President Bush Signs Jobs and Growth Tax Relief Reconciliation Act of 2003

On May 28, 2003, President Bush signed into law the Jobs and Growth Tax Relief Reconciliation Act of 2003 (the "Act"). The Act provides immediate and substantial tax relief in the form of reduced rates for individuals and purchasing incentives for businesses. With proper tax planning, taxpayers can ensure that they take maximum advantage of the benefits under the Act, many of which are available only temporarily. This client alert summarizes the major provisions of the Act and highlights those yielding the greatest tax-planning potential.

Individual Taxpayer Benefits
Reduced Marginal Tax Rates
The Act benefits individual taxpayers of all income ranges. First, it accelerates the reduction in maximum tax rates inaugurated by the Economic Growth and Tax Relief Reconciliation Act of 2001. Thus, effective for the current tax year, maximum tax rates applicable to ordinary income are reduced from 38.6% to 35%, from 35 % to 33%, from 30% to 28%, and from 27% to 25%. In addition, the Act accelerates the expansion of the 10% tax bracket for 2003 and 2004.¹

Reduced Rates on Certain Capital Gains
Apart from the overall rate reduction, the Act slashes the maximum long-term capital gains rate from 20% to 15% for sales made on or after May 6, 2003. Taxpayers in the lowest two income tax brackets will see the applicable rate halved from 10% to 5%. And lowest-bracket taxpayers will benefit from a 0% long-term capital gains rate in 2008. Short-term capital gains remain subject to the taxpayer’s maximum marginal rate. Thus, a taxpayer’s decision as to whether to hold a capital asset for twelve months or more is increasingly important in view of the wider disparity for all taxpayers between long-term capital gains rates and the ordinary-income rates applicable to short-term gains. Furthermore, because the Act reduces these rates only temporarily,² taxpayers may wish to revisit their current investment strategies to maximize the tax benefits available under the new legislation.

Reduced Rates on Certain Stock Dividends
Investors will also benefit from the Act’s reduction in the tax rate applicable to dividend income to 15% (5% for taxpayers in the lowest two income tax brackets, and 0% for these taxpayers in 2008). Formerly, dividend income was taxed at the highest marginal tax rates, so that the Act cuts by as much as 60% the rates applicable to income from stock dividends. Shareholders are advised that certain dividend payments, for example those paid by Real Estate Investment Trusts (REITs), and Registered Investment Companies, such as mutual funds, (RICs) may not qualify for the reduced rates. In addition, shareholders must meet a threshold holding period requirement to be eligible for the new rates.³

Other Provisions for Individuals
The Act provides other notable tax relief to certain individuals by increasing the annual child tax credit available in 2003 and 2004 from $600 to $1000 per child, and refunding this year’s $400 difference by way of rebate checks to eligible filers who claimed the credit in 2002. Another family-friendly provision annuls a portion of the so-called "marriage penalty" by increasing the standard deduction available to married couples in tax years 2003 and 2004 to 200% of that available to single filers who are not surviving spouses or heads of households. The new legislation also increases for 2003 and 2004 the income threshold for married joint-filers and surviving spouses eligible for the 15% marginal tax rate. Finally, the Act increases the Alternative Minimum Tax (AMT) exemption amounts in years 2003 and 2004 by $9,000 for filers of joint returns and surviving spouses, and $4,500 for unmarried individual taxpayers who are not surviving spouses.

Business Taxpayer Benefits
Bonus Depreciation
The Act allows businesses to depreciate a full 50% (increased from 30% under prior law) of the cost of assets acquired pursuant to a binding contract entered into after May 5, 2003, and placed into service after May 5, 2003 and prior to January 1, 2005 or, for certain qualified property, prior to January 1, 2006. This "bonus depreciation" allowance is in addition to regular first-year depreciation. Taxpayers may choose to elect out of the regime under the new legislation.

Increase in Allowable Section 179 Expensing
Under the Act, businesses may now take an immediate deduction of up to $100,000 of the cost of certain business property placed in service during 2003, 2004 and 2005. This figure represents a substantial increase from the $25,000 allowance under prior law. Additionally, the Act doubles the phase-out limit, above which the maximum deduction is reduced, from $200,000 to $400,000 for taxable years 2003, 2004 and 2005. Each dollar over $400,000 spent on qualifying property placed in service during a given year reduces the deduction limit by a corresponding amount. Accordingly, any business placing less than $500,000 of eligible section 179 property into service in a tax year will benefit from this provision.

Other Provisions for Businesses
In addition to the purchasing incentives available for businesses, the Act includes two other notable benefits for corporate taxpayers and their shareholders. First, it reduces taxes payable on the sale of Section 306 preferred stock. Additionally, the Act eliminates the collapsible corporation tax scheme under the former Section 341, which had previously treated as ordinary income gains derived from the sale of stock in a "collapsible corporation." The former law defined a collapsible corporation as any corporation whose assets consisted primarily of, for example, unrealized receivables and inventory, and those formed primarily for the production or construction of property and sold before the corporation had itself realized two-thirds of the income to be derived therefrom.

Conclusion
The Jobs and Growth Tax Relief Reconciliation Act of 2003 has been described as the third largest tax cut in history. And, with temporary reductions in tax rates on capital gains and dividends, reduced rates for taxpayers of all income levels, and expanded allowances for depreciation and business expense deductions, the Act indeed benefits a broad range of taxpayers. It even includes a provision for fiscal aid for states, and permits corporations a 15-day extension for remitting their third-quarter estimated corporate tax payments. Nevertheless, because many of the Act’s most beneficial provisions are available only temporarily, and are more complex than they may first appear, proper tax planning is essential to ensure that taxpayers utilize all of the tax advantages potentially available to them under the Act. Moreover, the Act complicates record-keeping and filing requirements for REITS, RICs and some Foreign Corporations.

Importantly, though none of the proposed revenue-generating tax increases were ultimately included in the Act, the possibility still exists that excluded provisions relating to increased taxes on inverted corporations and deferred compensation arrangements, restrictions on closely held REITs, the repeal of the foreign earned income exclusion, the elimination of tax credits for persons working overseas, the repeal of the ETI tax credit, the imposition of new and increased penalties for participation in tax shelters and transactions without economic substance, and other tax-generating rules will be introduced in subsequent legislation. Taxpayers are therefore urged to keep a watchful eye on tax-related activities in Congress during coming months.