Order Code RL32275
CRS Report for Congress
Received through the CRS Web
Small Business Tax Preferences:
Legislative Proposals in
the 109th Congress
April 21, 2005
Gary Guenther
Analyst in Business Taxation and Finance
Government and Finance Division
Congressional Research Service ˜ The Library of Congress
Small Business Tax Preferences:
Legislative Proposals in the 109th Congress
Summary
Some policy issues seem to be permanently embedded in the congressional
legislative agenda. One such issue is the taxation of small firms and its effects on
their formation, performance, and growth. Some contend that the current tax burden
on small firms serves as a drag on their growth and thus should be reduced. Others
see no solid economic rationale for targeting tax relief at small business owners.
The federal tax code contains a number of provisions granting targeted tax relief
to small firms in a wide range of industries. Most of these provisions take the form
of deductions, exclusions and exemptions, credits, deferrals, and preferential tax
rates. Nonetheless, some policymakers want to do more to reduce the tax burden on
small business owners. A variety of proposals to enhance existing small business tax
preferences or create new ones are being considered in the 109th Congress. This
report describes those proposals. It will be updated to reflect new and significant
legislative activity.
In the 108th Congress, two tax bills with a strong potential to lower the tax
burden on many small business owners were enacted: the Jobs and Growth Tax
Relief Reconciliation Act of 2003 (JGTRRA, P.L. 108-27) and the American Jobs
Creation Act of 2004 (AJCA, P.L. 108-357). JGTRRA moved forward to 2003 the
phased-in cuts in individual income tax rates established by the Economic Growth
and Tax Relief Reconciliation Act of 2001 (P.L. 107-16), and it made various
enhancements in the small business expensing allowance under section 179 of the
Internal Revenue Code (IRC) from 2003 through 2005. AJCA extended these
enhancements through 2007, lowered the maximum expensing allowance for heavy-
duty sport utility vehicles from $100,000 to $25,000, limited the amount of business
start-up costs that may be amortized in the first five years of a new trade or business,
and loosened some restrictions on the ownership of subchapter S corporations.
A growing number of proposals to expand certain existing small business tax
preferences or create new ones are being considered in the 109th Congress. At least
two bills to extend permanently the enhancements in the expensing allowance made
by JGTRRA have been introduced: H.R. 1091 and H.R. 1388. S. 543 would double
the maximum receipt size (from $5 million to $10 million) of subchapter C
corporations and partnerships with corporate partners allowed to use the cash-basis
method of accounting for tax purposes. In addition, at least three bills (H.R. 118, S.
16, and S. 160) would establish either a refundable or non-refundable tax credit for
some of the cost to small employers of providing health benefits to employees.
Finally, at least four bills would give small employers robust tax incentives to offer
at least partial compensation to reservist employees while they are serving in active
duty and to hire replacement workers for activated reservist employees: H.R. 838,
S. 11, S. 38, and S. 240.
Contents
Existing Small Business Tax Preferences . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
Legislation Enacted in the 108th Congress . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2
Legislative Proposals in the 109th Congress . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
Current Small Business Tax Preferences . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
Expensing Allowance Under IRC Section 179 . . . . . . . . . . . . . . . . . . . 4
Cash-Basis Accounting . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5
New Small Business Tax Preferences . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6
Tax Credits for Employee Health Benefits . . . . . . . . . . . . . . . . . . . . . . 6
Tax Incentives for Small Employers of Activated Reservists . . . . . . . . 8
Small Business Tax Preferences:
Legislative Proposals in the 109th Congress
Some policy issues never seem to disappear from the congressional legislative
agenda. One such issue is the taxation of small firms and its effect on their rates of
formation, economic performance, and prospects for growth. Some argue that the
current tax burden on many small firms serves as a drag on their growth and should
be reduced. Others discern no sound economic rationale for targeting tax relief at
small business.
Underscoring the enduring allure of small entrepreneurial firms and the
considerable political influence of small business owners, the federal tax code
contains a number of provisions that target tax relief at small firms in a wide range
of industries. Nonetheless, some federal policymakers would like to further reduce
the tax burden on small business owners. A variety of proposals to enhance existing
small business tax preferences or create new ones have been introduced in the 109th
Congress. This report describes these proposals.
Existing Small Business Tax Preferences
Firm size may play an important role in the performance of certain industries
and behavior of certain markets, but it has no discernible influence on the
organization of the federal tax code. The code makes no explicit or formal
distinction between the taxation of small firms and all other firms. For example,
there are no separate sections in the code addressing the tax treatment of small and
large firms. Instead, current tax law contains a number of provisions scattered
throughout its many chapters that confer preferential treatment on small firms but not
on larger ones. Most of these provisions take the form of deductions, exclusions and
exemptions, credits, deferrals, and preferential tax rates. Tax preferences such as
these generally have the effect of lowering the marginal effective tax rate on the
returns to new and old investments by small firms relative to all other firms. In
addition, a few tax code provisions benefit small firms by reducing their cost and
administrative burden of complying with tax laws, or by granting tax relief in
exchange for the provision of certain fringe benefits (e.g., pension plans) to
employees.
Contrary to what one might expect, there is no uniform definition of a small
firm in the federal tax code. As a consequence, the criteria used to determine which
firms are eligible can vary from one small business tax benefit to the next. For
example, some such benefits are available only to firms with annual gross receipts
below a certain level, while other benefits are limited to firms under a certain asset
size. Some may find it surprising that among the criteria for determining eligibility
CRS-2
for small business tax preferences, employment size is seldom used. By contrast, the
Small Business Administration relies heavily on employment size to collect and
publish data on the economic condition of small business.
Existing small business tax preferences differ in scope and economic
importance. Some apply only to small firms in specific industries such as life
insurance, banking, and energy production and distribution, while others have the
potential to affect virtually every small firm. Those preferences with the broadest
reach outside agriculture include the taxation of passthrough entities (including
subchapter S corporations), graduated corporate income tax rates, the expensing
allowance for certain depreciable business assets, the exemption of small
corporations from the corporate alternative minimum tax, the amortization of
business start-up costs, cash-basis accounting, the exclusion of gains on certain small
business stock, and the tax credit for a portion of the start-up costs of pension plans
offered by certain small firms.1
Any tax provision that confers preferential treatment on a group of taxpayers is
likely to entail a loss of federal revenue in the short run. Owing to both a lack of data
and lingering disagreement among analysts over which provisions in the tax code
should be considered small business tax benefits, it is unclear how much revenue is
lost because of existing small business tax preferences. Nevertheless, recent
estimates of the revenue loss associated with significant tax expenditures by the Joint
Committee on Taxation and the Treasury Department suggest that the revenue cost
is likely to exceed $8 billion in FY2005.2
Legislation Enacted in the 108th Congress
During the 108th Congress, two tax bills with a strong potential to reduce the tax
burden on many small business owners were enacted: the Jobs and Growth Tax
Relief and Reconciliation Act of 2003 (JGTRRA; P.L. 108-27) and the American
Jobs Creation Act of 2004 (AJCA, P.L. 108-357).
1 For a description of existing small business tax preferences and the economic arguments
that have been raised for and against them, see CRS Report RL32254, Small Business Tax
Benefits: Overview and Economic Analysis, by Gary Guenther.
2 In FY2005, the projected combined revenue loss for seven of the most important small
business tax preferences is $7.960 billion. This estimate applies to the following
preferences: partial exclusion of capital gains on small business stock; ordinary income
treatment of losses on the sale of eligible small business corporation stock; amortization of
business start-up costs; tax credit for start-up costs of small business pension plans; cash
accounting for non-agricultural firms; graduated tax rate structure for corporations; and
expensing allowance for small business investment in eligible assets. See U.S. Congress,
Joint Committee on Taxation, Estimates of Federal Tax Expenditures for Fiscal Years 2005-
2009, JCS-1-05 (Washington: GPO, 2005), table 1; and Office of Management and Budget,
Analytical Perspectives, Budget of the United States Government, Fiscal Year 2006
(Washington: GPO, 2005), table 19-2.
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JGTRRA advanced to 2003 the individual income tax rate cuts established by
the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA, P.L.
107-16) and initially scheduled to take effect in 2006. More specifically, it lowered
the 27% rate to 25%, the 30% rate to 28%, the 35% rate to 33% and the 38.6% rate
to 35%. As a result of JGTRRA, these lower rates will remain in effect through
2010.
The act also enhanced the expensing allowance small firms may claim under
section 179 of the Internal Revenue Code (IRC). More specifically, under JGTRRA,
in 2003 through 2005, the maximum allowance rose from $25,000 to $100,000 and
the phase-out threshold for the allowance jumped from $200,000 to $400,000.
Additionally, the act indexed both amounts for inflation in 2004 and 2005 and made
purchases of off-the-shelf software for business use eligible for the allowance in 2003
through 2005.3
AJCA included a number of provisions affecting small business tax benefits.
It made two significant changes in the expensing allowance: the act extended each
of the enhancements in the expensing allowance under JGTRRA through 2007 but
reduced the maximum expensing allowance for heavy-duty sport utility vehicles
placed in service after October 22, 2004 from $100,000 to $25,000.4
In addition, AJCA modified the sections of the tax code (IRC sections 195, 248,
and 708) addressing the tax treatment business start-up and organizational costs.
Under previous law, the entire amount of these costs could be amortized over a
period of five years. But as a result of AJCA, business taxpayers, regardless of legal
form of organization (e.g., partnerships, S corporations, or C corporations), may
choose to deduct up to $5,000 of start-up or organizational expenditures in the tax
year in which the trade or business commences; this amount must be reduced by the
amount by which start-up or organizational spending exceeds $50,000; and any
amount not deducted in the first tax year for a trade or business must be amortized
over a period of 15 years, starting in the month in which the trade or business begins.
Finally, AJCA made some changes in the tax treatment of S corporations, the
vast majority of which are relatively small in asset, employment, or revenue size. It
appears that the most important changes were to increase the maximum number of
shareholders from 75 to 100, treat the members of a family as a single shareholder,
allow individual retirement accounts (IRAs) to serve as a shareholder of a bank
organized as an S corporation, and permit the transfer of suspended losses when
stock in an S corporation is exchanged between spouses or as part of a divorce.
3 For more details on the expensing allowance, the changes made by JGTRRA and AJCA,
and their short-term economic effects, see CRS Report RL31852, Small Business Expensing
Allowance: Current Status, Legislative Proposals, and Economic Effects, by Gary Guenther.
4 For more details on this change in the depreciation of large sport utility vehicles for tax
purposes, see CRS Report RL32173, Tax Preferences for Sport Utility Vehicles (SUVs):
Current Law and Legislative Initiatives in the 109th Congress, by Gary Guenther.
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Legislative Proposals in the 109th Congress
A variety of proposals to enhance existing small business tax preferences or
create new ones are receiving consideration in the 109th Congress. They vary in
scope and economic importance from non-refundable tax credits for employers of
activated military reservists to refundable tax credits for small firms offering health
insurance to their uninsured employees.
While there is bipartisan support for many of these proposals in both houses,
considerable uncertainty surrounds their prospects for passage. Much of this lack of
certainty reflects rising concern among many Members of Congress over the large
and growing federal budget deficit. The tax cuts enacted since 2001 have made
significant contributions to the deterioration in the federal budget since the late
1990s5, and more than a few Members of Congress are reluctant to enact additional
tax cuts without covering their projected revenue cost through offsetting tax increases
or spending reductions.
The proposals are described below under the existing small business tax
preferences they would alter or the new preferences they would establish.
Current Small Business Tax Preferences
Expensing Allowance Under IRC Section 179. Under IRC section 179,
business taxpayers buying qualified property may deduct (or expense) some or all of
its cost (depending on the amount) in the year when it is placed into service, provided
certain conditions are met. For the most part, qualified property consists of
machinery and equipment, including motor vehicles. The alternative to expensing
is to recover the acquisition cost of this property over longer periods through
allowable depreciation deductions. Between 2003 and 2007, the maximum
expensing allowance is $100,000 for firms operating outside empowerment zones.
For firms that conduct all their business within such zones, the maximum allowance
during that period is the lesser of $135,000 or the cost of qualified property. In 2008,
assuming no change in current law, the maximum allowance for firms operating
outside empowerment zones falls to $25,000, its level before the enactment of
JGTRRA and AJCA. The allowance begins to phase out, dollar for dollar, when the
total cost of qualified property placed in service in a tax year from 2003 through 2007
reaches $400,000.
Two bills to extend permanently the enhancements in the expensing allowance
made by JGTRRA have been introduced in the 109th Congress. H.R. 1091,
introduced by Representative Phil English on March 3, 2005, would retain the current
maximum expensing allowance of $100,000 beyond 2007, raise the phase-out
threshold to $500,000 as of January 1, 2006, and index both amounts for inflation
after 2007. H.R. 1388, introduced by Representative Wally Herger on March 17,
5 The tax cuts enacted in 2001, 2002, and 2003 resulted in estimated revenue losses of 0.4%
of gross domestic product (GDP) in 2001, 1.1% of GDP in 2002, and 1.6% of GDP in 2003.
See CRS Report RL32502, What Effects Have the Recent Tax Cuts had on the Economy?,
by Marc Lebonte, pp. 2-3.
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2005, would keep the maximum expensing allowance at $100,000, the phase-out
threshold at $400,000, and allow both amounts to be indexed for inflation beyond
2007. Neither bill would make off-the-shelf software for business use eligible for the
allowance beyond 2007.
An amendment offered by Senator Rick Santorum to the bankruptcy reform bill
(S. 256) passed by the Senate on March 10, 2005 contained a provision that would
have extended the enhancements in the expensing allowance under JGTRRA through
2009. The amendment failed to attract the 60 votes needed for passage and was
withdrawn.
In his budget request for FY2006, President Bush is proposing to extend
permanently the changes in the expensing allowance made under JGTRRA.
Cash-Basis Accounting. Under IRC Section 446, business taxpayers must
compute their taxable income using the method of accounting they normally employ
in keeping their books. Regardless of which method of accounting is used for tax
purposes, it must clearly reflect income.
Two methods of financial accounting are widely used in the private sector: cash
basis and accrual basis. Under the former, which is the preferred method for self-
employed individuals in general, income typically is recorded when it is received in
the form of cash or its equivalent, and expenses generally are recorded when they are
paid, regardless of when the income is actually earned and the expenses actually
incurred. Under accrual-basis accounting, by contrast, income and expenses typically
are recorded when the transactions giving rise to them are completed or nearly
completed, regardless of when cash or its equivalent is received or paid. More
specifically, a company using accrual-basis accounting records income when its right
to receive it is legally established and expenses when the amounts are fixed and its
liability for them is legally established. Each accounting method has its advantages.
On the one hand, cash-basis accounting is simpler to administer. On the other hand,
accrual-basis accounting often yields a more accurate measure of a firm’s economic
income because it is better at matching income with expenses.
Under current federal tax law, firms required to maintain inventories must use
accrual-basis accounting in computing taxable income. In addition, C corporations,
partnerships with C corporations as partners, trusts subject to taxation on unrelated
business income, and legal tax shelters are required to use the same accounting
method. But business taxpayers engaged in farming or the commercial cultivation
of trees or organized as personal service corporations, or whose average annual gross
receipts in the three previous tax years do not exceed $5 million, are permitted to use
the cash-basis method of accounting for tax purposes. Business taxpayers whose
average annual gross receipts in the three previous tax years do not exceed $1 million
may also use the cash-basis method.
S. 543, introduced by Senator Olympia Snowe on March 8, 2005, would allow
C corporations and partnerships with corporate partners whose average annual gross
receipts in the three previous tax years do not exceed $10 million to use the cash-
basis method of accounting for tax purposes. The measure also would make it
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possible for the same firms that are required to maintain inventories to use the cash-
basis method.
An amendment offered by Senator Santorum to the bankruptcy reform bill (S.
256) passed by the Senate on March 10 would have permitted some small non-
corporate business taxpayers currently required to maintain inventory to use the cash-
basis method of accounting for tax purposes. Eligible taxpayers would have been
those non-corporate firms whose average annual gross receipts in the previous three
tax years did not exceed $10 million. Owing to insufficient backing, the amendment
was withdrawn.
New Small Business Tax Preferences
Tax Credits for Employee Health Benefits. Current federal tax law offers
no tax credits for employers that provide health insurance to employees. Instead,
there are a variety of tax incentives to encourage individuals to purchase health
insurance, either on their own in the individual market or through their employers in
the group market.
Generally, employer contributions to employee health plans are excluded from
the income of participating employees that is subject to income and payroll taxes.
The exclusion typically applies to coverage offered to current and former employees
and their spouses, dependents, and survivors. Benefits paid under employer-provided
accident or health plans are also excluded from the income of participating
employees that is subject to income and payroll taxes to the extent the
reimbursements are for medical care. If certain requirements are met, employer
health benefits provided through a cafeteria plan may also be excluded from an
employee’s income subject to both taxes. In addition, current tax law allows
employees to exclude from their income subject to income and payroll taxes
reimbursements for health care expenses received from their employers through
flexible spending arrangements and health reimbursement arrangements.
Self-employed individuals may deduct the total amount paid for health
insurance for themselves and their spouses and dependents from their taxable
income. These payments, however, may not be deducted from their income subject
to payroll taxes.
Individual taxpayers who itemize deductions are allowed to deduct the total
amount paid for qualified medical care (including health insurance premiums) for
themselves and their spouses and dependents to the extent that total spending for this
purpose exceeds 7.5% of their adjusted gross income.
Under the Trade Adjustment Assistance Reform Act of 2002, certain individuals
may claim what is known as the health coverage tax credit (HCTC). The HCTC is
a refundable credit for 65% of the amount paid for qualified health insurance by the
following individuals: those receiving trade adjustment allowances or those who
would be eligible to do so if they had not exhausted their regular unemployment
benefits; those eligible for the alternative trade adjustment assistance program; and
those over age 55 who receive pension benefits through the Pension Benefit Guaranty
Corporation.
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Finally, under the Medicare Prescription Drug Improvement and Modernization
Act of 2003, individuals with qualified high-deductible health insurance plans (and
no other health plan except one that provides certain permitted coverage) may
establish health savings accounts (HSAs). In 2005, qualified plans are defined as
those with deductibles of at least $1,000 for self-only coverage and $2,000 for family
coverage and an out-of-pocket expense limit of no more than $5,100 in the case of
self-only coverage and $12,000 in the case of family coverage. A HSA is a tax-
exempt trust or custodial account. Contributions to a HSA by or on behalf of an
eligible individual are deductible in determining his or her adjusted gross income.
And employer contributions to these accounts may be excluded from an employee’s
income subject to income and payroll taxes. There are limits on how much may be
contributed to a HSA in a calendar year: the maximum contribution is the lesser of
100% of the annual deductible under an individual’s high-deductible health plan or
the maximum deductible allowed for a qualified health plan under an Archer medical
savings account. Distributions from HSAs for qualified medical expenses may be
excluded from taxable income. These expenses do not include health insurance
premiums, except for premiums paid for long-term care insurance, health insurance
coverage during any period of continuation coverage required by federal law, and
health insurance coverage while an individual is receiving unemployment
compensation under federal or state law.
Legislative Initiatives in the Current Congress. At least three bills have
been introduced in the 109th Congress that would establish either a refundable or non-
refundable tax credit for a share of the cost to small employers of providing certain
health benefits to employees: H.R. 118, S. 16, and S. 160. While they differ in such
important details as credit rate, health plans that qualify for the credit, and eligibility
criteria for firms and their employees, they share the policy aim of expanding
national health insurance coverage through the incremental step of giving small
employers currently not offering health insurance to their employees a robust
incentive to do so.
H.R. 118, introduced by Representative Darlene Hooley on January 4, 2005,
would establish a refundable tax credit for a portion of the cost to qualified
employers of providing health insurance to employees. The credit’s rate depends on
an eligible firm’s employment size. Specifically, a firm with 25 or fewer employees
would be eligible for a credit equal to 60% of the total amount it pays for qualified
health insurance for employees and their spouses and dependents in a tax year; the
credit rate would drop to 40% for firms with 26 to 100 employees; firms with more
than 100 employees would be ineligible for the credit. Firms eligible to claim the
credit would have to satisfy certain conditions in order to do so. Specifically, no
credit could be claimed if an employer contributes less than 65% of the cost of
employee health plans, or if an employee health plan covers less than 75% of a firm’s
employees, or if the employer’s share of the overall cost of the plan is less than its
share in previous years, or if the plan offers fewer benefits than plans offered by the
firm in previous years. Self-employed individuals would be eligible for the credit.
H.R. 118 would also create a non-refundable credit for contributions by small
employers to employee HSAs. For each employee, the credit would be equal to the
lesser of an employer’s contribution to such an account or $200 (or $500 if an
employee has family coverage under a qualified high-deductible health plan). Firms
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eligible to claim the credit would be those with fewer than 100 employees, all of
whom had received a minimum of $5,000 in compensation in the previous tax year.
The credit would be made part of the general business credit and thus subject to its
limitations.
In his budget request for FY2006, President Bush proposes the creation of a
refundable tax credit for small employers that contribute to employee HSAs.6 A
small employer is defined as a firm that has an average of fewer than 100 employees
on business days. The credit would be equal to 100% of allowable contributions
made by such firms; the maximum annual credit per employee would be $200 for
employees with individual coverage under their high-deductible health plans and
$500 for employees with family coverage. In order to claim the credit, eligible
employers would have to maintain high-deductible health plans that are open to all
employees. The credit would be excluded from a firm’s taxable income, and
employers claiming it could not also deduct the expenditures covered by the credit.
S. 16, introduced by Senator Edward Kennedy on January 24, 2005, would
establish a refundable tax credit for a portion of the cost to eligible small employers
of providing health insurance to qualified employees. The size of the credit per
employee would depend on a firm’s employment size. Specifically, the credit would
be equal to 50% of qualified health insurance expenses up to $1,500 for individual
coverage and $3,500 for family coverage for firms with nine or fewer employees; the
credit rate would drop to 35% for firms with 10 to 24 employees and to 25% for
firms with 25 to 50 employees; firms with more than 50 employees could not claim
the credit. Firms would be eligible for the credit only if they pay for at least 75% of
the total cost of employee health insurance and have an average of 50 or fewer
employees. Start-up firms would be eligible for the credit if they expect to employ
50 or fewer workers in the current calendar year. Self-employed individuals would
be eligible for the credit. Firms could claim the credit only for employees who work
at least 400 hours in a tax year, are paid at least $5,000 in annual wages, and are
ineligible for health benefits under Medicare or Medicaid.
S. 160, introduced by Senator Lisa Murkowski on January 25, 2005, would
establish a non-refundable credit for small employers that contribute to employee
HSAs. The maximum annual credit per employee would be $200 for individuals
with individual coverage under their high-deductible health plans and $500 for those
with family coverage. Eligible small employers would be those with fewer than 100
employees who received a minimum of $5,000 in compensation in the previous tax
year. The credit would become part of the general business credit, and employers
claiming it would be denied a deduction for the expenditures covered by the credit.
Tax Incentives for Small Employers of Activated Reservists. Current
tax law offers no incentives for private employers of military reservists to provide
partial or full compensation or to compensate for any difference between military and
civilian pay during periods when their reservist employees participate in active duty.
6 See U.S. Congress, Joint Committee on Taxation, Description of Revenue provisions
Contained in the President’s Fiscal Year 2006 Budget Proposal (Washington: GPO, 2005),
pp. 55-57.
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Nor does it give employers incentives to hire workers to replace reservist employees
when they are serving in active duty.
At least four bills to create such tax incentives for small employers have been
introduced in the 109th Congress. It appears that a primary aim of each measure is
to lessen the financial difficulties faced by many privately employed reservists and
their families and numerous smaller private employers of reservists when large
numbers of reservists are activated for extended periods.
H.R. 838, introduced by Representative Tom Lantos on February 16, 2005,
would establish a non-refundable credit for firms of all sizes that employ activated
reservists. The credit is intended to encourage such firms to provide at least partial
compensation to reservist employees when they participate in active duty for
extended periods. More specifically, the credit would be equal to the lesser of
$30,000 or 50% of actual compensation paid to such employees in a tax year while
they are serving in active duty for more than 30 days or “hospitalized for or
convalescing from an illness or injury incurred in, or aggravated during, the
performance of such active duty,” or during the 14 days following the end of active
duty. The credit would become part of the general business credit and thus subject
to its limitations.
The bill would also create a non-refundable credit for small employers of
activated reservists. It is intended to encourage eligible small firms to cover any
difference between the civilian and military pay of reservist employees when they
serve in active duty, and to reduce the cost to such firms of hiring workers to replace
reservist employees who are called to active duty. Eligible small firms would be
those with an average of 50 or fewer employees on business days in the tax year. The
credit would have two components. In the case of activated reservist employees, the
credit would be equal to the lesser of $15,000 or 50% of any excess of an activated
reservist employee’s average daily compensation in the tax year over the average
daily military pay and allowances he or she receives while serving in active duty.
Eligible employees would be those who work for an eligible employer for a
minimum of 31 days before participating in active duty and are a member of the
Ready Reserve. Self-employed individuals could claim the credit. Eligible
manufacturing firms would be able to claim a credit for each activated reservist
employee equal to the lesser of $30,000 or 100% of any excess of the employee’s
average daily compensation over the average daily military pay and allowances he or
she receives while serving in active duty. In the case of replacement employees, the
credit would be equal to the lesser of $6,000 or 50% of the total compensation paid
to a worker hired to replace a reservist employee while he or she serves in active
duty.
S. 11, introduced by Senator Carl Levin on January 24, 2005, would create a
non-refundable credit for eligible small employers of activated reservists. Like H.R.
838, the credit would have two components, one for the wages paid to activated
reservist employees and one for the wages paid to employees hired to replace such
employees. In the case of activated reservists, the credit would be equal to the lesser
of $15,000 or 50% of the actual compensation paid to an activated reservist employee
on business days when he or she serves in active duty. Firms having an average of
50 or fewer employees on those days during the tax year would be able to claim the
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credit. The credit would become part of the general business credit. And in the case
of replacement employees, eligible small employers would be able to claim a work
opportunity credit under IRC Section 51. Specifically, S. 11 would make it possible
for these firms to claim a credit equal to 40% of the wages paid to qualified
replacement employees up to $6,000 when they replace activated reservist
employees; the period covered by the credit cannot exceed one year. The bill also
would require the Government Accountability Office to issue a report to the Senate
Finance Committee and the House Ways and Means Committee by June 30, 2005
examining current problems in recruiting reservists, potential problems arising from
offering higher pay to reservists serving in active duty than to members of the armed
forces serving in same capacity, the impact of the employer wage credit on hiring and
retention rates for reservist employees in the private sector, and any compliance
problems associated with the credit.
S. 38, introduced by Senator Patty Murray on January 24, 2005, would create
a non-refundable credit for eligible small firms that employ activated reservists and
replacements for these reservists. Firms having 50 or fewer employees on business
days in the tax year would be eligible for the credit. Like S. 11, the credit would have
two components. In the case of activated reservist employees, the credit would be
equal to the lesser of $15,000 or any excess of the employee’s average daily qualified
compensation over the average daily military pay and allowances he or she receives
when serving in active duty. Qualified employees must have worked for an eligible
firm a minimum of 91 days before they participate in active duty and be members of
the Ready Reserve. In the case of replacement employees, the credit would be equal
to the lesser of $15,000 or the compensation paid to such employees when they
replace activated reservists. Self-employed individuals could claim either credit.
Firms claiming the credit would not also be allowed to deduct the expenditures
covered by the credit.
Finally, S. 240, introduced by Senator John Kerry on February 1, 2005, would
also create a non-refundable credit for eligible small firms that employ activated
reservists and replacements for these reservists. Firms having an average of 50 or
fewer employees on business days during the tax year would be eligible to claim the
credit. The credit for activated reservists would be equal to the lesser of $15,000 or
50% of any excess of a qualified employee’s average daily compensation for the tax
year over the average daily military pay and allowances he or she receives in the tax
year while serving in active duty. Qualified employees would be those who have
worked a minimum of 91 days for an eligible firm before commencing active duty
and are members of the Ready reserve. Qualified self-employed individuals could
claim the credit. The credit for replacement employees would be equal to the lesser
of $6,000 or 50% of the compensation paid to employees hired to replace activated
reservist employees. Firms claiming the credit would also be permitted to deduct any
expenditures covered by the credit. Eligible small manufacturing firms would be
able to claim an enhanced credit for activated reservist employees equal to the lesser
of $40,000 or any excess of a qualified employee’s average daily compensation for
the tax year over the average daily military pay and allowances he or she receives
while serving in active duty. They would also be able to claim an enhanced credit
for the wages paid to individuals hired to replace activated reservist employees.