Washington's latest stab at tax policy, the Job Creation and Worker Assistance Act of 2002, didn't generate much media fanfare when enacted March 9. That's probably because it sports nothing as sexy as those refund checks that last year's tax legislation delivered.

So it's not surprising that many advisors haven't keyed in on the relevant changes, some of which apply retroactively and may require amending 2001 returns or preparing extended returns under the new rules. There's the usual to grumble about in a tax bill, of course: a hodge-podge of important dates that must have been chosen by throwing darts, screwball transition rules, the standard Beltway pork, crumbs for a few deserving, and technical corrections to previous acts-Congress' way of saying, "Uh, we wrote it wrong the first time."

Yet JCWAA, legislated with the twin goals of stimulating the economy and retooling terrorist-battered New York, has some in financial services drooling over the new Simplified Employee Pension (SEP) rules. Moreover, because the bulk of the provisions aid businesses and their owners, financial advisors-whether proprietors, partners or shareholders-can benefit handsomely. But don't get so excited about your winnings that you forget to help clients prosper from the changes.

Three provisions targeted at workers demand immediate attention for select client groups. First, in the year a participant turns 50, "catch-up contributions" to individual retirement accounts and qualified retirement plans (now permitted for taxpayers 50 and over, courtesy of the 2001 tax act) may start at the beginning of the year, There's no need to wait until actually celebrating the Big Five-Oh, says Mark Luscombe, a tax analyst at CCH Inc., a Riverwoods, Ill., tax-information provider. Advisors, therefore, can manage money sooner. Second, for victims of the alternative minimum tax (AMT), the act extends the use of certain nonrefundable personal credits, most notably the dependent-care and education credits, against AMT for 2002 and 2003. Under prior law, these credits reduced the AMT in 2001 but not later. Therefore, tax plans formulated for this year and next that do not contemplate these AMT offsets must be revisited.

For kindergarten through 12th grade educators, there's a new above-the-line deduction (meaning the client doesn't have to itemize to take it) that weighs in somewhere between thin and downright skinny. Available in 2002 and 2003 for teachers, principals, counselors and aides working at least 900 hours during the academic year in a public or private school, the deduction is for unreimbursed costs of books, supplies, software, computer equipment and supplementary materials used in the classroom. (Supplies for courses in health or physical education must be related to athletics.) The skimpy part is the deduction's $250 limit, which, when multiplied by the typical teacher's tax bracket, casts the carve-out as Washington's window dressing du jour and not substantive savings for America's front-line educators. Further, the deduction may be limited for clients taking tax-free withdrawals from Section 529 plans or Coverdell education savings accounts, or who exclude from income U.S. savings bond interest that paid qualified higher-education expenses. Nevertheless, advisors should instruct clients in education to document expenses incurred last spring and to start saving receipts when they head back to school.

Breaks For Business Owners

The big news in small-business retirement plans is SEPs, which have had their contribution limit changed to conform with those of other defined contribution plans: 25% of compensation or $40,000, whichever is lower. Before the act, SEPs lagged with a 15% max. "By eliminating the difference between the contribution maximum for Keoghs and SEPs, the plans are on the same playing field and are a lot easier for the small-business owner to compare," says Robert Corcoran, vice-president for retirement services at Fidelity Investments.

Both SEPs and Keogh profit-sharing plans give the business owner flexibility to forego contributions in a down year, but the typical Keogh must annually file Form 5500 with the Department of Labor. A SEP generally need not, Corcoran says. "That's important because a lot of businesspeople get intimidated by the notion of having to fill out that complicated form," he says. In fact, SEPs have become hugely popular despite Keoghs' historic advantage of higher contribution limits, which effectively let the owner stash more for retirement. Now entrepreneurs don't have to choose between saving a headache or saving money. "We're getting the message out to our customers that now is a good time to take another look at SEPs," Corcoran says.

Owners hit the jackpot with the act's "bonus" depreciation allowance, which allows 30% of the cost of a new asset to be deducted in the year it's placed in service in addition to regular first-year depreciation and any Section 179 expensing that's elected. The new rule applies to acquisitions after September 10, 2001, in tax years ending after that date (so some fiscal-year filers are affected). But you can't take the bonus for assets acquired pursuant to a binding, written contract in existence before September 11, 2001, says Minneapolis CPA Barry Divine, a shareholder at Divine, Scherzer & Brody. Whether an enforceable contract exists depends on state law, according to Divine, so carefully examine your jurisdiction's rules. "Sometimes people think they have a binding contract when in fact they don't," he says.

To qualify for bonus depreciation, an asset generally must be: 1) acquired by September 10, 2004, 2) placed in service by December 31, 2004, 3) depreciable over 20 years or less (which disqualifies most real estate investments), and 4) originally used by you. Although used property doesn't qualify for the write-off, costs incurred by the taxpayer to recondition or rebuild a used asset does, Divine notes. Bonus depreciation's best feature may be that it is deductible even under AMT.

To accommodate the 30% allowance, the cap on first-year depreciation for vehicles weighing 6,000 pounds or less has been raised to $7,660, up from $3,060 under old law, says David M. Spitzberg, a CPA in Jenkintown, Pa. Autos used 50% or less for business are not eligible for the new maximum or bonus depreciation, Spitzberg says.

A boon is that the bonus can be taken on interior leasehold improvements to business property, which are normally depreciated over one of the tax code's longest recovery periods. "This is a very nice opportunity to upgrade warehousing, office or factory space," says Mark Sellner, managing principal of tax services at Larson, Allen, Weishair & Co., a Minneapolis-based accounting firm. The deduction is available for both tenants and landlords (whoever incurs the cost), but don't tarry, given the placed-in-service deadline. Sellner recently met with a client who has begun a buildout expected to take about two years. "We said to him, 'If you take occupancy on January 1, 2005, you won't get the bonus depreciation,' so even in summer 2002, that is influencing his timetable for the buildout," Sellner says. Other requirements: The improvement must be occupied exclusively by the tenant, and it must be placed in service more than three years after the building originally was. There's no 30% write-off for enlarging a building or installing an elevator or escalator.

With Congress keen to staunch the business investment bust that continues to hamstring the economy, bonus depreciation is mandatory, forcing taxpayers who want to skip it to elect out (by asset class). Because JCWAA was legislated after many 2001 returns had been filed, the Internal Revenue Service has issued a loopy transition rule. Returns filed before June 1, 2002, that neither elected out of nor deducted bonus depreciation are deemed to have elected out, says Barbara Weltman, an attorney and author in Millwood, N.Y. She adds these returns can be amended to take the special write-off. For 2001 returns filed in June 2002 or later to be compliant, you must either take the special depreciation (using the revised version of Form 4562 that the IRS issued in March) or affirmatively opt out by attaching a statement, Weltman says. See new IRS Publication 3991 for details.

Divine notes that not all states have adopted bonus depreciation. Therefore, you can't automatically assume state tax savings when planning purchases.


A provision regarding net operating losses (NOLs) sustained in tax years ending in 2001 or 2002 makes it easier to recoup prior-year taxes paid-pumping the economy with spendable cash, goes lawmakers' thinking. These NOLs are now carried back five years (generally two years under old law) by corporations and individuals and can be used to offset any AMT that was previously paid. Although the longer carryback period is now the default, taxpayers do have options, according to Spitzberg. "You can elect to go two years back and forego the five-year carryback, or you can elect to forego carryback entirely and just carry forward," Spitzberg says.

If you previously chose only to carry forward and would now like to carry back the five years, or you went back two and now wish to go five, you have until October 31, 2002, to act. The May 2002, revision to the instructions for Form 1045 explains how to properly make elections. Clients who utilized the old carryback period and don't wish to change need do nothing, Spitzberg says.

Whether JCWAA (which also extended federal unemployment benefits for 13 weeks) will lead America to prosperity remains to be seen. But one thing is certain: The swelling AMT tide that is touching evermore taxpayers has caught Washington's attention. As you may know (see "Check AMT Exposure of Municipal Bonds," December 2001 Financial Advisor), interest earned on a genre of munis called private-activity bonds is subject to alternative tax.

However, an obscure provision of the recent act specifically exempts from AMT the interest on New York Liberty Bonds issued to recrown Manhattan, even though they are private-activity bonds. "Congress is sending a clear message: We need private investment to help rebuild New York, and we don't want there to be an AMT disincentive," Sellner says.

Nor did the politicos desire that the AMT quash the theoretically stimulative effects of bonus depreciation and extended NOL carrybacks. "When they start exempting things from alternative minimum tax," Sellner says, "it's really an explicit acknowledgement by Congress that too many people are getting hooked by it." The upshot may be that there's more AMT relief to come.