The unifying theme of tax legislation in 2008 was expedience, i.e., what would work to stimulate the economy, rescue or bail out financial institutions, assist homeowners facing foreclosure, and flood a severely weakening economy with cash.
Probably the most important piece of legislation of the year was the Emergency Economic Stabilization Act of 2008 (the "Act"), better known as the "Bailout Bill" because it contained within it the creation of the $750 Billion Troubled Assets Relief Program ("TARP").
This article summarizes the business and investor related tax provisions of the Act and certain tax aspects of other important laws enacted and rulings and notices issued in 2008.
The Emergency Economic Stabilization Act Of 2008
The Act includes the following provisions impacting businesses:
Small Business Expenses: The expensing provision of Section 179 of the Internal Revenue Code (the "Code") for small businesses was increased from $128,000 to $250,000 for 2008 with the investment limitation in qualifying property, above which the expensing provision phases out, increasing from $510,000 to $800,000.
Depreciation: 50% bonus depreciation is permitted for certain MACRS property placed in service in 2008. This extends through 2009 for transportation property, aircraft and certain other property with a recovery period of ten or more years.
Improvements: A 15-year cost recovery treatment is permitted for qualifying restaurant improvements and leasehold improvements in 2008 and 2009.
Tax Incentives: A number of energy efficiency and energy property tax incentives are extended through 2008.
Undisclosed Tax Return Positions: The controversial "more likely than not" standard for undisclosed tax return positions has been replaced with a "substantial authority" test, retroactive to the effective date of the 2007 Small Business Tax Act. Tax shelters and reportable transactions must still meet the "more likely than not" test.
Deferred Compensation: The largest single revenue increase is expected to result from a new provision (Section 457A of the Code) which taxes non-qualified deferred compensation amounts under plans of foreign corporations, partnerships and similar U.S. tax-exempt parties. This provision is largely aimed at offshore hedge funds and private equity firms.
IRS And Treasury Department Actions
Loans from Corporate Subsidiaries: The Internal Revenue Service ("IRS") relaxed the rules which permit U.S. corporations to borrow amounts for short periods from their foreign subsidiaries without incurring a tax.
Net Operating Losses and Government Ownership: Notices 2008-84 and 2008-100 preserve NOLs for loss corporations in which the U.S. becomes a more than 50% owner and/or ceases to be a more than 50% owner.
Net Operating Losses and Ownership Changes: Notice 2008-78 sets forth the IRS' intention to write rules that liberalize the tax treatment of capital contributions to loss corporations within two years of an ownership change, a relaxation of the normal "anti-stuffing" rules dealing with contributions of appreciated property to loss corporations.
What is most extraordinary about these and similar actions by the IRS and the Treasury Department is that Congress was not notified before these changes were made nor was Congress asked for legislation to make these fixes. Some commentators have expressed doubt as to whether the Treasury Department had the authority to take these steps.
Inflationary Increases In 2008
Inflation early in 2008 gave rise to fairly substantial increases in a variety of tax items which are adjusted for inflation. These included increases to the Social Security wage base, an increase in the limitation on itemized deductions and an increase in the optional mileage deduction for business use.
Summary Of Other Important Tax Developments
Wash-Sale Rules: The loss from the sale of a security will be disallowed if a substantially identical security is purchased within 30 days before or after the sale. If the taxpayer's IRA, rather than the taxpayer, buys the substantially identical security, then according to Rev. Rul. 2008-5, the wash-sale rule still applies. It is unclear, however, if the result would be the same if the security were purchased in a §401(k) plan.
Investment Advisory Fees: In Knight v. Commissioner, the U.S. Supreme Court ruled that investment advisory fees paid by a trust or estate are subject to the 2% floor on miscellaneous itemized deductions. The exception to the 2% floor for trusts and estates in Section 67(e) of the Code applies, said the Court, only to those costs which would uncommonly or unlikely be incurred by individuals. The decision should end 20 years of controversy over this issue.
Abandoned Mergers: The IRS ruled in PLR 200823012 that a fee received by a target taxpayer in connection with an abandoned merger is treated as ordinary income, not capital gain.
Tax Exempt Bonds: In an important decision for the municipal bond market, the U.S. Supreme Court reversed a Kentucky court decision and upheld Kentucky's tax regime which exempts from tax the interest paid on bonds issued by Kentucky and its municipalities while taxing interest paid on the obligations of other states.
LLC Profits: The IRS issued a private letter ruling that it can levy on an owner's share of the profits of his LLC, notwithstanding a state law that bars creditors from attaching the assets of an LLC to satisfy the debts of its owner. This is a controversial ruling, and the courts may not agree.
Trading Losses: Unlike investors, those who are able to qualify as securities traders can deduct trading losses as ordinary losses and investment related costs as business expenses, not miscellaneous itemized deductions.
The changes summarized in this article clearly indicate a desire by Congress, the IRS and the Treasury Department to respond to and help stimulate a weak economy. In 2009, President Obama is expected to continue to work toward turning several significant changes to the tax system into legislation. Indeed, several important tax relief provisions were adopted in the recently enacted American Recovery and Reinvestment Act of 2009, and further changes to the Code are likely.
In particular, President Obama has indicated that corporate tax rates might be lowered but that the corporate tax base be broadened and loopholes closed, and that the tax rate on dividends and, perhaps, capital gains, should be allowed to increase in the future. The President has also proposed that tax provisions be added or adjusted to penalize businesses which move jobs offshore, that carried interests should be taxed at ordinary income rates, and that offshore tax havens should be attacked as a means of raising tax revenue.
The details of how President Obama expects to accomplish these broad tax goals continue to be negotiated and developed. Faced with a huge budget deficit as a result of both a weak economy and massive monetary rescue packages, it remains unclear how and in what form many of President Obama's proposed changes will actually move forward as legislation in 2009. Please look for updates from Cozen O'Connor on important future developments.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
