit through 2009. The Section 179 expensing election allows law firms to take a current deduction for newly acquired assets that otherwise would have to be depreciated over a number of years. This election can be claimed only to offset the business net income, not to reduce net income below zero.

The new act also extends the first year 50% bonus depreciation to certain property acquired and placed in service in 2009. This is in addition to any such property that qualifies for Section 179 expensing. The following types of property are qualified for this special bonus depreciation:

• Tangible property with a recovery period of 20 years or less;
• Computer software purchased by the business;
• Water utility property; and
• Qualified leasehold improvement property.

Because both the Section 179 limit increases and the 50% depreciation allowance can provide larger 2009 deductions, law firms may want to consider making major asset purchases this year if their business would qualify for these breaks.

In a February, 2009 article in this newsletter (“The Housing Assistance Tax Act and the Emergency Economic Recovery Act”), we discussed how attorneys' corporate clients were also allowed a new option to swap otherwise allowable bonus depreciation for immediately refundable alternative minimum tax (“AMT”) and research and development (“R&D) credits under the Housing Assistance Act of 2008. According to the new act, that option has been extended through 2009. Corporations that elect to accelerate AMT or R&D credits in lieu of bonus depreciation will be able to increase the limit (subject to the cap discussed below) on the credits they can claim by an amount equal to 20% of the bonus depreciation they forgo. (Credits can be more valuable than depreciation deductions because they reduce your tax bill dollar for dollar, rather than just reducing the amount of income that is taxed.)

The allowable credit is capped at the lesser of $30 million or 6% of an amount that's determined using a complex formula based on certain prior R&D credit carry forward amounts and certain minimum tax credits.

Deferral of Certain Income from Discharge of Indebtedness

Under the new act, certain cancellation of debt (“COD”) income realized on account of a taxpayer's or a related person's reacquisition of a debt instrument during 2009 or 2010 would be, at the taxpayer's election, deferred until 2014 and then included in income ratably over five years (2014 to 2018). This relief provision applies to debt repurchases for cash, debt-for-debt exchanges (including modifications), debt-for-equity exchanges, contributions to capital and complete forgiveness by the holder of the instrument. COD income is the excess of the old debt's adjusted issue price over the repurchase price.

For example, assuming on Jan. 1, 2009, a business client recognized $100,000 of COD income and qualified for deferral, then it could defer reporting the income until its 2014 tax return. If it were in the 35% tax bracket, this would provide the business with $35,000 in tax savings for 2009. The client would then report $20,000 of income per year for 2014 through 2018. Assuming it remains in the 35% tax bracket, the total tax liability would remain the same, but in essence the client would be getting an interest-free loan on the tax liability.

S Corporation Built-in Gains Relief

When a C corporation converts to an S corporation, it generally must hold on to its assets for 10 years to avoid tax on any built-in gains that existed at the time of the conversion. The S corporation built-in gains tax applies a 35% tax when an S corporation takes built-in gains into income. Built-in gains are items for which a former C corporation had accrued economic benefit on the day its S corporation took effect, but which had not been recognized for tax purposes. For example, if the corporation had a piece of real estate worth $120,000 on the day it became an S corporation, and the property had a basis of $90,000, there would be a built-in gain of $30,000.

Under the new act, for tax years beginning in 2009 and 2010, no tax is imposed on the net unrecognized built-in gain of an S corporation if the seventh tax year in the recognition period preceded the 2009 and 2010 tax years. This will benefit law firms and their corporate clients that were C corporations that converted to an S corporation in 2001 and 2002 if they sell any assets that would have been subject to this tax.

Net Operating Loss ('NOL') Carryback

Under the new act, businesses with gross receipts of $15 million or less will have the option to carry back NOLs either three, four or five years (instead of the two-year carryback provided under old law). The five-year carry back is effective for NOLs generated in tax years beginning or ending in 2008.

Any loss not absorbed in the carryback period can be carried forward up to 20 years. Businesses also have the option to waive the carryback period and carry the entire loss forward. This may be beneficial if your marginal tax rate in the carry back years is unusually low or if the alternative minimum tax (AMT) in prior years makes the carry back less beneficial.

COBRA Benefits

The new act contains a significant COBRA revision that will apply to every law firm that is subject to COBRA. Under the new act, a former employee would pay a portion of the COBRA premium (35%) and the former law-firm employer would pay the remaining portion (65%) of the premium for nine months. The law firm would be able to credit its share of the subsidy against wage withholdings and payroll taxes (subject to income thresholds). It is therefore recommended that law firms examine their cash flow needs and contact their COBRA administrators and payroll vendors to discuss the steps required.

Incentives to Hire Unemployed Veterans and Disconnected Youth

Law firms are allowed to claim a work opportunity tax credit equal to 40% of the first $6,000 of wages paid to employees of one of nine targeted groups. The new act expands the work opportunity tax credit to include two new targeted groups: 1) unemployed veterans; and 2) disconnected youth. Individuals qualify as unemployed veterans if they were discharged or released from active duty from the Armed Forces during 2008, 2009 or 2010 and received unemployment compensation for more than four weeks during the year before being hired. Individuals qualify as disconnected youths if they are between the ages of 16 and 25 and have not been regularly employed or attended school in the past six months.

For Individuals

Automobile Purchase Relief

The new act provides an above-the-line deduction to individuals purchasing a new car, light truck, recreational vehicle or motorcycle from Feb. 17, 2009 through Dec. 31, 2009 for state sales or excise tax paid on the purchase. The deduction applies to the tax attributable to the first $49,500 of purchase price and begins to phase out at AGI in excess of $125,000 ($250,000 for married couples filing jointly). This means that individual attorneys and staff members can benefit from the deduction even if they don't itemize. While both foreign and domestic vehicles qualify, sales tax paid on a lease do not qualify.

Section 529 Plans

Under the old law, the definition of qualified education expenses did not include laptops and computers and therefore could not be purchased through Section 529 plan accounts tax free. The new act provides that expenses paid or incurred for the purchase of computer technology and equipment or Internet access qualify as qualified education expenses under Section 529 plans for tax years beginning in 2009 and 2010. Attorneys can use these tax-advantaged savings plans to fund college expenses for their family. In addition, other family members are allowed to use the technology as long as it is being used by the college student.

First-time Homebuyer Credit

In the February, 2009 article mentioned above, we discussed how attorneys or their staffs could benefit from this essentially interest-free loan in the form of a refundable credit. Under the new act, the first-time homebuyer credit is extended to apply to homes purchased after Dec. 31, 2008 and before Dec. 1, 2009. The new act removes the repayment requirement for homes purchased during 2009 unless the home is resold within 36 months of purchase. It also increases the amount of the credit from the
current maximum of $7,500 to up to $8,000.

Transportation Benefits

The new act increases the maximum monthly exclusion for employer-provided transit and vanpool benefits ($120 for 2008) to the same level as the exclusion for employer-provided parking ($230 for 2009) for 2009 and 2010. These benefits are a tax free fringe if provided by a law firm saving the law firm payroll taxes and the law firm's employee's payroll and income taxes.

Richard H. Stieglitz is a Tax Partner and Tamir Dardashtian, Esq. is a Tax Manager in the New York accounting firm of Anchin, Block & Anchin LLP, which specializes in providing accounting, tax, and consulting services to law firms. Stieglitz can be reached at 212-840-3456 or via e-mail at [email protected], and Dardashtian can be reached at 212-840-3456 or via e-mail at [email protected].

On Feb. 17, 2009, the newly elected President Obama signed into law the colossal $800 billion American Recovery and Reinvestment Act of 2009 (the “Act”). This 1,000-plus-page piece of legislation contains many important tax-breaks and enhancements that can benefit law firms and their clients, as well as individual attorneys and staff members and their families. This article addresses several of these key tax provisions included in the new act that may be advantageous.

For Businesses

Depreciation Changes

Under the 2008 Economic Stimulus Act, the Section 179 expense deduction limit increased to $250,000 and the investment amount at which the Section 179 deduction begins to phase out increased to $800,000 in order to encourage law firms to invest in certain business assets and capital improvements. The new act extends the increased Section 179 limit through 2009. The Section 179 expensing election allows law firms to take a current deduction for newly acquired assets that otherwise would have to be depreciated over a number of years. This election can be claimed only to offset the business net income, not to reduce net income below zero.

The new act also extends the first year 50% bonus depreciation to certain property acquired and placed in service in 2009. This is in addition to any such property that qualifies for Section 179 expensing. The following types of property are qualified for this special bonus depreciation:

• Tangible property with a recovery period of 20 years or less;
• Computer software purchased by the business;
• Water utility property; and
• Qualified leasehold improvement property.

Because both the Section 179 limit increases and the 50% depreciation allowance can provide larger 2009 deductions, law firms may want to consider making major asset purchases this year if their business would qualify for these breaks.

In a February, 2009 article in this newsletter (“The Housing Assistance Tax Act and the Emergency Economic Recovery Act”), we discussed how attorneys' corporate clients were also allowed a new option to swap otherwise allowable bonus depreciation for immediately refundable alternative minimum tax (“AMT”) and research and development (“R&D) credits under the Housing Assistance Act of 2008. According to the new act, that option has been extended through 2009. Corporations that elect to accelerate AMT or R&D credits in lieu of bonus depreciation will be able to increase the limit (subject to the cap discussed below) on the credits they can claim by an amount equal to 20% of the bonus depreciation they forgo. (Credits can be more valuable than depreciation deductions because they reduce your tax bill dollar for dollar, rather than just reducing the amount of income that is taxed.)

The allowable credit is capped at the lesser of $30 million or 6% of an amount that's determined using a complex formula based on certain prior R&D credit carry forward amounts and certain minimum tax credits.

Deferral of Certain Income from Discharge of Indebtedness

Under the new act, certain cancellation of debt (“COD”) income realized on account of a taxpayer's or a related person's reacquisition of a debt instrument during 2009 or 2010 would be, at the taxpayer's election, deferred until 2014 and then included in income ratably over five years (2014 to 2018). This relief provision applies to debt repurchases for cash, debt-for-debt exchanges (including modifications), debt-for-equity exchanges, contributions to capital and complete forgiveness by the holder of the instrument. COD income is the excess of the old debt's adjusted issue price over the repurchase price.

For example, assuming on Jan. 1, 2009, a business client recognized $100,000 of COD income and qualified for deferral, then it could defer reporting the income until its 2014 tax return. If it were in the 35% tax bracket, this would provide the business with $35,000 in tax savings for 2009. The client would then report $20,000 of income per year for 2014 through 2018. Assuming it remains in the 35% tax bracket, the total tax liability would remain the same, but in essence the client would be getting an interest-free loan on the tax liability.

S Corporation Built-in Gains Relief

When a C corporation converts to an S corporation, it generally must hold on to its assets for 10 years to avoid tax on any built-in gains that existed at the time of the conversion. The S corporation built-in gains tax applies a 35% tax when an S corporation takes built-in gains into income. Built-in gains are items for which a former C corporation had accrued economic benefit on the day its S corporation took effect, but which had not been recognized for tax purposes. For example, if the corporation had a piece of real estate worth $120,000 on the day it became an S corporation, and the property had a basis of $90,000, there would be a built-in gain of $30,000.

Under the new act, for tax years beginning in 2009 and 2010, no tax is imposed on the net unrecognized built-in gain of an S corporation if the seventh tax year in the recognition period preceded the 2009 and 2010 tax years. This will benefit law firms and their corporate clients that were C corporations that converted to an S corporation in 2001 and 2002 if they sell any assets that would have been subject to this tax.

Net Operating Loss ('NOL') Carryback

Under the new act, businesses with gross receipts of $15 million or less will have the option to carry back NOLs either three, four or five years (instead of the two-year carryback provided under old law). The five-year carry back is effective for NOLs generated in tax years beginning or ending in 2008.

Any loss not absorbed in the carryback period can be carried forward up to 20 years. Businesses also have the option to waive the carryback period and carry the entire loss forward. This may be beneficial if your marginal tax rate in the carry back years is unusually low or if the alternative minimum tax (AMT) in prior years makes the carry back less beneficial.

COBRA Benefits

The new act contains a significant COBRA revision that will apply to every law firm that is subject to COBRA. Under the new act, a former employee would pay a portion of the COBRA premium (35%) and the former law-firm employer would pay the remaining portion (65%) of the premium for nine months. The law firm would be able to credit its share of the subsidy against wage withholdings and payroll taxes (subject to income thresholds). It is therefore recommended that law firms examine their cash flow needs and contact their COBRA administrators and payroll vendors to discuss the steps required.

Incentives to Hire Unemployed Veterans and Disconnected Youth

Law firms are allowed to claim a work opportunity tax credit equal to 40% of the first $6,000 of wages paid to employees of one of nine targeted groups. The new act expands the work opportunity tax credit to include two new targeted groups: 1) unemployed veterans; and 2) disconnected youth. Individuals qualify as unemployed veterans if they were discharged or released from active duty from the Armed Forces during 2008, 2009 or 2010 and received unemployment compensation for more than four weeks during the year before being hired. Individuals qualify as disconnected youths if they are between the ages of 16 and 25 and have not been regularly employed or attended school in the past six months.

For Individuals

Automobile Purchase Relief

The new act provides an above-the-line deduction to individuals purchasing a new car, light truck, recreational vehicle or motorcycle from Feb. 17, 2009 through Dec. 31, 2009 for state sales or excise tax paid on the purchase. The deduction applies to the tax attributable to the first $49,500 of purchase price and begins to phase out at AGI in excess of $125,000 ($250,000 for married couples filing jointly). This means that individual attorneys and staff members can benefit from the deduction even if they don't itemize. While both foreign and domestic vehicles qualify, sales tax paid on a lease do not qualify.

Section 529 Plans

Under the old law, the definition of qualified education expenses did not include laptops and computers and therefore could not be purchased through Section 529 plan accounts tax free. The new act provides that expenses paid or incurred for the purchase of computer technology and equipment or Internet access qualify as qualified education expenses under Section 529 plans for tax years beginning in 2009 and 2010. Attorneys can use these tax-advantaged savings plans to fund college expenses for their family. In addition, other family members are allowed to use the technology as long as it is being used by the college student.

First-time Homebuyer Credit

In the February, 2009 article mentioned above, we discussed how attorneys or their staffs could benefit from this essentially interest-free loan in the form of a refundable credit. Under the new act, the first-time homebuyer credit is extended to apply to homes purchased after Dec. 31, 2008 and before Dec. 1, 2009. The new act removes the repayment requirement for homes purchased during 2009 unless the home is resold within 36 months of purchase. It also increases the amount of the credit from the
current maximum of $7,500 to up to $8,000.

Transportation Benefits

The new act increases the maximum monthly exclusion for employer-provided transit and vanpool benefits ($120 for 2008) to the same level as the exclusion for employer-provided parking ($230 for 2009) for 2009 and 2010. These benefits are a tax free fringe if provided by a law firm saving the law firm payroll taxes and the law firm's employee's payroll and income taxes.

Richard H. Stieglitz is a Tax Partner and Tamir Dardashtian, Esq. is a Tax Manager in the New York accounting firm of Anchin, Block & Anchin LLP, which specializes in providing accounting, tax, and consulting services to law firms. Stieglitz can be reached at 212-840-3456 or via e-mail at [email protected], and Dardashtian can be reached at 212-840-3456 or via e-mail at [email protected].