Tax Updates

Dear Client:

On November 6, the President signed into law H.R. 3548, the “Worker, Homeownership, and Business Assistance Act of 2009.” The new law extends and generally liberalizes the tax credit for first-time homebuyers, making it a much more flexible tax-saving tool. It also includes some crackdowns designed to prevent abuse of the credit. These important changes could it make it easier for you or someone in your family to buy a home. And because the changes generally aid buyers and aim to improve residential real estate markets nationwide, they also could make it easier for you or someone in your family to sell a home. This Client Letter fills you in on the details you need to know about the first-time homebuyer credit.

Homebuyer credit basics. Before the new law was enacted, the homebuyer credit was only available for qualifying first-time home purchases after April 8, 2008, and before December 1, 2009. The top credit for homes bought in 2009 is $8,000 ($4,000 for a married individual filing separately) or 10% of the residence's purchase price, whichever is less. Only the purchase of a main home located in the U.S. qualifies. Vacation homes and rental properties are not eligible. The homebuyer credit reduces one's tax liability on a dollar-for-dollar basis, and if the credit is more than the tax you owe, the difference is paid to you as a tax refund. For homes bought after Dec. 31, 2008, the homebuyer credit is recaptured (i.e., paid back to the IRS) if a person disposes of the home (or stops using it as a principal residence) within 36 months from the date of purchase.

Before the new law, the first-time homebuyer credit phased out for individual taxpayers with modified adjusted gross income (AGI) between $75,000 and $95,000 ($150,000 and $170,000 for joint filers) for the year of purchase.

Your guide to the revised homebuyer credit. The new law makes four important changes to the homebuyer credit:

(1) New lease on life for the homebuyer credit. The homebuyer credit is extended to apply to a principal residence bought before May 1, 2010. The homebuyer credit also applies to a principal residence bought before July 1, 2010 by a person who enters into a written binding contract before May 1, 2010, to close on the purchase of the principal residence before July 1, 2010. In general, a home is considered bought for credit purposes when the closing takes place. So the extra two-months (May and June of 2010) helps buyers who find a home they like but can't close on it before May 1, 2010. They can go to contract on the home before May 1, 2010, close on it before July 1, 2010, and get the homebuyer credit (if they otherwise qualify). Note that certain service members on qualified official extended duty service outside of the U.S. get an extra year to buy a qualifying home and get the credit; they also can avoid the recapture rules under certain circumstances.

(2) The homebuyer credit may be claimed by existing homeowners who are “long-time residents.” For purchases after November 6, 2009, you can claim the homebuyer credit if you (and, if married, your spouse) maintained the same principal residence for any 5-consecutive year period during the 8-years ending on the date that you buy the subsequent principal residence. For example, if you and your spouse are empty nesters who have lived in your suburban home for the past ten years, you are potentially eligible for the credit if you “move down” and buy a smaller townhome. There's no requirement for your current home to be sold in order to qualify for a homebuyer credit on the replacement principal residence. Thus, the replacement residence can be bought to beat the new deadlines (explained above) before the old home is sold. For that matter, you can hold on to your prior principal residence in the hope of achieving a better selling price later on.

The maximum allowable homebuyer credit for qualifying existing homeowners is $6,500 ($3,250 for a married individual filing separately), or 10% of the purchase price of the subsequent principal residence, whichever is less.

(3) The homebuyer credit is available to higher income taxpayers. For purchases after November 6, 2009, the homebuyer credit phases out over much higher modified AGI levels, making the credit available to a much bigger pool of buyers. For individuals, the phaseout range is between $125,000 and $145,000, and for those filing a joint return, it's between $225,000 and $245,000.

(4) There's a new home-price limit for the homebuyer credit. For purchases after Nov. 6, 2009, the homebuyer credit cannot be claimed for a home if its purchase price exceeds $800,000. It's important to note that there is no phaseout mechanism. A purchase price that exceeds the $800,000 threshold by even a single dollar will cause the loss of the entire credit.

The new purchase price limitation applies whether you are buying a first-time principal residence or are a qualifying existing homeowner purchasing a replacement principal residence.

Other homebuyer credit changes. The new law includes a number of new anti-abuse rules to prevent taxpayers from claiming the homebuyer credit even though they don't qualify for it. The most important of these are as follows:

... Beginning with the 2010 tax return, the homebuyer credit can't be claimed unless the taxpayer attaches to the return a properly executed copy of the settlement statement used to complete the purchase of the qualifying residence.

... For purchases after Nov. 6, 2009, the homebuyer credit can't be claimed unless the taxpayer has attained 18 years of age as of the date of purchase (a married person is treated as meeting the age requirement if he or his spouse meets the age requirement).

... For purchases after Nov. 6, 2009, the homebuyer credit can't be claimed by a taxpayer if he can be claimed as a dependent by another taxpayer for the tax year of purchase. It also can't be claimed for a home bought from a person related to the buyer or the spouse of the buyer, if married.

... Beginning with 2009 returns, the new law makes it easier for the IRS to go after questionable homebuyer credit claims without initiating a full-scale audit.

What hasn't changed. The tax law still gives you the extraordinary opportunity to get your hands on homebuyer credit cash without waiting to file your tax return for the year in which you buy the qualifying principal residence. Thus, if you buy a qualifying principal residence in 2009 you can treat the purchase as having taken place this past December 31, file an amended return for 2008 claiming the credit for that year, and get your homebuyer credit cash relatively quickly via a tax refund. Similarly, you can treat a qualifying principal residence bought in 2010 (before the new deadlines) as having taken place on December 31, 2009, and file an original or amended return for 2009 claiming the credit for that year.

What also hasn't changed is the need for getting expert tax advice in negotiating through the twists and turns of the new beefed-up homebuyer credit. Please call us today for details on how the homebuyer credit can help you or your family members.

New NOL Provisions

The Worker, Homeownership, and Business Assistance Act of 2009 (the Act), which was signed into law on Nov. 6, 2009, makes it easier for most businesses to get immediate tax savings from net operating losses (NOLs). It does so by allowing certain NOLs to be carried back to earlier, more profitable years. In these tough economic times, that's good news for businesses who have suffered losses recently after better years when high taxes were paid. On the negative side, the Act defers a scheduled drop in the FUTA (Federal Unemployment Tax Act (FUTA) tax rate, increases penalties for certain businesses that fail to meet return filing requirements, and boosts estimated taxes for large corporations in 2014.

Background on NOLs. A net operating loss (NOL) is the excess of business deductions (computed with certain modifications) over gross income in a particular tax year. The loss can be deducted, through an NOL carryback or carryover, in another tax year in which gross income exceeds business deductions. In general, NOLs may be carried back two years and forward 20 years. The NOL is first carried to the earliest tax year for which it's allowable as a carryback or a carryover, and is then carried to the next earliest tax year. A business may forego the entire carryback period and instead carry the NOL forward.

For NOLs arising in a tax year beginning or ending in 2008, eligible small businesses (ESBs) could elect to increase the NOL carryback period from 2 years to 3, 4, or 5 years. A calendar year business could only make the election for 2008. A fiscal-year taxpayer whose year ended in 2008 could make the election either for (a) its fiscal year ending in 2008 or (b) its fiscal year beginning in 2008 and ending in 2009, but not both. An ESB is a trade or business (including one conducted in or through a corporation, partnership, or sole proprietorship) whose average annual gross receipts are $15 million or less for the three-tax-year period (or shorter period of existence) ending with the tax year in which the loss arose.

New law allows longer carryback period for most businesses. The Act generally permits any business (not just an ESB) to increase the carryback period for an applicable NOL to 3, 4, or 5 years from 2 years (however, businesses getting certain federal bailout funds are not eligible). An applicable NOL is a business's NOL for any tax year ending after Dec. 31, 2007, and beginning before Jan. 1, 2010. Generally, an election may be made for only one tax year. However, an ESB that made or makes an election under the rules in effect before Nov. 6, 2009 (the Act's enactment date) may make an election for 2 tax years instead of just 1.

The amount of the NOL that can be carried back to the 5th tax year before the loss year can't be more than 50% of a business's taxable income for that 5th preceding tax year determined without taking into account any NOL for the loss year or for any tax year after the loss year. The amount of the NOL otherwise carried to tax years after the 5th preceding tax year is adjusted to take into account that the NOL could offset only 50% of the taxable income for that 5th preceding tax year.

For example, assume Ace Corp (not an ESB) has an NOL of $5 million for its tax year ending Aug. 31, 2009. In its tax year ending Aug. 31, 2004, it had taxable income of $6 million. If Ace elects to carry back its NOL to the 2004 tax year, then it may apply only $3 million of that loss against its taxable income for 2004. In determining the amount of the NOL that ACE can carry over to years ending after Aug. 31, 2004, the NOL is reduced by only the $3 million that was offset for the 2004 tax year.

However, note that the 50% limitation does not apply to the applicable 2008 NOL of an ESB that makes an election under pre-Act law, even if the election is made after Nov. 6, 2009.

Note that the Act carries a separate, similar set of NOL carryback rules for life insurance companies.

NOL transition rules to watch out for. The Act's transition rules allow a business to revoke any election to waive the carryback period for an applicable NOL or an applicable loss from operations for a tax year ending before Nov. 6, 2009. The election can be revoked by the extended due date for filing the tax return for the business's last tax year beginning in 2009. Similarly, any application for a tentative carryback adjustment to gain an immediate refund for such a loss is treated as timely filed if filed by the extended due date for filing the tax return for the business's last tax year beginning in 2009. Normally, an election to waive the carryback period cannot be revoked. The transition rules afford an opportunity to undo a waiver for an applicable NOL, or an applicable loss from operations for a tax year ending before Nov. 6, 2009.

Scheduled drop in FUTA tax rate is deferred. Before the Act, the FUTA rate was scheduled to drop from 6.2% to 6% after 2009. Under the Act, the 6.2% FUTA tax rate continues to apply through June of 2011, and afterwards a 6.0% rate will apply.

Estimated tax change. For large corporations (those with $1 billion or more in assets), the required payment of estimated tax otherwise due in July, August, or September of 2014 under pre-Act law will be increased by 33%. The amount of the next required installment will be appropriately reduced to reflect the amount of the increase in the earlier installment.

Passthrough penalties increased. The base amount on which a penalty is computed for a failure to file either a partnership or S corporation return for a tax year beginning after Dec. 31, 2009, is increased to $195 per partner or shareholder.

Please give us a call and we'll set up a meeting to discuss how your business is affected by the Act's changes, particularly its more-generous, but complex, NOL changes.