On February 17, 2009, President Obama signed the American Recovery and Reinvestment Act of 2009 (HR 1)(the "Recovery Act"). The Recovery Act included approximately $290 billion in tax incentives aimed at stimulating economic activity. The following is a brief summary of the major tax provisions of the Recovery Act that may be of interest to our business clients; it does not cover all business-related tax provisions contained in the Recovery Act.
Business Tax Provisions
Additional 50% First-Year Bonus Depreciation
The Recovery Act extends the additional 50% first-year bonus depreciation deduction for certain qualified property placed in service in 2009 (2010 for property with a MACRS recovery period longer than ten years and transportation property). (Internal Revenue Code ("Code") §168(k), as amended by Recovery Act §1201(a)).
- The additional first-year depreciation deduction is allowed for both regular tax and alternative minimum tax ("AMT") purposes.
- Qualified property includes most types of new tangible personal property other than buildings. It must be used in the United States.
- The full 50% depreciation deduction may be claimed regardless of the date that the property is placed in service during 2009.
- If the taxpayer receives a 30% cash grant or claims the investment tax credit ("ITC") with respect to qualified property (see discussion below of Energy Tax Provisions), bonus depreciation is reduced to 42.5% of the property's cost (50% of 85%), since taxpayers claiming a cash grant or ITC are required to reduce the tax basis of the relevant property by 15% (one half of the grant or credit).
- The Recovery Act also extends the provision allowing certain taxpayers to elect to forego bonus and accelerated depreciation for "eligible qualified property" in exchange for the present allowance as refundable tax credits of otherwise deferred pre-2006 AMT or research and development credits.
Extension of Increased Limitations for §179 Expense Deductions
In lieu of depreciation, taxpayers generally may elect to deduct the cost of certain depreciable tangible personal property purchased for use in the active conduct of a trade or business. The maximum amount a taxpayer may expense for taxable years beginning in 2008 is $250,000 of the cost of property placed in service during the taxable year, reduced by the cost of such property in excess of $800,000. Under pre-Recovery Act law, the $250,000 and $800,000 limitations would have been reduced beginning in 2009. The Recovery Act extends the $250,000 and $800,000 limitation amounts to taxable years beginning in 2009. (Code §179, as amended by Recovery Act §1202)
Deferred Recognition of Certain Cancellation of Debt Income
Under the Recovery Act, for specified types of business debt reacquired by the taxpayer-debtor or a related party in 2009 or 2010, the taxpayer will be able to elect to defer recognition of the cancellation of debt ("COD") income and include it in income ratably over five years. (Code §108(i)(1), as amended by Recovery Act §1231(a)).
The five year inclusion period begins:
- for repurchases occurring in 2009, the fifth tax year following the tax year in which the repurchase occurs, and
- for repurchases occurring in 2010, the fourth tax year following the tax year in which the repurchase occurs.
- A "reacquisition" includes an acquisition of the debt instrument for cash, an exchange of the debt instrument for another debt instrument (including a debt modification), an exchange of the debt instrument for corporate stock or a partnership interest, a contribution of the debt instrument to capital and the complete forgiveness of the indebtedness by the holder of the debt instrument.
- For pass-through entities (such as S corporations and partnerships), the election is made at the entity level.
- All deferred COD income is accelerated upon certain events, including the liquidation or sale of substantially all the taxpayer's assets (including in a Title 11 or similar case), the cessation of business by the taxpayer or similar circumstances. This acceleration rule also applies in the case of a sale or exchange of an interest in a pass-through entity by a partner, shareholder or other person holding an ownership interest in the entity.
Deferral of Original Issue Discount Deduction ("OID") in Debt-for-Debt Exchanges
In a debt-for-debt exchange for which the taxpayer elects to defer COD income under new Code §108(i)(1) (see above), if the new debt instrument has OID, then any otherwise allowable OID deduction for the new debt instrument not in excess of the related, deferred COD income is deferred and allowed as a deduction ratably over the same five-year tax period in which the COD income is includible. This rule also generally applies where the taxpayer issues for cash a new debt instrument having OID to the extent the taxpayer uses the proceeds of the new debt instrument to reacquire its old debt. (Code §108(i)(2), as amended by Recovery Act §1231(a)).
Suspension of AHYDO Rules for Certain High-yield Obligations
The "AHYDO" rules, which disallow OID deductions on certain high-yield debt obligations, will not apply to certain debt obligations issued from September 1, 2008 through December 31, 2009, if the debt is issued in exchange for non-AHYDO debt (including an exchange resulting from a significant modification of a debt instrument). (Code §163(e)(5)(F), as amended by Recovery Act §1232(a)).
- This rule does not apply to certain contingent debt or debt issued to a related party.
- The Internal Revenue Service ("IRS") also has the authority (i) to apply the suspension rule to periods after December 31, 2009, and (ii) to use an interest rate that is higher than the "applicable federal rate" for purposes of applying the AHYDO rules for debt obligations issued after December 31, 2009, if it determines that such application or use is appropriate in light of distressed conditions in the debt capital markets.
Elimination of IRS Exception to Code §382 Limitation on NOLs for Banks
In October of 2008, the IRS issued Notice 2008-83, which generally provides that certain bad debt deductions to banks after a change in control would not be subject to the Code §382 loss limitation rules. Based on a Congressional finding that Notice 2008-83 was based on questionable authority and inconsistent with congressional intent in enacting Code §382, the Recovery Act repeals Notice 2008-83 as of January 16, 2009. Notice 2008-83 will still apply to a change in control occurring after January 16, 2009 if such change in control was pursuant to a (i) written binding agreement entered into on or before such date, or (ii) a written agreement described on or before such date in a public announcement or filing with the SEC. (Recovery Act §1261).
Modification of §382 Rules for Businesses Receiving TARP Funds
Although the Recovery Act repeals Notice 2008-83, it concurrently creates an exception to the Code §382 limitations to protect companies that receive funds under the Troubled Asset Relief Program ("TARP") to aid their restructuring. Specifically, for changes in control that occur after February 17, 2009, the Code §382 limitation does not apply if the change in control occurs pursuant to a restructuring plan required under a loan agreement or a commitment for a line of credit entered into with the federal government under the Emergency Economic Stabilization Act of 2008 ("EESA 2008"). (Code §382(n)(1), as amended by Recovery Act §1262).
- This exception applies only if the restructuring plan is "intended to result in a rationalization of the costs, capitalization and capacity with regard to the manufacturing workforce of, and suppliers to, the taxpayer and its subsidiaries."
- This exception generally does not apply if immediately after the change in control, any person owns 50% or more (by vote or value) of the stock of the corporation (treating related parties and members of a group of persons acting in concert as a single person).
Five-year Carryback of 2008 NOL for Small Businesses
The Recovery Act generally permits an "eligible small business" (i.e., a trade or business with average annual gross receipts of $15 million or less over a three year period) to elect to increase the carryback period for net operating losses that arise in any taxable year ending or beginning in 2008 from two years to up to five years, with the taxpayer electing the specific number of years for the carryback. Such election may only be made for a single taxable year. (Code §172(b)(1)(H), as amended by Recovery Act §1211(a)).
Exclusion for Qualified Small Business Stock Increased to 75%
Under pre-Recovery Act law, Code §1202 provided for a 50% exclusion with respect to gain on the sale or exchange of "qualified small business stock" held by non-corporate taxpayers for more than five years. The Recovery Act increases the exclusion from 50% to 75% if such stock is acquired after February 17, 2009 and before January 1, 2011. (Code §1202(a)(3), as amended by Recovery Act §1241).
Reduction in Built-in Gains Period for Certain S Corporations
The Recovery Act provides that, for any taxable year beginning in 2009 and 2010, the built-in gains tax under Code §1374 will not be imposed on the net unrealized built-in gain realized by an S corporation if the seventh year in the "recognition period" (i.e., generally, the first ten years during which such corporation was an S corporation) preceded such taxable year. (Code §1374(d)(7)(B), as amended by Recovery Act §1251).
- This affects corporations that made their S election for the 2002 tax year (with respect to net unrealized built-in gain realized in 2009 or 2010) or for the 2003 tax year (with respect to net unrealized built-in gain realized in 2010).
Energy Tax Provisions
Extension of PTC; ITC Election
The Recovery Act extends the placed-in-service date for the Production Tax Credit ("PTC") through 2012 for wind farms, and through 2013 for biomass, geothermal, municipal solid waste, qualified hydropower, and marine and hydrokinetic renewables. (Code §45(d), as amended by Recovery Act §1101(a)).
- PTC is claimed over a ten year period and is based on the number of qualified kilowatt hours of electricity produced and sold during the tax year. The amount of the credit increases each year for inflation and currently equals 2.1 cents per kilowatt hour (1 cent per kilowatt hour for most biomass, small irrigation, landfill gas, trash, hydropower, and marine and hydrokinetic renewable energy facilities).
The Recovery Act also includes provisions permitting taxpayers to elect to receive ITC in lieu of PTC on projects placed in service before 2014. Wind facilities have to be placed in service before 2013 to be eligible for the election. (Code §48(a)(5), as amended by Recovery Act §1102(a))
Absent the election, the 30% ITC is only available for solar energy property, fuel cell property, and small wind energy property placed in service before 2017. A 10% ITC is available for geothermal power production property, geothermal heat pump property, combined heat and power system property, and microturbine property.
Cash Grant Election
The Recovery Act allows taxpayers to elect to receive cash grants in lieu of ITC or PTC on specified energy property placed in service during 2009 or 2010 or, if construction begins during 2009 or 2010, before the credit termination date for the property. The cash grant equals (i) 30% of cost in the case of solar energy property, wind, biomass, qualified fuel cells, municipal waste, geothermal property eligible for ITC, qualified hydropower, and hydrokinetic property, and (ii) 10% of cost for geothermal property not eligible for ITC, microturbines, combined heat and power system property, and geothermal heat pump property. (Recovery Act §§1104 and 1603).
- Existing dollar limitations that apply to ITC apply to cash grants as well. Thus, the maximum cash grant for qualified fuel cell property is $1,500 for each 0.5 kilowatt of property capacity, and the maximum cash grant for qualified microturbine property is $200 for each kilowatt of property capacity. The maximum cash grant for combined heat and power property is reduced if the property has an electrical or mechanical capacity in excess of specified limits.
- Cash grants do not have to be reported as taxable income, but the depreciable basis of the energy property must be reduced by 50% of the grant.
- Grants are subject to recapture if, in addition to a variety of other limitations that currently apply to ITC, the property is disposed of within five years.
- Grants are not available to federal, state or local governments (or to instrumentalities thereof), tax-exempt organizations, or to qualified issuers of clean renewable energy bonds.
Subsidized Energy Financing
Under pre-Recovery Act law, both ITC and PTC were reduced for business energy property financed through certain government grant programs or with proceeds from private activity bonds. The Recovery Act eliminates this rule in respect of ITC. The reduction in respect of PTC remains unchanged. (Code §48(a)(4), as amended by Recovery Act §1103(b)).
ITC For Small Wind Property
Under pre-Recovery Act law, a 30% ITC was available for electricity generating wind turbines with a nameplate capacity of not more than 100 kilowatts. The credit was limited to $4,000 per year. The Recovery Act eliminates the $4,000 annual cap. (Code §48(c)(4), as amended by Recovery Act §1103(a)).
Advanced Energy Manufacturing Project Credit
A new 30% ITC is created for investments in qualified property used in a qualified advanced energy manufacturing project. The project has to reequip, expand, or establish a manufacturing facility for the production of specified clean and renewable energy property. Credits are available only for projects certified by the Secretary of Treasury, in consultation with the Secretary of Energy. (Code §48C, as amended by Recovery Act §1302).
Qualified Conservation Bonds; Clean Renewable Energy Bonds
The Recovery Act authorizes an additional $1.6 billion of clean renewable energy bonds ("CREBs") to finance facilities that generate electricity from renewable resources. (Code §54C(c), as amended by Recovery Act §1111). It also authorizes an additional of $3.2 billion of qualified energy conservation bonds ("QCEBs") to finance state, municipal, and tribal government programs and initiatives designed to reduce greenhouse gas emissions. (Code §54D(d), as amended by Recovery Act §1112).
- CREBs were first authorized by the Energy Policy Act of 2005 and are essentially zero interest bonds issued by electric cooperatives and specified governmental entities to finance renewable energy projects (i.e., wind, biomass, geothermal, solar, municipal solid waste, small irrigation and hydropower projects). The bondholder receives a tax credit in lieu of interest.
- QCEBs were initially authorized as part of EESA 2008 and are similar to CREBs (i.e., bondholders receive a federal tax credit and the issuer gets interest-free financing).