Removing Unsightly Tax Credit Buildup

The tax extenders bill in Congress will enable companies to use accumulated minimum tax credits.
Marie LeoneJune 3, 2010

Every year like clockwork, tax credits expire and Congress vows to extend them for another 12 months. It’s that time again.

This year’s so-called tax extenders bill is officially titled the American Jobs and Closing Tax Loopholes Act (H.R. 4213). Passed by the House on May 28, the bill now goes to the Senate for debate. While it does include sections that raise taxes on businesses and holders of investment-services partnership interests, “some provisions are designed to encourage capital formation,” says Robert Willens, a tax expert who runs an eponymous consultancy in New York.

One such provision involves the minimum tax credit (MTC). The extenders bill would help companies counter the effects of a paradoxical provision in the tax rules that causes MTCs to build up but limits their use. Specifically, the bill would let companies “monetize” those accumulated credits, says Willens.

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Companies can use MTCs to recoup tax benefits that are lost as a result of being subject to the alternative minimum tax, says Willens. Essentially, MTCs pay corporations for deferred items that can be reversed by the AMT.

The buildup problem arises because tax rules do not allow the MTC to exceed a company’s regular tax bill by the minimum tax for that year. In practical terms, that means that if a corporation is consistently subjected to the AMT, its MTCs will accumulate “with no realistic prospect of using them,” said Willens in a client advisory.

The extenders bill would help companies chip away at the credit buildup by giving them the opportunity to monetize their MTCs. The mechanism for doing so is written into Section 53(g) of the Internal Revenue Code. Under the extenders bill, if a company applies the rule for its first taxable year beginning after December 31, 2009, the limitation imposed would be increased by what’s called the AMT credit adjustment amount (ACAA).

The ACAA amount, which would vary by company, is calculated by taking the lesser of either 50% of a corporation’s MTC for its first taxable year beginning after December 31, 2009, or 10% of the corporation’s “new domestic investment” made and put into service during the taxable year. For this purpose, the investment is “qualified property,” which generally is defined as tangible property with a recovery period of 20 years or less, and certain computer software.

Monetizing MTCs would not be a free ride, cautions Willens; there would be a trade-off. Taking advantage of the new MTC provision would preclude companies from using the extended carryback period for net operating losses. The carryback allows companies to reach into the past — up to five years instead of the traditional two years — and offset taxable income generated during that past period with current losses. Here, current losses are considered those booked during taxable years ending after December 31, 2007, and beginning before January 1, 2010.

In addition to enabling companies to monetize MTCs, H.R. 4213 would extend some favorable depreciation conventions for an additional year, points out Willens. Those extensions include the following:

1. Machinery or equipment used in a farming business by the taxpayer beginning after December 31, 2008, and placed in service before January 1, 2011, would be treated as “five year property” for depreciation purposes.

2. “Qualified leasehold improvement,” “qualified restaurant property,” and “qualified retail improvement property” placed in service before January 1, 2011, would be classified as 15-year property.

3. “Motorsports entertainment complex[es]” placed in service on or before December 31, 2010, would be regarded as seven-year property.

4. A taxpayer may elect to treat 50% of the cost of “qualified advanced mine safety equipment property” as an expense (not chargeable to the capital account). This provision would apply to property placed in service on or before December 31, 2010.

5. A taxpayer may elect to treat the cost of any “qualified film or television production” as an expense (but not in excess of $15 million of the cost). This provision would be applicable to productions commencing on or before December 31, 2010.