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How the temporary tax cuts of 2003 will affect you and your practice
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The law contains many of the elements of Pres. Bush’s plan for stimulating the U.S. economy, a plan that originally called for $726 billion in tax reductions through 2013. This scaled-back version now cuts taxes by $330 billion for stockholders, individual taxpayers, couples and businesses, while including $20 billion for financially strapped states, a provision that Pres. Bush did not seek.
Although the final law does not contain Pres. Bush’s proposals to eliminate the tax that individuals pay on corporate dividends, it will lower the top tax rate on both dividends and capital gains to 15%. The current top tax rate is 38.6% for dividends and 20% for capital gains. Lower-income individuals would pay a 5% rate on both.
The new rates apply through 2007, and in 2008, the lower rate would drop to zero. In 2009, today’s higher rates would return.
On a personal level, the average taxpayer, including many principals in optometry practices, will find that the new legislation accelerates several personal tax reductions that had been scheduled to occur later this decade. There would be an increase in the child credit to $1,000 per child, instead of the current $600. The highest income tax brackets would be reduced to 35%, 33%, 28%, 25%. The lowest 10% tax bracket will be expanded to include more lower-income taxpayers.
For married couples filing joint income tax returns, the 15% tax bracket has been expanded and the standard deduction increased. The new law will also prevent more taxpayers from paying that dreaded alternative minimum tax that has drawn increasing numbers of middle-income taxpayers into its web in recent years. Unfortunately, most of these reductions will last only until 2005.
Of more interest to most optometrists and their practices, however, is the increase, from $25,000 to $100,000, in the amount of equipment expenditures that may be expensed and immediately deducted rather than capitalized. Many optometry practices will also be able to depreciate more of their practice’s assets over a shorter period. The key provision for most optometry practices — even those with little in the way of equipment — remains the new limits for expensing.
Increased first-year deductions
Among the key elements of the compromise between the House and Senate versions of the bill is an increase in the amount that optometry practices and other businesses can expense from $25,000 to $100,000. Even the phase-out threshold, the amount at which the expensing deduction begins to decline, has been increased from its present $200,000 level to $400,000.
Under our present tax laws, every optometrist may choose to treat expenditures for qualifying property, called Section 179 property, as an immediately deductible expense rather than a capital expenditure. Originally designed to spur investment in new equipment, the maximum expenditures qualifying for that Section 179 expensing election has gradually increased to its present $25,000 ceiling.
To qualify as Section 179 property, the property must be depreciable and for use in or by the optometry practice or business. Buildings and their structural components are specifically excluded as are air conditioning and heating units. The majority of property used in an optometry practice does qualify, however.
The Section 179 dollar limitation, now at $400,000, must be a reduction, dollar-for-dollar, of the cost of qualifying property placed in service during the year in excess of that limit. The amount disallowed under this limitation cannot be carried forward, although few optometrists will exceed the new $400,000 “investment limitation.”
What’s more, the total cost of property that may be expensed for any tax year cannot exceed the total amount of the practice’s taxable income for that year. Fortunately, the amount disallowed as the result of the taxable income limitation is carried forward, although the total future deduction cannot exceed the maximum annual dollar cost ceiling, investment limitation or, if lesser, the taxable income limitation in that carryforward year.
Bonus write-offs, new and old
The new bill provides an additional first-year depreciation deduction equal to 50% of the adjusted basis of qualified property. Qualified property is defined in the same manner as it was for the 30% additional first-year depreciation deduction created by the Job Creation and Workers Assistance Act of 2002.
Jobs and Growth Tax Relief Reconciliation Act of 2003 |
Key points for businesses
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The bonus allowance is only available for new property, which is depreciable under the Modified Accelerated Cost Recovery System (MACRS), and that has a recovery period of 20 years or less. While, again, excluding buildings, the bonus depreciation is available for most equipment, computer software and even leasehold improvements.
In general, to qualify for the new 50% additional depreciation deduction, the property must be acquired after May 5, 2003, and before Jan. 1, 2005. Naturally, property for which the 50% additional first-year depreciation deduction is claimed is not eligible for the 30% additional first-year depreciation deduction.
Dividends defined favorably
Under the new tax law, dividends received by an individual shareholder from either domestic or qualified foreign corporations generally are taxed at the same rates that apply to capital gains. According to our tax rules, the term “dividend” applies to any distribution made by any corporation to its shareholders out of earnings and profits — either accumulated over its years in business or its profits for the current tax year. Many of the distributions made by an incorporated optometry practice fall within that definition.
This unique provision reduces the top tax rate on both dividends and capital gains. Under this legislation, the top tax rate on both dividends and capital gains will fall to 15% this year. Any optometrist who may be considered to be a low-income taxpayer will pay 5%, falling to zero in 2008. Barring further congressional action, the current higher rates will return in 2009.
Growing into the AMT
The alternative minimum tax (AMT) rules were designed to ensure that at least a minimum amount of tax is paid by both high-income and corporate taxpayers who reap large tax savings by making generous use of certain tax deductions and exemptions. Without the AMT, some of these taxpayers might escape income taxation entirely.
In essence, the AMT functions as a recapture mechanism, reclaiming some of the tax breaks that are primarily available to high-income taxpayers and representing an attempt by our lawmakers to maintain tax equality. Unfortunately, more and more taxpayers each year find themselves elevated to the ranks of “high-income” taxpayers.
The Tax Relief and Reconciliation Act of 2001 increased the amounts exempt from the AMT for individuals for the years 2001 through 2004. The new law increases those exemption amounts, raising the $49,000 exemption amount for married individuals filing a joint return to $58,000 for 2003 and 2004. The former $35,750 exemption for single taxpayers has been temporarily increased to $40,250 for tax years 2003 and 2004.
Benefit while you can
Under the final version of the “Jobs and Growth Tax Relief Reconciliation Act of 2003,” tax cuts were less than half the $726 billion in tax reductions through 2013 that Pres. Bush proposed in January as a tonic for the swooning economy. Of the bill’s $350 billion price tag, $210 billion — or 60% — will occur this year and next. Nearly half of the bill’s cost was devoted to accelerating income tax reductions enacted in the tax cut of 2001.
Tax cuts include the reduced taxes for married couples, the expansion of the lowest tax bracket and the measures that will prevent more taxpayers from paying the alternative tax. Many of the tax breaks earmarked for individuals will significantly affect the personal tax bills of many optometrists as well.
On the business front, two new, temporary tax breaks were designed to encourage investment in your optometry practice or business. Small practices can expense up to $100,000 in new equipment investments through 2005, as well as depreciate more of their assets through 2004. Today, however, is the time to let this new tax law help stimulate the economy of you and your practice.
For Your Information:
- Mark E. Battersby has been reporting on tax and finance issues for more than 25 years. He can be reached at PO Box 527, Ardmore, PA 19003-0527; (610) 789-2480; MEBatt12@Earthlink.net.