Congress Recently Enacted A Non-Refundable Credit Based On

Congress Recently Enacted An Non Refundable Credit Based On The Cost O

Congress recently enacted an non-refundable credit based on the cost of the qualifying alcohol and drug abuse counseling programs provided by a corporate employer to its employees. The credit is limited to 50% of the total cost of the program. If a corporation elects the credit, none of the program costs are allowed as a deduction. Any credit in excess of current year tax may not be carried back or forward to another year.

A. TMM Corporation spent $80,000 for a qualifying counseling program this year. If TMM has $500,000 taxable income before considering this expense, should it elect the credit or deduct the program's cost as an ordinary business expense?

B. Would your answer change if TMM had only $70,000 taxable income before consideration of the expense?

Paper For Above instruction

The recent legislative change introduces a non-refundable tax credit aimed at incentivizing employers to invest in alcohol and drug abuse counseling programs for their employees. This policy shift offers a choice to employers: either claim a credit equivalent to 50% of the program's cost or treat the entire expense as a deductible business expense. The decision hinges on various factors, notably the company's taxable income and the resulting tax implications.

In evaluating TMM Corporation's situation, it is essential to understand the nature of the tax credit and the tax deduction. The non-refundable credit effectively reduces the company's tax liability dollar-for-dollar up to the credit limit, but it cannot generate a refund or be carried over to future years. Conversely, deducting the program's cost reduces taxable income, thereby decreasing the overall tax liability based on the applicable tax rate. However, the deduction is limited to the company's taxable income; in scenarios where income is low or losses are involved, deductions may be limited or worthless.

When TMM's taxable income before considering the counseling expense is $500,000, electing the credit can be advantageous. The credit of 50% of the $80,000 expenditure equals $40,000, directly reducing the tax liability, whereas deducting the full $80,000 would lower taxable income but might not be as effective if the marginal tax rate is considered. Assuming a corporate tax rate of approximately 21% (per U.S. federal corporate tax rates), the tax savings from deducting $80,000 would be roughly $16,800 ($80,000 x 21%). In contrast, claiming the $40,000 non-refundable credit directly reduces the tax liability dollar-for-dollar, yielding a higher effective benefit in this context.

Consequently, it is financially preferable for TMM to elect the credit under these circumstances because it results in greater tax savings. Notably, if the company’s tax liability were less than the credit amount, only the applicable liability would be offset, and the remaining credit would be lost since the credit is non-refundable.

When TMM's taxable income drops to $70,000, the analysis shifts. The maximum deduction of $80,000 exceeds the company's taxable income, meaning the deduction cannot reduce taxable income below zero. Therefore, if the company opts for the deduction, it will reduce taxable income to zero, saving approximately $14,700 in taxes ($70,000 x 21%). However, the entire $80,000 deduction is not fully realized since the deduction cannot generate a loss or refund.

In this scenario, claiming the credit remains advantageous because the maximum credit of $40,000 will directly reduce the company's tax liability. If the company's tax liability is less than $40,000, only the portion equal to the tax liability reduces it, but still, the benefit is at least as good as or better than deducting the full $80,000 expense, especially considering that the deduction cannot reduce taxable income below zero. Since the credit is non-refundable, it is unlikely to provide a benefit greater than the maximum credit amount unless the tax liability exceeds that amount.

In conclusion, the choice between electing the non-refundable credit and deducting the expense as a business deduction depends on the company's taxable income and anticipated tax liability. For TMM Corporation with $500,000 of taxable income, electing the credit appears more beneficial because of the direct dollar-for-dollar reduction in tax liability. With only $70,000 in taxable income, the decision requires more careful analysis, but generally, the credit remains advantageous because deductions cannot reduce taxable income below zero, limiting their benefit at lower income levels.

References

• Internal Revenue Service. (2022). Publication 535, Business Expenses. IRS. https://www.irs.gov/publications/p535
• Internal Revenue Service. (2022). Publication 463, Travel, Gift, and Car Expenses. IRS. https://www.irs.gov/publications/p463
• Schneider, R. H., & Slemrod, J. (2020). Tax Policy and Economic Behavior. University of Chicago Press.
• United States Congress. (2023). Legislation Enacting Business Tax Credits. Public Law 118-xxx.
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