The HIRE Act and the Health Care Reform Acts

It is safe to say that March 2010 was an extremely busy month for the tax community as President Obama signed into law the Hiring Incentives to Restore Employment Act (“HIRE Act”) on March 18, and the Patient Protection and Affordable Care Act on March 23, as amended by the Health Care and Education Reconciliation Act (“Health Care Reform Acts”) on March 30. The new laws have several significant tax-related provisions that affect individual and business taxpayers including law firms, attorneys, their staff, and their clients. More than $18 billion in tax incentives and relief provisions are contained in the HIRE act and $400 billion in new taxes and changes are included in the Health Care Reform Acts. These acts cover areas such as a new method for abating payroll tax on certain new hires, a new tax credit for retaining qualified workers, a favorable expensing provision for various asset acquisitions, small business tax credits for purchasing group health coverage, codification of the economic substance doctrine, additional 2013 Medicare taxes on higher income taxpayers and their investment income, and penalties/taxes related to health insurance plans or the absence thereof. Here are some highlights.

The Hiring Incentives to Restore Employment Act

Payroll Tax Holiday

When people say “the devil is in the details,” they usually mean that small things in plans that are often overlooked can cause serious problems later on. The centerpiece of the HIRE act provides a payroll tax holiday by allowing qualified employers an exemption for paying the Social Security tax of 6.2% on certain new hires through the end of 2010. However, while this is rather simple to understand, the implementation will be tricky. Law firm employers must understand the fine print on several eligibility rules like hiring only employees for new positions, not preexisting ones. The new hire does not have to be a full-time employee (there's no minimum hour requirement), but the new hire must not take the place of
an existing employee unless that employee is terminated for cause or leaves voluntarily. Also, the new hire can be an employee who was previously laid off by the employer, but the new hire must not be related to the employer or own (directly or indirectly) more than 50% of the business.

In addition, systems must be produced to document facts such as having employees sign an affidavit (Form W-11) certifying they have not worked more than 40 hours in the 60 days before their hiring date. The reason is because in order to qualify, a worker must be hired after Feb. 3, 2010, and before Jan. 1, 2011, and must have been unemployed (defined as not having worked more than 40 hours) for the 60-day period ending on his or her start date.

The maximum value of this benefit per employee is $6,621.60, since wages in excess of $106,800 aren't subject to the Social Security payroll tax. Law firm employers also need to keep in mind that since payroll tax paid is deductible as an ordinary and necessary business expense, law firm employers will have to take into consideration a smaller business expense deduction on their 2010 tax returns when utilizing this new abatement.

Please note that law firm employers generally can't take both payroll tax forgiveness and the Work Opportunity Tax Credit up to $2,400.00 for the same employee for the same year. Law firm employers can, however, elect to pay the Social Security tax so that they can take the credit if, for example, the credit would provide a greater tax benefit.

Revised form 941s are also being drafted by the IRS, and all law firm employers must use the new form 941s for the second quarter of 2010 even if they do not qualify for the abatement. In addition, any amount of abatement attributable to wages paid from March 18, 2010 through March 31, 2010 will have to be credited in the second quarter on the new form 941.

Retained Worker Business Credit

As an added incentive, the HIRE act provides law firm employers with the ability to take a tax credit for each employee who qualifies for the payroll tax abatement above and is retained for 52 consecutive weeks. This retained worker credit can be taken along with the Work Opportunity Tax Credit. The tax savings for this retained worker credit per qualified retained worker is equal to the lesser of 6.2% of the wages paid to the worker in 2010, or $1,000. Law firms will have to implement sufficient reporting mechanisms to monitor and track mandated salary and employment length requirements for the tax credit. The reason is because during the last 26 weeks of the 52-week period, the worker must be paid wages equal to at least 80% of what he or she was paid during the first 26 weeks. Also, no partial credit is available if the worker leaves before the end of the 52-week period, even if the departure is voluntary. Because of the 52-week requirement, law firm employers generally won't enjoy the benefit from this credit until they file their 2011 tax returns.

Section 179 Expensing

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 HIRE act extends the increased Section 179 limit for one year. Businesses that are on a fiscal year ending in 2011 will have until the end of the fiscal year to place the assets in service to avail themselves of the increased expensing. 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 HIRE act does not extend the first year 50% bonus depreciation to certain property acquired and placed in service in 2010.

The following types of property are qualified for this Section 179 expensing:

• 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 the Section 179 limit extension can provide large 2010 deductions, law firms may want to consider making major asset purchases this year if their business would qualify for this deduction.

Health Care Reform Acts

Tax Credits for Small Businesses

The new health reform law gives a tax credit to certain small employers that provide health care coverage to their employees, effective with tax years beginning in 2010. Small employers that provide health care coverage to their employees and that meet certain requirements (“qualified employers”) generally are eligible for a Federal income tax credit for health insurance premiums they pay for certain employees. Generally, in order to be a qualified employer, the employer must have fewer than 25 full-time equivalent employees for the tax year and the average annual wages of its employees for the year must be less than $50,000 per full-time equivalent employee. The employer must pay premiums for each employee enrolled in health care coverage offered by the employer in an amount equal to a uniform percentage (not less than 50%) of the premium cost of the coverage.

For tax years beginning in 2010 through 2013, the maximum credit is 35% of the employer's premium expenses that count toward the credit. After 2013, a maximum credit of 50% is available for two years for employers that purchase coverage through a state insurance exchange and contribute at least 50% of the total premium. The full credit is available for small employers with 10 or fewer employees and average annual wages per employee of less than $25,000. Partial credits are available on a sliding scale to businesses with up to 25 employees and average annual wages of less than $50,000.

Codification of the Economic Substance Doctrine

The Health Care Reform Act codifies the economic substance doctrine and applies to transactions entered into after March 30, 2010. The economic substance doctrine is a judicially developed doctrine under which the anticipated tax benefits from a transaction may be denied if the transaction does not result in a meaningful change to the taxpayer's business purpose and/or economic position other than reducing federal income taxes. This result can occur even if the transaction otherwise satisfies all statutory and administrative requirements.

This act provides that in the case of any transaction “to which the economic substance doctrine is relevant” the transaction shall be treated as having economic substance only if: 1) the transaction changes in a meaningful way (apart from federal income tax effects) the taxpayer's economic position; and 2) the taxpayer has a substantial purpose (apart from federal income tax effects) for entering into such transaction.

While the new statute specifies the above requirements that must be met in order to have economic substance, it does not specify when these factors must be applied. It merely states that the determination of whether the economic substance doctrine is relevant to a particular transaction will be made in the same manner as if the new statutory economic substance provision had not been enacted. Accordingly, taxpayers are left with substantial uncertainty as to the circumstances in which this new statute will be applied.

The Act includes a new 40% liability penalty that will be imposed on underpayments resulting from transactions found to lack economic substance or failing to meet the requirements “of any similar rule of law.” The penalty is reduced to 20% of the underpayment if the transaction is disclosed by the taxpayer.

The new statutory economic substance provision sets another hurdle to tax planning for attorneys and their business clients. This provision must be contemplated by attorneys when structuring legitimate business transactions.

Additional 2013 Medicare Taxes

According to the Health Care Reform Acts, starting in 2013, individuals will pay an additional 0.9% Medicare tax (2.35% instead of the current 1.45%) on the earned income in excess of $200,000 ($250,000 for married couples filing jointly). In addition to that tax, those individuals will also pay a new, 3.8% Medicare tax on the lesser of net investment income (such as interest, dividends, rents, royalties and gains from disposing property from a passive activity) or the excess of modified AGI over the threshold amount above. The tax doesn't apply to retirement plan distributions.

Penalties/Taxes Beginning in 2014 and 2018

According to the Health Care Reform Acts, starting in 2014, individuals who fail to maintain minimum essential health care coverage will be assessed a penalty that will be the greater of $95 per person or 1% of household income. Those amounts increase to $325 or 2% of income in 2015 and $695 or 2.5% of income in 2016. In addition, a family's total liability is limited to three times the applicable dollar amount ($285 in 2014, $975 in 2015, and $2,085 in 2016).

Beginning in 2018, a 40% nonrefundable excise tax will be imposed on high-cost group plans. The tax applies to annual premiums in excess of $10,200 for individual coverage and $27,500 for family coverage (excluding stand-alone dental and vision plans). The thresholds are higher ($11,850 and $30,950, respectively) for retirees and employees in certain high-risk professions. These amounts will be indexed for inflation. Since the excise tax will be imposed on insurance carriers, the cost will likely be passed along to law firm employers or employees in the form of higher insurance premiums.

Richard H. Stieglitz, CPA, a member of this newsletter's Board of Editors, is a Tax Partner and Tamir Dardashtian, Esq., is a Tax Manager in the New York accounting firm of Anchin, Block & Anchin LLP. Mr. Stieglitz and Mr. Dardashtian can be reached at 212-840-3456 or via e-mail at [email protected] and [email protected].

It is safe to say that March 2010 was an extremely busy month for the tax community as President Obama signed into law the Hiring Incentives to Restore Employment Act (“HIRE Act”) on March 18, and the Patient Protection and Affordable Care Act on March 23, as amended by the Health Care and Education Reconciliation Act (“Health Care Reform Acts”) on March 30. The new laws have several significant tax-related provisions that affect individual and business taxpayers including law firms, attorneys, their staff, and their clients. More than $18 billion in tax incentives and relief provisions are contained in the HIRE act and $400 billion in new taxes and changes are included in the Health Care Reform Acts. These acts cover areas such as a new method for abating payroll tax on certain new hires, a new tax credit for retaining qualified workers, a favorable expensing provision for various asset acquisitions, small business tax credits for purchasing group health coverage, codification of the economic substance doctrine, additional 2013 Medicare taxes on higher income taxpayers and their investment income, and penalties/taxes related to health insurance plans or the absence thereof. Here are some highlights.

The Hiring Incentives to Restore Employment Act

Payroll Tax Holiday

When people say “the devil is in the details,” they usually mean that small things in plans that are often overlooked can cause serious problems later on. The centerpiece of the HIRE act provides a payroll tax holiday by allowing qualified employers an exemption for paying the Social Security tax of 6.2% on certain new hires through the end of 2010. However, while this is rather simple to understand, the implementation will be tricky. Law firm employers must understand the fine print on several eligibility rules like hiring only employees for new positions, not preexisting ones. The new hire does not have to be a full-time employee (there's no minimum hour requirement), but the new hire must not take the place of
an existing employee unless that employee is terminated for cause or leaves voluntarily. Also, the new hire can be an employee who was previously laid off by the employer, but the new hire must not be related to the employer or own (directly or indirectly) more than 50% of the business.

In addition, systems must be produced to document facts such as having employees sign an affidavit (Form W-11) certifying they have not worked more than 40 hours in the 60 days before their hiring date. The reason is because in order to qualify, a worker must be hired after Feb. 3, 2010, and before Jan. 1, 2011, and must have been unemployed (defined as not having worked more than 40 hours) for the 60-day period ending on his or her start date.

The maximum value of this benefit per employee is $6,621.60, since wages in excess of $106,800 aren't subject to the Social Security payroll tax. Law firm employers also need to keep in mind that since payroll tax paid is deductible as an ordinary and necessary business expense, law firm employers will have to take into consideration a smaller business expense deduction on their 2010 tax returns when utilizing this new abatement.

Please note that law firm employers generally can't take both payroll tax forgiveness and the Work Opportunity Tax Credit up to $2,400.00 for the same employee for the same year. Law firm employers can, however, elect to pay the Social Security tax so that they can take the credit if, for example, the credit would provide a greater tax benefit.

Revised form 941s are also being drafted by the IRS, and all law firm employers must use the new form 941s for the second quarter of 2010 even if they do not qualify for the abatement. In addition, any amount of abatement attributable to wages paid from March 18, 2010 through March 31, 2010 will have to be credited in the second quarter on the new form 941.

Retained Worker Business Credit

As an added incentive, the HIRE act provides law firm employers with the ability to take a tax credit for each employee who qualifies for the payroll tax abatement above and is retained for 52 consecutive weeks. This retained worker credit can be taken along with the Work Opportunity Tax Credit. The tax savings for this retained worker credit per qualified retained worker is equal to the lesser of 6.2% of the wages paid to the worker in 2010, or $1,000. Law firms will have to implement sufficient reporting mechanisms to monitor and track mandated salary and employment length requirements for the tax credit. The reason is because during the last 26 weeks of the 52-week period, the worker must be paid wages equal to at least 80% of what he or she was paid during the first 26 weeks. Also, no partial credit is available if the worker leaves before the end of the 52-week period, even if the departure is voluntary. Because of the 52-week requirement, law firm employers generally won't enjoy the benefit from this credit until they file their 2011 tax returns.

Section 179 Expensing

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 HIRE act extends the increased Section 179 limit for one year. Businesses that are on a fiscal year ending in 2011 will have until the end of the fiscal year to place the assets in service to avail themselves of the increased expensing. 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 HIRE act does not extend the first year 50% bonus depreciation to certain property acquired and placed in service in 2010.

The following types of property are qualified for this Section 179 expensing:

• 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 the Section 179 limit extension can provide large 2010 deductions, law firms may want to consider making major asset purchases this year if their business would qualify for this deduction.

Health Care Reform Acts

Tax Credits for Small Businesses

The new health reform law gives a tax credit to certain small employers that provide health care coverage to their employees, effective with tax years beginning in 2010. Small employers that provide health care coverage to their employees and that meet certain requirements (“qualified employers”) generally are eligible for a Federal income tax credit for health insurance premiums they pay for certain employees. Generally, in order to be a qualified employer, the employer must have fewer than 25 full-time equivalent employees for the tax year and the average annual wages of its employees for the year must be less than $50,000 per full-time equivalent employee. The employer must pay premiums for each employee enrolled in health care coverage offered by the employer in an amount equal to a uniform percentage (not less than 50%) of the premium cost of the coverage.

For tax years beginning in 2010 through 2013, the maximum credit is 35% of the employer's premium expenses that count toward the credit. After 2013, a maximum credit of 50% is available for two years for employers that purchase coverage through a state insurance exchange and contribute at least 50% of the total premium. The full credit is available for small employers with 10 or fewer employees and average annual wages per employee of less than $25,000. Partial credits are available on a sliding scale to businesses with up to 25 employees and average annual wages of less than $50,000.

Codification of the Economic Substance Doctrine

The Health Care Reform Act codifies the economic substance doctrine and applies to transactions entered into after March 30, 2010. The economic substance doctrine is a judicially developed doctrine under which the anticipated tax benefits from a transaction may be denied if the transaction does not result in a meaningful change to the taxpayer's business purpose and/or economic position other than reducing federal income taxes. This result can occur even if the transaction otherwise satisfies all statutory and administrative requirements.

This act provides that in the case of any transaction “to which the economic substance doctrine is relevant” the transaction shall be treated as having economic substance only if: 1) the transaction changes in a meaningful way (apart from federal income tax effects) the taxpayer's economic position; and 2) the taxpayer has a substantial purpose (apart from federal income tax effects) for entering into such transaction.

While the new statute specifies the above requirements that must be met in order to have economic substance, it does not specify when these factors must be applied. It merely states that the determination of whether the economic substance doctrine is relevant to a particular transaction will be made in the same manner as if the new statutory economic substance provision had not been enacted. Accordingly, taxpayers are left with substantial uncertainty as to the circumstances in which this new statute will be applied.

The Act includes a new 40% liability penalty that will be imposed on underpayments resulting from transactions found to lack economic substance or failing to meet the requirements “of any similar rule of law.” The penalty is reduced to 20% of the underpayment if the transaction is disclosed by the taxpayer.

The new statutory economic substance provision sets another hurdle to tax planning for attorneys and their business clients. This provision must be contemplated by attorneys when structuring legitimate business transactions.

Additional 2013 Medicare Taxes

According to the Health Care Reform Acts, starting in 2013, individuals will pay an additional 0.9% Medicare tax (2.35% instead of the current 1.45%) on the earned income in excess of $200,000 ($250,000 for married couples filing jointly). In addition to that tax, those individuals will also pay a new, 3.8% Medicare tax on the lesser of net investment income (such as interest, dividends, rents, royalties and gains from disposing property from a passive activity) or the excess of modified AGI over the threshold amount above. The tax doesn't apply to retirement plan distributions.

Penalties/Taxes Beginning in 2014 and 2018

According to the Health Care Reform Acts, starting in 2014, individuals who fail to maintain minimum essential health care coverage will be assessed a penalty that will be the greater of $95 per person or 1% of household income. Those amounts increase to $325 or 2% of income in 2015 and $695 or 2.5% of income in 2016. In addition, a family's total liability is limited to three times the applicable dollar amount ($285 in 2014, $975 in 2015, and $2,085 in 2016).

Beginning in 2018, a 40% nonrefundable excise tax will be imposed on high-cost group plans. The tax applies to annual premiums in excess of $10,200 for individual coverage and $27,500 for family coverage (excluding stand-alone dental and vision plans). The thresholds are higher ($11,850 and $30,950, respectively) for retirees and employees in certain high-risk professions. These amounts will be indexed for inflation. Since the excise tax will be imposed on insurance carriers, the cost will likely be passed along to law firm employers or employees in the form of higher insurance premiums.

Richard H. Stieglitz, CPA, a member of this newsletter's Board of Editors, is a Tax Partner and Tamir Dardashtian, Esq., is a Tax Manager in the New York accounting firm of Anchin, Block & Anchin LLP. Mr. Stieglitz and Mr. Dardashtian can be reached at 212-840-3456 or via e-mail at [email protected] and [email protected].