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Tax Breaks Ahoy?

“Tax Breaks Ahoy?”

Keep your eyes open for proposed tax relief with the Small Business Works Act of 2001.

In an effort to level the playing field for small businesses, Senator Christopher Bond (R-Mo.) introduced the "Small Business Works Act of 2001." (The "Small Employer Tax Relief Bill of 2001" is a similar bill introduced in the House of Representatives.) Following are several proposals that would liberalize existing breaks:

Bigger first-year expensing deduction. This proposal would more than double the deduction from $24,000 to $50,000.

Rationale: Free up much-needed capital to enhance growth prospects for small businesses.

Current law authorizes two ways for businesses to write off outlays for equipment purchases and other tangible personal property.

Under the "standard route," they recover the cost through depreciation deductions over varying periods that are as low as three years and as high as 39 years. For computers and copiers, that depreciation period is five years; for furniture and fax machines, it’s seven years.

Businesses can dispense with depreciation and opt for "expensing" under Code Section 179. This tactic entitles them to write off the entire cost within the first year that the property is "placed in service" (IRS lingo for ready and available for a specific use), rather than the year it’s purchased or paid for.

Yet first-year expensing has several limitations. The key stipulation sets a dollar cap on the deduction. That ceiling increases in stages: $20,000 for 2000, $24,000 for 2001 and 2002, peaking at $25,000 for 2003 or later. So count on a slight rise, regardless of how Senator Bond’s bill fares.

Shorter depreciation period for computer hardware and software. As a general rule, computer hardware and software currently are depreciable over five years. (One exception kicks in when software is purchased separately from a computer or its price is separately stated; then the write-off period shrinks to 36 months.) Senator Bond’s proposal would shorten the period from five to two years.

Rationale: Make it easier for small businesses to increase productivity by keeping up with technical innovations. Because a new generation of computer hardware is introduced every 18 months, the five-year depreciation period is seriously outdated.

Bigger health-insurance deduction for the self-employed. This year, millions of consultants and other self-employed workers are allowed to deduct 60% of the health-insurance premiums that they pay for themselves, their spouse and their dependents. After that, the deduction goes to 70% for 2002 and 100% for 2003 and later years.

Senator Bond’s measure would accelerate the full deduction. Rationale: Level the playing field for small businesses, as large corporations are currently allowed to deduct 100% of such costs.

Who qualifies: The premium-deduction break is available to two classes of entrepreneurs:

  1. Self-employed individuals, whether they operate their businesses as sole proprietorships or partnerships.
  2. S-corporation shareholders owning more than 2% of the stock. S corporations are companies (taxed similarly as partnerships) that pass on profits to shareholders.

Above the line: Known as an "above-the-line adjustment," the premiums are off-the-top subtractions applied in the section where you calculate adjusted gross income (AGI).

Bigger deduction for business meals and entertainment. The deduction for business meals and entertainment would increase from 50% to 80%.

Rationale: Small businesses should be able to deduct their major marketing expenses — discussions over a meal to explain a service, sell a product and seal a deal.

Exceptions to the rule: Current law already authorizes 100% deductibility for some kinds of entertainment outlays. The easily overlooked possibilities include hosting social gatherings for employees — Christmas parties or summer picnics are some of the standard get-togethers. Similarly, forget about a 50% cap on maintaining recreational facilities for employees, such as exercise rooms or swimming pools. There are, however, full deductions only for parties or facilities that are open to all employees — not just top executives.

Writer: Julian Block, based in Larchmont, N.Y., is an attorney and former IRS investigator who has been cited by the New York Times as "a leading tax professional" and by The Wall Street Journal as an "accomplished writer on taxes."