INTRODUCTION

Everyday, the headlines report more bad news regarding the economy.  Unemployment and foreclosures are up; stocks are down along with consumer confidence and national GDP.  Add to that, national banks, large manufacturers and other large financial institutions are on the verge of failing.  The country has officially now been in a recession for over a year. 

On a more local level, everybody from the blue collar worker through the business owner is feeling the effects of what is going on in the national economy.  It is not uncommon to drive through a neighborhood and see multiple “for sale” signs or even “foreclosure” signs.  Many people fear losing their jobs, with this fear comes diminished consumer spending.  Diminished consumer spending, of course leads to more fear and even less spending.  

For certain, the country is experiencing its greatest economic challenge since the early ‘80’s and some argue since the Great Depression.  The Obama Administration is currently enacting its own legislation aimed at righting the ailing economy.  In February, the Obama Administration and Congress enacted the American Recovery and Reinvestment Act of 2009 (ARRA).  While some opponents labeled the ARRA a “spending bill”, many experts take the position it is at least one step of many towards the right direction in recovery. 

Our analysis of the ARRA reveals that while the ARRA will not act as a “trump card” for the economy’s woes, the individual provisions in the ARRA encourage and provide incentives for many to 1) invest and 2) reduce the tax burden on many closely-held businesses.   

SECTION 179 EXPENSING

Since 2001, Section 179 Expensing amounts have grown considerably to encourage business investment.  Last year, Section 179 Expensing was raised to $250,000 and was set to expire December 31, 2008.  The ARRA has raised the Section 179 Expense amount back from its default $133,000 to $250,000.  The investment phase-out’s, are once again dollar-for-dollar for investments made beginning at $800,000 and completely phasing out the deduction at $1,050,000.  In other words, if a company makes $850,000 in qualifying capital investments in the year 2009, its Section 179 Expense is limited to $250,000.  If the same company invests $1,000,000 in capital investments during 2009, its Section 179 Expense eligibility is limited to $50,000.  Once the company invests $1,050,000 in qualifying capital investments, the Section 179 Expense is reduced to zero.  Thus, it is intended to assist small land private companies to make capital expenditures.  Section 179 Expense is elective and may be taken in its full eligible amount, in part, or not at all if the company elects to do so for tax and financial purposes. 

BONUS DEPRECIATION

Bonus Depreciation was initially revived for the 2008 tax year and ended December 31, 2008, the same year.  The ARRA extended the bonus depreciation to include the entire year of 2009.  Under bonus depreciation, small and mid market closely-held companies are eligible to deduct an additional 50% of the property’s basis in the year of acquisition.  This deduction is separate from any Section 179 Deduction.  To qualify for bonus depreciation, the property must be of “original use”.  In other words, the equipment must be brand new to qualify for bonus depreciation. Additionally, the property must be eligible for Modified Accelerated Cost Recovery System (MACRS) 20 year period or less, water utility property, off the shelf computer software, or MACRS 10 year period or longer transportation property.

To many small and mid market businesses, bonus depreciation offers a healthy opportunity to grow a company with capital investments and take advantage of some key tax incentives in the meantime.  Bonus depreciation is an elective provision and does not have to be taken against taxes.  Since bonus depreciation is claimed for both regular and alternative minimum tax calculations, taxpayers can elect out for AMT reasons as well.  Once the election to opt out is made, consent to reverse the election must be granted by the IRS before the election can be reversed. 

S CORPORATION BUILT-IN GAINS PERIOD

Many closely-held businesses are survivors of the ‘60’s, ‘70’s and even into the ‘80’s, when S Corporations and Limited Liability Companies (LLC’s) were not in existence or popular.  As a result, many closely-held businesses began their corporate existence as C Corporations and continued as such until the present day.  They have carried the double taxation burden all of this time to escape the Draconian Built-In Gains rules which impose corporate level tax on gains on assets begat from C Corporation existence for a period of formerly 10 years.  C Corporations have done this; even if staying a C Corporation was adverse to their business interests and economic viability.

The ARRA changes this rule in a substantial way.  For C Corporations converting to S Status in 2009 and 2010, the new “built-in gains” rule only applies for 7 years and not 10 years.  This provision is a windfall and makes 2009 and 2010 excellent years to convert from C corporate status to S status.  Combined with the case law developing from The Martin Ice Cream Case and the development of Personal Goodwill, the time is ripe to consider converting your C Corporation to an S Corporation or even exiting the business as the capital gains and corporate level taxes are lessened with the tax law. 

NET OPERATING LOSS (NOL) CARRYBACK

The ARRA extends the 2 year carryback for small businesses to 5 years.  This applies to taxpayers with $15 million in gross receipts or less. 

WORK OPPORTUNITY TAX CREDIT

The ARRA provides businesses with up to a $2,400 tax credit for hiring individuals from certain targeted groups.  The targeted groups now include unemployed veterans and disconnected youth.  If you need new workers, give the targeted groups a chance and get a tax credit for hiring someone. 

QUALIFIED SMALL BUSINESS STOCK

Those holding stock in certain businesses with assets under $50,000 previously could exclude up to 50% of their gain from selling stock in their business that was held for 5 years or longer.  To qualify, the stock must be issued after August 10, 1993 and must be acquired by the taxpayer “at its original use”.  Under the ARRA, 75% of stock held in the same business can be excluded. 

APPLICATION FOR THE MATERIAL HANDLING INDUSTRY AND WELDING INDUSTRY

The Material Handling and Welding Industries are still comprised of many fragmented companies.  Each company typically makes revenue of less than $25 million to $50 million.   Additionally, many are throwbacks from the era when C Corporations were the only corporate form available.  With this said, material handling and welding companies are the companies targeted by the ARRA. 

Each material handling and welding company should 1) consider investing in order to grow their company and capital equipment base, 2) consider converting their old C Corporation status to another worthy status such as an LLC, S Corporation, or the like, and 3) take measures to reduce their annual tax liability.  If you have any questions on how to accomplish this, contact The Center and talk to one of the professionals.           

CONCLUSION

Many experts predict that the current recession will be with us for 2 years or longer.  The ARRA, enacted by the Obama Administration and Congress will be the first of many stimulus and tax cut acts enacted to benefit business owners.  While the current economic climate may be perilous, with proper planning from proper tax and financial counsel, silver linings can be found and opportunities seized.

While businesses find their values to be down trodden during recessions, the recession can be a good time to begin an exit and succession planning strategy as well.  While the recession is expected to last a little while, the next   economic crest can be the best time for you to shine.  Don’t hesitate, take steps now to make maximum use of the new tax laws.

Finally, now is the time to start and develop an exit and succession planning strategy.  Remember, the capital gains rate as well as the dividend rate is 15%.  Procrastinating may result in not just lack of lost opportunity but a higher tax bill as well.