On December 16, 2014, Congress passed the long-awaited "Tax Increase Prevention Act of 2014" (TIPA or "the Act"), which President Obama signed into law on December 19, 2014, calling it a "substantial victory for middle-class families across the country." While this "victory" provides much-needed clarity for 2014 taxes, including lower tax bills for many and one less delay to the upcoming tax filing season, the 50-plus individual and business tax breaks, commonly known as the "extenders," will expire again in two weeks on December 31, 2014.
The Act extends, for 2014 only, a host of individual tax provisions, including the above-the-line deductions for higher education expenses and educators' expenses, deductions for state and local sales tax and mortgage insurance premiums, the exclusion for discharged home mortgage debt, parity in excludible transportation benefits and the allowance of tax-free charitable transfers from a taxpayer's IRA. The Act also extends a variety of business tax breaks, including the research credit, the new markets tax credit, the employer wage credit for reservists, bonus depreciation, the Section 179 deduction, enhanced charitable contribution deductions and empowerment zone tax incentives. This Alert provides a brief summary of select provisions that may impact your business or personal tax situation.
Above-the-Line Deduction for Educator Expenses – Eligible elementary and secondary school teachers may claim an above-the-line deduction for up to $250 per year of expenses paid or incurred for books, certain supplies, computer and other equipment, and supplementary materials used in the classroom. Under pre-Act law, the educator expense deduction did not apply for expenses paid or incurred in tax years after 2013.
Exclusion for Discharged Home Mortgage Debt Extended – Discharge of indebtedness income from qualified principal residence debt, up to a $2 million limit ($1 million for married individuals filing separately) is excluded from gross income. Under pre-Act law, this exclusion did not apply to any debt discharged after December 31, 2013.
Increase in Excludible Employer-Provided Mass Transit and Parking Benefits – Under pre-Act law, for 2014, an employee could exclude from gross income up to: (1) $250 per month for qualified parking and (2) $130 per month for transit passes and commuter transportation in a commuter highway vehicle (including van pools). However, notwithstanding the applicable statutory limits on the exclusion of qualified transportation fringes (as adjusted for inflation), for any month beginning before January 1, 2014, a parity provision required that the monthly dollar limitation for transit passes and transportation in a commuter highway vehicle had to be applied as if it were the same as the dollar limitation for that month for employer-provided parking ($245 for 2013). TIPA extends for one year the parity provision, through 2014.
Mortgage Insurance Premiums as Deductible Qualified Residence Interest – Mortgage insurance premiums paid or accrued by a taxpayer in connection with acquisition indebtedness with respect to the taxpayer's qualified residence are treated as deductible qualified residence interest, subject to a phase-out based on the taxpayer's adjusted gross income (AGI). The amount allowable as a deduction is phased out ratably by 10 percent for each $1,000 by which the taxpayer's adjusted gross income exceeds $100,000 ($500 and $50,000, respectively, in the case of a married individual filing a separate return). Thus, the deduction is not allowed if the taxpayer's AGI exceeds $110,000 ($55,000 in the case of a married individual filing a separate return).
State and Local Sales Tax Deduction – Taxpayers who itemize deductions may continue, for one more year, to elect to deduct state and local general sales and use taxes instead of state and local income taxes.
Above-the-Line Deduction for Higher Education Expenses – Eligible individuals can deduct higher education expenses—i.e., "qualified tuition and related expenses" of the taxpayer, his spouse or dependents—as an adjustment to gross income to arrive at adjusted gross income. The maximum deduction is $4,000 for an individual whose AGI for the tax year does not exceed $65,000 ($130,000 in the case of a joint return) or $2,000 for individuals who do not meet the above AGI limit, but whose adjusted gross income does not exceed $80,000 ($160,000 in the case of a joint return). No deduction is allowed for an individual whose adjusted gross income exceeds the relevant adjusted gross income limitations.
Nontaxable IRA Transfers to Eligible Charities – Taxpayers who are age 70-½ or older can make tax-free distributions to a charity (Qualified Charitable Distribution, or QCD) from an Individual Retirement Account (IRA) of up to $100,000 per year. These distributions are not subject to the charitable contribution percentage limits since they are neither included in gross income nor claimed as a deduction on the taxpayer's return. QCDs may be used to satisfy any IRA-required minimum distribution, but unlike 2013 (due to the early 2013 passage of the American Taxpayer Relief Act of 2012), must occur on or before December 31, 2014.
Bonus Depreciation – An additional first-year depreciation deduction equal to 50 percent of the unadjusted basis of qualified property continues. The deduction is claimed for the year that qualifying property is placed in service. Only new property is eligible for bonus depreciation.
Section 179 Deduction – Businesses can continue to expense up to $500,000 of qualified depreciable property under Section 179, with phase-out beginning when property placed in service exceeds $2 million. Off-the-shelf software continues to qualify for the election, as well. Absent additional action by Congress, the Section 179 expensing limit returns to a $25,000 deduction on up to $200,000 of qualified property for 2015.
Qualified Leasehold/Retail Improvements, Restaurant Property – Qualified restaurant property and qualified retail improvement property are generally not eligible for bonus depreciation. However, under Section 179, taxpayers may elect to expense up to $250,000 of the cost for these improvements, as well as qualified leasehold improvements. Also extended, through December 31, 2014, is the favorable 15-year straight-line cost recovery and half-year convention for qualified leasehold improvements, qualified restaurant property (buildings and improvements) and qualified retail improvements.
Research Credit – TIPA extends the research and development (R&D) tax credit through 2014. The R&D credit generally allows taxpayers a 20-percent credit for qualified research expenses or a 14-percent alternative simplified credit.
Work Opportunity Tax Credit – TIPA extends the work opportunity tax credit (WOTC) through 2014. The WOTC allows employers who hire members of certain targeted groups to get a credit against income tax of a percentage of first-year wages up to $6,000 per employee ($3,000 for qualified summer youth employees).
Where the employee is a long-term family assistance (LTFA) recipient, the WOTC is a percentage of first- and second-year wages, up to $10,000 per employee. Generally, the percentage of qualifying wages is 40 percent of first-year wages; it is 25 percent for employees who have completed at least 120 hours, but less than 400 hours of service for the employer. For LTFA recipients, it includes an additional 50 percent of qualified second-year wages. The maximum WOTC for hiring a qualifying veteran generally is $6,000. However, it can be as high as $12,000, $14,000 or $24,000, depending on such factors as whether the veteran has a service-connected disability, the period of his or her unemployment before being hired and when that period of unemployment occurred relative to the WOTC-eligible hiring date.
New Markets Tax Credit – This credit encourages taxpayers to make loans to, or invest in, businesses in low-income communities. The credit applies for qualified equity investments to acquire stock in a community development entity (CDE). The credit is: (1) 5 percent for the year in which the equity interest is purchased from the CDE and for the first two anniversary dates after the purchase (for a total credit of 15 percent), plus (2) 6 percent on each anniversary date thereafter for the following four years (for a total of 24 percent). TIPA also extends the carryover period for unused new markets tax credits through 2019.
Differential Wage Payment Credit for Employers – Eligible small business employers that pay differential wages—payments to employees for periods that they are called to active duty with the U.S. uniformed services (for more than 30 days) that represent all or part of the wages that they would have otherwise received from the employer—can claim a credit. This differential wage payment credit is equal to 20 percent of up to $20,000 of differential pay made to an employee during the tax year. An eligible small business employer is one that: (1) employed on average less than 50 employees on business days during the tax year; and (2) under a written plan, provides eligible differential wage payments to each of its qualified employees. A qualified employee is one who has been an employee for the 91-day period immediately preceding the period for which any differential wage payment is made.
Reduced Recognition Period for S corporation Built-In Gains Tax – A full (100 percent) gain exclusion applies to qualified small business stock, acquired after September 27, 2010, and before January 1, 2014, and held for five years or longer. For qualifying stock purchased after December 31, 2013, 50 percent of the gain is excluded. Investments made before year-end 2014 will start the required five-year holding period.
Exclusion of 100 Percent of Gain on Certain Small Business Stock – A taxpayer may exclude all of the gain on the disposition of qualified small business stock acquired after September 27, 2010, and before January 1, 2015. None of the excluded gain is subject to the alternative minimum tax.
Lower Shareholder Basis Adjustments for Charitable Contributions by S Corporations – S corporation shareholders may deduct their pro rata share of any corporate charitable contribution. At the same time, the taxpayer must decrease the basis of stock by the amount of the charitable contribution. This extender provides that a taxpayer does not have to reduce basis in the stock to the extent a deduction is taken in excess of adjusted basis of the donated property. Without the extender, the taxpayer would be required to reduce basis by the fair market value of the contribution.
Exemption for RIC Interest-Related Dividends and Short-Term Capital Gains Dividends – A regulated investment company (RIC) may designate and pay: (1) interest-related dividends out of interest that generally would not be taxable when received directly by a nonresident alien individual or foreign corporation and (2) short-term capital gains dividends out of short-term capital gains. RIC dividends designated as interest-related dividends and short-term capital gains dividends generally are not taxable when received by a nonresident alien individual or foreign corporation and are not subject to the withholding tax imposed on nonresident alien individuals and foreign corporations.
Empowerment Zone Tax Breaks – The designation of an economically depressed census tract as an "Empowerment Zone" renders businesses and individual residents within such a zone eligible for special tax incentives. TIPA extends for one year, through December 31, 2014, the period for which the designation of an empowerment zone is in effect.