Journal of Financial Planning: April 2016
Julie A. Welch, CPA, PFP, CFP®, is the director of tax services and a shareholder with Meara Welch Browne P.C. in Leawood, Kansas.
Cara Smith, CPA, CFP®, is a senior tax manager with Meara Welch Browne P.C. in Leawood, Kansas.
On December 18, 2015, the Protecting Americans from Tax Hikes Act of 2015 was enacted, extending more than 20 key tax provisions permanently. It also extends some of the tax provisions that expired at the end of 2014 for five years and some for two years, retroactive to the beginning of 2015. Additionally, some of the extenders have been modified or enhanced.
Here are some of the key provisions of the legislation.
Permanent Extensions for Individuals
First, here are some of the permanent extensions that affect individuals.
Charitable contributions of IRA proceeds for taxpayers age 70½ and older, up to $100,000 per year. This provision allows IRA distributions, including required minimum distributions, to be made directly to a charity. The individual does not include this amount in income. It is especially beneficial for those living in states that do not allow deductions for charitable contributions, those who do not itemize deductions at the federal level, and those who benefit from lower income due to phase-outs of deductions.
State and local sales tax deduction. This provision allows an individual to deduct state and local sales tax as an itemized deduction in lieu of deducting state and local income tax. It is especially beneficial for those living in states with no state income tax or those with significant income not subject to state income tax, such as municipal bond interest and certain retirement benefits.
American Opportunity Tax Credit (AOTC). Beginning with 2016 tax returns, the taxpayer federal identification number of the school must be included on the return. This provision continues the AOTC for education costs for the first four years of post-secondary education. It is a maximum credit of $2,500 annually, for a total of $10,000 over the four-year period. The requirement to include the ID number of the school is to help the IRS reduce the number of ineligible people claiming this education benefit.
Teacher’s classroom expense deduction. Beginning in 2016, the deduction will be indexed for inflation and can include professional development expenses. The 2015 deduction is $250, and teachers can deduct this even if they do not itemize deductions.
Permanent Extensions for Businesses
Next are some of the permanent extensions that affect businesses.
Section 179 limits. Starting in 2015, an annual Section 179 depreciation expense is available up to $500,000 with phase-out beginning at $2 million of qualifying purchases. Off-the-shelf software is eligible for Section 179, and Section 179 elections can be revoked. For taxable years beginning after 2015, the amounts will be indexed for inflation, and qualified real property (no longer limited to $250,000), and air conditioning and heating units are eligible for Section 179. This provision is especially beneficial for profitable businesses that wish to deduct computers and equipment in the year of purchase. The expanded definition of qualifying property allows more items to qualify for this favorable accelerated deduction.
15-year straight-line cost recovery period for qualified leasehold improvements, qualified restaurant property, and qualified retail improvement property. Without this provision, such items are generally depreciated over 39 years. This provision significantly accelerates the depreciation deduction for long-lived assets.
Research tax credit. For taxable years beginning after December 31, 2015, eligible small businesses can use the credit to offset both regular tax and alternative minimum tax (AMT). Additionally, the taxpayer can alternatively claim a payroll tax credit of up to $250,000 for up to five years in lieu of an income tax credit. This works especially well for companies that do research and development. The modification of the credit is very favorable for start-up companies with minimal or no profits and owners of pass-through entities with limited use of the credits due to AMT.
Section 1202 stock. The new law allows for 100 percent exclusion of the gain on the sale of qualified small business stock owned longer than five years permanently, and the alternative minimum tax preference does not apply. It is an incentive for start-up businesses, because individuals selling such stock generally pay no capital gains tax on that gain.
S corporation built-in gains period. The new law permanently reduces the S corporation recognition period to five years for the built-in gains tax. It is beneficial because the 35 percent corporate-level tax will not apply to built-in gains after the five-year period rather than after a 10-year period. Thus, an S corporation whose election was effective no later than January 1, 2010 has no carryover of unrecognized built-in gains into 2016 from years beginning before 2016.
Business Provisions Extended through 2019
Next are some of the business provisions extended retroactively to the beginning of 2015 and for a total of five years through 2019.
Work Opportunity Tax Credit (WOTC). For workers hired after 2015, the WOTC is expanded to include qualified long-term unemployment recipients. This is a federal tax credit available to employers for hiring individuals from certain target groups who have consistently faced significant barriers to employment. Generally, IRS form 8850 should be completed the day the individual is hired and state certification from the state workforce agency should be obtained.
Bonus depreciation. First-year bonus depreciation is extended through 2020 for certain long-lived and transportation property. The first year deduction is 50 percent for 2015 through 2017 and is phased down to 40 percent for 2018, and 30 percent for 2019; $8,000 maximum bonus depreciation for certain passenger automobiles phased down to $6,400 for 2018 and $4,800 for 2019. After 2016, qualified improvement property is no longer required to be subject to a lease, and the three-year rule removed. An election to use AMT credits in lieu of bonus depreciation is modified. It is beneficial for companies purchasing new equipment, allowing a significant deduction in that year. With bonus depreciation, even companies without taxable income in that year can take advantage of the deduction. Thus, net operating loss carryover or carryback amounts can be generated.
New markets tax credit. This credit is designed to stimulate investment and economic growth by increasing the flow of capital to businesses and low-income communities with a tax incentive to private investors. The credit is generally 39 percent of the investment made, spread over seven years.
Individual Provisions Extended through 2016
Next are some of the individual provisions extended retroactively to the beginning of 2015 and for a total of two years through 2016.
Maximum $4,000 above-the-line deduction for qualified tuition and related expenses (totally phased out at adjusted gross income of $80,000 single/$160,000 joint).
Deduction for mortgage insurance premiums. This provision treats such amounts as deductible qualified residence interest and phases out for higher-income individuals.
Principal residence mortgage debt relief (up to $2 million) is excluded from income. Without this provision, such debt forgiveness (foreclosure, short sale, or loan modification) would generally be taxable unless the individual was insolvent.
Residential energy credit. After 2015, windows, skylights, and doors must meet Energy Star 6 standards. A lifetime maximum of $500 on this credit began in 2006.
Business Provisions Extended through 2016
Next are some of the business provisions extended retroactively to the beginning of 2015 and for a total of two years through 2016.
Business energy provisions, including the credit and special allowance for second-generation biofuel producers, biodiesel and renewable diesel incentives, energy-efficient new homes credit (generally for builders), and credits with respect to facilities producing energy from certain renewable resources.
Energy efficient commercial buildings deduction (Section 179D). The efficiency standard increased beginning in 2016. This provision is generally beneficial for building owners, although tenants may be eligible if they make construction expenditures. It is also beneficial for companies primarily responsible for a government building’s system’s design.
Additional Provisions
Finally, here are some of the miscellaneous provisions in the legislation.
Employers and payers of non-employee compensation are required to file W-2s and 1099s annually by January 31, effective for filings beginning in 2017. Thus, starting next year, copies of W-2s and 1099s are required to be filed with the government at the same time they are due to employees/contractors on January 31. This is an effort to curb identity theft-related tax fraud.
Individual tax refunds for those claiming the earned income tax credit or the additional child tax credit will not be issued before February 15 effective beginning in 2017. This provision is designed to help the IRS catch improper claims for the earned income tax credit.
Qualified distributions from 529 plans can include computers, software, and Internet access beginning retroactively to January 1, 2015. The legislation also removes certain distribution aggregation requirements and allows the redeposit into a 529 plan for refunded tuition.
Amounts received by wrongly incarcerated individuals are excluded from gross income.
Rollovers from qualified plans and IRAs can be made into SIMPLE IRAs generally after the SIMPLE IRA has been in existence for at least two years.
These are some of the major provisions in the Protecting Americans from Tax Hikes Act that was enacted in December. Because many of these provisions are now permanent in the tax law, it will make planning throughout the year easier. As always, prior to engaging in any transactions that may be affected by the new tax bill provisions, you and your clients should consult with competent tax counsel to determine the tax implications of the proposed transactions.