Small Businesses Get a Tax Break Too

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October 13, 2004--Included in the American Jobs Creation Act of 2004, the $136 billion corporate tax-cut bill passed yesterday by the U.S. Senate, is a provision to reform Subchapter S thereby increasing the number of small business eligible to receive the law's unique treatment of taxes.

Under Subchapter S, corporations are taxed only at the shareholder level. Business income is passed from the enterprise to the shareholder where it is taxed as personal income rather than corporate earnings.

"Subchapter S avoids double taxing," said Paul Merski, Director of Federal Tax Policy for The Independent Community Bankers of America. "A C corporation [traditional form of incorporation] takes two bites out of the apple, whereas S takes only one."

The new legislation expands Subchapter S eligibility through two key reforms: increasing the number of shareholders permitted from 75 to 100 and counting family members as only one shareholder.

These two changes alone could lead to a substantial tax savings for small businesses. "By allowing a greater number of shareholders, small businesses can save $670 million in taxes," said Merski. "Counting families as one shareholder could save push the tax relief well over $700 million."

Other reforms in the legislation include: permitting Subchapter S shares to be held in IRAs, extending through 2007 the increase in small business expensing from $25,000 to $100,000, accelerated depreciation for leasehold and restaurant improvement, and a decrease from $100,000 to $25,000 in the annual allowable expense of certain SUVs for businesses use.