Significant Tax Changes Included In The Administration's Fiscal Year 2011 Budget Proposal

On February 1, 2010, the Obama administration (the "Administration") introduced its budget proposals for the 2011 fiscal year (the "Budget"), and the Treasury Department released its "General Explanations of the Administration's Fiscal Year 2011 Revenue Proposals" (the "Green Book"). The Budget includes numerous tax proposals that, if enacted, would impact both individual and corporate taxpayers. This Tax Alert highlights certain of the tax proposals included in the Budget, as described in the Green Book.

Tax Incentives for Business

Additional Tax Credits for Qualifying Advanced Energy Manufacturing Projects – Section 48C of the Internal Revenue Code of 1986, as amended (the "Code"), provides a 30 percent tax credit for taxpayers that manufacture property to be used in producing specified types of renewable energy. Credits are to be allocated pursuant to a competitive application process based on criteria set forth in the statute. The law provides for $2.3 billion of credit availability. All available credits were allocated in January 2010. The Budget includes a proposal that would increase available credits by $5 billion. The application process would be generally similar to the process under current law. This proposal would be effective on the date of enactment.

Extension of Increased Limitations for Section 179 Expense Deductions for Small Business – The American Recovery and Reinvestment Act of 2009 (the "Recovery Act") extended for one year the maximum amount of certain depreciable tangible personal property that a taxpayer may expense for taxable years beginning in 2009. That limit was $250,000 of the cost of property placed in service during 2009, reduced by the cost of such property in excess of $800,000. Under current law, these limits are reduced for tax years beginning in 2010 to $125,000 and $500,000, respectively. The Budget includes a proposal to extend the rules in effect for 2009 to property placed in service in a taxable year beginning in 2010. In addition, off-the-shelf software would be eligible property even though it is intangible property ("IP").

Extension of Additional 50 Percent First-Year Bonus Depreciation – The Recovery Act extended for one year the additional 50 percent first-year bonus depreciation deduction for certain qualified property placed in service in 2009 (2010 for property with a MACRS recovery period longer than 10 years, and transportation property). The Budget includes a proposal to extend the additional first-year bonus depreciation deduction for property acquired and placed in service during 2010 (or placed in service during 2011 for property eligible for the one-year extension of the placed-in-service date).

Elimination of Capital Gains Tax on Qualified Small Business Stock – Under current law, taxpayers other than corporations may generally exclude 50 percent of the gain from the sale of certain small business stock acquired at original issue and held for at least five years. The exclusion is increased to 75 percent for certain small business stock acquired after February 17, 2009 and before January 1, 2011. The taxable portion of the gain is taxed at a maximum rate of 28 percent, and 7 percent of the excluded gain is a tax preference item subject to alternative minimum tax ("AMT"). The Budget includes a proposal to exclude 100 percent of the gain and eliminate the AMT preference. This proposal would be effective for qualified small business stock acquired after February 17, 2009.

Making the Research and Experimentation Tax Credit Permanent – The research and experimentation ("R&E") tax credit consists of three components: (i) the "qualified research credit," which is 20 percent of "qualified research expenses" above a base amount; (ii) the "basic research credit," which is 20 percent of "basic research payments" above a base amount; and (iii) an "energy research consortium credit," which is 20 percent of all eligible payments to an energy research consortium for energy research. The R&E tax credit was originally enacted in 1981 as a temporary measure to encourage taxpayers to increase their R&E activities conducted within the United States ("U.S."), and has been extended numerous times prior to its expiration on December 31, 2009. The Budget includes a proposal that would make the R&E tax credit permanent, effective January 1, 2010.

Increased Tax Burden on High-Income Individuals

The Budget includes proposals that would increase the tax rates applicable to certain high-income individuals with respect to ordinary income and capital gains. Specifically, the Budget includes the following proposals:

Increasing the top marginal income tax rates applicable to individuals from 33 percent and 35 percent to 36 percent and 39.6 percent, respectively. These rates generally would apply to single individual taxpayers having income in excess of $200,000 and married couples filing joint returns having income in excess of $250,000 (in each case, subject to adjustment for inflation). These increased marginal income tax rates would apply beginning in 2011. Increasing the maximum tax rate on capital gains and qualified dividends from 15 percent to 20 percent for individual taxpayers having income in excess of $200,000 and married couples filing joint returns having income in excess of $250,000. These increased tax rates would apply...