The American Jobs Creation Act is on its face aimed specifically at large, multinational corporations, but it also packs plenty of positives for small-business owners. The catch is that finding these positives and applying them to a specific business can take a considerable amount of effort. This is where the business owner's advisor comes in.
“There are a lot of good things in the bill that will affect small-business owners,” says Dan Prebish, vice president of client services and manager of the business owners services group at A.G. Edwards. “There's nothing you have to do to get these good things. It's mostly finding out if Congress gave you something.”
Prebish believes it's worth reading a summary of the law to see how different aspects can be applied to a client's individual financial plan. (A review of the Act is available from the tax-information provider CCH at tax.cchgroup.com/tax-briefings/2004-Jobs-Creation-Act.pdf.)
There are some clear wins in the measure for clients who are small-business owners. For example, the law extends through 2007 a company's ability to write off up to $102,000 worth of capital improvements. There are also some givebacks, such as the elimination of the so-called Humvee tax break. Part of an earlier stimulus package, this loophole allowed companies to deduct 100 percent of the purchase price of an SUV or other light truck, up to $102,000 in 2004, so long as the vehicle was used exclusively for business purposes. Other aspects require more evaluation to gauge their impact on a business owner's specific situation: Changes to S corporation treatment, for example, can result in significant tax savings in some instances.
What is most striking is the ingenious ways in which Congress now defines manufacturing for the purposes of this tax law — a broadening that can benefit many small-business owners. The act was originally drafted to resolve a conflict with the World Trade Organization, which had declared illegal a tax break given to American exporters. The breech resulted in a punitive tariff on many U.S. products. But, in the process of fixing that problem (replacing what looked like an export subsidy with a tax cut for manufacturers), Congress went into election-year largess mode. It greatly expanded how manufacturing is defined.
“A lot of people are going to be surprised to find out they're manufacturers,” says Prebish. These include construction businesses, engineers, film and video production companies and software developers. Now these companies will see a 9 percent cut phased into their corporate-tax rates. Unlike more traditional manufacturers, like Boeing for instance, many small businesses that file under subchapter S rules will see this money flow directly into the owner's wallet.
Another constituency to reach out to is restaurant owners, says Scot Pannepacker, a partner in the Princeton, N.J., accounting firm Lear & Pannepacker. The act provides restaurant owners with a 15-year recovery period, straight-line depreciation and a first-year bonus depreciation for building improvements. “Anyone with a restaurant client should pay attention to this,” Pannepacker says.
In addition, Pannepacker says, all business owners need to look at capital budget plans in light of the new legislation, which gives them two more years in which to take advantage of the six-figure write-off. Using that write-off, a company in the new 32 percent tax bracket could save some $32,000 on a $100,000 project. Especially for owners of “flow-through” entities like limited liability companies, partnerships or S corporations, “that windfall needs to be addressed,” says Pannepacker. Usually, he explains, an expansion requires dollars to “leave the pockets” of a business owner. However, now owners can hold on to more money in the year the expansion takes place. The impact on their year-end tax and financial planning is obvious and direct.
Paul Gada, senior small-business tax analyst for the CCH Business Owner's Toolkit (toolkit.cch.com), says it pays to look into the broader definition of manufacturing in the law to help clients. For example, while coffee-roasting operations were defined as manufacturers after lobbying efforts by the giant Starbucks, Prebish says “a lot of local businesses that produce a local coffee would be manufacturers as well.”
“Anyone who is, or is affiliated with, a manufacturer is worth calling, assuming they've got a decent income” advises Pannepacker. From 2005 forward, he says the tax reductions involved with such businesses will be “very large.”
GOOD FOR S CORPS
For many business owners, the act's modifications to S corporation rules are going to be key. S corps, notes Gada, are among the fastest growing entity types in the country, and the changes may be particularly important for family-owned firms.
Under the law, members of a family can be treated as a single holder. Also, S corps can now have 100 owners, up from 75. Such measures provide owners with better options for raising money, streamlining participation across generations and reaping tax benefits. “The impact on individuals can be huge,” says Pannepacker.
Because some S corporations pay taxes only on actual income and not receivables, more money can be left in the business. For a larger S corporation, the tax savings can run into the millions of dollars.
“For a big client, this has got to be one of the greatest windfalls there is,” says Pannepacker.
Prebish also has his eye on how the Act handles nonqualified compensation plans. “You don't often see them in small businesses, but everyone who has one is going to have to revise their documents,” he says. While most of the changes are targeted at plans in public companies, Prebish observes that even firms with a plan for two key sales people or a small group of executives will have to review the law and address its issues.
Under the new law, nonqualified plans can no longer function as, essentially, tax-deferred bank accounts. They will be subject to 401(k)-like distribution limits, meaning participants will have to reach a certain age or leave the company before they can withdraw money.
Finally, if clients are in the market for a new motor vehicle (in addition to a retirement vehicle) you can point out that this is the time to pounce. With the expiration of the Humvee break, only $25,000 of the cost of a light truck or SUV used by the business can be deducted.
“The days of writing off SUVs are over,” says Gada. On the other hand, with gas prices rising, Detroit is laying on the incentives.