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Tax law changes offer advantages to DVMs
President George W. Bush signed a long-sought-after economic stimulus package March 9. The "Job Creation and Worker Assistance Act of 2002" (H.R. 3090) is a combination of business economic 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.
President George W. Bush signed a long-sought-after economic stimuluspackage March 9.
The "Job Creation and Worker Assistance Act of 2002" (H.R.3090) is a combination of business economic stimulus provisions, reliefprovisions for lower Manhattan businesses affected by the 9/11 terroristattacks, a 13-week extension of unemployment benefits, extensions for expiredor soon-to-expire tax breaks and technical corrections.
"We're seeing some encouraging signs in the economy, but we can'tstand by and simply hope for continued recovery," says Bush. "Today,we are acting to help workers, we're acting to create jobs and we're actingto strengthen our economy."
More importantly, for many veterinarians, the law also provides tax incentivesto expand and invest in their practices and businesses, which Bush says,"will mean more job opportunities for workers in every part of ourcountry."
Of particular interest to many veterinarians, however, may be a three-year,30 percent depreciation boost for those veterinarians who invest in theirpractices. In another area, an increase in the two-year carryback for netoperating losses to five years will provide infusions of previously paidtaxes for any troubled practice or business, especially since it includesa waiver of the 90 percent limitation against the alternate minimum tax.
In today's economy, few veterinarians are building new "plants orfacilities." Fortunately, veterinary practices are now entitled toan additional first-year depreciation deduction equal to 30 percent of theadjusted basis of qualified property such as equipment, some computer softwarecosts and qualified leasehold improvements.
Naturally, in order for any property to qualify for this additional 30percent first-year depreciation deduction, it must be property with a recoveryperiod of 20 years or less.
The depreciation rules (Section 167) clearly state that capitalized computersoftware costs, other than computer software to which Section 197 applies,are recovered ratably over 36 months. Now, there is an additional first-yeardepreciation deduction equal to 30 percent of the expenditure.
A similar deduction applies to leasehold improvements. Qualified leaseholdimprovement property is any improvement to an interior portion of a clinicor building (provided certain requirements are met.) The improvement mustbe made under or pursuant to a lease by the lessee (or sublessee) of theportion of the building that is to be occupied exclusively by the lessee(or any sublessee). The improvement must be placed in service more thanthree years after the date the building was first placed in service.
Qualified leasehold improvement property does not include any improvementfor which the expenditure is attributable to the enlargement of the building,any elevator or escalator, any structural component benefiting a commonarea or the internal structural framework of the building.
Whether equipment, software, leasehold improvements or any other typeof property that qualifies for this unique additional first-year write-off,the term "original use" means the first use to which propertyis put, whether or not it corresponds to the use of that property by theveterinary practice. Our lawmakers apparently intended that additional capitalexpenditures incurred to recondition or rebuild acquired property (or ownedproperty) would satisfy this "original use" requirement.
In order to qualify for the additional 30 percent, first-year depreciationdeduction, the property must be acquired between September 10, 2001 andbefore September 11, 2004, and placed in service before January 1, 2005.A variation of the depreciation rules applies to new, so-called "luxurycars" under the new law.
The current tax rules limit the annual depreciation deduction that canbe taken for passenger automobiles to specified dollar amounts, indexedfor inflation. Because of the 30 percent depreciation, luxury cars and othervehicles subject to the "cap" on depreciation, will be able toclaim an extra $4,600 (for a total of $7,660 in 2001 and 2002) in the yearthe vehicle is placed in service. The vehicle must be purchased betweenSeptember 11, 2001 and September 10, 2004.
Alternative minimum tax (AMT)
The AMT is a flat tax to ensure that corporate and high income, non-corporatetaxpayers pay at least some tax, regardless of their deductions. However,as Congress created more and more "preference items" for inclusionin the AMT computation, more and more taxpayers, corporate and non-corporate,found themselves enmeshed. Fortunately, this additional first-year depreciationdeduction is allowed for both regular tax and AMT purposes for the yearin 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 theveterinary practice or business's allowable deductions exceed gross income.Carrying back a NOL generally results in a refund of federal income taxfor the carryback year while a carryforward of a NOL reduces the tax billin the carryforward year.
The present tax rules permit NOLs to be carried back two years and forwardfor up to 20 years with a few notable exceptions for NOLs resulting fromcasualty or theft losses of individuals, those attributed to presidentiallydeclared-disasters and for those engaged in farming or a small business(3-year carryback)-including many veterinarians.
A provision of the new law temporarily extends the general NOL carrybackprovision to five years (from two years) for NOLs arising in taxable yearsending in 2001 or 2002.
In addition, the five-year carryback period applies to NOLs from thoseyears that now qualify for a three-year carryback period (i.e., NOLs arisingfrom casualty or theft losses of individuals or attributable to certainpresidentially-declared disaster areas.)
Although any veterinarian can choose to forego the five-year carrybackperiod, the election, once made, is irrevocable. If a veterinary practicedoes elect to forego the five-year carryback period, then the losses aresubject to the rules that would otherwise apply.
Those dreaded alternative minimum tax rules clearly state that a veterinarian'sNOL deductions cannot reduce their alternative minimum taxable income (AMTI)by more than 90 percent of that AMTI. Under the new rules, however, an NOLdeduction attributable to NOL carryforwards arising in taxable years endingin 2001 or 2002, as well as NOL carryforwards to these taxable years, canoffset 100 percent of the veterinary practice's AMTI.
Misc., technical provisions
S Corporation Debt Discharge Income. In general, any veterinary practiceoperating as an S corporation is not subject to the corporate income taxsince it passes its items of income and loss along to its shareholders.To prevent double taxation of these items, each shareholder's basis in thestock of the S corporation is increased by the amount included in incomeand is decreased by the amount of any losses taken into account.
The U.S. Supreme Court recently surprised many observers when it reliedon the "plain language" of the tax law to find that although dischargeof indebtedness income (DOI) ceases to be included in the gross income whenthe shareholder is insolvent, the tax law does not require that DOI ceasesto be an item of income for purposes of allowing the shareholder an increasein basis that, in turn, can allow the pass-through of otherwise suspendedcorporate losses.
The new law reverses the Supreme Court's decision, a decision that temporarilyput S corporation shareholders at a decided advantage over other businessentities, particularly partnerships, when hard times hit. Now, the dischargeamount excluded from an S corporation's income is expressly not treatedas an item of income by a shareholder. Consequently, the shareholder's basisis not increased. The new law applies to discharges of indebtedness incomeafter October 11, 2001.
Accounting Changes. Generally, those veterinary practices using the accrualmethod of accounting may exclude from their income amounts from the performanceof services that they anticipate will not be collected. Under the new law,the non-accrual experience method of accounting is available only for amountsto be received for the performance of qualified services (e.g., health,law, engineering, architecture, accounting, actuarial services, performingarts or consulting) and for services provided by some small businesses.
Looking back for tax refunds
There is a "bonus" contained in the new law that will significantlyincrease the numbers of veterinary practices and other small businessesthat will benefit. Within that law are significant retroactive depreciationchanges that may affect tax returns that have already been filed for taxyear 2001. Other changes that may affect 2001 returns include the increasednet operating loss carryback period and the change for S corporation debtdischarge income.
The Internal Revenue Service will have to determine quickly how the retroactiveprovisions of the new law will be handled. In the meantime, the Job Creationand Worker Assistance Act of 2002 will benefit not only workers, but manyveterinarians and their practices, if they take full advantage of the manynew provisions of this new tax law.