Daily Tax Update - May 21, 2010

LEGISLATIVE TEXT AND REVENUE ESTIMATES RELEASED FOR JOBS, EXTENDERS PACKAGE: The text of the “American Jobs and Closing Tax Loopholes Act” (H.R. 4213) has been released as well as the revenue estimates. House Ways and Means Committee Chairman Sander Levin expressed confidence that the bill would pass the House next week. Levin said, “We're now working on the votes, but I'm optimistic we'll have them.” Finance Committee Chairman Max Baucus concurred, “I think it's going to pass the Senate.” The House Rules Committee is scheduled to take up the bill on May 24, followed by House floor consideration on May 25.

• The controversial carried interest revenue offset provision in the bill would prevent investment fund managers from paying taxes at capital gains rates on investment management services income received as carried interest in an investment fund. To the extent that carried interest reflects a return on invested capital, the bill would continue to tax carried interest at capital gain tax rates. However, to the extent that carried interest does not reflect a return on invested capital, the bill would require investment fund managers to treat seventy-five percent (75%) of the remaining carried interest as ordinary income. A transition rule would apply prior to January 1, 2013. The provision has not been scored by the Joint Committee on Taxation.
• Another controversial revenue raiser in the bill would turn off the exemption from Social Security and Medicare taxes for an individual's pro rata share of S corporation income if such individual provided substantial services with respect to a professional service business in the case of (1) an S corporation engaged in such professional service business that is principally based on the reputation and skill of 3 or fewer individuals or (2) an S corporation that is a partner in a partnership engaged in a professional service business. In these circumstances, S corporation shareholder-employees could no longer reduce their employment tax obligations via relatively low but reasonable salaries and/or the inclusion of passive family members as shareholders. Just as significant, the bill would "clarify" that there is no exemption from Social Security and Medicare taxes for an individual's distributive share of income from an entity taxed as a partnership, such as an LLC, LP, or LLP, in the case of an individual engaged in a professional service business through such an entity. Some taxpayers take the position that, due to the fact that they are members of an LLC or limited partners of an LP or LLP, the Internal Revenue Code exempts from Social Security and Medicare taxes their distributive share of LLC or partnership income.
• Another offset in the bill is the clarification of gain recognized in certain spin-off transactions (e.g., “Reverse Morris Trust” transactions). Under current law, a parent corporation will recognize gain in a tax free spin-off transaction if a subsidiary corporation distributes cash or other property to its parent in excess of the parent’s basis in the subsidiary or if a subsidiary corporation assumes parent debt in excess of the parent’s basis in the subsidiary. However, taxes are not assessed if a subsidiary corporation distributes its own debt securities to a parent corporation prior to a spin-off transaction, even if the value of these securities exceeds the parent corporation’s basis in its subsidiary. The bill would treat distributions of debt securities in a tax-free spin-off transaction in the same manner as distributions of cash or other property.
• For additional information, contact Mark J. Silverman - msilverman@steptoe.com or Aaron P. Nocjar - anocjar@steptoe.com.
• Information on other offsets in the bill can be accessed here. 
• The legislative text can be accessed here.
• The revenue estimates can be accessed here.
• The summary of the bill can be accessed here.

MISCELLANEOUS GUIDANCE RELEASED TODAY:
Notice 2010-45 establishes the qualifying therapeutic discovery project program under § 48D of the Internal Revenue Code. Section 9023(a) of the Patient Protection and Affordable Care Act (Act) added § 48D to the Code as part of the investment credit under § 46. Section 48D provides a nonrefundable tax credit equal to 50 percent of an eligible taxpayer’s qualified investment in a qualifying therapeutic discovery project. Under section 9023(e) of the Act, an eligible taxpayer may elect to receive a grant in lieu of credits. Section 48D(d)(1)(B) limits the total amount of credits or grants to be allocated under the program to $1 billion during the two-year period from 2009 through 2010. The Service, in consultation with Department of Health and Human Services, will award certifications for qualified investments. The credits or grants will only be available to taxpayers having 250 or fewer full-time and part-time employees.

TAX BILL INTRODUCED MAY 20TH:
H.R. 5353: To reduce the $159.3 billion from the discretionary overseas contingency operations funds in the President's fiscal year 2011 budget for operations in Iraq, Afghanistan, and Pakistan (without preventing use of mandatory funds from the Department of Defense budget to execute the War on Terror), and amend the Internal Revenue Code of 1986 to provide individuals a "War is Making You Poor" tax credit against the savings attributable to the overseas contingency operations reduction.
Sponsor: Rep Grayson, Alan [FL-8] (introduced 5/20/2010)      Cosponsors (6)

INTERNAL REVENUE SERVICE - CIRCULAR 230 DISCLOSURE:
As provided for in Treasury regulations, advice (if any) relating to federal taxes that is contained in this communication (including attachments) is not intended or written to be used, and cannot be used, for the purpose of (1) avoiding penalties under the Internal Revenue Code or (2) promoting, marketing or recommending to another party any plan or arrangement addressed herein.

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