The American Recovery and Reinvestment Act of 2009

by Steven M. Appel

The American Recovery and Reinvestment Act of 2009 (the "Recovery Act") was signed into law by President Obama on February 17. The Recovery Act is a wide ranging tax package that includes tax relief for individuals and businesses. Below is a summary of some of the provisions affecting individuals and businesses. Please note that the summary is not a comprehensive summary of all of new law's provisions, or a comprehensive summary of the provisions discussed, but rather an overview of the some of the provisions. Please feel free to contact us if you have any questions, or consult with your tax advisor regarding the potential impact of these changes.

Tax changes affecting individuals and families in the Recovery Act

The Making Work Pay credit. The Recovery Act provides a tax credit in the amount of 6.2% of an eligible individual's earned income not to exceed $400 for single returns and $800 for joint returns in 2009 and 2010. The credit is phased out at a rate of 2% of an eligible individual's modiified modified adjusted gross income (MAGI) in excess of $75,000 ($150,000 for married couples filing jointly). Therefore, the maximum credit is completely phased out at a MAGI of $95,000 for an individual filer and at a MAGI of $190,000 for joint filers. The credit is also reduced by the $250 economic recovery payments to recipients of social security and certain other retirement and disability benefits. An eligible individual is any individual other than a nonresident alien or an individual who can be claimed as a dependent on the tax return of another taxpayer. The Making Work Pay Credit is a refundable credit. Withholding tables are to be revised by the IRS by reducing the amount of income tax to be withheld from an employee's wages as a way of accelerating the delivery of the credit to eligible individuals.

Economic recovery payment. The Recovery Act directs the Secretary of the Treasury to disburse a onetime Economic Recovery Payment of $250 to adults who were eligible for Social Security benefits, Railroad Retirement benefits, or veteran's compensation or pension benefits; or individuals who were eligible for Supplemental Security Income (SSI) benefits (excluding individuals who receive SSI while in a Medicaid institution). Only individuals who were eligible for one of the four programs for any of the three months prior to the month of enactment shall receive an Economic Recovery Payment. The one-time payment reduces the amount of any allowable Making Work Pay credit.

Refundable credit for certain federal and state pensioners. The Recovery Act provides a one-time refundable tax credit of $250 ($500 in the case of a joint return where both spouses are eligible) against income taxes owed for tax year 2009 for individuals who receive a government pension or annuity from work not covered by Social Security, and were not eligible to receive a an economic recovery payment. This one-time credit reduces the amount of any allowable Making Work Pay credit.

Expanded First-time homebuyer credit. In 2008, Congress provided taxpayers with a refundable tax credit that was equivalent to an interest-free loan equal to 10% of the purchase of a home (up to $75,000) by eligible home buyers. The provision applied to homes purchased on or after April 9, 2008 and before July 1, 2009. Taxpayers receiving this tax credit were required to repay any amount received under this provision back to the government over 15 years in equal installments (or earlier if the home was sold). The credit phases out for taxpayers with adjusted gross income in excess of $75,000 ($150,000 in the case of a joint return). The Recovery Act enhances the first time homebuyer credit by extending the date through which a home can be purchased to November 30, 2009, and it eliminates the repayment obligation for taxpayers that purchase homes on or after January 1, 2009 except in the case of certain disposition s within 3 years from the date the residence is purchased. The new law also increases the maximum value of the credit from $7,500 to $8,000. A taxpayer can elect to treat a residence purchased after December 31, 2008 and before December 1, 2009 as purchased on December 31, 2008 to claim the credit for 2008. The recapture waiver rules that will apply to eligible purchase made in 2009 will apply notwithstanding a taxpayer's election to treat the purchase as having been made on December 31, 2008.

The motor vehicle sales tax deduction. The Recovery Act allows taxpayers to deduct state and local sales taxes paid on the purchase of a new automobile, including light trucks, SUVs, motorcycles, and motor homes. The tax break phases out starting with taxpayers with modified adjusted gross income (MAGI) over $125,000 ($250,000 for joint returns) and is completely phased out for taxpayers with MAGI over $135,000 ($260,000 for joint returns). The deduction is allowed to both those who itemize their deductions as well as to nonitemizers. However, the deduction cannot be taken by a taxpayer who elects to deduct State and local sales taxes in lieu of state and local income taxes. The new rules apply to purchases of passenger cars, minivans, light trucks, motorcycles, and motor homes, but only up to $49,500 of the vehicle's price, and to vehicles purchased between Feb. 17, 2009 and the end of 2009.

Alternative minimum tax (AMT) patch. To limit the number of taxpayers subject to the AMT, the Recovery Act provides that the individual AMT exemption amount for taxable years beginning in 2009 is $70,950, in the case of married individuals filing a joint return and surviving spouses; (2) $46,700 in the case of other unmarried individuals; and (3) $35,475 in the case of married individuals filing separate returns. For taxable years beginning in 2009, the provision also allows an individual to offset the entire regular tax liability and alternative minimum tax liability by the nonrefundable personal credits.

Temporary modification of alternative minimum tax limitations on tax-exempt bonds. The Recovery Act provides that tax-exempt interest on private activity bonds issued in 2009 and 2010 is not an item of tax preference for purposes of the alternative minimum tax.

Reduction of required estimated tax payments in 2009 for qualified individuals. The income tax system is designed to ensure that taxpayers pay taxes throughout the year based on their income and deductions. To the extent that tax is not collected through withholding, taxpayers are required to make quarterly estimated payments of tax, the amount of which is determined by reference to the required annual payment. Under Pre-Recovery Act law, the required annual payment is the lesser of 90 percent of the tax shown on the return for the taxable year or 100 percent of the tax shown on the return for the prior taxable year (110 percent if the adjusted gross income for the preceding year exceeded $150,000). The Recovery Act provides that the required annual estimated tax payments of a qualified individual for taxable years beginning in 2009 is not greater than 90 percent of the tax liability shown on the tax return for the preceding taxable year. A qualified individual means any individual if the adjusted gross income shown on the tax return for the preceding taxable year is less than $500,000 ($250,000 if married filing separately) and the individual certifies that at least 50 percent of the gross income shown on the return for the preceding taxable year was income from a small trade or business. For purposes of this provision, a small trade or business means any trade or business that employed no more than 500 persons, on average, during the calendar year ending in or with the preceding taxable year. A certification will be in the form and manner and will be filed at the time as may be prescribed in regulations.

Unemployment compensation exclusion. Under the Recovery Act, the first $2,400 of unemployment benefits received by a recipient in 2009 is excluded from gross income.

Expanded earned income tax credit (EITC). The Recovery Act provides tax relief to families with three or more children by increasing the EITC credit percentage for families with three or more qualifying children to 45 percent for 2009 and 2010. For example, in 2009 taxpayers with three or more qualifying children may claim a credit of 45 percent of earnings up to $12,570, resulting in a maximum credit of $5,656.50. The new law also increases marriage penalty relief through higher threshold phase-out amounts for married couples filing joint returns. The changes apply for 2009 and 2010.

Expanded child tax credit. The Recovery Act increases the eligibility for the refundable child tax credit in 2009 and 2010 by lowering the AGI threshold to $3,000 (from $8,500 in 2008).

The American Opportunity Tax Credit. The Recovery Act modifies the Hope credit for taxable years beginning in 2009 or 2010. The modified credit is referred to as the American Opportunity Tax credit. The allowable modified credit is up to $2,500 per eligible student per year for qualified tuition and related expenses paid for each of the first four years of the student's post-secondary education in a degree or certificate program. The modified credit rate is 100 percent on the first $2,000 of qualified tuition and related expenses, and 25 percent on the next $2,000 of qualified tuition and related expenses, including course materials.

Under the provision, the modified credit is available with respect to an individual student for four years, provided that the student has not completed the first four years of post-secondary education before the beginning of the fourth taxable year. Thus, the modified credit, in addition to other modifications, extends the application of the Hope credit to two more years of post-secondary education.

The modified credit that a taxpayer may otherwise claim is phased out ratably for taxpayers with modified adjusted gross income between $80,000 and $90,000 ($160,000 and $180,000 for married taxpayers filing a joint return). The modified credit may be claimed against a taxpayer's alternative minimum tax liability

Computers and technology equipment as an education expense under Section 529 Plans. The Recovery Act expands the definition of qualified higher education expenses for expenses paid or incurred in 2009 and 2010 to include expenses for certain computer technology and equipment, or internet access and related services to be used by the designated beneficiary while enrolled at an eligible educational institution.

Extension and modification of credit for nonbusiness energy property. Pre-Recovery Act law provided a 10-percent credit for the purchase of qualified energy efficiency improvements to existing homes. Additionally, the law provides specified credits for the purchase of specific energy efficient property. The allowable credit for the purchase of certain property is (1) $50 for each advanced main air circulating fan, (2) $150 for each qualified natural gas, propane, or oil furnace or hot water boiler, and (3) $300 for each item of qualified energy efficient property, including certain electric heat pump water heaters, electric heat pumps, central air conditioners, natural gas, propane, or oil water heaters, and biomass fuel burning stoves used to heat a dwelling unit.

The maximum credit for a taxpayer with respect to the same dwelling for all taxable years is $500, and no more than $200 of such credit may be attributable to expenditures on windows. A credit was not allowed with respect to expenditures made by any individual which were made from subsidized energy financing, financing provided under a Federal, State, or local program a principal purpose of which is to provide subsidized financing for projects designed to conserve or produce energy. The credit applies to expenditures made after December 31, 2008 for property placed in service after December 31, 2008, and prior to January 1, 2010.

The Recovery Act raises the 10 percent credit rate to 30 percent. Additionally, all energy property otherwise eligible for the $50, $100, or $150 credits is instead eligible for a 30 percent credit on expenditures for such property. The new law also extends the provision for one year, through December 31, 2010. The $500 lifetime cap (and the $200 lifetime cap with respect to windows) is eliminated and replaced with an aggregate cap of $1,500 in the case of property placed in service after December 31, 2008 and prior to January 1, 2011. Finally, expenditures made from subsidized energy financing can qualify for the nonbusiness energy property credit if they otherwise meet the requirements for the credits.

Modification of credit for residential energy efficient property. Pre- Recovery Act law provided a personal tax credit for the purchase of qualified solar electric property and qualified solar water heating property that is used exclusively for purposes other than heating swimming pools and hot tubs. The credit is equal to 30 percent of qualifying expenditures, with a maximum credit of $2,000 with respect to qualified solar water heating property. There is no cap with respect to qualified solar electric property. The law also provided a 30 percent credit for the purchase of qualified geothermal heat pump property, qualified small wind energy property, and qualified fuel cell power plants. The credit for geothermal heat pump property is capped at $2,000, the credit for qualified small wind energy property is limited to $500 with respect to each half kilowatt of capacity, not to exceed $4,000, and the credit for any fuel cell may not exceed $500 for each 0.5 kilowatt of capacity. A credit was not allowed with respect to expenditures made by any individual which were made from subsidized energy financing, financing provided under a Federal, State, or local program a principal purpose of which is to provide subsidized financing for projects designed to conserve or produce energy. The Recovery Act eliminates the credit caps for solar hot water, geothermal, and wind property and expenditures made from subsidized energy financing can qualify for the credit if they otherwise meet the requirements for the credits. The new law applies to taxable years beginning after December 31, 2008.

Tax changes affecting businesses in the Recovery Act

Extension of bonus depreciation. In 2008 Congress temporarily allowed business to accelerate the recovery of the costs of certain capital expenditures by providing for an additional first-year depreciation deduction equal to 50 percent of the cost of qualified property placed in service during 2008 (and 2009 for certain longer-lived and transportation property). The additional first-year depreciation deduction is allowed for both regular tax and alternative minimum tax purposes for the taxable year in which the property is placed in service. The Recovery Act extends the additional first-year depreciation deduction for one year, generally through 2009 (through 2010 for certain longer-lived and transportation property).

Extension of enhanced small business expensing (Section 179). In 2008, Congress temporarily increased the amount that small businesses could write off for capital expenditures incurred in 2008 to $250,000 and increased the phase-out threshold for 2008 to $800,000. The Recovery Act extends the $250,000 and $800,000 amounts to taxable years beginning in 2009.

$8,000 increase in first-year depreciation limit for passenger automobiles that are "qualified property" is extended through Dec. 31, 2009. The Recovery Act extends the placed-in-service deadline from Dec, 31, 2008 to Dec. 31, 2009 for the $8,000 increase in the first-year depreciation limit allowable on new passenger automobiles.

Expanded loss carryback of net operating losses for eligible small businesses. Under pre-Recovery Act law, net operating losses (NOLs) may be carried back two years and carried over 20 years to offset taxable income in such years. The Recovery Act provides that an eligible small business may elect to increase the present-law carryback period for an applicable 2008 NOL from two years to any whole number of years elected by the taxpayer that is more than two and less than six. In other words, an eligible business may elect a three-, four-, or five-year carryback period for the 2008 NOL, instead of the general two-year carryback period. An eligible small business is a taxpayer meeting a $15,000,000 gross receipts test. An applicable. NOL is the taxpayer's NOL for any taxable year ending in 2008, or if elected by the taxpayer, the NOL for any taxable year beginning in 2008. An election under this provision may be made only with respect to one taxable year.

Incentives to hire unemployed veterans and disconnected youth. Businesses are allowed to claim a work opportunity tax credit equal to 40% of the first $6,000 of wages paid to employees of one of nine targeted groups. The Recovery Act expands the work opportunity tax credit to include two new targeted groups: (1) unemployed veterans; and (2) disconnected youth. Individuals qualify as unemployed veterans if they were discharged or released from active duty from the Armed Forces during 2008, 2009 or 2010 and received unemployment compensation for more than four weeks during the year before being hired. Individuals qualify as disconnected youths if they are between the ages of 16 and 25 and have not been regularly employed or attended school in the past 6 months. The provisions are effective for individuals who begin work for an employer after during 2009 or 2010.

Deferred recognition of certain cancellation of debt income (CODI). In general, gross income includes income that is realized by a debtor from the discharge of indebtedness, subject to certain exceptions for debtors in title 11 bankruptcy cases, insolvent debtors, certain student loans, certain farm indebtedness, certain real property business indebtedness, and certain qualified principal residence indebtedness. The amount of discharge of indebtedness generally is equal to the excess of the amount of the indebtedness being satisfied over the amount paid (or deemed paid) to satisfy such indebtedness. The Recovery Act permits a taxpayer to elect to defer the recognition of CODI over 10 years by deferring tax on CODI for the first four or five years and recognizing the income ratably over the following five tax years for specified types of business debt repurchased in 2009 or 2010. Any CODI that was deferred by an electing taxpayer and which has not previously been taken into account generally is accelerated and taken into income in the taxable year in which the taxpayer dies, liquidates or sells substantially all of its assets (including in a title 11 or similar case), ceases to do business, or is in similar circumstances.

Temporary reduction in recognition period for S corporation built-in gains tax. The Recovery Act temporarily shortens the holding period of assets subject to the built-in gains tax from 10 years to seven years by providing that, for any taxable year beginning in 2009 and 2010, no built-in gains tax will be imposed on an S corporation if the seventh taxable year in the corporation's recognition period preceded such taxable year. For example, a built-in gain recognized by an S corporation in a taxable year beginning in either 2009 or 2010 in the eighth, ninth, or tenth year after the election to be an S corporation was made will not be subject to the built-in-gains tax. In other words, a corporation that elected to be an S corporation in 2002 will not be subject to the built-in gains tax in 2009 or 2010, and a corporation that elected to be an S corporation in 2003 will not be subject to the built-in gains tax in 2010.

Special rules applicable to qualified small business stock for 2009 and 2010. Under pre Recovery Act law, individuals may exclude 50 percent (60 percent for certain empowerment zone businesses) of the gain from the sale of certain small business stock acquired at original issue and held for at least five years. The portion of the gain includible in taxable income is taxed at a maximum rate of 28 percent under the regular tax. A percentage of the excluded gain is an alternative minimum tax preference and is taxed at a maximum rate of 28 percent under the alternative minimum tax. Under the Recovery Act, the percentage exclusion for qualified small business stock sold by an individual is increased from 50 percent (60 percent for certain empowerment zone businesses) to 75 percent. The provision is effective with respect to stock issued after the enactment date and before 2011.