H.R. 3090, the “Job Creation and Worker Assistance Act of 2002,” is a combination of business stimulus provisions, relief provisions for lower-Manhattan businesses affected by the 9/11 terrorist attacks, a 13-week extension of unemployment benefits, extensions for expired or soon-to-expire tax breaks, and technical corrections.
Perhaps the most relevant provision for many in the winter sports industry is a three-year, 30-percent “bonus” depreciation for businesses that invest in their operations. A second provision increases the two-year carryback for net operating losses to five years. This will provide infusions of previously paid taxes for many troubled areas, especially since it includes a waiver of the 90 percent limitation against the Alternative Minimum Tax.
In addition, the law extends, until December 31, 2003, the following:
- Work Opportunity Tax Credit;
- Welfare-to-Work Tax Credit;
- Credit for producing electricity from wind, biomass and poultry litter;
- Clean-fuel vehicle deductions;
- Tax incentives for investment in Native American reservations; and
- Other energy incentives.
More Depreciation
Let’s return to that bonus depreciation. It entitles resort owners and ski lift operators to an additional first-year depreciation deduction equal to 30 percent of the adjusted basis of qualified property, such as equipment, some computer software costs and qualified leasehold improvements. For any property to qualify, it must have a recovery period of 20 years or less. And that’s just the beginning of the qualifications.
“Qualified leasehold improvement property” is any improvement to an interior portion of a building, provided certain requirements are met. These include:
- The improvement must be made under, or pursuant to, a lease by the lessee (or sublessee) of the portion of the building that is to be occupied exclusively by the lessee (or any sublessee).
- The improvement must be put in service more than three years after the date the building was first put in service.
- The improvement must be acquired between September 10, 2001, and before September 11, 2004, and placed in service before January 1, 2005.
Qualified leasehold improvement property does not include any improvement for which the expenditure is attributable to the enlargement of the building, any elevator or escalator, any structural component benefiting a common area, or the internal structural framework of the building.
Whether equipment, software, leasehold improvements or any other type of property qualifies for this unique additional first year write-off also depends on the “original use” of the improvement. The original use requirement is intended to prevent prior improvements from qualifying as “new” improvements. It refers to the first use of an improved property, whether or not it corresponds to the first use of that property by the resort. It is apparently intended that additional capital expenditures incurred to recondition or rebuild acquired property (or owned property) will satisfy the “original use” requirement.
The depreciation rules (Section 167) clearly state that capitalized computer software costs are recovered ratably over 36 months, but the additional first-year 30 percent depreciation deduction applies to Section 167 software, too. There is an exception of course: computer software to which Section 197 applies—usually software or other intangible assets acquired as part of the acquisition of another business—doesn’t qualify.
For Example…
For example, if a resort operator acquires qualifying property on June 1, 2002 at a cost of $200,000, the resort operation may claim a first-year depreciation “bonus” of 30 percent of the property’s adjusted basis. That’s a $60,000 deduction. If the property has a recovery period of 20 years, the resort’s remaining basis in the property, $140,000, is recoverable over 20 years, starting with 2002 under the normal MACRS (Modified Asset Cost Recovery System) depreciation rules.
Other Tax Considerations
Don’t forget the small business expensing election under Code Section 179 of the current tax law. First year write-offs under Section 179 are $24,000 for 2001 and 2002. It’s scheduled to rise to $25,000 in 2003. Property may qualify for both the 30 percent depreciation bonus and Section 179 expensing election. Taxpayers in New York City’s “Liberty Zone” will enjoy an even higher expensing election.
The Alternative Minimum Tax (AMT) is also affected by the tax bill. Congress has created so many “preference items” for inclusion in the AMT computation that more and more taxpayers, corporate and noncorporate, have become enmeshed in it. Fortunately, this additional first-year depreciation deduction is allowed for both regular tax and AMT purposes for the year in which the property is placed in service.
Temporary Loss Relief
Suddenly, losses have become a valuable commodity. Under our tax rules, a net operating loss (NOL) is generally defined as the amount by which a resort or owner’s allowable deductions exceed gross income. Carrying back a NOL generally results in a refund of Federal income tax for the carryback year while a carryforward of a NOL reduces the tax bill in the carryforward year.
A provision of the new law temporarily extends the general NOL carryback provision to five years for NOLs arising in taxable years ending in 2001 or 2002. The present tax rules permit NOLs to be carried back two years and forward for up to 20 years (with a few notable exceptions). In addition, the five-year carryback period also applies to NOLs from those years that now qualify for a three-year carryback period (i.e., NOLs arising from casualty or theft losses of individuals, or attributable to certain Presidentially declared disaster areas).
Although any resort operator can choose to forego the five-year carryback period, the election, once made, is irrevocable. If a ski resort or related business does elect to forgo the five-year carryback period, then the losses are subject to the rules that would otherwise apply.
There’s a NOL carryforward benefit for those who are subject to the AMT in the tax bill as well. Under the new rules, a NOL generated or taken as carryforwards in 2001 and 2002, can offset 100 percent of alternative minimum taxable income, instead of 90 percent as is the case under the old rules.
S Corporation Changes
In general, a ski resort or business operating as an S corporation is not subject to the corporate income tax since it passes its items of income and loss along to its shareholders. To prevent double taxation of these items, each shareholder’s basis in the stock of the S corporation is increased by the amount included in income and is decreased by the amount of any losses taken into account.
The U.S. Supreme Court recently surprised many observers when it relied on the “plain language” of the tax law to find that, although discharge of indebtedness income (DOI) ceases to be included in the gross income when the shareholder is insolvent, the tax law does not require that DOI ceases to be an item of income for purposes of allowing the shareholder an increase in basis that, in turn, can allow the pass-through of otherwise suspended corporate losses.
The new law reverses an earlier Supreme Court decision that temporarily put S corporation shareholders at a decided advantage over other business entities, particularly partnerships, when hard times hit. Now, the discharged amount excluded from an S corporation’s income is expressly not treated as an item of income by a shareholder. Consequently, the shareholder’s basis is not increased. The new law applies to discharges of indebtedness income after October 11, 2001.
Look Back for Tax Refunds
Significant retroactive depreciation changes may affect tax returns that you have already filed for tax year 2001. Other changes that may affect 2001 returns include the increased net operating loss (NOL) carryback period and the change for S corporation debt discharge income. The Internal Revenue Service has already begun to determine how the retroactive provisions of the new law will be handled, but the IRS had made no decision at presstime.
But there’s no need to wait for the IRS to figure out the finer details. Many of the provisions in the Job Creation and Worker Assistance Act of 2002 can instantly reduce current, future and even last year’s tax bills.
