My current thinking is that although there is a chance of a capital gains rate hike next year, it will probably happen in January of 2011. Especially since it is already scheduled to happen then. However I was intriqued when I heard that President Obama announced he would like to eliminate capital gains entirely for small businesses for one year. However, when I researched it I found out experts believe it would expand the “small business” capital gain reduction already in affect under the stimulus bill’s recovery act. Under the current tax law (summarized below), you could only get tax relief if you invested in newly issued small business stock in 2009/2010 and held it for five years. Unfortunately, for existing business owners wishing to sell it doesn’t help. So for most business owners I’m still thinking January 2011 for a tax hike….
Under current law, 75 percent of capital gain on qualifying small business stock issued in 2009 (after February 17, 2009) and in 2010 is excluded from tax if the stock is held for at least five years. The other 25 percent of the gain is taxed at a maximum rate of 28 percent. The stimulus bill (the American Recovery and Reinvestment Act of 2009) temporarily raised the exclusion from 50 percent. After 2010, the exclusion is scheduled to return to 50 percent, and 60 percent for businesses in empowerment zones. The maximum gain eligible for the exclusion is the greater of $10 million ($5 million for married taxpayers filing separately) less any gain reported on prior tax returns, or 10 times the taxpayer’s cost basis (purchase price plus fees). Seven percent of the excluded gain is an AMT preference item (added to the AMT measure of income and subject to the alternative tax) The AMT preference is scheduled to increase after 2010 to 28 percent of the excluded gain on stock acquired in 2001 and to 42 percent on stock acquired on or before December 31, 2000.
To qualify as a small business, the corporation may not have gross assets of $50 million or more and may not be an S corporation. The business must also meet certain active trade or business requirements. As a result, small businesses in the service sector, hospitality, farming, finance, insurance, and mineral extraction do not generally qualify for special treatment.
The result of all these complicated rules is that new stock issued by certain small businesses is generally taxed at one-quarter of the taxpayer’s marginal rate (up to a maximum of 28 percent) as long as it is held for at least five years. Thus, the maximum rate for qualifying small business stock is 7 percent. After 2010, the exclusion returns to 50 percent, and the effective capital gains tax rate on qualifying small business stock will double to 14 percent (11.2 percent in empowerment zones).