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JOB CREATION AND WORKER ASSISTANCE ACT OF 2002

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On March 9, 2002, President Bush signed into law the Job Creation and Worker Assistance Act of 2002 largely aimed at encouraging businesses to invest more money in equipment and other assets by allowing them to deduct their costs more quickly.

 

30% Depreciation "Bonus"

The economic stimulus legislation offers businesses an opportunity to significantly increase their first year depreciation deductions. For a limited time only, the legislation provides an additional first year depreciation "bonus" equal to 30% of the adjusted basis (e.g., the cost) of qualified property. The bonus depreciation deduction is available for both regular tax and alternative minimum tax purposes and does not preclude the regular deduction for first year depreciation. However, the 30% deduction is subtracted from the property's adjusted basis when computing the regular depreciation deduction.

Example: Company A buys a delivery truck for $50,000 before September 11, 2001. Under the old law, general purpose trucks belong in the five year recovery class, and Company A may use a 200% declining balance method and a half year convention to figure its depreciation deduction. With the half year convention, a half year's depreciation may be claimed in the first year. Based on these facts, Company A's first year depreciation deduction for the truck is 20% (200%/5/2) of $50,000 or $10,000 under the old law.

Company A buys a delivery truck for $50,000 after September 10, 2001. With the 30% depreciation bonus provision, Company A is able to take advantage of the additional 30% first year depreciation deduction for the $50,000 truck it purchases after September 10, 2001. Instead of claiming a $10,000 deduction under the old law, Company A may deduct more than double that amount, $22,000 in fact. That amount consists of $15,000 of additional first year depreciation (30% x $50,000) plus $7,000 of regular depreciation (20% x $35,000, the truck's remaining basis after subtracting the $15,000 of additional bonus depreciation).

Note that the 30% bonus depreciation deductions are mandatory unless the taxpayer "elects out" of the additional 30% first year depreciation for one or more classes of property for any tax year.

 

Qualifying Property

To be eligible for the additional 30% first year bonus depreciation the property must satisfy four specific requirements:

1. The property must be of a certain type:

  • Property must have a recovery period of 20 years or less (i.e., tangible personal property such as a truck or computer or land improvements such as landscaping or a parking lot).
  • Eligible computer software
  • Water utility property
  • Qualified leasehold improvement property (see definition below)


    • 2. Requirement of original use:

  • The original use of the property must begin with the taxpayer after September 10, 2001
  • For purposes of this requirement, the "original use" means the first use to which the property is put, thus the property must be new property


    • 3. Timely acquisition or commitment to buy:

  • Property must be acquired by the taxpayer after September 10, 2001 and before September 11, 2004. However, a binding written contract for the property's acquisition in effect before September 11, 2001 disqualifies the property.
  • Property must be acquired by the taxpayer under a written binding contract which was entered after September 10, 2001 and before September 11, 2004


    • 4. Timely placement into service:

  • Property generally must be placed into service by the taxpayer before January 1, 2005


    • Businesses can take advantage of the additional first year depreciation in taxable years ending after September 10, 2001. Thus, calendar year businesses should review their 2001 asset purchases to see if any of the assets qualify for the deduction. If a return has already been filed, the new benefit can be claimed on an amended tax return.

    Generally residential rental property (depreciable over 27.5 years) and nonresidential real property (depreciable over 39 years) are not included in the categories of assets eligible for the additional 30% first year depreciation. However, leasehold improvements can qualify for the 30% bonus depreciation. To be eligible, the "qualified leasehold improvement" must be any improvement to an interior portion of a building which is nonresidential real property and satisfies the following:

    1. The improvement is made under or pursuant to a lease either by the lessee, sublessee or lessor of the building;
    2. The portion of the building is to be occupied exclusively by the lessee (or any sublessee); and
    3. The improvement is placed in service more than 3 years after the date of the building was first placed into service.

    Qualified leasehold improvement property does not include improvements attributable to:

    1. The enlargement of a building
    2. Any elevator or escalator
    3. Any structural component benefiting a common area
    4. Any internal structural framework of the building

     

    Interaction with Section 179

    Businesses that can take advantage of the election under Section 179 of the tax code to expense the cost of depreciable assets in the year of acquisition also may be able to utilize the additional 30% first year depreciation available under the economic stimulus legislation. Opportunities to coordinate the two tax breaks may be available when the dollar amount of assets purchased during the year exceeds the dollar limit on Section 179 expensing. The current Section 179 expense deduction is $24,000 of tangible personal property (increasing to $25,000 for 2003 and later years). Note, however, the Section 179 election begins to phase out when purchases of eligible assets exceed $200,000 and is not available once the total reaches $224,000 ($225,000 in 2003 and later years).
    Still, where possible, combining the two tax breaks may produce very positive tax results, as illustrated in the following example:

    After September 11, 2001 Company B purchases $175,000 of construction equipment. Company B takes a valid Section 179, election to expense $24,000 of the equipment. Company B is also entitled to deduct $45,300 of additional first year bonus depreciation on the equipment (30% x $151,000; remaining adjusted basis) plus $21,140 of regular depreciation based on the $105,700 adjusted basis after the Section 179 election and the 30% bonus depreciation deduction. Thus, a total of $90,440 of the equipment's cost may be written off in 2001.

     

    Passenger Automobile Depreciation

    The tax law caps the amount of annual depreciation a business taxpayer may claim for "passenger automobiles" (vehicles, including some trucks, that weigh 6,000 pounds or less and that are used in the business). The economic stimulus legislation increases the first year depreciation dollar limit by $4,600 for such vehicles acquired after September 10, 2001, and placed in service before January 1, 2005. For example, if a vehicle is placed in service during 2002 and used entirely for business, this change raises the dollar cap on first year depreciation from $3,060 to $7,660. Note that a vehicle will not be eligible for the additional first year depreciation unless it is used more than 50% for trade or business purposes.

     

    Net Operating Losses

    A net operating loss (NOL) is the excess of deductions (with certain adjustments) over income for the year. Carrying back a NOL to a previous tax year allows taxpayers to offset taxable income in the carryback year and obtain a tax refund. The economic stimulus legislation temporarily extends the generally applicable carryback period from two to five years for NOLs arising in taxable years ending in 2001 and 2002. NOLs that are not carried back may be carried forward for up to 20 years to reduce future taxable income. As under prior law, a taxpayer may elect to waive the carryback period.

    Example: Taxpayer C has reported net taxable income in past years, but generated a $100,000 NOL in 2001. At Taxpayer C's election, the NOL maybe carried back to 1996 to offset taxable income in that year. If there is not sufficient 1996 income to absorb the full loss, Taxpayer C may carry back the remaining loss to its 1997, 1998, 1999, and 2000 tax years, in that order. Under prior law, Taxpayer C could have carried back the NOL only to 1999 and 2000.

    Deductions for NOLs attributable to carrybacks arising in taxable years ending in 2001 and 2002, as well as NOL carryforwards to 2001 and 2002, may offset 100% of alternative minimum taxable income. Normally, an NOL deduction may not reduce alternative minimum taxable income by more than 90% of the income.

     

    The Next Step

    Businesses will want to review the provisions of the Job Creation and Worker Assistance Act as soon as possible to identify the provisions that affect their planning. As skilled professionals, we have the experience, knowledge and expertise to help you with your planning needs - now and in the coming years.

     

    - Richard DeGroot, CPA, CFP, JD, LLM (Tax)
    - Rick Fisher, CPA