Investment Tax Credit (ITC) is a tax credit, or a direct reduction of the amount of federal income tax owed. ITC was introduced in 1962 by the Kennedy administration as a way to stimulate the economy by encouraging the purchase of (and investment in) equipment. Investors in equipment would be able to reduce their income taxes by a portion of the cost of the equipment (effectively, reducing the cost of the equipment).
The Tax Reform Act of 1986 repealed Investment Tax Credit, as of January 1, 1986. However, an asset with a firm commitment prior to September 30, 1985 is allowed ITC, even if it was not placed in service until 1986. The following sections of information apply to those assets which can take the Investment Tax Credit.
ITC Calculation
The method of calculation of the Investment Tax Credit is either 6% or 10% of the asset cost. If the asset is categorized as 3-year property (vehicles), then 6% of the asset cost may be taken. If the asset is categorized as 5-year property or above (all other equipment), then 10% of the asset cost may be taken.
Under the Tax Equity and Fiscal Responsibility Act of 1982 (TEFRA), if the full ITC available is taken, then the total amount that may be depreciated for federal purposes must be adjusted by one-half of the ITC taken. For example, if a $10,000.00 3-year property asset is purchased, and the full 6% ($600.00) available is taken as ITC, then the starting basis for federal depreciation must be $9,700.00, rather than $10,000.00
Following TEFRA, the Tax Reform Act of 1986 changed this requirement. Under the Tax Reform Act, the total amount that may be depreciated for federal purposes must be adjusted by 100% of the ITC taken.
Alternatively, the owner of the asset may elect to take a reduced amount of ITC (4% for 3-year property or 8% for 5-year property) and depreciate the full value of the equipment. Therefore, one of the following may occur:
ITC
Recapture
If the asset is held for the full depreciable life (3 or 5 years), then no adjustments to the ITC taken for tax purposes are necessary. If, however, the asset is disposed of before the depreciable life has expired, then a portion or all of the ITC taken must be recaptured. The recaptured ITC represents the amount of ITC that is taken but not actually earned.
The following table indicates the percentage of ITC taken that must be recaptured based upon the time of the disposition of the asset:
| PERCENTAGE OF ITC TO RECAPTURE | ||
| 3-year class | 5-year class | |
| sell before 1 year | 100% | 100% |
| sell after 1 year | 66% | 80% |
| sell after 2 years | 33% | 60% |
| sell after 3 years | 0% | 40% |
| sell after 4 years | 20% | |
| sell after 5 years | 0% | |
Federal Book Value Adjustment Due To ITC Recapture
If the full amount of Investment Tax Credit allowable is taken, the starting tax basis for federal depreciation is reduced by one-half of the ITC taken for the asset. If ITC must be recaptured, the current federal book value may be adjusted upwards by half of the ITC recapture amount. LeasePak does this automatically through the Federal Gain/Loss report [R0108A].
For example:
| $100,000.00 | original cost |
| $95,000.00 | starting federal tax basis |
| $14,250.00 - | depreciation for '85 |
| $20,900.00- | depreciation for '86 |
| $59,850.00 | book value |
| $6,000.00 | ITC recapture (equipment is sold in '87) |
| $62,850.00 | adjusted book value |
If the asset is sold for $63,000.00, a gain of only $150.00 would be recognized, rather than $3,130.00.
The alternative minimum tax (AMT) is designed to recoup tax benefits that reduce or eliminate regular income tax. In general, less depreciation is allowed when calculating the AMT than for regular tax purposes. If you use the general MACRS rate for regular tax purposes, the difference between
the higher regular depreciation deduction and the lower AMT deduction must be reported to the IRS on Form 6251. LeasePak reports the difference between the MACRS depreciation amount and the AMT depreciation amount for the year on the Federal Tax Depreciation Report [R0304A]. Note that the adjustment may result in providing more depreciation for AMT purposes where the AMT depreciation computation towards the latter part of the useful life of MACRS property provides larger deductions than the regular MACRS deduction.
To assist you in determining the possible impact of the AMT on your taxable income, LeasePak allows you to enter an alternative minimum tax depreciation method for each asset.
Under the AMT depreciation methods, assets may be placed in service with an AMT class life of from 3 to 20 years. These methods use predetermined tables to calculate the amount of depreciation to record each year. The basis for the tables is a 150% Declining Balance method (with a half-year convention), switching to straight line at the optimum point, i.e., the first tax year when the straight line method yields a larger deduction than the 150% Declining Balance method.
The half-year convention normalizes the in-service date of assets to the mid-point of the tax year. In other words, it treats an asset placed in service during the tax year as if it were placed in service in the middle of the tax year. It does this by:
The AMT methods also provide for a mid-quarter convention. If during any one tax year the total of all property placed in service in the last three months of the fiscal year exceeds 40% of the total of all property place in service during the whole year, the mid-quarter convention must be used instead of the half-year convention. Like the half-year convention, the mid- quarter convention normalizes the in-service date of assets to the mid-point of the quarter.
As in the case of MACRS, all assets are depreciated to a zero book value under the AMT methods.
The Adjusted Current Earnings (ACE) Depreciation report [R0312] provides the ACE depreciation expense for all assets. It uses the purchase price and the AMT basis or the regular tax basis depending on the AMTI type of property. The recovery period is either full recovery or the recovery period at the start of the first tax year starting after 1989 as required for the AMTI adjustments.
The report is designed to provide depreciation information necessary to calculate the ACE tax depreciation adjustment in a format that will allow the data to be verified easily. The ACE report can be run any time after year end for any fiscal year on or since tax year 1989.
If assets are sold prior to the current reporting year, these assets will not be shown on the report.
Because of tax law changes, assets with in service dates on or after 1/1/94 are excluded from the report.
The ACE report has been programmed to re-calculate all necessary depreciation data based on current depreciation methods. If an asset's depreciation method has been changed, the ACE for this asset might have to be calculated manually.
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