New Tax Incentives in the Small Business Jobs Act of 2010
President Obama signed into law the Small Business Jobs Act of 2010 (H.R. 5297, the “Act”) on September 27, 2010. The Act includes a $12 billion tax incentive package aimed at small businesses to help them grow and to expand lending. These tax incentives are offset by several revenue-raising provisions, as discussed in more detail below.
Provisions Providing Small Business Access to Capital
Temporary 100 Percent Gain Exclusion on the Sale of Certain Small Business Stock
In general, non-corporate taxpayers may exclude 50 percent of any gain from the sale or exchange of qualified small business stock
(“QSBS”) held for more than 5 years (75 percent of any gain may be excluded if the QSBS is acquired after February 17, 2009, and before January 1, 2011). The amount of gain exclusion permitted is the greater of (i) 10 times the taxpayer’s basis in the QSBS or (ii) $10 million. In general, QSBS is stock in a C corporation that conducts an active trade or business and has gross assets not exceeding $50 million at the time the stock is issued.
Under the Act, 100 percent of the gain from a non-corporate taxpayer’s sale of QSBS acquired after September 27, 2010, and before January 1, 2011, that is held for 5 years is excluded from taxable income and no regular or alternative minimum tax will be imposed on the gain.
Temporary Reduction in Recognition Period for S Corporation Built-in Gain Tax
When a C corporation converts to an S corporation the S corporation must generally pay a tax on gain that arose before the conversion to an S corporation, known as built-in gain, and that is recognized in the first ten years that the S corporation election is in effect. A C corporation is one that is taxed at both the corporate and shareholder level while an S corporation receives pass-through tax treatment and is taxed at the shareholder level only. An S corporation is formed by election and is only permitted if a number of specific requirements are met.
Under the Act, the recognition period for an S corporation to recognize built-in gain is reduced to seven years for taxable years beginning in 2009 or 2010 and to five years for taxable years beginning in 2011.
Eligible Small Business’s General Business Credit
A taxpayer’s general business credit is generally limited to the excess of the taxpayer’s net income tax over the greater of (i) the taxpayer’s tentative minimum tax or (ii) 25 percent of the excess of the taxpayer’s net regular tax liability over $25,000. General business tax credits that are greater than this limitation may be carried back one year and carried forward up to twenty years.
Under the Act, the general business tax credit of an eligible small business for 2010 may be carried back five years, instead of one year. These general small-business credits are not subject to the alternative minimum tax for 2010. For this purpose, an eligible small business is a non-publicly traded corporation or partnership that has average annual gross receipts for the three taxable years prior to the current taxable year of no more than $50 million.
Provisions Encouraging Small Business Investment and Growth
Expansion of Internal Revenue Code Section 179 Deduction Limits
Under Internal Revenue Code Section 179, a taxpayer may elect to deduct the cost of “qualifying property.” “Qualifying property” is depreciable tangible personal property that is purchased or used in the active conduct of a trade or business such as equipment purchased for business use, office furniture, or office equipment. For taxable years after 2007 and before 2011, the maximum amount a taxpayer may elect to deduct under section 179 is $250,000 of the cost of the qualifying property placed in service for the taxable year ($25,000 for all other taxable years). For taxable years beginning after 2007 and before 2011, this $250,000 maximum amount is reduced by the amount by which the cost of the qualifying property placed in service during the taxable year exceeds $800,000 ($200,000 for all other taxable years).
The Act increases the section 179 expensing limitation for 2010 and 2011 to $500,000 with a phase-out threshold of $2 million and allows taxpayers to expense up to $250,000 of the cost of qualifying leasehold improvement, restaurant, and retail property.
Bonus Depreciation
The Act extends for one additional year the temporary 50 percent depreciation bonus first enacted in the Economic Stimulus Act of 2008 and then renewed in the American Recovery Reinvestment Act of 2009.
Under this bonus depreciation provision, 50 percent of the basis of qualified property may be deducted in the year the property is placed in service and the remaining 50 percent is recovered under normal depreciation rules. Generally, qualified property includes (i) property with a MACRS recovery period of 20 years or less, (ii) water utility property, (iii) certain computer software, and (iv) qualified leasehold improvement property.
The result of the bonus depreciation extension is that it is generally available for qualified property the original use of which begins with the taxpayer and that is placed in service during 2008, 2009, 2010, or 2011 in case of certain property with longer production periods.
Provisions Promoting Entrepreneurship
A taxpayer may elect to deduct up to $5,000 of start-up expenditures in the taxable year in which the taxpayer’s business begins. The $5,000 amount is reduced by the amount which the total amount of start-up costs exceeds $50,000.
The Act increases the amount of start-up expenditures a taxpayer may elect to deduct from $5,000 to $10,000 and increases the deduction phase-out threshold so that this $10,000 amount is reduced by the amount which the total amount of start-up costs exceeds $60,000.
Other Provisions
The Act provides a deduction for health insurance costs in computing self-employment taxes in 2010.
The Act removes employer-provided cell phones and similar telecommunications equipment from “listed property” effective for taxable years beginning after December 31, 2009. By de-listing employer-provided cell phones, the Act removes the strict substantiation-of-use requirements and the limitation on depreciation deductions, and eases administrative burdens on employers, employees, and the Internal Revenue Service.
The Revenue-Raising Offset Provisions
The Act raises revenue through several information reporting and penalty provisions, some of which are listed below:
1. Recipients of real estate rental income that make payments of $600 or more to a service provider (such as a plumber or accountant) in the course of earning rental income must send an information return to the Internal Revenue Service and to the service provider.
2. The Internal Revenue Service may issue levies before a collection due process hearing occurs for federal contractors who owe federal taxes.
3. An increase on the penalties for failure to file correct information returns is imposed.