Section 1400n(d)(2) Tax Benefits and Eligibility for Businesses
Explore how businesses can navigate Section 1400n(d)(2) to optimize tax benefits through strategic eligibility and compliance planning.
Section 1400N of the Internal Revenue Code provided tax incentives aimed at encouraging business investment in specific areas affected by major disasters, primarily Hurricanes Katrina, Rita, and Wilma. These benefits were designed to lower a company’s federal tax liability, offering financial relief for businesses rebuilding or operating in designated recovery zones.
While these provisions were specific, understanding their application was important for maximizing savings and ensuring compliance.
Qualifying Areas or Properties
Eligibility for these tax benefits was geographically restricted to properties located within the Gulf Opportunity Zone (GO Zone), the Rita GO Zone, or the Wilma GO Zone. Congress established these zones through the Gulf Opportunity Zone Act of 2005, responding to the hurricane devastation and aiming to stimulate economic recovery.1Congress.gov. H.R.4440 – Gulf Opportunity Zone Act of 2005
These zones were formally defined under Internal Revenue Code Section 1400M, encompassing areas determined by the President to warrant federal disaster assistance. The specific counties and parishes included were based on Federal Emergency Management Agency (FEMA) designations and detailed in IRS Publication 4492.
A property had to be physically situated within one of these officially demarcated zones across Alabama, Louisiana, Mississippi, Florida, or Texas to potentially qualify for the associated tax benefits. This geographic requirement ensured the incentives targeted the intended communities.
Determining Eligible Expenditures
The primary tax incentive under Section 1400N was a special 50% additional first-year depreciation deduction, often called bonus depreciation, available for expenditures on “qualified Gulf Opportunity Zone property.” The eligible expenditure was the cost basis of this property.
Qualified property generally included tangible property subject to the Modified Accelerated Cost Recovery System (MACRS) with a recovery period of 20 years or less, certain computer software, water utility property, and qualified leasehold improvement property, aligning with rules similar to those under Section 168 at the time. Uniquely, it also included nonresidential real property and residential rental property located in the zones.
A key requirement was that the “original use” of the property had to begin with the taxpayer within the GO Zone after August 27, 2005. IRS guidance, such as Notice 2006-77 and Notice 2007-36, clarified that “original use” meant the first use anywhere. However, used property could qualify if it hadn’t been previously used within the GO Zone, allowing businesses to bring used assets into the zone.
The property generally had to be acquired by purchase, as defined in Section 179, after August 27, 2005, without a prior binding contract. It also needed to be placed in service by December 31, 2007, extended to December 31, 2008, for nonresidential real and residential rental property. Further extensions to December 31, 2010, applied in the most damaged areas for certain property costs incurred before January 1, 2010 (known as “progress expenditures”), per IRS Notice 2007-36.
Certain expenditures were ineligible. Property used for golf courses, country clubs, massage parlors, hot tub or suntan facilities, gambling establishments, and stores primarily selling alcohol for off-site consumption did not qualify. Property financed with tax-exempt bonds under Section 103 or subject to alternative depreciation systems was also generally excluded. The property had to be used in the active conduct of a trade or business within the zone, not merely held for income production, according to IRS guidance.
Interaction with Other Provisions
The special 50% GO Zone bonus depreciation interacted with other tax code provisions. It generally followed the mechanics of bonus depreciation rules under Section 168 but had specific modifications.
When claimed, the GO Zone bonus depreciation reduced the property’s adjusted basis before calculating regular MACRS depreciation. As outlined in IRS Form 4562 instructions and guidance like Notice 2006-77, the bonus depreciation was taken first, ensuring total deductions did not exceed the property’s cost.
The GO Zone Act also increased the Section 179 expensing limitations for qualifying property. Taxpayers typically applied the Section 179 deduction first, then calculated the 50% GO Zone bonus depreciation on the remaining basis, followed by regular MACRS depreciation on the final adjusted basis. This order could maximize first-year deductions.
Importantly, the GO Zone bonus depreciation was allowed in full when calculating Alternative Minimum Tax (AMT), and no AMT adjustment was needed for the regular MACRS depreciation on the remaining basis of the GO Zone property, as confirmed by IRS guidance. This preserved the value of the incentive for taxpayers subject to AMT.
State tax laws also played a role. States varied in their conformity to federal tax changes like bonus depreciation. Businesses needed to check their specific state’s rules to determine if the federal GO Zone bonus depreciation was allowed for state income tax purposes or if adjustments were necessary.
Filing Procedure
Businesses claimed the 50% GO Zone bonus depreciation on IRS Form 4562, Depreciation and Amortization. The calculated amount was typically reported in Part II, designated for special depreciation allowances, according to form instructions for the relevant years (e.g., 2006-2008).
Completed Form 4562 was attached to the business’s main federal income tax return (such as Form 1120, Form 1065, or Schedule C of Form 1040).
Maintaining thorough records was essential, as required by standard IRS regulations under Section 6001. Taxpayers needed documentation proving the property met all GO Zone qualifications, including purchase details, acquisition and placed-in-service dates, location evidence, original use confirmation, and cost basis calculations. Records should be kept as long as needed for tax administration, generally at least three years.
Taxpayers could elect out of the GO Zone bonus depreciation for any property class (e.g., all 5-year property). This election, detailed in guidance like IRS Notice 2006-77, required attaching a statement to a timely filed tax return identifying the property class.2Internal Revenue Service. IRS Notice 2006-77: Guidance Regarding the Gulf Opportunity Zone Act of 2005 The election was generally irrevocable without IRS consent. Simply failing to claim the deduction did not constitute a valid election out.