$70 Billion Tax Cut Compromise
Hoped to Extend Economic Growth
When President Bush signed the “Tax Increase Prevention and Reconciliation Act” at the White House on May 17, it capped more than six months of efforts by the Republican-controlled Congress to bring tax relief to investors, corporations and middle-income taxpayers. The $70 billion reconciliation measure included provisions that will, according to GOP lawmakers, encourage the continuation of the nation’s economic growth through extended capital gains and dividend tax breaks for investors and tax incentives for businesses. To pay for some of the tax breaks extended or created, lawmakers included more than a dozen “revenue offsets,” including one that removes restrictions on rollovers to Roth IRAs.

Beginning in 2010, those metals-related business owners who employ individual retirement accounts as savings vehicles will be able to roll over the IRA into a Roth IRA. The ability to make such a rollover is currently limited to taxpayers with adjusted gross incomes of no more than $100,000. The amount being rolled over must be included in gross income, so taxes will be due, though they can be spread over a two-year period if the rollover is made in 2010. Qualified withdrawals from Roth IRAs are not taxable and Roth IRAs are not subject to the minimum distribution requirements of conventional IRAs and 401(k) plans.

The new bill also ended a practice that allowed high-income families to lower their tax bills by transferring assets to minor children. The new rules require taxing unearned income at their parents’ rates until children reach age 18 rather than the former age 16 requirement.

The dreaded AMT
The alternative minimum tax is a separate method of determining income tax for both the metal center operation and its owner. The AMT was originally devised to ensure that at least a minimum amount of tax is paid by high-income corporate and non-corporate taxpayers who reap large tax savings thanks to so-called “tax preferences.”

In essence, the AMT functions as a recapture mechanism, reclaiming some of the tax breaks primarily available to high-income taxpayers such as certain tax deductions, exemptions, losses and tax credits. Unfortunately, because the amount of income exempted from the AMT is not indexed for inflation, increasing numbers of metal centers and their owners feel the pain each year.

To calculate the tentative minimum tax, a metal center must first determine alternative minimum taxable income (AMTI) and then subtract the AMTI exemption amount. The new tax law provides an exemption amount (an amount that is phased out for married couples filing jointly with AMTI of $150,000 or more or unmarried individuals with AMTI of $112,500 or more). While the $4,500 exemption amount in the new law will help, it is hardly a solution for many metals distributors, and does not affect businesses.

The exemption amount was scheduled to decrease from $58,000 to $45,000 for married couples filing jointly, and from $40,250 to $33,750 for unmarried individuals, for tax years beginning after Dec. 31, 2005. Instead, for tax years beginning in 2006, the new law increases exemption amounts to: $62,250 in the case of married individuals filing a joint return, $42,500 in the case of unmarried individuals, and $31,275 in the case of married individuals filing a separate return.

Effective for 2006, the “Energy Tax Incentive Act of 2005” enacted a nonrefundable tax credit for alternative fuel motor vehicles and alternative fuel motor vehicle refueling property. These tax credits, along with the credit for non-business energy property, the credit for residential energy-efficient property and others qualify as nonrefundable personal credits. The new law extends the allowance for nonrefundable personal credits against both the regular tax and the AMT for one year, through 2006.

Capital gains and dividends
For metal center and other business owners, this is probably the most important provision in the new tax law. The reduced tax rates on long-term capital gains and dividends were scheduled to expire at the end of 2008. Now, the owners of incorporated businesses distributing profits in the form of dividends can safely make plans to benefit from those lower tax rates on all dividend payments received. What’s more, these lower tax rates are also extended for capital gains that result from the sale of business property—even the business itself. The new law extends the reduced rates of 0 percent, 5 percent and 15 percent on dividends and long-term capital gains to taxable years beginning on or before Dec. 31, 2010. As under prior law, capital gains and dividends that would otherwise be taxed at a 5 percent rate will be taxed at 0 percent for taxable years beginning after 2007.

Equipment expensing
Since 2003, lawmakers have provided enhanced expensing or write-offs under the Tax Code’s Section 179. The new tax legislation extends this special treatment through Dec. 31, 2009, allowing larger, first-year deductions for newly acquired business equipment.

Today, and through 2009, the maximum amount that a metal center business may expense or immediately deduct is $100,000 of the cost of property, adjusted for inflation. While that $100,000 write-off must be reduced dollar-for-dollar by the amount of qualifying property acquisitions in excess of $400,000, inflation has increased the maximum amount that can be expensed to $108,000 for 2006, with a $430,000 cap beyond which the first-year write-off must be reduced. Without the extension, the expensing limit would have dropped to $25,000 on a $200,000 cap after 2007.

Domestic production deduction
Beginning last year, some metals distributors could claim a deduction against their gross income equal to the applicable percentage of qualified production activities income (QPAI) or taxable income, whichever was less. The applicable percentage for 2005 and 2006 is 3 percent.

Section 199 of the tax law limits the so-called “manufacturers” deduction to 50 percent of the wages paid by the taxpayer in the same calendar year. Partners, shareholders or others who are allocated part of QPAI from pass-through entities were treated as having been allocated their share of the partnership’s wages.

The “Tax Reconciliation Act” modifies the wage limitation by limiting the deduction to 50 percent of the wages that are deducted in arriving at QPAI. Partners and shareholders will continue to be allocated their share of the partnership’s W-2 wages, but will include in their wage limit only wages paid to determine QPAI.

Another provision included in the new legislation addresses higher bond limits for metal center financing. Qualified small issue bonds—tax-exempt state and local bond issues that have been used to finance private business property or the acquisition of land and equipment by farmers—have in the past included limits on the amount of financing that could be provided to individual borrowers.

In general, for bonds issued after Sept. 30, 2009, the tax law permits up to $10 million of capital expenditures to be disregarded, in effect, increasing from $10 million to $20 million the maximum allowable amount of total capital expenditures by an eligible business in the same municipality or country.

The new law accelerates the application of the $10 million capital expenditure limitation from bonds issued after Sept. 30, 2009, to bonds issued after Dec. 31, 2006. This higher limit on small issue bonds could enable some metal centers to obtain additional funding from local development agencies.

Coming attractions
In order to reach agreement and keep within budget constraints, lawmakers removed some important provisions, many of which will likely appear in stand-alone legislation, a “trailer bill,” or could be tacked onto the pending pension reform bill.

Included among the additional provisions likely to be included in any new legislation are the extension of the deduction for state and local sales tax, the teachers’ classroom expense deduction, R&D provisions, some employment tax credits, and other popular but temporary tax incentives. When added together, these incentives total about $90 billion in one-year tax “relief” at a time of significant budget deficits.

Despite 2006 being an election year and, traditionally, a period when not much tax legislation passes, the months ahead may see even more changes to our tax law—changes that could affect every metals distributor.