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In response to fears that the United States economy is heading into recession, Congress has passed, and the president is expected to sign, the Economic Stimulus Act of 2008 (H.R. 5140). The act includes a refundable tax credit for 2008, which will be rebated, in advance, for eligible individuals. The legislative history indicates that the issuance of the rebate checks is intended to deliver an “expedited fiscal stimulus” to the economy. The act also contains enhanced expensing and depreciation provisions for businesses purchasing equipment that is placed in service in 2008.

Individuals other than nonresident aliens and dependents will receive a “basic” credit in 2008 equal to the greater of the following:

The individual’s net income tax liability, up to $600 ($1,200 in the case of a joint return); or

$300 ($600 in the case of a joint return) if either the individual has at least $3,000 of qualifying income or has a net income tax liability of at least $1 and gross income greater than the sum of the applicable basic standard deduction amount and one personal exemption (two personal exemptions for a joint return).

To make the minimum $300 credit available to both older citizens relying on Social Security and those individuals relying on veterans’ benefits, the term “qualifying income” includes earned income, Social Security benefits and veterans’ survivor or disability benefits.

If an individual is eligible for any amount of the basic credit described above, the individual may also be eligible for a child credit. The child credit equals $300 for each “qualifying child” of such individual. For purposes of the child tax credit, a “qualifying child” means a child of the taxpayer qualifying for the dependency exemption who has not attained age 17. These children generally include the taxpayer’s child, step-child, adopted child, eligible foster child, sibling, step-sibling or a descendant of any of those individuals who lives with the taxpayer for more than half of the tax year and who does not provide more than half of his own support.

The total amount of credits (including both the basic credit and the child credit) is phased out at a rate of 5 percent of adjusted gross income above certain income levels. The phase out begins at $75,000 of adjusted gross income ($150,000 in the case of joint returns).

It is intended that the economic stimulus generated by the basic and child tax credits will be accelerated by rebating the credits to taxpayers in advance. Most eligible taxpayers will receive the benefit of the tax credits in the form of a check issued by the Department of the Treasury in 2008. The amount of the payment will be computed in the same manner as the credits, except that it will be done on the basis of information contained in tax returns filed for 2007. The Department of the Treasury has been directed to make every effort to issue rebate payments as rapidly as possible to taxpayers who timely file their 2007 tax returns. Taxpayers who file late or pursuant to extensions will receive their payments later.

Any rebate payments received will not constitute income and are not to be treated as resources for purposes of determining eligibility or the amount of benefits or assistance received under any federal program or any state or local program financed with federal funds.

Since the tax credits under the act are technically earned in 2008 and are to be based on 2008 earnings and tax liability, it will be necessary for taxpayers to calculate the amount of the credit on their 2008 tax returns and to reconcile such amounts with the payments received in 2008 (but which will be based upon information filed with their 2007 tax return). It is anticipated that taxpayers will need to complete a worksheet as part of their 2008 return, calculating the exact amount of the credit. They will then subtract from the credit the amount of the payment they received in 2008. For many taxpayers, these two amounts should be the same. If, however, the result is a positive number (because, for example, the taxpayer paid no tax in 2007 but is paying tax in 2008), the taxpayer may claim that amount as a credit against 2008 tax liability. If, however, the result is negative (because, for example, the taxpayer paid tax in 2007 but owes no tax for 2008), the taxpayer is not required to repay that amount.

To ensure that rebates are not paid nor credits allowed to illegal immigrants, the act denies any rebate or credit to individuals if they do not include on their tax return a valid Social Security number for themselves (and if they are married, their spouse) and any children for whom the child credit is claimed.

The calculation of the credits, including the phase-out, can be illustrated as follows: married taxpayers filing jointly have $175,000 in earned income, two qualifying children and a net tax liability of $31,189. The taxpayers meet the income test and the net tax liability test. Such taxpayers would, in the absence of the phase-out provision, receive a rebate of $1,800, comprised of the basic credit of $1,200 (their net tax liability up to a combined $1,200) and $300 per child. The phase-out provision reduces the total rebate and credit amount by 5 percent of the amount of the taxpayers’ adjusted gross income that exceeds $150,000. Five percent of $25,000 ($175,000 – $150,000) equals $1,250. The taxpayers’ total rebate is thus $550 ($1,800 – $1,250).

While the tax credit and rebate provisions of the act are intended to stimulate consumer spending, the act also contains several provisions intended to encourage additional business capital spending in 2008.

Currently, a business may elect under Code Section 179 to deduct (or expense) the cost of qualifying property rather than recover such costs through depreciation deductions over the cost-recovery period assigned to the property under the “modified accelerated cost recovery system.” The recovery periods for eligible property range from three to 25 years. For 2008, the maximum amount that a business may expense is $128,000 of the costs of qualifying property placed in service during the taxable year. The $128,000 amount is reduced by the amount by which the cost of qualifying property placed in service during the taxable year exceeds $510,000. Both the $128,000 and $510,000 amounts are indexed for inflation. For purposes of Section 179, qualifying property eligible for expensing is defined as depreciative tangible personal property that is purchased for use in the active conduct of a trader business. Off-the-shelf software placed in service in taxable years beginning before 2011 is treated as qualifying property.

Under the act, the $128,000 maximum expense amount and the $510,000 investment threshold are increased for 2008 to $250,000 and $800,000, respectively. The $250,000 and $800,000 amounts are not indexed for inflation.

As stated above, except for tangible property and certain types of computer software, a taxpayer is allowed to recover through annual depreciation deductions over a specified recovery period the cost of tangible property used in a trade or business or for the production of income. Under the act, a taxpayer will be allowed an additional first-year depreciation deduction in 2008 equal to 50 percent of the adjusted basis of the qualified property. The additional first-year depreciation deduction is allowed for both regular tax and alternative minimum tax purposes. The tax basis of the property and the depreciation allowance in the year the property is placed in service and later years are to be appropriately adjusted to reflect the additional first- year depreciation deduction. A taxpayer may elect out of the additional first-year depreciation for any class of property for any taxable year.

In order for property to qualify for the additional first-year depreciation deduction available under the act, the property must otherwise be subject to depreciation and have a recovery period of 20 years or less or must constitute computer software other than computer software covered under the special amortization rules of Code Section 197 for taxpayer-created software. In addition, the original use of the property must commence with the taxpayer after Dec. 31, 2007, and the property must be purchased and placed in service during 2008.

The term “original use” means the first use to which the property is put by any owner and not just the taxpayer’s original use of the property. Property is deemed purchased in 2008 if there was no binding contract to purchase the property in existence prior to Jan. 1, 2008. A one-year extension of the place-in-service requirement (i.e., to Jan. 1, 2010) is provided for certain property with a recovery period of 10 years or longer, and that has an estimated production period exceeding one year and a cost exceeding $1 million. Special rules, including an extension of the place-in-service date of one year to Jan. 1, 2010, also apply to certain aircraft.

The additional 50 percent first-year depreciation deduction under the act replaces similar 30 percent and 50 percent bonus depreciation provisions that were enacted in earlier legislation.

It is clearly intended that the act will provide consumers with additional purchasing power and businesses with additional incentives to increase or accelerate capital spending. It is hoped that both of these stimuli will allow the country to spend itself out of its current economic difficulties.

MARK L. SILOW is the administrative partner and chief operating officer of Fox Rothschild. Silow formerly was chairman of the firm’s tax and estates department. Silow’s work involves a broad range of commercial and tax matters, including business and tax planning, corporate acquisitions anddispositions, real estate transactions, estate planning and employee benefits.

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