bmcper 
CEO/Auditor
Posts: 63
(1/4/01 10:30 pm)
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Tax Changes For Tax Year 2000
President Clinton signed H.R. 3594 into law on December 28, 2000. This legislation repeals the disallowance of the use of the installment method of accounting for individuals and businesses using the accrual method of accounting for income and expenses.
Often businesses and business property are sold via an installment agreement, wherein the buyer agrees to pay the sales price to the seller over a specified period of time, usually longer than one year. The installment method of accounting allows taxpayers who sell their businesses to report any capital gains on that sale as the proceeds are collected from the buyer, rather than all at once when the sale is completed. This method allows the taxes from the sale to be paid as the money is received from the buyer.
The use of this method was disallowed for accrual-basis taxpayers as part of the Tax Relief Extension Act of 1999. Accrual-basis taxpayers include those taxpayers who account for their income as it is earned and their expenses as they’re incurred, regardless of the timing of the actual exchange of cash payment. Many businesses that maintain an inventory use the accrual method of accounting. Thus, for these businesses, a sale of property via an installment agreement had the unfortunate effect of forcing payment of taxes in the year the sale was made, even though part or all of the proceeds from the sale were yet to be collected ... obviously creating a hardship for businesses otherwise short on cash. Cash-basis taxpayers were unaffected by this disallowance.
With this new law, accrual-basis taxpayers may now use the installment method of accounting for reporting their capital gains from an installment sale of property. Taxes on any capital gains from the sale may now be paid as the proceeds from the sale are collected, rather than all at once.
Fortunately, the new law is retroactively effective back to the date of enactment of the Tax Relief Extension Act of 1999. It’s possible that some taxpayers who sold their businesses while the disallowance was in effect will consider restructuring their sales agreements to take advantage of the retroactive law change.
Medical Savings Accounts
Medical savings accounts (MSAs) were created a few years back to help uninsured and underinsured Americans afford health insurance. They’re available to self-employed people and to employees who are covered under their employers’ high-deductible health plans. The size of the employer is a factor in determining the availability of MSAs to employees.
Contributions to MSAs are deductible on the front page of Form 1040, so you’re able to take the deduction regardless of whether you itemize your deductions on Schedule A. Distributions taken out of the MSA to pay for medical expenses aren’t taxable, and the income that the MSA earns on the money while it’s in the account isn’t taxable to you either.
Under prior law, no new contributions may be made to MSAs except by, or on behalf of, persons who previously had MSA contributions and employees who are employed by a participating employer. Self-employed persons who made contributions to an MSA during 1997 through 2000 could have continued to make contributions after 2000.
The new law extends the MSA program through 2002, and also renames MSAs as "Archer MSAs" after House Ways and Means Committee Chairman Bill Archer.
Tax Treatment of Securities Futures Contracts
This law includes several provisions affecting persons invested in securities futures contracts:
Securities futures contracts will not be treated as section 1256 contracts. Therefore, holders of these contracts will not be subject to the mark-to-market rules of section 1256 and thus won’t be eligible for 60% long-term capital gain treatment available to section 1256 contracts. Normal rules for the disposition of property will apply. This provision does not apply to dealer securities futures contracts.
Any capital gain or loss from the sale or exchange of a securities futures contract to sell property (i.e., the short side of a securities futures contract) will be short-term capital gain or loss. It’s equivalent to a short sale of the underlying property.
For purposes of the wash sale rules, a contract or option to buy or sell stock or securities will include options and contracts that may be settled in cash or property other than the stock or securities to which the contract relates.
For purposes of the short sale rules, any securities futures contract to acquire property will be treated in the same manner as would the underlying property. For example, holding a securities futures contract to acquire property and the short sale of property that is substantially identical to the property that is the subject of the contract will result in application of the short sale rules.
Similarly, stock that’s part of a straddle in which at least one of the offsetting positions is a securities futures contract with respect to the stock or substantially identical stock will be subject to the straddle rules.
A corporation will not be able to recognize gains or losses on transactions in securities futures contracts with respect to its own stock.
The holding period for any property delivered in satisfaction of a securities futures contract will include the period that the taxpayer held the contract, as long as it’s a capital asset in the hands of the taxpayer.
Dealer securities futures contracts WILL be treated as section 1256 contracts. These are contracts entered into by a dealer in the normal course of business and are traded on a qualified board of trade or exchange.
No more maximum contribution deduction for the defined contribution plan and defined benefit retirement plan
When: January 1, 2000.
Who Benefits: Business owners (generally older small business owners and professionals) that want to shelter more money in their retirement plans.
Explanation:
If you’re a business owner looking to maximize your tax-deductible retirement plan contributions, you’re in luck this year. Before January 1, 2000, the combined maximum tax-deductible limit for a defined benefit retirement plan and a defined contribution retirement plan was generally $30,000 per person per year. This year, you can contribute to both plans in the same year without facing the $30,000 maximum contribution deduction.
What’s the difference between the two plans?
Defined contribution plans specify the annual tax-deductible contribution that you can make, but not the annual payout that you will receive when you retire. The amount that you can contribute to such a plan depends on your earnings and the percentage contribution identified in the plan document.
Defined benefit plans are the other way around: they specify the annual benefit you will receive at retirement, but the amount of your current contribution varies depending such factors as your age, expected return, employee turnover, and retirement age. Defined benefit plans are attractive to older business owners who can generally make larger contributions to defined benefit plans to make up for not putting enough away for retirement in the past.
The extent of the increased deduction you can get under this change depends on your age and other factors. Those under age 45 generally won’t benefit from this new rule. However, a 55-year-old may realize a deduction of as much as $108,000 ($30,000 to a defined contribution plan and $78,000 to a defined benefit plan) on his or her tax return, assuming the actuarial calculations support such a defined benefit plan contribution amount. Before the law changed, the maximum deduction this person could receive was $30,000.
Changes affecting your business
More eligibility to adopt the cash accounting method
When: Effective 2000 onward.
Who Benefits: Owners of small businesses that currently must account for inventories.
Explanation:
Beginning in 2000, if you have a small business with less than $1 million in average annual gross receipts for the past three years, you may be eligible to use the cash method of accounting. Businesses choosing the cash method don’t have to account for inventories, which means that you don’t need to make inventory valuations at the beginning of each year for tax purposes.
Instead, you can treat inventory the same way you treat costs of materials and supplies by simply deducting the costs of the inventory in the year you actually sell the finished products. IRS Publication 553, Highlights of 2000 Tax Changes has more details on the requirements attached to this new accounting opportunity. There are some administrative requirements, so be sure to read more about this opportunity if you think it may apply to your business.
Coming changes to the self-employed health insurance deduction
When: Effective for 2000 returns.
Who Benefits: Business owners who pay health insurance for themselves and their families.
Explanation:
Over the next three years, the self-employed health insurance deduction rate will increase as follows:
To 60% in 2000 and 2001
To 70% in 2002
To 100% in 2003 and after
If you’re a business owner, this means that you can avoid being hit with the 7½% adjusted gross income limitation applied to medical expense deductions. You take the self-employed health insurance deduction on the front page of Form 1040, regardless of whether you itemize your deductions.
Increase in the Section 179 expense deduction
When: Effective for 2000 returns.
Who Benefits: Primarily business owners.
Explanation:
The Section 179 expense deduction has been increased from $19,000 in 1999 to $20,000 for 2000. It will increase to $24,000 for 2001 and 2002, and finally to $25,000 for 2003 and after.
What Section 179 means to you in 2000 is that you can write off $20,000 worth of qualified assets (if you bought enough qualifying property for your business) this year instead of spreading out the write-off over time through depreciation. The Section 179 deduction applies only to property you buy and put into service this year. You can't decide to use the section 179 deduction on property you bought last year.
Tax credits for certain business expenses have been extended
When: Started in 1999 and runs through 2000, with various expiration dates.
Who Benefits: Business owners.
Explanation:
The following tax credits have been extended through 2000 and beyond:
The Credit for Increased Research Expenses, available to businesses investing in certain research activities, has been extended through June 30, 2004. If you think your research activities may qualify, get a copy of Form 6765,
Credit for Increasing Research Activities.
The Work Opportunity Credit, determined on Form 5884, is for employers who hire employees from certain disadvantaged groups. The credit amounts to 25% of wages paid to these groups for 120 hours to 399 hours, and to 40% of wages paid for 400 or more hours. This credit has been extended through December 31, 2001.
The Welfare-to-Work Credit (Form 8861) is for employers who hire qualified long-term family assistance recipients. The credit, which applies during the first two years of employment, is 35% of qualified first-year wages and 50% of qualified second year wages. The credit applies to individuals who begin work for an employer after December 31, 1997, and has been extended through December 31, 2001.
The mileage rate for business driving in 2000 has increased
When: January 1, 2000.
Who Benefits: People who use vehicles for business purposes.
Explanation:
From January 1 through December 31, 2000, the mileage rate for business driving is 32.5 cents per mile. This rate applies for the whole year (unlike in 1999, when we had to deal with two different rates).
Note that this rate applies to the business use of your vehicle. If you’re calculating the mileage rate for charitable activities, use 14 cents per mile. If you’re figuring your mileage deduction for medical expenses, use 10 cents per mile.
Expensing of environmental remediation expenditures has been extended
When: Through December 31, 2001.
Who Benefits: Businesses that pay for cleaning up certain contaminated sites.
Explanation:
If you paid for environmental remediation this year, you will be happy to know that the Section 198 election allowing you to deduct certain remediation expenses has been extended through December 31, 2001. You make this Section 198 election by entering the deduction on the Schedule C for your business (or Schedule F for your farm).
Qualified environmental remediation includes abating or controlling hazardous substances at a qualified contaminated site. A qualified environmental remediation expenditure is an expenditure that you would otherwise be required to deduct over a certain number of years (capitalize).
The Renewable Energy Product credit has been extended
When: Through December 31, 2001.
Who Benefits: Businesses that place qualifying renewable energy facilities such as wind-generated electricity, closed-loop biomass, and poultry waste facilities in service through December 31, 2001.
Explanation:
Closed-loop biomass is any organic material from a plant that is planted exclusively for producing electricity at a qualified facility.
Facilities producing electricity from poultry waste must be placed in service after December 31, 1999 and before January 1, 2002 in order to receive the credit. This credit is calculated on Form 8835.
Accrual-method taxpayers can no longer use the installment method when reporting gains
When: Affects sales and other dispositions of property occurring on or after December 17, 1999.
Who’s affected: Businesses and others that use the accrual method of accounting.
Explanation:
Using the installment method to report a gain means that you can report the gain over the period of time that you collect the sales proceeds from the buyer. If you use the accrual method of accounting, you report the gain in a single transaction.
The tax code is now saying that if you use the accrual method of accounting, you have to stick with it, which means that you can’t switch over to the installment method of accounting to report your business income and expenses. In other words, if you want to report gains using the installment method, you can’t use the accrual method to report your business income and expenses.
To counteract the effects of this change, more taxpayers may now switch to using the cash method of accounting. See our discussion under “Changes Affecting Your Business.”
Exceptions: Farmers who use the accrual method can still use the installment method to report their gains. So can people selling timeshares or residential lots (as long as they pay the IRS interest).
The “pledge rule” is also affected by this change. The pledge rule requires you to report gain on the sale of your property after you pledge the installment loan receivable as security for a loan that you take out. You calculate the gain you report by treating the proceeds of your loan as a “payment” on the installment obligation. Under the new law, the pledge rule has been changed so that any arrangement giving you the right to satisfy a debt with an installment note is now treated the same as a direct pledge of the installment note.
Increase in the business meal deduction for transportation employees
When: Effective 2000 onward.
Who Benefits: Employees subject to Department of Transportation hours of service limitations, as identified by The Taxpayer Relief Act of 1997. They include:
Air transportation employees such as pilots, crew, dispatchers, mechanics, and control tower operators under FAA regulations
Interstate truck operators and bus drivers subject to Department of Transportation regulations
Railroad employees subject to Federal Railroad Administration regulations
Certain merchant mariners subject to Coast Guard regulations
Explanation:
For all employees, the deduction for business meals is limited to 50%. Tax law assumes that half the cost of any meal you eat while working is a personal expense and is thus nondeductible.
If you’re in the transportation business subject to the Department of Transportation hours of service limitations, tax law has recognized that you don’t always have a choice over where to eat, much less the price of a meal while you’re on a layover. That’s why you can currently deduct 10% more (60%) than the average employee for the cost of food and beverages you consume while away from home during or as a result of being on duty during those hours.
The deduction continues to increase as follows:
To 65% in 2002 and 2003
To 70% in 2004 and 2005
To 75% in 2006 and 2007
To 80% in 2008 and onward
Edited by: bmcper at: 1/5/01 12:16:27 am
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