HARTMAN, BLITCH & GARTSIDE CERTIFIED PUBLIC ACCOUNTANTS   Overview of the "Jobs and Growth Tax Relief Reconciliation Act of 2003" for Individuals. The new law accelerates previously scheduled individual income tax rate cuts and grants short-term tax incentives for certain types of business investment. In general, the main beneficiaries are individual investors, small businesses planning to invest in new equipment or off-the-shelf computer software, and middle income families with minor children. Almost all individuals who pay federal income tax will experience some tax reduction, and wage-earners should see some of this reflected in lower withholding taxes during the second half of 2003. This letter gives you a brief overview of the new law, officially named the "Jobs and Growth Tax Relief Reconciliation Act of 2003" to reflect its intended purpose of stimulating the economy. Please feel free to contact us for additional information or to set up an appointment to discuss strategies for maximizing your benefits under the new law, including any reductions in your estimated tax payment schedule for 2003. 15% Top Rate on Dividends and Capital Gains For many individuals, the new law makes a deep cut in the tax on dividends received in 2003 through 2008. Instead of being taxed at an individual’s top bracket—up to 35%—qualified dividends will be taxed at a maximum of 15% (less for taxpayers in the two lowest brackets). Thus, for example, $6,000 of qualified dividends would incur a tax of $900 instead of $2,100, netting an additional $1,200 return. In general, dividends eligible for this preferred treatment must come from domestic corporations or "qualified foreign corporations," including corporations organized in U.S. possessions, foreign corporations whose stock is traded on an established U.S. securities market, and certain other foreign corporations to be designated based on criteria set out in the new law. Complementing the dividends tax cut is a cut in the top rate on most net capital gains to 15% (less for individuals in the two lowest brackets) through 2008. Unlike the dividends cut, however, the effective date of the capital gains cut is not retroactive to the beginning of tax year 2003. Instead, the new rate generally applies to sales on or after May 6, 2003. The prior-law top rate—generally, 20%—applies to most net capital gains realized before that date. Note that the new law reduces the top rate on dividends and net capital gains to 5% for taxpayers in the two lowest income tax brackets (i.e., 10% and 15%) through 2007 and to 0% in 2008. Taxpayers contemplating gifts to family members in these income tax brackets need to take the new top rates into account in selecting the gift property. Our office will be happy to help you "crunch the numbers" and otherwise assess the advantages and disadvantages of various options. Increased Business Expensing Allowance and Bonus Depreciation The new law provides two temporary incentives aimed primarily at small business. One provision retroactively increases the "Section 179 expensing" limitation to $100,000 (from $25,000) and the phase-out range to $400,000 (from $200,000). Also, this provision expands the category of eligible property—generally defined as tangible property other than real estate, such as machinery and equipment—to include off-the-shelf computer software. Thus, for taxable years beginning after December 31, 2002, an eligible small business may deduct up to $100,000 of the cost of qualifying property, provided the total cost of all such property does not exceed $400,000. The $100,000 and $400,000 amounts will be adjusted for inflation in taxable years beginning in 2004 and 2005. The law is scheduled to revert to the old rules, however, in taxable years beginning after December 31, 2005. The other incentive provision increases "bonus" first-year depreciation to 50% (from 30%) for certain property acquired and placed in service after May 5, 2003, and before January 1, 2005. The placed-in-service date is extended by one year for self-constructed property. Both of these provisions have numerous details that must be taken into account in determining the consequences of any specific transaction. Professional advice is a must for any business contemplating a transaction that might be affected by these rules. Our office is prepared to help you develop and implement your plans. Individual Income Tax Cuts The new law retroactively reduces the top four rate brackets to the levels previously scheduled to take effect in 2006. The following table shows these changes: New rates 2003-2010 Old rates 2003 Reduction (percentage points) 10% 10% -0.00- 15% 15% -0.00- 25% 27% -2.00- 28% 30% -2.00- 33% 35% -2.00- 35% 38.6% -3.60- Also, the new law retroactively, albeit temporarily, accelerates the expansion of the 10% bracket by increasing the level of income taxed at that rate in taxable years 2003 and 2004. For 2003 joint filers and surviving spouses will pay 10% on the first $14,000 (versus $12,000) of taxable income and single filers will pay at that rate on the first $7,000 (versus $6,000). For 2004, the $14,000/$7,000 amounts are to be adjusted for inflation. But the 10% bracket will revert to the previous levels of $12,000/$6,000 from 2005 through 2007, return to the $14,000/$7,000 levels for 2008, and be adjusted for inflation after 2008. "Marriage Penalty" Relief Although the 2001 tax cut legislation included "marriage penalty" relief, it deferred implementation until taxable year 2005, at which point the relief was to be phased in over several years. The new law temporarily accelerates this relief in taxable years 2003 and 2004 by: Expanding the 15% bracket for joint filers to 200% of the amount applicable to single filers. Beginning in 2005, the previous schedule will apply (i.e., 180%, 187%, 193% in 2005-2007, 200% in 2008 and thereafter). Increasing the standard deduction for joint filers to 200% of the amount applicable to single filers. Beginning in 2005, the previous schedule will apply (i.e., 174%, 184%, 187%, 190% in 2005-2008, 200% in 2009 and thereafter). Child Tax Credit Increase The new law temporarily increases the maximum child tax credit to $1,000 (from $600) per child for taxable years 2003 and 2004. Beginning in 2005, the previous schedule will apply (i.e., $700 in 2005-2008, $800 in 2009, and $1,000 in 2010 and thereafter). Any taxpayer who was allowed a child tax credit for 2002 may receive an advance payment of the increased credit amount for 2003—up to $400 per child—before October 1, 2003, based on information from the 2002 return. Note that the new law did not change the phase-out rule whereby the credit amount is reduced at the rate of $50 for each $1,000 (or fraction) by which a taxpayer’s "modified adjusted gross income" exceeds certain threshold amounts. For example, the phase-out range begins at $110,000 for joint filers. Alternative Minimum Tax Relief for Individuals The new law temporarily increases the alternative minimum tax exemption amount for 2003 and 2004 by $9,000 for joint filers and surviving spouses and by $4,500 for single filers and married filing separately. Thus, the exemption amounts in those years will be $58,000 for joint filers and surviving spouses, $40,250 for single filers, and $29,000 for married filing separately. These increased exemption amounts are estimated to substantially reduce the number of individuals subject to the alternative minimum tax in 2003 and 2004. Beginning in 2005, however, the exemption amounts are scheduled to drop significantly: to $45,000 for joint filers and surviving spouses, $33,750 for single filers, and $22,500 for married filing separately. Hence, absent future Congressional action, the alternative minimum tax could become a major tax "trap" for many individuals. Return to the Jobs and Growth Tax Relief Reconciliation Act of 2003 selection list.     Capital Gains and Dividends Provisions of the "Jobs and Growth Tax Relief Reconciliation Act of 2003" The recently enacted Jobs and Growth Tax Relief Reconciliation Act of 2003 decreases the tax rate on capital gain and dramatically decreases the tax rate on dividends. These provisions—particularly the dividend provisions—are complex. I am writing to summarize the tax law changes and to invite you to meet with me to discuss their impact on you. Reduced Capital Gains Rates for Individuals The 2003 Act reduces the previous 20% and 18% rates on net capital gains to 15% and the previous 10% and 8% rates to 5% (0%, in 2008). The lower rates apply to assets held for more than one year. The lower rates apply to taxable years ending on or after May 6, 2003, and beginning before January 1, 2009. For taxable years that include May 6, 2003, special transitional rules apply for computing the tax. While these transitional rules are complex, their general effect is to apply the lower rates to gain from the sale of capital assets sold or exchanged on or after May 6, 2003. The lower capital gains rates apply for purposes of both the regular and alternative minimum tax. Reduced Dividend Rates for Individuals Certain dividends received by an individual shareholder from domestic and qualified foreign corporations are taxed at the same rates that apply to capital gains. Thus, dividends will be taxed at rates of 5% (0%, in 2008) and 15%. These lower rates apply to dividends received in taxable years beginning after 2002 and before 2009. The lower rates on dividends apply for purposes of both the regular and alternative minimum tax. To qualify for the reduced rates, the dividends must be from domestic corporations and qualified foreign corporations. The following are qualified foreign corporations: a foreign corporation incorporated in a possession of the United States, a foreign corporation eligible for the benefits of a U.S. income tax treaty that the IRS determines to be satisfactory and that includes an exchange of information program, and a foreign corporation if the stock with respect to which the dividend is paid is readily tradable on an established securities market in the United States.

Dividends received from mutual funds and real estate investment trusts may also qualify for the reduced rates. The mutual fund or real estate investment trust must determine the qualifying amount, if any, and presumably will report the amount on Form 1099-DIV.

A special holding period rule is apparently designed to discourage certain short-term trading strategies. Under this rule, to qualify for the reduced rates, the stock on which the dividend is paid must be held for more than 60 days during the 120-day period beginning 60 days before the ex-dividend date. (For certain preferred dividends, the stock must be held for more than 90 days during the 180-day period beginning 90 days before the ex-dividend date.)

Dividends from certain corporations are not eligible, including tax-exempt charities, tax-exempt farmers’ cooperatives, foreign personal holding companies, foreign investment companies, and passive foreign investment companies. Certain dividends deducted in computing the taxable income of a corporation do not receive the benefit of the lower rates (e.g., dividends received from a mutual savings bank deducted in computing its taxable income or deductible dividends paid on employer securities). Also, the reduced rates are not available for dividends if the taxpayer is obligated to make related payments with respect to positions in substantially similar or related property.

Other rules govern (1) the computation of investment income, (2) loss on the sale of stock after an extraordinary dividend, and (3) the foreign tax credit limitation computation. Also, the tax rate for the accumulated earnings tax and the personal holding company tax is reduced to 15%, and amounts previously treated as ordinary income on the disposition of certain preferred stock are treated as dividends for purposes of applying the reduced rates.

The example below shows how the dividends and capital gains rate reductions work.

This is intended to let you know of some of the recent changes but, of course, is not a substitute for professional advice.

We would be happy to discuss the provisions of the 2003 Act with you to be sure that you receive the full benefit of the new changes in the law. Please contact us at your convenience to arrange a meeting.

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Business Incentive Provisions of the "Jobs and Growth Tax Relief Reconciliation Act of 2003"

Taxpayers can dramatically reduce the after-tax cost of certain business property—such as equipment, machinery, furniture, cars and trucks—under temporary new rules contained in the recently enacted Jobs and Growth Tax Relief Reconciliation Act of 2003.

In a nutshell, the 2003 Act:

	Allows eligible businesses to deduct up to $100,000 of the cost of qualifying property, provided the total cost of all such property does not exceed $400,000. This is a temporary change to the "Section 179 expensing" rule, which generally limits the deduction to $25,000, provided the total cost of all eligible property does not exceed $200,000.
	Expands the category of property eligible for Section 179 expensing to include off-the-shelf computer software.
	Grants a new 50% first-year "bonus" depreciation allowance similar to the 30% first-year bonus depreciation enacted in 2002. In addition, the Act extends the time period for acquiring property eligible for the 30% first-year bonus depreciation allowance.

Also, the 2003 Act offers a one-time, short-term corporate estimated tax deferral. Under this provision, any corporation having an estimated tax installment due in September of 2003 can defer 25% of it until October 1, 2003.

Please feel free to contact our firm for additional information or to set up an appointment to discuss strategies for maximizing the benefits of these temporary new rules.

Additional details. For your convenience, the remainder of this letter describes these temporary new rules in somewhat greater detail. This description is intended to give you additional relevant information but cannot be used as a substitute for professional advice.

Section 179 Expensing

Ordinarily, a taxpayer cannot write off the cost of long-lived business property—such as equipment, machinery, furniture, cars and trucks—in one tax year. Instead, the cost must be capitalized and written off over a period of years under the tax code’s depreciation rules. But a special rule allows a taxpayer to elect to treat some or all of the cost of qualifying property as an expense, rather than as a capital expenditure. This is generally known as the Section 179 expense deduction—named for the tax code section containing this provision.

Limits increased. The 2003 Act increases the limits on this deduction for property placed in service in taxable years beginning in 2003, 2004, and 2005. The maximum dollar amount that may be expensed is increased from $25,000 to $100,000. The maximum amount of Section 179 property that may be placed in service before the benefit begins to be phased out is increased from $200,000 to $400,000.

Example (1.) You place $50,000 of qualifying property in service in 2003. You may elect to deduct all or part of the $50,000. Before the 2003 Act, you could have deducted only $25,000.

Example (2). You place $200,000 of qualifying property in service in 2003. You may elect to deduct up to $100,000 in 2003. The remaining $100,000 is capitalized and depreciated. (See the discussion of the new 50% bonus depreciation rule below.) Before the 2003 Act, you could have deducted only $25,000, and the remaining $175,000 would have been capitalized and depreciated.

Example (3). You place $225,000 of qualifying property in service in 2003. You may elect to deduct up to $100,000 in 2003 and depreciate the remaining $125,000. Before the 2003 Act, none of the cost would have qualified for Section 179 treatment. This is because the maximum deduction was $25,000 and the dollar-for-dollar "phase-out" began at $200,000. Since $225,000 exceeds $200,000 by $25,000, your entire deduction would have been wiped out.

Example (4). You place $425,000 of qualifying property in service in 2003. You may elect to deduct up to $75,000 in 2003 and depreciate the remaining $350,000. This is because the $400,000 phase-out rule reduces the maximum Section 179 benefit by $25,000 ($425,000 minus $400,000). Before the 2003 Act, none of the cost would have qualified for Section 179 treatment because the dollar-for-dollar "phase-out" began at $200,000.

Software qualifies. The 2003 Act also includes off-the-shelf computer software placed in service in a taxable year beginning in 2003, 2004, or 2005 as Section 179 qualifying property.

Inflation increases in 2004 and 2005. The $100,000 and $400,000 dollar limitations are indexed for inflation for tax years beginning in 2004 and 2005.

Election procedure eased. Under the 2003 Act, for taxable years beginning in 2003, 2004, and 2005, taxpayers may make or revoke Section 179 elections on amended returns without the consent of the IRS. Previously, Section 179 elections were irrevocable without IRS consent.

50% First Year Bonus Depreciation Allowance for Certain Property

The 2003 Act allows an additional first-year depreciation deduction—for both regular tax and alternative minimum tax purposes—equal to 50% of the adjusted basis of qualified property for the taxable year in which the property is placed in service.

As discussed further below, this deduction applies generally to the same types of property eligible for the 30% first year bonus depreciation as enacted last year in the Job Creation and Worker Assistance Act of 2002. Examples of such property include equipment, machinery, furniture, cars and trucks, and off-the-shelf computer software. To qualify for the 50% bonus, in addition to other requirements, the property must be acquired after May 5, 2003, and placed in service before January 1, 2005 (January 1, 2006, for certain self-constructed property).

Property for which the 50% additional first-year depreciation deduction is claimed is not eligible for the 30% additional first-year depreciation deduction.

If the property also qualifies for the Section 179 expense deduction (discussed above) and the taxpayer elects to use that benefit, the 50% bonus depreciation is still available, but the property’s basis is first reduced by the amount of the Section 179 benefit before applying the 50% bonus.

The basis of the property must be reduced by the 50% deduction before computing the otherwise allowable depreciation for the first year and later years. The depreciation deduction for the remaining basis is allowed for both regular tax and alternative minimum tax purposes.

A taxpayer may elect out of the 50% bonus depreciation for any class of property for any taxable year, and the election will apply to all property in the same class placed in service in that year.

The following examples show how the provision works.

Example (1)—No Section 179 deduction. On May 6, 2003, a taxpayer buys and places in service office furniture that costs $400,000. Without the 50% first-year bonus depreciation (and assuming the taxpayer does not use the 30% additional first-year depreciation deduction or the Section 179 expense deduction), the maximum depreciation allowance generally would be 14.29% of $400,000, or $57,160. (Annual depreciation percentages are prescribed by the IRS based on rules spelled out in the tax code. Office furniture is seven-year class property subject to the 200% declining balance method, switching to the straight line method in the year that maximizes the depreciation allowance, and the half-year convention.)

In contrast, under the first-year bonus depreciation rule, the taxpayer first takes 50% of $400,000, or $200,000. The $200,000 first-year bonus depreciation is then subtracted from the $400,000 original cost basis, leaving an adjusted basis of $200,000. The general first-year depreciation rate of 14.29% is then applied to the $200,000, yielding a further deduction of $28,580. The result is a total first-year depreciation deduction of $228,580 ($200,000 plus $28,580), or $171,420 more than under the general rule.

Example (2)—Section 179 deduction taken. Assume the same facts as above, except that the taxpayer also uses the Section 179 expense deduction, which for 2003, as noted above, is $100,000. By using both the first-year expensing allowance and the 50% first-year bonus depreciation, the taxpayer can deduct even more. The amount is computed as follows. First the taxpayer deducts the Section 179 benefit of $100,000 from the original cost basis of $400,000, leaving an adjusted basis of $300,000, on which the 50% first-year depreciation bonus is calculated. This depreciation amount is $150,000 (50% of $300,000), which is subtracted from the $300,000 adjusted basis, leaving an adjusted basis of $150,000. The general first-year depreciation on the remaining basis of $150,000 is 14.29%, or $21,435. The result is a total deduction of $271,435 ($100,000 plus $150,000 plus $21,435), or $214,275 more than under the general rule.

Dollar limit increase for passenger automobiles. For passenger automobiles that qualify for the 50% first-year bonus depreciation, the limitation on depreciation for the first year is increased by $7,650. Thus the first-year depreciation deduction for any passenger automobile may not exceed $10,710 ($7,650 plus $3,060 general limitation—the latter amount is estimated, based on the 2002 limit).

Qualifying property. In order for property to qualify for the additional first-year depreciation it must meet all of requirements 1 through 3 below:

1. The property must be property to which the general depreciation rules (that is, the modified accelerated cost recovery system ("MACRS") rules not the alternative rules) apply and must be

• property with a recovery period of 20 years or less,

• computer software to which the general MACRS depreciation rules apply,

• water utility property, or

• qualified leasehold improvement property.

The last of these, qualified leasehold improvement property, is any improvement to a part of the interior of a nonresidential building if made under a lease either by the lessee (or sub-lessee) or the lessor of that part of the building, if that part of the building is to be occupied exclusively by the lessee (or any sub-lessee), and if the improvement is placed in service more than three years after the date the building was first placed in service. But qualified leasehold improvement property excludes enlarging a building, an elevator or escalator, a structural component benefiting a common area, or the internal structural framework of a building. In addition, qualified New York Liberty Zone leasehold improvement property (i.e., property located in certain areas of New York City and that meets other requirements) is not eligible. This property is eligible for a special 30% first year depreciation deduction.).

2. The original use of the property must begin with the taxpayer after May 5, 2003 and before January 1, 2005. (If the property is subject to a sale/leaseback, it will be treated as originally placed in service not earlier than the date the property is used under the leaseback.) An extended placed-in-service date, before January 1, 2006, applies for property that has a recovery period of ten years or longer or is tangible personal property used in the transportation business, but only if the property has a production period exceeding two years or an estimated production period exceeding one year and a cost exceeding $1 million. For this property, only the portion of the basis attributable to the costs incurred before January 1, 2005, is eligible for the 50% additional first year depreciation.

3. The taxpayer must acquire the property after May 5, 2003, and before January 1, 2005, but only if no written binding contract for the acquisition was in effect before May 5, 2003, or must acquire it under a binding written contract entered into after May 5, 2003, and before January 1, 2005. For property manufactured, constructed, or produced by the taxpayer for its own use, the taxpayer must begin manufacture, construction, or production after May 5, 2003, and before January 1, 2005.

Extension of Time for 30% First-Year Bonus Depreciation Allowance

As mentioned above, in 2002, the tax code was amended to allow 30% first-year depreciation for certain property acquired after September 10, 2001, and before September 11, 2004. The 2003 Act extends this acquisition deadline to January 1, 2005. The property must be placed in service by January 1, 2005 as well.

Generally, this 30% first year bonus depreciation is available for the same type of property that is eligible for the 50% first-year bonus depreciation described in 1, above, and except for the acquisition and placed-in-service dates, is subject to the same rules.

Planning to Maximize Your Benefits

We hope this, although intended for informational purposes only, has been informative. We would be delighted to meet with you to discuss how these new temporary rules might apply to your tax situation.

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Estate Planning Implications of the "Jobs and Growth Tax Relief Reconciliation Act of 2003"

First, let us discuss the immediate benefits of the new law, officially named the "Jobs and Growth Tax Relief Reconciliation Act of 2003," for estate planning. You may recall that we have long urged that you use the $11,000 annual exclusion ($22,000 for a married couple) to make gifts to younger family members. Such gifts may be in the form of cash, property, or interests in a family limited partnership. This type of gift escapes both the gift tax and the estate tax, and provides income tax benefits to the extent that the recipient is in a lower income tax bracket.

The 2003 Act's reduction in rates on ordinary income, dividends, and capital gains, as well as the broadening of the 10% income tax bracket, will only enhance these income tax benefits when the recipient of your gifts is in a lower bracket than you. So we continue to recommend that you take maximum advantage of the $11,000 exclusion when planning your gifts. It will significantly lower your family=s overall tax burden.

In the long term, the benefits of the 2003 Act for estate planning are considerably less clear. You may recall that EGTRRA repealed the estate and generation-skipping taxes after 2009, while reducing the top gift tax rate to 35%. After a one-year repeal, though, all three taxes are scheduled to come back in 2011 at their pre-2002 rates and exclusions, as if the EGTRRA changes had never occurred. This "sunset" provision was included in EGTRRA to insure technical compliance with the federal budget law.

Supporters of estate tax repeal had hoped that the current Congress would make the repeal permanent as part of this year=s tax relief package. That option was never seriously considered by the President or Congress, however, as both were more interested in providing an immediate jumpstart to the economy with income tax relief.

Although permanent estate tax repeal will continue to be on the legislative agenda this year, its position on the priority list is unclear. Moreover, the 2003 legislation has the same type of Asunset@ provision as did EGTRRA, with dividend and capital gain relief sunsetting after 2008 and the other income tax relief after 2010. Undoubtedly, Congress will be under considerable pressure to extend these provisions as their sunset dates approach, and budgetary constraints may crowd out any attempt to achieve permanent repeal of the estate tax. For this reason, it remains important to reduce your exposure to the estate tax, which could be with us for far longer than had been expected.

Although the new legislation does not require that we make any modifications to your estate plan, please keep in mind that you should keep us informed of any significant changes in your family or financial situation. If you have recently been subject to such changes, we would be glad to meet with you to determine what impact these events would have upon your estate plan.

 

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