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Click here to return to this month's Article Index The Cutting Edge™ November 2004Public PolicyHealth Savings Accounts Congress has passed H.R. 4520, the "American Jobs Creation Act of 2004." The President has signed the bill into law. The principal purpose of the law is to repeal the export tax benefit programs known as the Foreign Sales Corporation/Extraterritorial Income (FSC/ETI) programs. The World Trade Organization (WTO) had ruled the programs to be illegal subsidies. The European Union (EU) was given the right to impose retaliatory tariffs until the United States repealed the FSC/ETI provisions. The EU did impose tariffs and the EU has increased the tariffs each month by one percentage point. The tariffs, which began at three percent, are currently at 12 percent. It is still up to the EU to decide when to repeal the tariffs. The FSC/ETI programs will be phased out over time. As a result, the EU has announced it will "suspend" the tariffs as of January 1, 2005 and will ask the WTO to rule on whether the new law meets the conditions set forth by the WTO. As part of H.R. 4520, Congress has created a new deduction for United States "production activities." This is a great win for WMMA as we supported this provision. The relief constitutes slightly more than half ($76 billion) of the law's total tax relief ($136 billion). The law provides the equivalent of a tax rate cut of three percent (when fully implemented) for taxpayers engaged in United States based production. While there are several significant aspects, three are most notable. First, the provision achieves the tax cut not by lowering the tax rate but by reducing the amount of taxable income with a new deduction. (This also means a taxpayer receives the benefit regardless of their tax rate bracket.) Second, the deduction is not limited to "traditional" manufacturers. Third, the deduction is available to taxpayers regardless of how the business is organized for tax purposes. The new law provides a deduction from taxable income (or, in the case of an individual, adjusted gross income) for a portion of the lesser of the taxpayer's qualified production activities income (QPAI) or taxable income. For taxable years beginning in 2005 and 2006, the deduction is three percent of income and, for taxable years beginning in 2007, 2008, and 2009, the deduction is six percent of income. For taxable years beginning after 2009, the deduction is nine percent of such income. However, the deduction for a taxable year is limited to 50 percent of the wages paid by the taxpayer during the calendar year that ends in such taxable year. The first step is to determine "domestic production gross receipts" (DPGR). These generally are gross receipts of a taxpayer that are derived from: (1) any sale, exchange, or other disposition, or any lease, rental, or license of qualifying production property that was manufactured, produced, grown, or extracted by the taxpayer in whole or in significant part within the United States. "Qualifying production property" generally includes any tangible personal property, computer software, or sound recordings. The next step is to determine "qualified production activities income" (QPAI). QPAI is equal to domestic production gross receipts, reduced by the sum of: (1) the costs of goods sold that are allocable to such receipts; (2) other deductions, expenses, or losses that are directly allocable to such receipts; and (3) a proper share of other deductions, expenses, and losses that are not directly allocable to such receipts or another class of income. (Look for extensive regulations by the IRS and Treasury on the allocation of expenses. This is a complicated area.) For purposes of determining costs, any item or service brought into the United States shall be treated as acquired by purchase, and its cost shall be treated as not less than its value immediately after it entered the United States. A similar rule shall apply in determining the adjusted basis of leased or rented items where the lease or rental gives rise to domestic production gross receipts. In the case of any item that had been exported by the taxpayer for further manufacture, the increase in cost or adjusted basis shall not exceed the difference between the value of the item when exported and the value of the item when brought back into the United States, after the further manufacture. With respect to domestic production activities of an S corporation, partnership, estate, trust, or other pass-through entity, the deduction under the law generally is determined at the shareholder, partner, or similar level by taking into account at such level the proportionate share of qualified production activities income of the entity. Under the alternative minimum tax (AMT) structure certain deductions, credits, allowances, and so forth, taken from regular taxable income, are added back into the calculation of taxable income. The new law provides that whether one calculates tax liability based on the regular structure or the AMT, this new production activity deduction is allowed. Congress also addressed one of WMMA's other priorities in H.R. 4520. For taxable years beginning in 2003 through 2005, the Jobs and Growth Tax Relief Reconciliation Act (JGTRRA) of 2003 increased to $100,000 (up from $25,000) the amount a taxpayer may deduct of the cost of qualifying property placed in service for the taxable year. The $100,000 amount is reduced (but not below zero) by the amount by which the cost of qualifying property placed in service during the taxable year exceeds $400,000 (increased from $200,000). The $100,000 and $400,000 deduction limits are indexed for inflation. The increased expensing allowance and the investment ceiling both revert back to their original levels in 2006. The new law extends the increased amount that a taxpayer may deduct, and other changes that were made by JGTRRA, for an additional two years for taxable years beginning before 2008. It was great to end the Congress on a good note for WMMA. See you in Washington February 14-16, 2005! Table of Contents
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