14 Chapter BusinessTaxCreditsandCorporateAlternativeMinimumTax Tax Credit VS. Tax Deduction Tax benefit received from a tax deduction depends on the marginal tax rate of the taxpayer o Tax benefit received from a tax credit is not affected by the taxpayers marginal tax rate Example: $1,000 expenditure: tax benefit of 25% credit compared to tax deduction at various marginal tax rates MTR 0% 15% 35% Tax benefit if a 25% credit is allowed $250 $250 $250 Tax benefit if tax deduction is allowed 0 $150 $350 General Business Credit Comprised of a number of business credits combined into one amount Limited to net income tax reduced by greater of: o Tentative minimum tax o 25% of net regular tax liability that exceeds $25,000 Unused credit is carried back 1 year, then forward 20 years Includes the following: o Tax credit for rehabilitation expenditures o Work opportunity tax credit o Research activities credit o Low-income housing credit o Disabled access credit o Credit for small employer pension plan startup costs o Credit for employer-provided child care
Rehabilitation Expenditure Credit
Credit is a percentage of expenditures made to substantially rehabilitate industrial and commercial buildings and certified historic structures Credit rate o 20% for nonresidential and residential certified historic structures o 10% for other structures originally placed into service before 1936 To qualify for credit, building must be substantially rehabilitated meaning qualified rehab expenditures exceed the greater of: o The adjusted basis of the property before the rehab expenditures, or o $5,000 Qualified rehab expenditures do not include the cost of the building and related facilities or cost of enlarging existing building Basis in structure is reduced by the credit amount Subject to recapture if rehabilitated property held less than 5 years or ceases to be qualifying property
Work Opportunity Tax Credit Applies to first 12 months of wages paid to individuals falling within target groups o Credit limited to a percentage of first $6,000 wages paid per eligible employee
40% if employee has completed at least 400 hours of service to employer 25% if at least 120 hours of service o Deduction for wages is reduced by credit amount Targeted individuals generally subject to high rates of unemployment, including o Qualified ex-felons, high-risk youths, food stamp recipients, veterans, summer youth employees, and long-term family assistance recipients Summer youth employees: Only first $3,000 of wages paid for work during 90-day period between May 1 and September 15 qualify for credit ARRTA of 2009 adds two additional targeted groups for 2009 and 2010 o Unemployed veterans Discharged or released from active duty in 2008, 2009, and 2010, and Recipients of unemployment benefits for at least 4 weeks during the year prior to being hired o Disconnected youth Aged 16 to 25 when hired Not attending school Not employed for the six months prior to being hired, and Not having sufficient skills to be employed
Work Opportunity Tax Credit: Long-Term Family Assistance Recipient Applies to first 24 months of wages paid to individuals who have been long-term recipients of family assistance welfare benefits o Long-term is at least an 18 month period ending on hiring date Maximum credit is a percentage of first $10,000 qualified wages paid in first and second year of employment o 40% in first year o 50% in second year Maximum credit per qualified employee is $9,000 o Deduction for wages is reduced by credit amount Research Activities Credit Comprised of three parts o Incremental research activities credit o Basic research credit o Energy research credit Incremental research activities credit o Credit amount = 20% (qualified expenditures base amount) Expenditures qualify if research relates to discovery of technological info intended for use in developing a new or improved business component for taxpayer o Expenditures qualify fully if research done in-house o Only 65% qualifies if research conducted by outside party (under contract) Tax treatment of R&E expenditures o Full credit and reduce expense deduction by credit amount o Full expense deduction and reduce credit by (100% credit max. corp. tax rate) o Full credit and capitalize and amortize over 60 months or more Amount capitalized is reduced by full amount of credit only if the credit exceeds the amount allowable as a deduction
Basic research credit o Additional 20% credit is allowed on basic research payments in excess of a base amount Basic research payments - amounts paid in cash to a qualified basic research organization, such as a college or university or a tax-exempt organization operated primarily to conduct scientific research o Basic research is any original investigation for the advancement of scientific knowledge not having a specific commercial objective The definition excludes basic research conducted outside the United States and basic research in the social sciences, arts, or humanities Energy Research Credit o This credit is intended to stimulate additional energy research o Credit amount = 20% of amounts paid or incurred by a taxpayer to an energy research consortium for energy research
Disabled Access Credit o Credit available for eligible access expenditures made by small businesses Includes amounts paid to remove barriers that would otherwise make a business inaccessible to disabled and handicapped individuals Facility qualifies if placed in service before November 6, 1990 o Credit amount 50% expenditures that exceed $250 but not in excess of $10,250 Thus, max. credit is $5,000 Basis in asset is reduced by credit amount Credit For Pension Plan Startup Costs Small businesses can claim nonrefundable tax credit for admin of costs establishing and maintaining a qualified retirement plan o Small business has < 100 employees who have earned at least $5,000 of compensation Credit amount = 50% of qualified startup costs limited to max credit of $500 per year for 3 years o Deduction for startup costs is reduced by amount of credit Credit For Employer-Provided Child Care Employers can claim a credit for providing child care facilities to their employees during normal working hours o Limited to $150,000 per year Credit amount: o 25% of qualified child care expenses o 10% of qualified child care resource and referral services Deductible qualifying expenses must be reduced by the credit amount Basis of qualifying property must be reduced by credit amount Credit may be subject to recapture if child care facility ceases to be used for qualifying purpose within 10 years of being placed in service Foreign Tax Credit
The purpose of the foreign tax credit (FTC) is to mitigate double taxation since income earned in a foreign country is subject to both U.S. and foreign taxes o Credit applies to both individuals and corporations that pay foreign income taxes o Instead of claiming a credit, a deduction may be claimed for the taxes paid Amount of the credit allowed is the lesser of: The foreign taxes imposed, or The overall limitation determined according to the following formula: Foreign-source TI U.S. tax before credit Worldwide TI = Overall FTC limitation Unused FTCs can be carried back 1 year and forward 10 years
Alternative Minimum Tax Designed to ensure that corporations with substantial economic income pay at least a minimum amount of federal taxes Essentially, a separate tax system with a quasi-flat tax rate applied to a corporations economic income If tentative alternative minimum tax > regular corporate income tax, corporation must pay regular tax plus the excess, the alternative minimum tax (AMT) For tax years beginning after 1997, small corporations are not subject to AMT o A small corporation has average annual gross receipts of $5 million or less for the preceding three-year period o Small corporation continues to qualify as long as average gross receipts for the preceding three-year period do not exceed $7.5 million AMT Formula for Corporations Regular Taxable Income Before NOL Deduction AMT Adjustments (except ACE adjustment) + Tax preferences = AMTI before AMT NOL deduction and ACE adjust. ACE adjustment = AMTI before AMT NOL AMT NOL (limited to 90% of above amount) = Alternative minimum taxable income (AMTI) = = = = Alternative minimum taxable income (AMTI) Exemption AMT base 20% rate Tentative AMT before AMT foreign tax credit AMT foreign tax credit Tentative minimum tax Regular tax liability before credits minus reg Alternative minimum tax (AMT) if positive
FTC
Tax Preference Items Percentage depletion in excess of the adjusted basis of property Tax-exempt interest on private activity bonds Adjustments for AMT
Adjustments for AMT: A portion of depreciation on property placed in service after 1986 A portion of amortization claimed on certified pollution control facilities Difference between percentage of completion and completed contract income Difference between gain(loss) on sale of property for regular tax and AMT purposes Adjustments for AMT(cont): Passive activity losses of certain closely held corporations and personal service corporations A portion of the difference between ACE and AMTI ACE Adjustment Ace adjustment = 75% of difference between AMTI and ACE o Can be positive or negative o Negative adjustment is limited to aggregate positive adjustments less previous negative adjustments Starting point for determining ACE is AMTI o AMTI is defined as regular taxable income after AMT adjustments and tax preferences (other than the NOL and ACE adjustments) AMTI is adjusted to arrive at ACE o These adjustments include: Exclusion items - Income items that are included in E & P that are never included in regular taxable income or AMTI, Depreciation on pre-94 acquisitions using the alternative depreciation system, Disallowed items that are never deductible in computing E&P, Other adjustments Exemption Exemption amount for a corp = $40,000 o Reduced by 25% of excess of AMTI over $150,000 o Exemption is totally phased-out when AMTI reaches $310,000 Minimum Tax Credit AMT paid in one year can be used as a credit against future regular tax liability that exceeds its tentative minimum tax o Indefinite carryforward o Cannot be carried back o Cannot offset any future minimum tax liability AMT Example Moreland Co. has the following income, etc. in 2009: Taxable income $100,000 Depreciation adjustment 18,000 Installment gain (not on inventory sale) 80,000 Federal income tax provision on financial stmts. 75,000 Penalties and fines 2,000 Private activity bond interest income 25,000 Other tax-exempt interest 20,000 The depreciation adjustment is an AMT adjustment and the private activity bond interest is a tax preference for AMTI. AMT Example Calculation of AMTI before ACE:
Taxable income Plus: private activity bond income Plus: depreciation adjustment AMTI
$100,000 25,000 18,000 $143,000
AMT Example Calculation of ACE Adjustment: AMTI before ACE $143,000 Plus: deferred installment gain 80,000 Plus: other tax-exempt income 20,000 Adjusted current earnings $243,000 Less: AMTI 143,000 Base amount for Ace Adjustment $100,000 Times rate: 75% ACE Adjustment (positive) $ 75,000 AMT Example Calculation of AMT: AMTI before ACE $143,000 Plus: ACE Adjustment 75,000 AMTI $218,000 Less: Exemption 23,000 Alternative minimum tax base $195,000 20% rate 20% Tentative minimum tax $ 39,000 Less: regular tax (22,250) AMT(TMT-Regular tax) $ 16,750 Total cash paid = Regular tax + AMT = $ 39,000