Credits Benefiting Disadvantaged Groups

The tax laws have historically been used to encourage certain activities that the government deems desirable, but that people might not otherwise undertake on their own because the economic rewards are perceived as insufficient. The nine credits in this group are good examples of that type of policy. They are the disabled access credit, the empowerment zone employment credit, the Indian employment credit, the credit for contributions to community development corporations, the new markets credit, the low-income housing credit, the work opportunity tax credit, and the welfare-to-work credit.

Work opportunity tax credit. This credit was designed to provide an incentive to hire persons from certain disadvantaged groups that have a particularly high unemployment rate (including urban youths, government assistance recipients, ex-convicts, veterans, and vocational rehabilitation referrals). It was created in 1996 to replace the expired targeted jobs credit.

Save Money The Katrina Emergency Tax Relief Act of 2005 expands the Work Opportunity Tax Credit (WOTC) to include a new target group: "Hurricane Katrina employees." A Hurricane Katrina employee is an individual whose principal place of residence was in the core disaster area on August 28, 2005. If a business employed a particular worker on August 28, however, it is ineligible for a WOTC for that worker. Employers must take the credit for an individual hired to work in a core disaster area by August 27, 2007; employers can take the credit for a displaced individual hired by December 31, 2005, regardless of where the employee works.

The WOTC has been extended a number of times and currently applies to the wages of employees who begin working for the employer through December 31, 2006. For 2007, the WOTC and the welfare-to-work tax credits will be combined and extended for an additional year (as explained below).

For targeted employees hired in 2001 through 2006, employers may generally claim a credit equal to 40 percent of the first $6,000 (i.e., $2,400) of qualified wages paid during an employee's first year of employment, provided the employee performs at least 400 hours of service. If an employee works less than 400 hours, but at least 120 hours, the credit is reduced to 25 percent. No credit is available for employees who work fewer than 120 hours.

The credit applies to the wages of the following groups:

• families receiving cash welfare benefits for at least nine months
• veterans who are members of families receiving assistance or food stamps
• high-risk youth age 18 through 24 on their hiring date who live in an empowerment zone or enterprise community
• vocational rehabilitation referrals certified to have a physical or mental disability
• qualified summer youth employees aged 16 or 17 on the hiring date who live in an empowerment zone or enterprise community, perform services during a 90-day period between May 1 and September 15, and who have not previously worked for the employer
• ex-felons hired not more than one year after the later of their conviction or release from prison, who are members of low-income families
• individuals aged 18 to 24 who are in families that have been receiving food stamps for six months
• Supplemental Security Income (SSI) beneficiaries

Under special provisions, an employer's credit for hiring an eligible summer youth employee is only 40 percent of the first $3,000 of wages earned during the 90-day period. If the summer youth employee continues working for the employer after the 90-day period, the employer can get an additional credit until the employee earns $6,000 for the year if the employee qualifies as a member of another targeted group (e.g. part of a family receiving food stamps for six months).

Did You Know? Effective May 26, 2007, the Small Business and Work Opportunity Tax Act of 2007 (2007 Small Business Tax Act) expands the targeted veterans' community. It now includes veterans with service-connected disabilities who have been unemployed for six months or more during a one year period ending on the hire date (the six months does not have to be consecutive) and are hired within one year after having been discharged from the military or released from active duty. Additionally, the new law raises the qualified wage threshold for the expanded veterans' groups (from $6,000 to $12,000). The high-risk youth and vocational rehabilitation referral targeted groups have also been expanded. The new law expands the high-risk youth target group to include individuals from rural renewal counties. These are counties outside of metropolitan areas that experienced population losses in the 1990s.

The WOTC is part of the general business credit. The total of all your general business credits can't reduce your current year's tax bill below the larger of (a) your tentative minimum tax or (b) 25 percent of the part of your regular tax bill that exceeds $25,000.

For 2007 and later years, the WOTC and the welfare-to-work tax credits will be combined. The 2007 Small Business Tax Act extends the WOTC through August 31, 2011.

The combined credit would be available on an elective basis for employers hiring individuals from one or more of all nine targeted groups. The nine targeted groups are the present-law eight groups with the addition of the welfare-to-work credit/long-term family assistance recipient as the ninth targeted group.

For the eight work opportunity tax credit categories, the credit would equal 40 percent (25 percent for employment of 400 hours or less) of qualified first-year wages. Generally, qualified first-year wages would be qualified wages (not in excess of $6,000) attributable to service rendered by a member of a targeted group during the one-year period beginning with the day the individual began work for the employer. Therefore, the maximum credit per employee for members of any of the eight work opportunity tax credit targeted groups generally would be $2,400 (40 percent of the first $6,000 of qualified first-year wages). With respect to qualified summer youth employees, the maximum credit remains $1,200 (40 percent of the first $3,000 of qualified first-year wages). For the welfare-to-work/long-term family assistance recipients, the maximum credit equals $4,000 per employee (40 percent of $10,000 of wages).

In the case of long-term family assistance recipients the maximum credit is $5,000 (50 percent of the first $10,000 of qualified second-year wages). Also, the provision changes the present-law 21-day certification requirement to 28 days.

No credit would be allowed for qualified wages paid to employees who work less than 120 hours in the first year of employment.

In 2007, coordination between the credits would no longer be necessary once the two credits are combined.

Welfare-to-Work Tax Credit. A tax credit is provided to employers who hire qualified long-term family assistance (AFDC or its successor program) recipients. The credit is equal to 35 percent of up to $10,000 of wages in the first year and up to 50 percent of up to $10,000 in the second year of employment, for a two-year maximum credit of $8,500 per employee. The credit is available for employees hired from January 1, 1998, through December 31, 2006, and is claimed on Form 8861, Welfare-to-Work Credit.

The Welfare-to-Work Tax Credit is part of the general business credit. The total of all your general business credits can't reduce your current year's tax bill below the larger of (a) your tentative minimum tax or (b) 25 percent of the part of your regular tax bill that exceeds $25,000.

As mentioned in the previous section, the WOTC and the welfare-to-work tax credits will be combined and extended for 2007.

Work Smart Note that if you claim the welfare-to-work credit for an employee, you can't also claim the work opportunity credit with respect to that employee. The welfare-to-work credit is more generous, so it will usually be more beneficial to claim it, rather than the work opportunity credit, where the employee would qualify for both. Keep in mind, though, that changes to the law make coordination no longer necessary once the two credits are combined in 2007.

Disabled Access Credit. Under the Americans with Disabilities Act of 1990 (ADA), businesses that are open to the public ("public accommodations," in legal language) must accommodate or help persons with disabilities seeking to use their services. They must also remove physical barriers to the disabled, if removal is "readily achievable" (the regulations say that moving tables in a restaurant is "readily achievable," but widening a doorway is not). What's more, any renovations or new construction must include provisions for accessibility by the disabled, in accordance with certain very technical specifications.

Small businesses that are faced with making changes to obey the ADA have been given a "carrot," in the form of a tax credit, to encourage them to comply with the law. For any year, the tax laws allow you to claim a credit for 50 percent of your eligible access expenditures that exceed $250 but don't exceed $10,250. So, you can't claim more than $5,000 in any one year. The "eligible access expenditures" include not only expenses for removal of physical barriers (in renovations, but not new construction), but also expenses for deaf interpreters; readers for the blind; equipment or devices to make services available to the deaf, blind, or other disabled persons; or similar expenses.

Save Money If you anticipate that your disabled accommodation expenses will exceed $10,250, try to spread them over more than one year in order to take maximum advantage of the tax credit.

This tax credit is available only to small businesses — that is, those having: (1) gross receipts of $1 million or less, or (2) having no more than 30 full-time employees.

The Disabled Access Credit is claimed on Form 8826, Disabled Access Credit, and is part of the general business credit. In addition to the dollar limit mentioned above, the total of all your general business credits can't reduce your current year's tax bill below the larger of (a) your tentative minimum tax or (b) 25 percent of the part of your regular tax bill that exceeds $25,000.

Empowerment Zone Employment Credit. If your business is located in a federal "empowerment zone," and you hire workers who also live and work within the zone, you can get a tax credit for 20 percent of the first $15,000 of wages paid to each of your workers (i.e., $3,000 maximum credit per employee each year). The workers can be full-time or part-time, so long as a substantial portion of their work is done within the zone and as part of your trade or business (prior to August 5, 1997, substantially all of their work had to be performed in the empowerment zone). You can't count wages paid to employees who worked for less than 90 days (unless the worker became disabled or was fired for misconduct); employees who are closely related to you; employees who own 5 percent or more of the business; or employees at golf courses, country clubs, massage parlors, hot tub facilities, suntan facilities, racetrack or gambling facilities, or liquor stores.

Where are these zones? The initial zones created involve certain designated parts of Atlanta, Baltimore, Chicago, Detroit, New York, and Philadelphia; portions of Clinton, Jackson, and Wayne Counties in Kentucky; portions of Bolivar, Sunflower, Leflore, Washington, Humphreys, and Holmes Counties in Mississippi; and portions of Starr, Cameron, Hidalgo, and Willacy Counties in Texas. The phase out of the credit for these areas that was to begin in 2002 has been eliminated.

In 1999, 20 more empowerment zones were designated, located in Boston; Bridgeton/Vineland, New Jersey; Cincinnati, Columbia/Sumter, South Carolina; Columbus, Ohio; El Paso, Texas; Gary/East Chicago, Indiana; Huntington, West Virginia; Ironton, Ohio; Knoxville, Tennessee; Miami, Florida; Minneapolis, Minnesota; New Haven, Connecticut; Norfolk/Portsmouth, Virginia; Santa Ana, California; St. Louis, Missouri /East St. Louis, Illinois; Cordele, Georgia; Fargo, North Dakota; Oglala Sioux Reservation in Pine Ridge, South Dakota; Riverside County, California; and Ulline, Illinois. These empowerment zones were not eligible for a wage tax credit until 2002. To help compensate for this, eligible employers may expense (rather than depreciate) $35,000 of additional qualified zone property in 2002.

Beginning in 1998, portions of Washington, D.C. have been designated as enterprise zones that are eligible for the empowerment zone wage tax credit. This law expired on December 31, 2003. In contrast, the lives of all the other enterprise zones have been extended through December 31, 2009.

In 2002, the following eight new zones were designated: Pulaski County, Arkansas; Fresno, California; Jacksonville, Florida; Syracuse and Yonkers, New York; Oklahoma City, Oklahoma; and San Antonio, Texas. Business in the new zones will share the same tax incentives as other existing zones (i.e., a 20 percent wage credit, $35,000 of additional expensing of property and enhanced tax-exempt financing benefits). The tax incentives would begin in 2002 and end December 31, 2009.

If you live in one of these designated cities or areas, contact your city or county government to find out the exact boundaries of the empowerment zones.

The empowerment zone employment tax credit is claimed on Form 8848, Empowerment Zone Employment Credit, and is part of the general business credit.

Indian employment credit. If your business is located on an Indian reservation, and you have employees who live on or near the reservation, you may be eligible for a special tax credit. You can claim a credit for 20 percent of your wages or health insurance costs for the year (up to $20,000 per employee) that exceed the total of comparable costs you had in 1993. However, the employee must be an enrolled member, or the spouse of an enrolled member, of an Indian tribe.

Until it expires for tax years starting after 2007, the credit is claimed on Form 8845, Indian Employment Credit, and is part of the general business credit. The total of all your general business credits can't reduce your current year's tax bill below the larger of (a) your tentative minimum tax or (b) 25 percent of the part of your regular tax bill that exceeds $25,000.

Credit for contributions to community development corporations. The government wants to encourage you to make gifts or long-term loans to community development corporations (CDCs) that provide employment and business opportunities to low-income individuals. So, you can claim a tax credit for 5 percent of the amount you contribute, for each of 10 tax years beginning with the year you make the contribution. Eventually, you'll get tax credits for 50 percent of the contribution.

If the contribution is a gift, you can also take a charitable contribution deduction for the full amount, in the year you make it. If the contribution is a loan, the loan term must be at least 10 years. The CDC must be one of 20 organizations selected by the Secretary of HUD.

The CDC contribution credit is claimed on Form 8847, Credit for Contributions to Selected Community Development Corporations, and is part of the general business credit. The total of all your general business credits can't reduce your current year's tax bill below the larger of (a) your tentative minimum tax or (b) 25 percent of the part of your regular tax bill that exceeds $25,000.

A CDE is any domestic corporation or partnership whose primary mission is serving or providing investment capital for low-income communities or low-income persons, that maintains accountability to residents of low-income communities through representation on governing or advisory boards of the CDE, and is certified by the Treasury Department as an eligible CDE. Examples of CDEs include community development banks, venture funds, and new investment companies.

The credit is worth over 30 percent of the amount invested (in present value terms). An investor is allowed a five percent credit for the year in which the equity interest is purchased from the CDE and for the first two anniversary dates after the purchase from the CDE. The investor is also entitled to a six percent credit on each anniversary date thereafter for the following four years. The credit is recaptured if the entity fails to continue to be a CDE or the interest is redeemed within seven years. The maximum annual amount of qualifying equity investments is capped at $3.5 billion 2006 through 2008.

Did You Know? The Gulf Opportunity Zone Act of 2005 expands the New Markets Tax Credit for the Katrina GO Zone (i.e., the presidentially declared disaster area affected by Hurricane Katrina). CDEs are allowed an additional $300 million in 2005 and 2006 and $400 million in 2007.

The credit is claimed on Form 8874, New Markets Credit.

Low-Income Housing Credit. A tax credit is available for low-income housing that's constructed, rehabilitated, or acquired after 1986. The credit amounts to 70 percent of the qualified basis of non-federally subsidized units, or 30 percent of the qualified basis of units financed with tax-exempt bonds or other federal subsidies, but it must be claimed over a period of 10 years. The property must continue to meet the "low-income" requirements for at least 15 years. If you purchase qualified property on which the credit is being claimed, before the 10 year period is up, you may be able to "step into the shoes" of the seller and claim the remainder of the credit.

The credit is claimed on Form 8586, Low-Income Housing Credit, and is part of the general business credit. The total of all your general business credits can't reduce your current year's tax bill below the larger of (a) your tentative minimum tax or (b) 25 percent of the part of your regular tax bill that exceeds $25,000.

Did You Know? The Small Business and Work Opportunity Tax Act of 2007 (2007 Small Business Tax Act) expands the scope of, and loosens the rules for, the low-income housing credit as applied to buildings in the GO Zones. Extended placed-in-service dates. Under the Gulf Opportunity Act of 2005, the GO Zone, the Rita GO Zone, and Wilma GO Zone were all treated as high-cost areas for property placed into service during calendar years 2006, 2007 and 2008. Property placed in service in these areas during the applicable tax years qualified for the enhanced low-income housing credit. The placed-in-service date is now extended for the enhanced credit in these areas through 2010. Carryover allocations. Previously, the owner of a qualified building could only claim a credit installment if the owner received a housing credit allocation from the state or local housing credit agency before the end of the year. An exception to this existed where a builder could carry over an allocation because: More than 10 percent of the taxpayer's reasonably expected basis was incurred as of the later of six months after the allocation from the government was made or the end of the calendar year in which the allocation was made; and The building was placed in service in the GO Zone before the end of the second calendar year following the calendar year of allocation. The 2007 Small Business Tax Act repeals these two requirements, allowing owners of a qualified building to more easily carry over a credit installment for the 2006, 2007 and 2008 tax years. This removes all obstacles for taxpayers, who have not yet received low-income housing credit allocations from the state and local government, to carry over credits from the 2006 calendar year.

If you're interested in investing in low-income housing to take advantage of the tax credit, you will definitely need the assistance of an attorney who is well-versed in this very complicated subject.