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Employment Tax Credit
Commercial Revitalization Deduction
0% Capital Gains
Increased 179 Deduction
Qualified Zone Academy Bonds
Environmental Cleanup Cost Deduction (Brownfields)
New Markets Tax Credit
Welfare to Work Credit
Work Opportunity Tax Credit
General RC Business Questions
Employment Tax Credit
Can a business benefiting from Renewal Community tax credits transfer those credits to another business entity, i.e., a flow-through entity?
No. There is no provision in the Internal Revenue Code (IRC) that allows one entity to transfer an unused Renewal Community employment credit to another entity.
Are there any employer incentives for hiring employees who work in a RC?
Yes. The tax code allows employers a credit against Federal taxes for hiring and retaining employees who live and work in a RC. The RC Wage Credit will be available in all RCs beginning January 1, 2002, and will continue for all RCs through December 31, 2009.
Can a business use this credit for current employees?
Yes. The RC Wage Credit is incentive to hire and retain individuals who live in a RC, so it is available each year throughout the RC Wage Credit Periods.
How does a business document that an employee is a RC resident?
The employer should obtain a statement from the employee, under penalty of perjury, that gives the address of the employee's principal residence and provides assurance that the employee will notify the employer of a change in the employee's principal residence. The local RC can confirm that the address is in the RC or a business can obtain the information over the Internet using the EC/RC address locator at www.hud.gov/ezec/locator. The statements are not filed with the business's tax return, but should be retained like any other documents supporting a tax return.
What if the employee works part-time?
The credit is available for both part-time and full-time employees as long as they have been employees by the employer for at least 90 days. The amount of the credit is tied to the amount of wages paid rather than to the number of hours worked.
What is the definition of qualified wages?
Qualified wages are generally wages subject to the Federal Unemployment Tax Act (FUTA). The credit is calculated against a maximum of $10,000 for the RC Wage Credit. A business may pay the employee more than $10,000, but the maximum for purposes of calculating the credit is $10,000. The instructions for IRS Form 8844 provide additional information on qualified wages.
What is the credit amount?
The credit amount for the RC wage Credit is 15% of wages up to the $10,000 wage amount.
Is there a limit on the number of employees for which a business can take the credit?
An employer can take the credit for as many employees that qualify.
What if the employee works in a RC for only part of the year?
An employer can use either the pay-period or calendar-year method for determining the period of time the employee performs services in a RC. No other time periods can be used to prorate the credit. For example, if an employee works in several factory locations and is paid weekly, an employer can claim the wage credit for the weekly pay periods during which the employee works substantially all of his or her time in the factory located in a RC.
What if a business is located in a RC, but the employees spend part of their time working outside the boundaries of the RC?
The credit is available only if substantially all of the services performed during the period are in a RC. If an employee does not perform substantially all services inside a RC within the calculation period selected, the credit cannot be prorated and no portion of the wages for that period would qualify for the credit.
What if the Federal tax liability of the business is less than the total credit amount?
The RC Wage Credit generally is subject to the same rules as other business tax credits. As with other business tax credits, unused credit amounts can be carried forward for up to 20 years and carried back a year. However, the credit cannot be carried back prior to the RC designation.
Are there special procedures for taking the RC Wage Credit?
The credit is accounted for on IRS form 8844 and would be part of a business's tax filing.
Can nonprofit organizations benefit from the RC wage Credits?
Tax-exempt organizations, other than certain cooperatives, are ineligible for the credits.
Can a pass-through entity, such as a partnership or S-Corporation, use the credit?
The RC Wage Credit is a general business tax credit for Federal tax purposes and may be passed through under the rules similar to other business tax credits.
Does the RC Wage Credit reduce Alternative Minimum Tax (AMT) liability?
AMT may be reduced by 25% of the RC Wage Credit amount
Can the RC wage Credit for an employee be taken concurrently with Work Opportunity Tax Credits (WOTC) or Welfare to Work (WtW) Credits?
Yes, but wages are not taken into account for the RC Wage Credit if they are being used in determining WOTC or WtW. In addition, the $10,000 cap on wages taken into account for the RC Wage Credit would be reduced by any wages taken into account in computing WOTC or WtW
Which categories of employees would not qualify for the RC Wage Credit?
The RC Wage Credit cannot be taken for any individual employed at any private or commercial golf course, country club, massage parlor, hot tub facility, suntan facility, racetrack or other gambling facility, or store who's principal business is the sale of alcoholic beverages for consumption off premises.
The RC Wage Credit is not available for family members of the employer, including sons, daughters, parents, stepchildren, stepmothers, stepfathers, in-laws, and other persons treated as dependents under the tax code. Similar exclusions apply to 5% owners related to the employer and family members of majority shareholders or partners of the employer.
Can entities that lease their employees use the credit?
Employers should check with their tax advisors. The RC Wage Credit is based on FUTA wages, so the ability to take the credit will depend on who the employer is for purpose of the FUTA wages.
Can the RC Wage Credit be taken for farm workers?
If the employer's principal activity is farming, the credit is available for employees only if the sum of value of the assets owned or leased by the employer for use in the farming business does not exceed $500,00. The definition of farming and the method of calculating the value of the assets are found in the tax laws; and the employer should consult its legal advisor on this matter before taking the credit.
How does the credit affect the deduction for salaries and wages?
A business must reduce the deduction for salaries and wages by the amount of the credit taken.
Where can a business obtain more information on this incentive?
A business should consult with its tax advisor. IRS Publication 954 and IRS Form 8844 describe this incentive. For copies call 1-800-829-3676 or visit www.irs.ustreas.gov.
With respect to the employment tax credit, can an employer count the time an employee is on a tour boat in, for example, Lake Champlain that starts and stops it tours in the Renewal Community?
To qualify for the credit, substantially all of the services performed by the employee for the employer must be performed within the Renewal Community. Any services that are performed outside of the Renewal Community's geographic boundaries would not count under this test.
Can an employer receive the RC Employment Credit for an employee who lives in one RC and works in another, or lives in an RC and works in an EZ, or visa versa?
No. Wages must be paid to a qualified zone employee to qualify for the credit. To be a "qualified zone employee," the employee must live in the same Renewal Community in which substantially all of the services are performed for the employer. (IRC section 1396(d)(1))
With respect to RC Employment Credits, is the 90-day period calculated based on the calendar, or on days worked?
The 90-day test is based on calendar days, not days worked.
Are tips considered Qualified Wages in order to determine the renewal Community Employment Credit?
No. Wages are defined in IRC section 1397 by reference to IRC section 51, which in turn defines them by reference to IRC section 3306(b). Because tips are counted as wages under IRC section 3306(s), not IRC section 3306(b), tips do not count as wages for figuring the Renewal Community employment credit.
If the tax year for a business is other than the calendar year, when would the business claim the RC wage credits? For example, if the business's fiscal year runs from October 1, 2001 through September 30, 2002, should it claim all October-December 2001 credits in its 2001 tax return and then claim the January-September 2002 credits in its 2002 tax return?
The credit is based on the qualified wages paid or incurred during the CALENDAR YEAR that ENDS DURING the taxpayer's FISCAL YEAR.
EXAMPLE: for a taxpayer with a fiscal year ending on September 30, the credit for CALENDAR YEAR 2002 wages is claimed on Form 8844 for the FISCAL YEAR that begins October 1, 2002 and ends on September 30, 2003. That's because December 31, 2002 falls with in the fiscal year ending September 2003.
Therefore, for the wages paid or incurred from January 1-December 31, 2001 (RC employment credit only), the credit would be claimed on the return for the fiscal year that begins on October 1, 2002, and ends on September 30, 2002. For the wages paid or incurred from January 1-December 31, 2002, the credit would be claimed on the return for the fiscal year that begins on October 1, 2002 and ends on September 30, 2003. Therefore, even thought he taxpayer's DEDUCTION is for fiscal year wages, the CREDIT is for calendar year wages.
Can a building construction site in a RC qualify for RC employment credits?
The RC employment credit is available for any employee that performs substantially all of its services during the period in the RC and also lives in the RC. The IRS has interpreted the language "the period" to include pay periods. So if an employee is working at a construction site for substantially all of specified pay periods, the wages paid during those pay periods would be qualified wages eligible for the 15% credit up to $10,000 per year in wages. The employee must live in the RC that same time period.
Are the employers and employees that use the RC tax incentives required to be residents of the United States?
For purposes of figuring the RC credits and deductions, neither the owner not the employees are required to be US citizens.
With regard to the RC employment credits, what does "substantially all" mean in regards to services performed? How does a company determine if an employee meets this test?
Although there is no published guidance on this question that specifically relates to the RC employment credit, the IRS recently ruled that "substantially all" means "80% or more" as it relates to identical statutory language regarding services performed by New York Liberty Zone business employees for purposes of the work opportunity credit. So, in the absence of any other guidance, it would not be unreasonable to apply that same percentage for the purposes of the RC employment credit.
Could a tax-exempt organization take advantage of the RC employment credits?
"Tax-exempt organizations (other than farmers' cooperatives) are not eligible to claim the RC employment credit."
What if a sister of the employer works at a company that wishes to use the RC employment credits-if she is married and files her taxes separately from the employer, will she qualify under the employment credit rules?
No. Under IRC section 152(a)(3), wages paid to brothers, sisters, stepbrothers, and stepsisters of the taxpayer are not qualifying wages for purposes of the RC employment credit. Other subsections of section 152 prohibit the credit for any wages paid to sons, daughters, stepsons, stepdaughters, a father or mother (or an ancestor of either) a stepfather or stepmother, aunts, uncles, nieces, nephews, and various in-laws.
The RC wage credits indicate the employee must live in the RC. How, then, would an RC use these credits when providing employment for a homeless individual?
There seems to be no definition in the IRS Code, committee reports, or other published IRS guidance defining "principal place of abode" of the employee, which must be located in the RC. The employer is responsible for proving that the employee's principal place of abode was within the zone during the period of services were performed for the employer. Presumably, this is the address that the employee would have entered on Form W-4 upon starting work. There seems to be no reason why a homeless shelter could not be considered a "principal place of abode." This is a compliance matter and should only be raised (if at all) during an audit of the employer's tax return
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CRD
Are there any incentives for commercial building investment in an RC?
In 2000, Congress created a new "commercial revitalization deduction" (CR Deduction) that is intended to increase economic development in RCs. The incentive is a deduction from income before calculating Federal income tax liability, and provides a way to deduct costs on an accelerated basis
Are there limits on the deduction?
The amount of the deduction is subject to a State limitation of up to $12 million of "commercial revitalization expenditures" (CREs) for each RC located within a State for each calendar year after 2001 and before 2010. In addition, the CREs for a particular building cannot exceed the actual qualifying costs and there is an overall limit per building of $10 million.
Is the CR Deduction available only for new construction?
The deduction is calculated on the basis of qualifying CREs. CREs include the depreciable costs of a new building or the costs associated with an existing building that is substantially rehabilitated. Substantial rehabilitation means that, within a 24-month period, rehabilitation expenditures exceed the greater of the adjusted basis of the building (and its structural components) or $5,000. For purposes of determining whether a building has been substantially rehabilitated, rehabilitation expenditures do not include enlarging a building. If the substantial rehabilitation test is met (without taking into account the costs of expansion), the cost of expanding the building could qualify as a CRE.
To what extent do building acquisition costs qualify for the CR Deduction?
A taxpayer can include the cost of the building acquisition in taking a CR Deduction, but only to the extent that the acquisition cost does not exceed 30 percent of the aggregate qualifying CREs (determined without regard to the acquisition cost). For example, if the building cost $500,000 to acquire and renovations eligible for CREs were $1 million, up to $300,000 of the acquisition cost could qualify as a CRE.
Could an investor obtain special tax advantages for land speculation in an RC?
The CR Deduction is permitted only for the cost of acquiring a building and rehabilitating it, not for land costs. Acquisition of land for speculation would not qualify.
Is the CR Deduction available for residential rental property?
The building must be used for commercial purposes, so a residential rental property would not qualify. However, if a developer were to provide commercial facilities at or near the residential rental property, these expenditures might be eligible, assuming the commercial development is located in an RC.
Who will make the allocation of the CR Deduction?
This incentive requires that each State identify an entity to act as the community revitalization agency (CRA). The CRA will develop the procedures for allocating the $12 million in CR Deductions permitted for each RC.
How can a developer determine if a particular project might be competitive for obtaining the CR Deduction?
The CRA must develop a plan for allocating the CR Deduction and must submit the plan to a public hearing. The plan must then be approved by the governmental unit of which the RC is a part. The Federal statute provides guidelines for the qualified allocation plan, requiring the CRA to take into account full-time jobs created by the project, active community involvement and contribution to the implementation of the Strategic Plan of the RC. The developer of a potential project should obtain a copy of the plan to determine the priorities of the CRA where the project might be located.
What is the accelerated period for the CR Deduction?
The taxpayer may elect one of two permitted accelerated deduction methods. A taxpayer can elect either to (a) deduct one-half of the CREs for the taxable year the building is placed in service or (b) amortize all the CREs ratably over a 120-month period beginning the month the building is placed in service. The method selected will depend on a taxpayer's particular tax Commercial Revitalization Deduction situation. This special deduction provision would be in lieu of depreciating the property over a period up to 39 years.
What if the building was purchased and renovated prior to RC designation?
The CR Deduction is available only to buildings placed in service after the RC designation and before January 1, 2010. If the building was purchased before RC designation, but the renovation was not completed until after RC designation, the renovation expenditures would be treated as a separate building for purposes of determining when it was placed in service and could qualify for the CR Deduction on that basis.
What other tax consequences arise from using the CR Deduction?
No depreciation is allowed for amounts deducted as CR Deduction. The adjusted basis of the building is reduced by the amount of the CR Deduction, and the deduction is treated as a depreciation deduction in applying the depreciation recapture rules.
Does a CR Deduction affect Alternative Minimum Tax (AMT) liability?
The CR Deduction is allowed as a deduction in computing a taxpayer's AMT income.
Do the passive loss limitation rules apply to the CR Deduction?
The CR Deduction is treated in the same manner as the Low-Income Housing Tax Credit in applying the passive loss rules. That means that an individual taxpayer can have up to $25,000 of passive activity deductions (the CR Deduction together with the other deductions and credits not subject to the passive loss limitation), regardless of the taxpayer's adjusted gross income. Corporations are not subject to the $25,000 passive loss limitation.
Is the depreciation in the CRD based on straight-line accounting?
Yes. The deduction is allowed ratably over a 120-month period.
Can a business in the RC take both the CRD and the general credits available for the rehabilitation of historic buildings?
Yes. However, the expenditures used to figure the rehabilitation credit may not also be used to figure the CRD. (IRC section 1400I(b)(2)(B)(ii)).
If a business has a net operating loss as a result of using this deduction, is it treated in the same manner as a net operating loss under the current tax code?
Yes
What is the earliest date by which a CRD allocation can be made?
The CRD allocation can be made at any time, starting in 2002, provided it is made under a qualified allocation plan that has been approved by the governmental unit of which the Commercial Revitalization Agency (CRA) is a part. The CRA must also notify the CEO of the local jurisdiction in which the building is located of the allocation and give that individual a reasonable opportunity to comment on the allocation.
If the allocation is made in calendar year 2002, IRC section 42(h)(1) requires that:
(a) The building is placed in service by December 31, 2002, OR
(b) The building is placed in service no later than December 2004, AND the taxpayer's basis in the project in which the building is a part (as of 6 months after the date the allocation was mad or, if later, December 31, 2002) is at least 10% of the taxpayer's reasonably expected basis in the project (as of the end of 2004). However, if it is determined that the building may not meet either the deadline, IRC section 42(h)(1) (C) allows the CRA to make a "binding commitment" to allocate a specified dollar amount to the building in a specified later tax year. The binding commitment must constitute a binding contract under local law and be signed by both parties. If the binding commitment is made, the building does not have to be placed in service until the end of the specified later tax year (which cannot be later than 2009). Please note that a binding commitment is NOT considered an allocation for the current year and does not reduce the state commercial revitalization expenditure ceiling until the specified later tax year in which it is actually allocated. So you cannot reduce the 2002 state ceiling for a binding commitment made in 2002.
In a mixed-use project (<80% of gross rental income from dwelling units) that is CRD eligible, are all capital expenses eligible or only the expenses from construction or rehabilitation of the commercial component of the property?
The same rules that apply to exclusively commercial buildings also apply to "mixed-use" buildings (assuming less than 80% of the gross rent is from dwelling units). Both types of buildings are considered nonresidential real property and therefore no allocation is made between the residential portion and the commercial portion.
But please note that not all capital expenditures are eligible for the deduction---the expenditures described in section 1400I(b)(2)(B) (relating to part of the acquisition cost of a rehabilitated building and expenditures used to compute any tax credit) cannot be included as qualified revitalization expenditures.
Can the CRD apply to construction that started before January 1, 2002?
Yes, provided an allocation was made to the building not later than December 31 of the calendar year the building was placed in service.
If a State finishes appointing a Community Revitalization Agency and receiving public approval of the CRD allocation plan during the 2nd half of a calendar year, can it still make CRD allocations available retroactively to a business that purchased or rehabilitated qualified Renewal Community (RC) property earlier in the year?
Yes
Are CRD allocations made only after projects are placed into service so that actual costs are used, or are allocations based on estimated costs? If proposed projects are used, how will any discrepancies between actual qualifying expenses versus estimated qualifying expenses be reconciled?
The statute does not require allocations to be based on either actual or estimated costs. All allocations must be made pursuant to a qualified allocation plan approved by the governmental unit of which the agency is a part. The governmental unit may approve the plan only after a public hearing has been held following reasonable public notice.
If the commercial revitalization agency for the state allocates, for example, $8M of an available $12M to one project, does the entire $8M count against the total available allocation of $12M for that year, regardless of the deduction method used by the business (50% in 1st year or 10% over 10 years)? Also, would the amount of allocation for the RC the next year be impacted by the amount and deduction method (i.e. 50%, 10%) used by the business in the RC the previous year?
The entire $8 million counts against the $12 million available allocation. The amount or method chosen by the business to claim the CRD has no effect on the amount of the allocation for any year
The CRD states that a company can exercise one of two options for taking accelerated deductions, (1) a 50% write off, or (2) a 100% write off of "all of its investment over a 10 year period". Is the stipulation under (2) limited to the $10.0 million per project cap, or if a company had an expense of, for example, $38 million, could it write off (depreciate) this entire amount over a 10-year period?
No. Under either method, the company cannot take accelerated deductions in excess of the expenditure amount allocated to the building by the CRA (or $10 million, if less). The remaining expenditures must be capitalized and depreciated under the applicable MACRS recovery period (generally 39 years).
If an RC is not able to award the total of 12 million in any given year, is there a carry forward provision to the next year?
No
How does the CRD apply to mixed-use buildings? What is the amount of residential space that is allowed? Are there any other limits on the mix of uses?
The CRD applies to any nonresidential real property. Nonresidential real property is any real property other than (a) residential rental property or (b) property with a class life of less than 27.5 years. Residential rental property is a building or structure for which at least 80% of the gross rental income is rental income from dwelling units. Therefore, if less than 80% of a building's gross rental income is rental income from dwelling units, the building would qualify for the CRD
Part of the qualified allocation plan requires the RC to have a monitoring piece in place. What level of monitoring will be required by the state commercial revitalization agency?
The qualified allocation plan is required to provide the procedures that the agency will use in monitoring compliance. There is no statutorily mandated "level" of monitoring.
What forms are required to claim the Commercial Revitalization Deduction?
- If the 50% deduction is claimed, it will be claimed under "other deductions" or "other expenses" on the taxpayer's income tax return or business schedule (e.g., Schedule C).
- If amortization over a 120-month period is claimed, the deduction is claimed on line 42 of Form 4562 (for the first tax year) and also on the "other deductions" or "other expenses" line of the taxpayer's income tax return or business schedule.
- For partners and S corporation shareholders, the deduction will be included in the net income or loss claimed in Part II of Schedule E (Form 1040).
- Form 8582 must also be used to claim the special $25,000 allowance if the CRD is from a passive rental real estate activity. The $25,000 allowance for the CRD applies to all taxpayers regardless of their AGI.
If a business has a net operating loss as a result of using this deduction, is it treated in the same manner as a net operating loss under the current tax code?
Yes.
Does the tax code require RC states to adopt the CRD (and other RC incentives) for state tax purposes -- so that when a business determines their federal taxable basis with use of RC deductions - that taxable basis is carried over to the state tax return? (This doesn't pertain to the state process for allocating credits - rather a state's recognition of federal tax incentives for the state's taxable basis.)
No. No provision of the Internal Revenue Code requires any state to follow Federal income tax law for state purposes.
What factors should a state consider in determining the recipients of the CRD and the amount per recipient?
The qualified allocation plan must set forth such criteria that are appropriate to local conditions. Specifically, the plan must consider:
- The degree to which a project contributes to the implementation of a strategic plan that is devised for a Renewal Community through a citizen participation process,
- The amount of any increase in permanent, full-time employment by reason of any project, and
- The active involvement of residents and nonprofit groups within the Renewal Community.
If an allocation is made for a project that is never put into service, can the RC reallocate unused incentives?
No provision in the Internal Revenue Code allows a reallocation of unused CRDs. Therefore, the allocation would be lost forever.
What should the CRA give to businesses that receive a CRD allocation? Is there a required form or letter from the CRA to substantiate the allocation?
No specific form is available or under development to inform the taxpayer of an allocation. A letter or other notice signed by an authorized CRA official reporting the date and dollar amount of the allocation, the address of the building, and the name and address of the owner of the building would be a valid allocation as of the date it is mailed to the building owner.
In a mixed-use project (<80% of gross rental income from dwelling units) that is CRD eligible, are all capital expenses eligible or only the expenses from construction or rehabilitation of the commercial component of the property?
The same rules that apply to exclusively commercial buildings also apply to "mixed-use" buildings (assuming less than 80% of the gross rent is from dwelling units). Both types of buildings are considered nonresidential real property and therefore no allocation is made between the residential portion and the commercial portion.
But please note that not all capital expenditures are eligible for the deduction --- the expenditures described in section 1400I(b)(2)(B) (relating to part of the acquisition cost of a rehabilitated building and expenditures used to compute any tax credit) cannot be included as qualified revitalization expenditures.
More helpful information regarding the CRD:
The CRD allocation plan is the responsibility of the commercial revitalization agency (CRA) and it must be approved by the governmental unit of which the agency is a part. It does not need to be approved by the IRS. There is nothing in the statute that requires the CRA to track deductions. Regarding noncompliance, that issue is unique to the low-income housing credit. It is not a CRD issue. The CRD can only be claimed by the taxpayer who places the building in service and depreciates the building. The owner is the taxpayer who claims the depreciation, not the leaser. The plan can be as complicated or simple as the CRA decides it should be, as long as it takes into account the statutory requirements in IRC section 1400I(e)(2).
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0% Capital Gains
Is there any special capital gain treatment for property in a RC?
The capital gain on certain assets is eligible for 0-percent capital gains rate in all RCs.
What assets are eligible for 0-percent capital gains in RCs Zone?
The 0-percent capital gains rate applies to gain from the sale an RC asset acquired after December 31, 2001, and before January 1, 2010. Qualifying assets include (1) stock in a domestic company acquired by the taxpayer at its original issue from the corporation solely in exchange for cash, (2) any capital or profits interest in a domestic partnership if the interest was acquired by the taxpayer from the partnership solely in exchange for cash, and (3) tangible business property acquired by the taxpayer by purchase, in which either the original use of the property in an RC commences with the taxpayer or the taxpayer substantially improves the property. In the case of stock or partnership interests and ownership of the tangible business property, the business must be a Renewal Community Business when the stock, interest, or property is acquired (or be formed with the purpose of being a Renewal Community Business) and must remain a Renewal Community Business or substantially all of the holding period.
If the asset was purchased before an area receives an RC Zone designation does the 0-percent capital gains rate apply?
No. The asset must be purchased after designation. If additional stock or partnership interests of an entity are purchased at original issuance after the RC Zone designation, these additional interests might qualify.
What if a taxpayer purchased a RC asset, such as an existing building, from the taxpayer's parents?
The 0-percent capital gains rate is not available for transactions between related parties. "Related persons" include sons, daughters, parents, stepchildren, stepmothers, stepfathers, in-laws, and other persons treated as dependents under the tax code. Similar restrictions apply to sales to majority shareholders or partners of the business.
What if a business ceases to meet the definition Renewal Community Business?
The business must meet the requirements for substantially all of the 5-year holding period. "Substantially all" generally means 85 percent of the period. If the business ceases to meet the test after the 5-year holding period, the 0-percent rate applies, but only to the extent of the gain to the date the business failed to meet the requirements.
How long must the asset be held?
The minimum holding period is 5 year.
If the asset is sold before the end of the 5-year period, can the 0-percent gain feature be preserved for the subsequent holder?
A subsequent purchaser of an asset that otherwise qualifies for 0-percent capital gain treatment is eligible for the incentive. The original purchaser would not be able to exclude any gain attributable to the period the asset was held, however, because the asset was not held by that original purchaser for the minimum period.
What if the asset is held beyond the RC designation period?
The 0-percent rate applies only to gain attributable to the period after December 31, 2001, and before January 1, 2015, in the case of an RC asset. The taxpayer is not required to sell the asset in 2015 (for an RC asset), but must determine and substantiate the gain attributable to that period and may apply the 0-percent rate to that amount.
What if the stock or partnership interest is redeemed before the end of the minimum holding period?
The asset would not be eligible for the 0-percent capital gains rate.
The 0% capital gains benefit is available to "Renewal Community businesses". What happens if, during the 5-year period that the asset must be held, the status of the business changes? For example, a business buys a building 1/1/2002 and meets the RC Business definition during 2002, 2003, 2001, but doesn't meet the definition in 2005 and 2006. The business sells the property in 2007 after holding it five years. Does the business still get the 0% capital gains tax rate on the profits?
No. To qualify for the capital gain exclusion, substantially all of the use of the property during substantially all of the taxpayer's holding period must have been in a Renewal Community business. Although "substantially all" is not defined in the Code for this purpose, it seems clear that qualifying as an RC business for only 3 of 5 years would not be considered "substantially all" of the taxpayer's holding period.
What about a scenario where the business meets the criteria for a RC business in 2002 and '03, doesn't meet it in'04, but regains the status for '05 and '06, as sell in '07 while it still meets the criteria. Does the business get the 0% capital gains tax rate on the profits?
To qualify for the capital gain exclusion, substantially all of the use of the property during substantially all of the taxpayer's holding period must have been in a RC business. Because "substantially all" is not defined in the Code for this purpose, it is unclear if qualifying as an RC business in 4 of 5 years would be considered "substantially all" of the taxpayer's holding period.
To qualify for the 0% capital gains rate, what percentage of business's gross income must come from the active conduct of business within the RC, is it 50%?
For RC businesses, at least 50% of gross income must come from the active conduct of the business within the RC. That does not mean that the customers or products of the business must come from the RC; it must that the business must perform its business in the RC. For the purposes of determining what is gross income, this income would be the same figure that a business would use for other federal tax purposes.
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Increased 179 Deductions
What assistance is available to businesses located in a RC for equipment purchases?
The tax code allows a Renewal Community Business to take an additional expense deduction of up to $20,000 per year (increasing to $35,000 after December 31, 2001) on purchases of tangible personal property (equipment) for use in a RC.
What is the benefit of additional expensing?
Expensing permits a business to take a deduction for the full cost of equipment in the year it is purchased. In addition, this write-off of costs means that a business does not have to set up a tax depreciation schedule and deduct the expense over time. Expensing is particularly helpful for equipment with a long recovery period.
Are some businesses ineligible for this incentive?
Certain business activities do not qualify, such as residential rental activity; commercial real estate, unless at least 50 percent of the gross rental income is from Renewal Community Businesses; rental of personal property, such as car rental agencies, unless at least 50 percent of the rentals are to Renewal Community Businesses, or to RC residents; businesses that predominantly hold or develop intangibles for sale or license; country clubs; liquor stores; golf courses; racetracks; or gambling facilities.
What type of property qualifies?
The additional expensing allowance is available only for a Qualified Renewal Property (QRP), defined as the following:
- Eighty-five percent of the use of the property must be in the active conduct of a Renewal Community Business by a taxpayer in a RC.
- The taxpayer acquired the property by purchase after the date of a RC designation.
- Original use of the property in a RC commences with the taxpayer (that is, the taxpayer is the first person to use the property inside a RC), or the taxpayer meets the substantial renovation rule. Property is substantially renovated if, during any 24-month period beginning after RC designation, there are additions to the basis of the property equal to either 100 percent of the adjusted basis of the property or $5,000, whichever is greater.
How do the expensing phase-out limits work?
The general tax rule is that for each $1 of Section 179 property greater than $200,000 placed in service in a tax year, the expensing allowance is reduced by $1. However, for each $1 of QRP greater than $200,000 in a tax year, the expensed amount is reduced by 50¢.
How does a business file for this incentive?
The additional expensing amount is recorded on IRS Form 4562. This form has a special line, along with instructions, for QRP. A business should consult with its tax advisor.
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Qualified Zone Academy Bonds
What schools can qualify?
A Qualified Zone Academy must be a public elementary or secondary school located in either an EZ or an EC, or the school must have a reasonable expectation when the bonds are issued that at least 35 percent of the school's students (or Qualified Zone Academy participants) will be eligible for free or reduced-cost lunches. The Qualified Zone Academy must receive an allocation of the State's QZAB limit from the SEA. The academy must have a comprehensive education plan approved by its local education agency (LEA).
How does a business benefit from lending money to public schools?
If the loan is structured as a QZAB, the interest on the bond is paid by the Federal Government in the form of an annual tax credit to the lender. This tax credit is available only to banks, insurance companies, and companies in the business of lending money. The credit rate is generally equivalent to the market taxable interest rate. The bond is not a tax-exempt bond. The interest QZAB credit is treated as taxable income but is also a credit against Federal tax liability.
What contributions can a business make to a school to qualify the school for QZAB financing?
Before a QZAB can be issued, the school must obtain written commitments from private entities for qualified contributions with a present value (as of the bond issue date) of not less than 10 percent of the proceeds of the bond issue. Qualifying contributions include:
Equipment for use in a Qualified Zone Academy. Technical assistance in developing curricula or in training teachers to promote appropriate market-driven technology in the classroom at a Qualified Zone Academy.
Employee services as volunteer mentors in a Qualified Zone Academy. Internships, field trips, or other educational opportunities for students outside a Qualified Zone Academy.
What can the school finance with the proceeds of the QZAB?
The proceeds from the bond issue are to be used to rehabilitate or repair facilities at Qualified Zone Academies, obtain equipment, develop course materials, or train teachers and other school personnel. Proceeds cannot be used for new construction.
Are there any other tax benefits to participating private entities?
The contributions to the school from the business would be treated (for Federal tax purposes) like any other charitable deductions to a State or local government.
Who issues the bond?
The bond must be issued by a State or local government, including the District of Columbia and any possessions of the United States.
How does the school repay a QZAB?
A school would likely repay the QZAB from the school system's general revenues. The entire principal amount could be repaid in a lump sum at maturity to maximize the credit to the holder, or the bond holder can negotiate intermediate principal repayments. If the entire amount is due at maturity, the bondholder may require that the borrower deposit payments of principal in a sinking fund pledged to repayment of principal at maturity.
Is the creditworthiness of the borrower an issue?
The tax laws provide for single interest regardless of the creditworthiness of the school. A purchaser may feel the interest rate is too low for borrowers with a lower credit rating. To reflect this increased risk of not being repaid, the purchaser may reduce the amount borrowed by purchasing the bonds at a discount. This has the effect of increasing the yield on the bond to the purchaser but reduces the amount of proceeds for the project that the borrower receives. For borrowers with better credit ratings, QZAB may be sold at a premium.
Are "charter" schools eligible for these tax credits?
Whether charter schools qualify varies from jurisdiction to jurisdiction. The tax laws require that a Qualified Zone Academy be established by and operated under the supervision of an eligible LEA, that the comprehensive educational plan of the academy be approved by the LEA, and that the students in the academy be subject to the same academic standards and assessments as other students educated by the LEA. Charter schools seeking to use QZAB financing must consult with and obtain the approval of the LEA.
Certain banks, insurance companies, and investment corporations receive tax credits to offset the interest payment of the bond, thus lowering the cost to the borrower. What types of organizations can use these credits, and what criteria are used to determine which companies can participate?
A holder of a QZAB must anticipate that it will have a Federal tax liability that could be offset by the tax credit it receives from the QZAB. Some banks may also be able to obtain Community Reinvestment Act credit for a QZAB. Such a credit would make the QZAB an attractive investment.
Some of the employment tax credit provisions expire on December 31, 2001. Do QZABs have a similar expiration date?
The QZAB provision has a termination date based on when the bonds are issued. QZAB allocations to the States have been extended through 2001. The allocation of a State's QZAB volume cap can be carried forward for up to 2 or 3 years after its termination. For updates on any extensions or increases in QZAB allocations, visit www.ed.gov/inits/construction/technicalqzab.html.
How can QZABs be used to create apprentice-ship programs in schools to develop skills needed by area employers?
Both the contribution requirements and the permitted uses of QZAB proceeds can be used to develop an apprenticeship program at a Qualified Zone Academy. QZAB proceeds can be used to develop curricula and train teachers, and a business can contribute mentorship opportunities and employee time. The employee time could be used to assist the academy in developing curricula related to the background skills (such as math, computers, or drafting) necessary for a particular apprenticeship opportunity. The business can contribute equipment and training materials to be used in the academy to support initial or continuing training. The business can also provide personnel, workspace, and equipment at a worksite to train academy students
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Environmental Cleanup Cost Deduction (Brownfields)
Is there any tax incentive for cleaning up contaminated industrial sites in an RC?
The tax code allows a business to elect to deduct qualified environ-mental cleanup costs in the tax year the business pays or incurs the cost. The deduction enhances the bottom line if a business can take a deduction for the full amount when paid, rather than recovering the amount over time in the form of depreciation deductions.
Does the business have to meet any special requirements, such as being a Renewal Community Business, to take advantage of this incentive?
The ability to expense cleanup expenditures depends on the hazardous substance status of the land and the nature of the expenditures. The business does not have to be a Renewal Community Business to qualify for this deduction or even be located in a RC.
What sites qualify for this incentive?
A site qualifies if it meets all of the following requirements:
- It is held for use in a trade or business, for the production of income, or as inventory.
- There has been a release (or threat of release) of a hazardous substance at or on the site.
Does a business need to obtain a designation from any government official?
The State environmental agency must certify that there has been a release, or a threat of release, of a hazardous substance or substances.
What is meant by hazardous substances?
The tax code generally uses the same definition of hazardous substances as that used in CERCLA. Some additional limitations apply to asbestos and similar substances within buildings, certain naturally occurring substances such as radon, and certain other substances released into drinking water supplies due to deterioration through ordinary use.
What costs qualify for this incentive?
Qualified environmental cleanup costs are generally costs paid or incurred to abate or control a hazardous substance at the site. The costs must be expenditures that would otherwise be chargeable to capital accounts. The incentive is governed by the normal tax rules relating to the deduction or capitalization of expenditures. A business should consult with its tax advisor.
Is there a time limit for deducting these expenditures?
This special tax treatment is generally available for qualified environ-mental cleanup costs paid or incurred after August 5, 1997, and before January 1, 2004. This period may be extended by Federal tax legislation, so a business should consult with its tax advisor or an accountant to be assured that expenditures will qualify.
Are the costs expensed even for purposes of Alternative Minimum Tax (AMT)?
Expensing of these remediation costs applies for both regular taxes and AMT tax liability.
What happens if a business later sells the property?
The deduction may have to be recaptured as ordinary income when property is sold or the owner otherwise disposes of it.
What forms must a business file for this incentive?
There are no separate tax forms for this incentive. The qualified environmental remediation expenditures are included as Other Deductions on a business tax return (or Other Expenses if on an individual tax return) with a notation that these represent a Section 198 Election.
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New Markets Tax Credit
Are there any incentives for persons wishing to invest in commercial enterprises located in economically distressed communities?
In 2000, Congress added a New Markets Tax Credit against Federal tax liability for taxpayers who hold an equity investment in certain CDEs. The CDE, in turn, makes loans to, or investments in, qualifying businesses in low-income communities. The investor in the CDE obtains the tax benefit based on the amount invested in the CDE.
What type of entity qualifies as a CDE?
A CDE is any domestic corporation or partnership for Federal tax purposes:
That has a primary mission serving or providing investment capital for low-income communities or low-income persons.
Maintains accountability to residents of low-income communities through their representation on any governing board or on any advisory board of the CDE.
Is certified by the Treasury Department as an eligible CDE.
In allocating the credits, the Treasury Department will give priority to entities with records of having successfully provided capital or technical assistance to disadvantaged businesses or communities, as well as to entities that intend to invest substantially all of the proceeds from their investors in businesses in which persons unrelated to the CDE hold the majority of the equity interest. A "small business investment company" (as defined in the tax laws) and a "community development financial institution" (as defined in Federal banking laws) are treated as meeting these requirements.
How does an investor get an allocation of the credit?
The investor does not receive the credit directly from the Federal Government. Instead, CDEs that are eligible for the credit will be selected by the U. S. Treasury Department. The Treasury Department can allocate credits to qualified CDEs of $1 billion for 2001, $1.5 billion each year for 2002-2003, $2 billion each year for 2004-2005, and $3.5 billion each year for 2006-2007. The CDE will have up to 5 years to allocate the credit to specific investments. The credit is available when the investor makes an equity contribution to the qualified CDE.
How does an investor determine which CDEs have received an allocation of the credit?
The Treasury Department will publish a list of CDEs designated each year.
How will the CDE use the equity that qualifies for the New Markets Tax Credit?
The CDE must use at least 85 percent of the cash infusion to make a "qualified low-income community investment" (a Qualified Investment). A Qualified Investment includes 1) a capital or equity investment in, or loan to, a "qualified active low-income community business" or a qualified CDE, 2) the purchase of a loan made by another qualified CDE to a qualified active low-income community business, or 3) the provision of financial counseling and other similar services to businesses and residents located in low-income communities. There are no limits on the use of the remaining 15 percent of the equity raised by the CDE.
What is a "qualified active low-income community business" (Qualified Active Business)?
A "qualified active low-income community business" is defined as a corporation, partnership, or sole proprietorship that meets the following tests:
At least 50 percent of its gross income comes from the active conduct of a qualified business within any low-income community.
A "substantial portion" of the use of tangible property of the business (whether owned or leased) must be located within a low-income community.
A substantial portion of employee services must be performed in a low-income community.
No more than 5 percent of the property of the business can be "nonqualified financial property," generally defined as debt, stock, partnership interests, and various financial instruments (other than reasonable amounts of working capital held in cash or short-term debt instruments or accounts receivable arising from sales of inventory).
No more than 5 percent of the property of the business can be works of art or other "collectibles," unless held for sale to customers.
This definition is a modification of the definition of an Enterprise Zone Business (see appendix A). There is no requirement that a specified percentage of employees live in the low-income community, however.
Are there any types of business operations that do not qualify as a Qualified Active Business?
Certain businesses cannot qualify, including residential rental property; a business, whose predominant activity of which is the development or holding of intangibles for sale or license; a golf course, country club, massage parlor, hot tub facility, suntan facility, race track, or a facility used for gambling; or a store, whose principal business is selling alcoholic beverages for consumption off-premises. In addition, as distinguished from the Enterprise Zone Business definition, rental of improved commercial real estate located in a low-income community is a Qualified Active Business regardless of the characteristics of the commercial of the property. The purchase and holding of unimproved real estate is not a Qualified
Active Business. A Qualified Active Business can include a nonprofit organization.
Where must a Qualified Active Business be located?
The tax credit is based on assistance to certain businesses in a low-income community. A low-income community is defined as census tracts with either (1) poverty rates of at least 20 percent (based on the most recent census data), or (2) a median family income that does not exceed 80 percent of the greater of metropolitan area income or statewide median family income (for a non-metropolitan census tract, 80 percent of non-metropolitan statewide median family income). In addition, the Treasury Department may designate any area within any census tract as a low-income community provided that (1) the boundary of the area is continuous, (2) the area (if it were a census tract) would satisfy the poverty rate or median income requirements within the targeted area, and (3) an inadequate access to investment capital exists in the area.
How long must an investor hold the investment?
There is no minimum holding period. The investment is eligible for the credit on the date the investment is made and on six subsequent anniversary dates. The credit is equal to 5 percent of the amount invested for the first three allowance dates, with an increase to 6 percent for the remaining four allowance dates. The investor must hold the investment on the "credit allowance date," which is the date on which the investment is initially made and on each of the six subsequent anniversaries of the date on which the investment is initially made. If the investment is not held on the credit allowance date, the investor is not eligible to take the New Markets Tax Credit.
What if an investor is unable to use the credit in a specific tax year?
The New Markets Tax Credit is a general business tax credit, and can be carried forward 20 years and carried back 1 year (except for tax years ending prior to January 1, 2001
Will an investor be able to sell the investment in the CDE with the credit attached?
The credit is available to subsequent purchasers of the investment. If an initial investor is unable to use the tax credit, the investment can be transferred with the credit available to the subsequent purchaser.
Are there any tax benefits for an owner of a potential Qualified Active Business?
The tax benefit itself does not go to the business. There is no requirement that the CDE pass through the value of the benefit of the tax credit, for example, in the form of a lower interest rate on a loan. The credit merely provides an incentive for creating a source of capital for organizations that have a mission and a proven track record for stimulating economic development in economically depressed areas. The ultimate benefit to the business owner will be access to the new capital infusion in low-income communities.
Is the New Markets Tax Credit subject to recapture like other credits?
The credit is subject to recapture during the 7-year credit period if the entity invested in ceases to be a CDE, the proceeds of the investment are not used to make Qualified Investments, or the investment in the CDE is redeemed by the CDE. The recapture amount is generally based on tax benefit derived from the credit.
Are there any other tax consequences to holding this tax credit investment?
The taxpayer's basis in the investment is generally reduced by the amount of the credit. The credit is subject to the general business credit and passive loss limitation rules. New Markets T x Credit
Can this credit be used to reduce Federal Alternative Minimum, Tax (AMT) liability?
No. The credit cannot be used to reduce the AMT liability of an individual or corporation.
Can an investor contribute property to a CDE to obtain an equity investment that qualifies for the credit?
The credit is available only in cases in which the stock of a corporation, a membership interest of a limited liability company, or capital interest in a partnership is acquired at original issuance for cash. An investment acquired through an underwriter at original issuance would meet this requirement.
How is this credit different from LIHTC?
LIHTC is based on the eligible costs of a residential rental project that sets aside units for low-and moderate-income persons. It cannot be used for commercial projects. An investor receiving the New Markets Tax Credit receives the credit based on its investment in the CDE. Investment by the CDE in residential rental real estate is not a Qualified Investment for purposes of meeting the requirement that 85 percent of the cash be used to acquire Qualified Investments.
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Welfare to Work
Are there any incentives for hiring individuals who have received family assistance payments?
Yes. The tax code gives employers a Welfare to Work (WtW) Credit against Federal taxes for hiring members of families who have been long-term recipients of family assistance (AFDC or TANF payments), or who have ceased to qualify for such assistance because of time limitations imposed by Federal or State laws.
Can a business use this credit for current employees?
No. WtW is an incentive to hire individuals, and the credit is calculated against wages paid only during the first and second years an employee works for an employer. To take advantage of the credit, a business must obtain information from a prospective employee prior to offering him or her a job.
What paperwork is involved?
A business must have the prospective employee fill out IRS Form 8850 prior to making a job offer. The employer also signs that form. In some cases, the prospective employee may bring a pre-certification form to the interview. Form 8850 must be forwarded to the SESA within 21 days of the date the employee starts work. WtW may be taken only for employees who have been certified by the SESA as qualifying for the incentive.
How does a business document that a prospective employee is qualified?
The SESA will verify that an employee is eligible based on information from Form 8850.
What if an employee leaves during the first year of employment?
The credit is available for any person who works at least 400 hours or 180 days for a business. If the minimum is not met, the credit may not be taken with respect to that employee.
What if the employee works part-time?
The credit is available for part-time and full-time employees. The credit is available once the minimum 400-hour/ 180-day test is met.
What is the definition of qualified wages?
Qualified wages are generally wages subject to the Federal Unemployment Tax Act. The credit is calculated against a maximum of $10,000 per year in first-and second-year wages. A business may pay the employee more than $10,000 in either year, but the maximum for purposes of calculating the credit is $10,000. The instructions for IRS Form 5884 provide additional specific information on qualified wages. Wages for this purpose include employer-provided health and accident insurance, educational assistance, and dependent care assistance.
Is there a limit on the number of employees for which a business can take the credit?
An employer can take the maximum $8,500 credit over 2 years (35 percent times $10,000 for the first year plus 50 percent times $10,000 for the second year) for as many new hires as qualify.
| Years Employed |
1 |
2 |
| Maximum Rate |
35% |
50% |
| Qualified Wages |
$10,000 |
$10,000 |
| Maximum Credit |
$3,500 |
$3,500 |
Are there special procedures for taking the tax credit?
The credit is accounted for on IRS Form 8861 and would , be part of a business's tax filing. Form 8850 and certification by the SESA are not filed with the tax return but should be retained by the business to substantiate the credit. 28
Is there a time limit for taking WtW?
WtW is not a permanent provision of the tax code; rather, it is available for individuals who start work by a specified date. A business should check with its tax preparer or visit www.doleta.gov to determine that date. Currently, individuals must start work before January 1, 2004
How does the credit affect the deduction for salaries and wages?
A business must reduce the deduction for salaries and wages by the amount of the credit taken.
Where can a business obtain more information on this incentive?
A business should consult its tax advisor. IRS Publication 954 and IRS Forms 8861 and 8850 describe this incentive. For copies call 1-800-829-3676 or visit www.irs.ustreas.gov. Questions about the certification process should be directed to the SESA.
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Work Opportunity Tax Credit
Are there any incentives for hiring residents of an RC?
Yes. The tax code gives employers a credit (WOTC) against Federal taxes for hiring residents of an RC ages 18 to 24. WOTC also applies to RC residents ages 16 and 17 who are hired for summer work and is available for the hiring of certain other groups identified as having difficulty entering the job market.
Can a business use this credit for current employees?
No. WOTC is an incentive to hire individuals, and the credit is calculated against wages paid only during the first year an employee works for an employer. To take advantage of the credit, the business must obtain information from the employee prior to offering him or her a job.
What paperwork is involved?
A business must have a prospective employee fill out IRS Form 8850 prior to making a job offer. The employer also signs the form. In some cases, the prospective employee may bring a pre-certification form to the interview. Form 8850 must be forwarded to the SESA within 21 days of the date the employee starts work. WOTC may be taken only for employees who have been certified by the SESA as qualifying for the incentive.
How does a business document that an RC resident is qualified?
In most cases, a driver's license will serve to establish the age and address of a prospective employee. The RC can confirm that the address is within designated boundaries, or a business can obtain the information using the RC address locator at www.hud.gov/ezec/ locator. The SESA can provide a business with other ways to establish the age and address when a prospective employee does not have a driver's license.
What if the employee leaves during the first year of employment?
The credit is available for any person who works at least 120 hours for a business. The credit rate is 25 percent of wages paid to an individual who works at least 120 hours. If the employee works at least 400 hours, the credit rate is increased to 40 percent of first-year wages.
What if the employee works part-time?
The credit is available for both part-time and full-time employees. The credit percentage is tied to the total number of hours worked.
What is the definition of qualified wages?
Qualified wages are generally wages subject to the Federal Unemployment Tax Act. The credit is calculated against a maximum of $6,000 in first-year wages or $3,000 in the case of summer youth. A business may pay the employee more than $6,000 in the first year, but the maximum for purposes of calculating the credit is $6,000. The instructions for IRS Form 5884 provide additional specific information on qualified wages.
Is there a limit on the number of employees for which a business can take the credit?
An employer can take the maximum $2,400 credit (40 % of $6,000) for as many new hires as are qualified.
What if the Federal tax liability of the business is less than the total credit amount?
WOTC is one of several business credits and generally is subject to the same rules as other business tax credits. As with other business tax credits, unused WOTC amounts can be carried forward for up to 20 years and carried back 1 year.
Can nonprofit organizations benefit from WOTC?
Tax-exempt organizations, other than certain cooperatives, are ineligible for the credits.
Can a pass-through entity, such as a partnership or S-corporation, use the credit?
WOTC is a general business credit for Federal tax purposes and may be passed through under the rules similar to other business credits.
Is there a time limit for taking WOTC?
WOTC is not a permanent provision of the tax code; rather, it is available for individuals who start work by a specified date. A business should check with its tax preparer or visit www.doleta.gov to determine that date. Currently, individuals must start work before January 1, 2004.
Can both WOTC and Welfare to Work (WtW) credits be claimed for the same employee?
If an employer takes the WtW credit, that individual does not qualify as a member of a WOTC-targeted group. An employer cannot claim both credits with respect to the same individual in any 1 taxable year. The WtW credit may be claimed for the second-year wages of a qualifying individual regardless of whether the employer took WOTC or WtW for the first-year wages.
How does the credit affect the deduction for salaries and wages?
A business must reduce the deduction for salaries and wages by the amount of the credit taken.
Are there special procedures for taking the tax credit?
The credit is accounted for on IRS Form 5884 and would be part of a business's tax filing. Form 8850 and certification by the SESA are not filed with the tax return but should be retained by the business to substantiate the credit.
Where can a business obtain more information on this incentive?
A business should consult its tax advisor. IRS Publication 954 and IRS Forms 5884 and 8850 describe this incentive. For copies call 1-800-829-3676 or visit www.irs.ustreas.gov. Questions about the certification process should be directed to the SESA.
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RC Business
What is a Renewal Community Business?
In general, a Renewal Community Business is a corporation, partnership, or sole proprietorship that, for each taxable year, meets the following tests:
- Except with respect to a sole proprietorship, every trade or business of the entity is actively conducted in a RC (legally separate entities are not aggregated with related entities for these tests).
- At least 50 percent of the total gross income of the entity is derived from the active conduct of business within a RC.
- A substantial portion of the use of the tangible property of the entity (whether owned or leased) is within a RC.
- A substantial portion of the intangible property of the business is used in the active conduct of the business.
- A substantial portion of the services performed for the employer by its employees occur within a RC.
- At least 35 percent of the employees reside in a RC.
- No more than 5 percent of the property is nonqualified financial property (such as debt, stock, and various financial instruments) except for reasonable amounts of working capital held in cash, cash equivalents, or debt instruments with a term of 18 months or less and certain accounts receivable arising from sales of inventory.
- No more than 5 percent of the property is works of art or other collectibles unless held for sale to customers.
How does a business know whether its building is in the RC?
The local EZ, EC, or RC entity can provide businesses with information on its boundaries, or businesses may obtain the information over the Internet at www.hud.gov/offices/cpd/ezec for rural RCs
Are there any types of businesses that cannot be Enterprise Zone Businesses or Renewal Community Businesses?
Yes. The tax laws exclude certain businesses from the definition, including liquor stores, golf courses, racetracks, gambling facilities, country clubs, residential rental properties, businesses that predominantly hold or develop intangibles for sale or license, or businesses that rent personal property, such as car rental agencies (unless at least 50 percent of the rentals are to Renewal Community Businesses or to RC residents). Non-profit organizations are not automatically precluded merely because the activities carried on by the organization are conducted on a nonprofit basis.
Can a high-technology company qualify as a Renewal Community Business?
The answer depends on its operations. The tax law states that no business consisting predominantly of the development or holding of intangibles for sale or license can qualify as a Renewal Community Business.
Can a real estate developer qualify as a Renewal Community Business?
A business that develops and owns commercial real estate can qualify only if at least 50 percent of its gross rental income from real property is from Renewal Community Businesses. The owner is permitted to accept certifications of lessees in determining whether the lessee is an Renewal Community Business. If the project is residential rental property, the business is automatically excluded by statute from the definition of a Renewal Community Business.
Can a real estate professionals qualify as a Renewal Community Business?
Yes, provided the property owned by the real estate professional is not residential rental property and at least 50% of the gross rental income from the lessees is from Renewal Community businesses. Note that property is residential rental property only if at least 80% of the gross rental income from the property is from dwelling units.
Is farming a qualified business for purposes of the Renewal Community Business definition?
Farming is a qualified business only if the sum of the value of the assets owned or leased by the employer for use in the farming business does not exceed $500,000. The definition of farming and the method for calculating the value of the assets are found in the tax laws. An employer should consult its legal advisor on this matter.
How does a business apply the tests if it has several locations?
The tests generally apply to legally separate entities. If a single business entity has locations both within and outside a RC, all of the tests apply to the overall operations. If the various locations are operated by legally separate entities, the tests apply only to that location's operations even if the various legal entities are related for Federal tax purposes. For example, if a national chain store or restaurant set up operations in a RC, the tests would be measured with respect to the RC location store only if that store or restaurant was separately incorporated from other stores or restaurants in the chain.
How does a business calculate the requirement that 35 % of its employees be RC residents?
The tax regulations relating to tax-exempt bonds permit calculation either on a per-employee fraction or an employee actual work-hour fraction. In the per-employee fraction method, the business would compare the number of RC resident employees in a taxable year to the total number of employees during the same taxable year. Employees include persons employed for at least 90 days and who work at least 15 hours per week. The employee actual work-hour fraction seeks to accommodate businesses with full-and part-time workers and compares actual hours worked by RC residents to total employee hours worked in a taxable year. A business must apply the same method consistently over the period of the tax incentive once a method is selected. The same methods of determining whether the 35% test is met may apply for the incentives that require a Renewal Community Business, but the Internal Revenue Service (IRS) has not formally extended the rules.
Are there any waivers for businesses that meet requirements in all other areas but the "35-percent rule" for RC employees?
The 35-percent RC employee requirement is statutory and cannot be waived. There are no tax regulations on whether the averaging provision applies to any of the RC incentives.
Do employees contracted through a temporary agency meet the definition of employee for purposes of the Enterprise Zone Business or Renewal Community Business tests? Do employees who are also relatives meet the definition of employee for this purpose?
The tax laws do not directly address these issues with respect to the Renewal Community Business definition. If the business treats the individuals as employees for other Federal tax purposes, the business presumably could treat them as employees for this purpose.
How does a business know it qualifies as a Renewal Community Business?
There is no formal application or certification process for being a Renewal Community Business. A business must analyze the requirements in light of its own operations and use the same standards it applies for taking any position on its Federal tax return. This requires a legal determination, so a business should consult a tax attorney or its tax preparer. The business should retain documents that establish that it is a Renewal Community Business, such as statements that an employee is a RC resident, in case of an audit by the IRS
Can a bank, located in an RC with more than 35% of its employees being in the RC and doing more than 50% of its business in the RC, meet the definition of an RC business? This question arises since the provision stating that less than 5% of the aggregate adjusted bases of the property of the business be attributable to "non qualified financial property" is unclear. What type of business is this provision referring to?
No, unless less than 5% of the bank's aggregate unadjusted bases are attributable to nonqualified financial property. Nonqualified financial property includes debt and other similar property (other than accounts or notes receivable from sales or services). There is no explanation in the Congressional Committee Reports as to the types of businesses targeted by this provision.
In what manner can national or international conglomerates participate in this program if they have a plant or plants located in the RC?
To qualify as a Renewal Community business, a large business can set up a separate legal entity (e.g., a subsidiary or partnership). Activities of legally separate (even if related) parties are not aggregated for purposes of determining whether an entity qualifies as a Renewal Community business. (P.L. 103-66, House Committee Report)
Do you count family members as employees in determining if the business is considered a Renewal Community Business? For example, if a business located in the Renewal Community has ten employees, four of whom are family members who live in the RC, how many employees need to live in the RC in order to be considered a Renewal Community Business? Would it be 35% of 10 or 35% of 6 employees?
Yes, the employees who are also family members count for purpose of the 35% test. So, in the example, you would base the test on 10 employees
If the answer is a fraction, do you round up or down to determine the correct number of employees?
You would not round at all. At least 35% of the employees must be residents of a RC. For any percentage less than 35%, the employer would fall below the 35% threshold and would fail to meet the test.
Based on the 1990 Census Tract Data, one major employer's address is located in the RC. The firm has several adjacent buildings connected by pedestrian walkways that are physically located outside the RC, simply by the demarcation lines of the census tract. If all the connected buildings have one central address, however, that is located in the RC, Can all the buildings be considered to be inside the RC?
Under IRC section 1397C(f), if a business uses real property located both within and outside an RC, and the amount of the real property located within the RC is "substantial" when compared to amount of the real property located outside the RC and contiguous to the real property within the RC, the contiguous property is treated as being within the RC. However, this rule applies only for purpose of defining a "Renewal Community Business." For any other purpose, the taxpayer can get an answer by submitting a private letter ruling request to the IRS.
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