Tax Updates
April 2003:
Property Tax Reassessment Notices To Arrive Soon – Now What?
March 2002: Tax Alert
December 2001: Tax Alert
Tax Reconciliation Act of 2001
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Federal Tax Act
- The tax rate cuts for the top four individual income tax brackets were accelerated. Thus, the top individual tax rate, which was scheduled to be reduced from 39.6% to 35% by 2006, was reduced to 35% in 2003. The lowest individual tax bracket was dropped from 15% to 10% and the 10% bracket was expanded from taxable income of $12,000 up to taxable income of $14,000.
- The marriage penalty relief was also accelerated. Originally scheduled to be phased in from 2005 through 2009, the relief is provided in 2003. The standard deduction for married couples filing a joint return will be double the basic standard deduction of single taxpayers. Similarly, the top dollar amount taxed at the 15% rate for married couples is extended to be twice the top dollar amount of the 15% bracket applied to single taxpayers.
- The child tax credit is increased from $600 to $1,000 per eligible child and will be phased out for married persons starting at $110,000 of taxable income.
- The alternative minimum tax exemption amount is increased for married couples from $49,000 to $58,000.
- The long term capital gains rate, effective on or after May 6, 2003, is reduced from a maximum rate of 20% to a maximum rate of 15% while the already existing lower 10% rate is reduced to 5%.
- The tax rate applied to dividends is reduced, effective as of January 1, 2003. The maximum rate on qualified dividends will now be 15% and at lower income levels, will be reduced to 5%. This lower dividend rate will be inapplicable to REITs, interest income and retirement accounts.
- Under Code §179, businesses can elect to treat the cost of qualifying property as a deductible expense rather than a capital expenditure which must be depreciated over a period of years. This §179 expense applies to depreciable tangible personal property purchased for use in a taxpayer’s trade or business, whether new or used. The Federal Tax Act increases the amount expensable each year from $25,000 to $100,000. This benefits small businesses but will be phased out by $1.00 for each $1.00 of qualifying property purchased in excess of $400,000 for the taxable year; therefore, if the business invests in qualifying property in excess of $500,000, the benefit of §179 expensing will be eliminated. Qualifying property was expanded to now also include most computer software, including off-the-shelf prepackaged software.
- Bonus depreciation was increased from 30% to 50% of qualified property. The property must be acquired after May 5, 2003, and before January 1, 2005. If eligible, 50% of the cost of the property can be written off as depreciation in the first year and the remaining 50% is then written off on the regular depreciation schedules for remaining useful lives. This applies to new assets only. The property must have a recovery period less than or equal to 20 years, which covers most personal property assets. However, while the bonus depreciation can be taken for federal income tax purposes, as discussed below, the bonus depreciation is not applicable to the calculation of Indiana adjusted gross income tax.
Implications as to Entity Choice in Indiana
- The lowering of the individual income tax brackets favor flow-through entities where the income is taxed only once at the individual level; the individual maximum rate is now 35% as compared to the corporate maximum rate of 34% but the shareholders of the corporation will be subject to a second level of tax on the payment of dividends from the corporation. Since the maximum dividend rate has been reduced to 15%, the effect of the double tax will be reduced.
- The increase in the amount for the §179 expensing and the bonus depreciation further help to reduce the total taxes applied to individuals in small businesses that are taxed as pass-through entities though the bonus depreciation is not effective as to Indiana taxes.
- Investments in the form of equity as opposed to debt are favored due to the reduction of the long term capital gains rate and dividend rate to 15% whereas interest payments from bonds, bond funds, certificates of deposit and money market funds can be taxed up to 35%. Similarly, dividends from certain entities such as mutual fund dividends arising from short term capital gains, interest income and other ordinary income factors, REITs and tax-deferred retirement accounts, such as IRAs and 401(k) plans, are all taxed up to the maximum ordinary tax rate of 35%.
Indiana Legislative Tax Developments
Income Tax
- The bonus depreciation allowed for federal income tax purposes is not allowed for Indiana income tax purposes.
- Indiana legislation provides transitional rules for 2003 concerning the elimination in the 2002 legislation of the gross income tax and the supplemental net income tax.
- A pass through entity will be eligible for the venture capital investment tax credit for investments made in qualified Indiana businesses.
- An income tax credit is provided for the manufacture of recycled components out of coal combustion by-products.
Property Taxes
- The legislature has enacted provisions which prohibit the administrative agency, the Department of Local Government Finance, from developing or changing rules concerning valuation of property, including depreciation tables, the 30% floor and the 35% valuation adjustment for inventory, work in process and special tools, meaning that these items can only be changed through further legislative action or by the courts.
- Decisions on ERA abatement reduction applications will be made by the county auditor and appeals will run to the local county court and not the Indiana Tax Court (effective after 12-31-04).
- Similarly, appeals from denials of enterprise zone credits run to the county Circuit or Superior courts.
- Creates a new Pool 5 depreciation pool effective in 2003 for qualifying equipment owned by integrated steel mills or oil refineries/petrochemical companies. The property may be depreciated down to 10% of value by year eight and the 30% floor will be inapplicable though any company making such election cannot claim any abnormal obsolescence.
Sales and Use Tax
- Indiana will adopt the Streamlined Sales and Use Tax Agreement effective January 1, 2004, which attempts to establish uniformity in state and local tax bases and definitions, simplify rates, create uniform sourcing rules and centralize the administration of sales and use tax collections. If enough states adopt this so the project becomes effective, changes to certain provisions of Indiana’s sales and use taxes will become effective.
- Legislation clamps down on vendors selling property or services to state agencies and state higher education institutions by treating them as if they were resident in Indiana for purposes of collecting and remitting sales taxes.
- Expands sales tax exemptions for certain new motor vehicle sales, specifically involving acquisitions for resale or for renting or leasing in the ordinary course of business.
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