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previous page Previous Page: Publication 954 - Tax Incentives for Empowerment Zones and Other Distressed Communities - Tax Incentives for Distressed Communities
next page Next Page: Publication 954 - Tax Incentives for Empowerment Zones and Other Distressed Communities - Renewal Communities
 Use previous pagenext page to find additional occurrences of topic items.Index for this Publication
taxmap/pubs/p954-001.htm#TXMP60936eac

Empowerment Zones


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Empowerment Zone

This section describes the areas that have been designated empowerment zones and explains the tax benefits available to businesses in those zones.
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Designated Zones


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Designated Zones

The following paragraphs describe current designations of empowerment zones. The empowerment zone designations will generally remain in effect until the end of 2009.
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Urban areas.


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Parts of the following urban areas are empowerment zones. You can find out if your business or an employee's residence is located within an urban empowerment zone by using the RC/EZ/EC Address Locator at www.hud.gov/crlocator or by calling 1-800-998-9999.
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Washington, DC.


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Under section 1400, parts of Washington, DC, are treated as an empowerment zone. For details, use the RC/EZ/EC Address Locator at www.hud.gov/crlocator or see Notice 98-57, on page 9 of Internal Revenue Bulletin 1998-47 at www.irs.gov/pub/irs-irbs/irb98-47.pdf.
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Rural areas.


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Parts of the following rural areas are empowerment zones. You can find out if your business is located within a rural empowerment zone by using the RC/EZ/EC Address Locator at www.hud.gov/crlocator or by calling 1-800-645-4712.
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Empowerment Zone Employment Credit


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Empowerment Zone Employment Credit

The empowerment zone employment credit provides businesses with an incentive to hire individuals who both live and work in an empowerment zone. (An exception applies to the Washington, DC empowerment zone. Individuals who work in the Washington, DC empowerment zone may live anywhere in the District of Columbia.) You can claim the credit if you pay or incur "qualified zone wages" to a "qualified zone employee."
The credit is 20% of the qualified zone wages paid or incurred during a calendar year. The amount of qualified zone wages you can use to figure the credit cannot be more than $15,000 for each employee for each calendar year. As a result, the credit can be as much as $3,000 (20% of $15,000) per qualified zone employee each year.
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Qualified zone employee.


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A qualified zone employee is any employee who meets both of the following tests.
  1. The employee performs substantially all of his or her services for you within an empowerment zone and in your trade or business.
  2. While performing those services, the employee's main home is within that empowerment zone (for services performed within the DC Zone, the employee's main home may be anywhere within the District of Columbia).
Both full-time and part-time employees may qualify.
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Substantially all services performed within the zone.
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You can use the pay-period method or the calendar-year method to determine the period of time the employee has performed services in the zone. For details, see section 1.1396–1 of the regulations.
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Nonqualified employees.
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The following individuals are not qualified zone employees. For more details, see the Form 8844 instructions.
  1. An individual you employ for less than 90 calendar days. However, this 90-day requirement does not apply in either of the following situations.
    1. You terminate the employee because of misconduct as determined under the state unemployment compensation law that applies.
    2. The employee becomes disabled before the 90th day. However, if the disability ends before the 90th day, you must offer to reemploy the former employee.
  2. Certain related taxpayers.
  3. Certain dependents.
  4. Any 5% owner.
  5. An individual you employ at any:
    1. Private or commercial golf course,
    2. Country club,
    3. Massage parlor,
    4. Hot tub facility,
    5. Suntan facility,
    6. Racetrack, or other facility used for gambling, or
    7. Store whose principal business is the sale of alcoholic beverages for off-premise consumption.
  6. Any individual you employ in a farming trade or business if, at the close of the tax year, the sum of the following amounts is more than $500,000.
    1. The larger of the unadjusted bases or fair market value of the farm assets you own.
    2. The value of the farm assets you lease.
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Qualified zone wages.


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Qualified zone wages are any wages you pay or incur for services performed by an employee while the employee is a qualified zone employee (defined earlier). Wages are generally defined as wages (excluding tips) subject to the Federal Unemployment Tax Act (FUTA) without regard to the FUTA dollar limit.
Also treat as qualified zone wages certain training and education expenses you pay or incur on behalf of a qualified zone employee.
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Effect of welfare-to-work, work opportunity, or New York Liberty Zone business employee credit.
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Qualified zone wages do not include any amount you take into account in figuring the welfare-to-work credit, the work opportunity credit, or the New York Liberty Zone business employee credit. In addition, you must reduce the $15,000 maximum qualified zone wages for each qualified zone employee by the amount of wages you use to figure any of those credits for that employee.
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Fiscal year taxpayers.


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If you use a fiscal tax year, the amount of qualified zone wages you use to figure the credit is the amount paid or incurred during the calendar year that ends during your tax year.
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Example.

Your tax year begins on February 1 and ends on January 31 of the next year. You use the cash method of accounting and have one employee, whom you hired in March 2003 and pay $1,000 a month. You paid that employee qualified zone wages of $10,000 in calendar year 2003 and $1,000 in January 2004. When you figure your credit for the tax year ending January 31, 2004, you use the $10,000 paid in 2003 but cannot use the $1,000 paid in January 2004. That amount will be used to figure the credit on your next tax return.
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Claiming the credit.


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Use Form 8844 to claim this credit. Although the empowerment zone employment credit is a component of the general business credit, a special tax liability limit applies to this credit. Therefore, you figure the credit separately and never carry it to Form 3800, General Business Credit.
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Effect on salary and wage deduction.
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In general, you must reduce the deduction on your income tax return for salaries and wages and certain education and training costs by the amount of your current year empowerment zone employment credit (before applying the tax liability limit).
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More information.


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For more information about the empowerment zone employment credit, see Form 8844.
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Increased Section 179 Deduction


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Section 179 of the Internal Revenue Code allows you to choose to deduct all or part of the cost of certain qualifying property in the year you place it in service. You can do this instead of recovering the cost by taking depreciation deductions over a specified recovery period. There are limits, however, on the amount you can deduct in a tax year.
You may be able to claim an increased section 179 deduction if your business qualifies as an "enterprise zone business." The increase can be as much as $35,000. This increased section 179 deduction applies to "qualified zone property" you place in service in an empowerment zone.
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Enterprise zone business.


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For the increased section 179 deduction, a corporation, partnership, or sole proprietorship is an enterprise zone business if all the following statements are true for the tax year.
  1. Every trade or business of the corporation or partnership is the active conduct of a qualified business (defined later) within an empowerment zone. (This rule does not apply to a sole proprietorship.)
  2. At least 50% of its total gross income is from the active conduct of a qualified business within a zone.
  3. A substantial part of the use of its tangible property is within a zone.
  4. A substantial part of its intangible property is used in the active conduct of the business.
  5. A substantial part of the employees' services are performed within a zone.
  6. At least 35% of the employees are residents of an empowerment zone. (This rule does not apply to businesses in the DC Zone.)
  7. Less than 5% of the average of the total unadjusted bases of the property owned by the business is from:
    1. Nonqualified financial property (generally, debt, stock, partnership interests, options, futures contracts, forward contracts, warrants, notional principal contracts, and annuities), or
    2. Collectibles not held primarily for sale to customers.
For a sole proprietorship, the term "employee" in (5) and (6) includes the proprietor.
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Qualified business.
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A qualified business is generally any trade or business except one that consists primarily of the development or holding of intangibles for sale or license.
However, the rental to others of real property located in an empowerment zone is a qualified business only if the property is not residential rental property and at least 50% of the gross rental income from the property is from enterprise zone businesses.
The rental to others of tangible personal property is a qualified business only if at least 50% of the rentals of the property are to enterprise zone businesses or zone residents.
Also, a qualified business does not include any business listed earlier in item (5) or item (6) under Nonqualified employees in the Empowerment Zone Employment Credit section.
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Qualified zone property.


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For the increased section 179 deduction, qualified zone property is any depreciable tangible property if all the following are true.
  1. You acquired the property after the zone designation took effect.
  2. You did not acquire the property from a related person or member of a controlled group of which you are a member.
  3. Your basis in the property is not determined either by its adjusted basis in the hands of the person from whom you acquired it or under the stepped-up basis rules for property acquired from a decedent.
  4. You were the first person to use the property in an empowerment zone.
  5. At least 85% of the property's use is in an empowerment zone and in the active conduct of a qualified trade or business in the zone.
Buildings are qualified zone property, but they do not qualify for the section 179 deduction. Used property may be qualified zone property if it has not previously been used within an empowerment zone.
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Special rule for substantially renovated property.
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Property will be treated as having met requirements (1) and (4) if you substantially renovate the property. You substantially renovate property if, during any 24-month period beginning after the zone designation took effect, your additions to the property's basis are more than the greater of the following amounts.
  1. 100% of the adjusted basis of the property at the beginning of the 24-month period.
  2. $5,000.
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Section 179 deduction limits.


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There are limits on the amount you can deduct under section 179. The following sections explain how these limits are increased for certain qualified zone property placed in service by an enterprise zone business.
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Maximum dollar limit.
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The total cost of section 179 property that you can deduct for a tax year generally cannot be more than the maximum section 179 dollar limit. However, if you place section 179 property that is qualified zone property in service during the year, this maximum dollar limit is increased by the smaller of the following amounts.
  1. The cost of that property.
  2. $35,000.
The following table shows these maximum dollar limits.
Table 2. Maximum Dollar Limits
  Maximum
 MaximumDollar Limit
For Tax YearsSection 179With Qualified
Beginning In:Dollar LimitZone Property
2002$ 24,000$ 59,000
2003100,000135,000
2004102,000 *137,000 *
2005 Inflation
Adjusted
Inflation
Adjusted
*Inflation-adjusted amount for 2004
Deposit
For 2005, the total amount you can elect to deduct under section 179 will be increased to reflect an adjustment for inflation. The inflation-adjusted amount for 2004 is $102,000 (rounded to the nearest multiple of $1,000).
These maximum dollar limits are reduced if you go over the investment limit (discussed next) in any tax year.
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Investment limit.


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For each dollar of your business cost over the threshold amount ($400,000 for 2003) for section 179 property placed in service in a tax year, reduce the maximum dollar limit by $1 (but not below zero). However, count only one-half of the cost of section 179 property that is also qualified zone property when figuring the investment limit.
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Reduced dollar limit for cost exceeding the threshold amount.
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If the cost of your qualifying section 179 property placed in service in 2003 is over $400,000, you must reduce the dollar limit (but not below zero) by the amount of cost over $400,000. If the cost of your section 179 property placed in service during 2003 is $500,000 or more, you cannot take a section 179 deduction and you cannot carry over the cost that is more than $500,000.
Deposit
For 2005, the threshold amount used to figure any reduction in the dollar limit will be increased to reflect an adjustment for inflation. The inflation-adjusted amount for 2004 is $410,000 (rounded to the nearest multiple of $10,000).
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Example.

In 2003, your enterprise zone business placed in service section 179 property that is qualified zone property costing $820,000. Because all of this property is qualified zone property, only $410,000 (one-half of its cost) is used to figure the investment limit. Because $410,000 is $10,000 more than $400,000, you must reduce the maximum dollar limit by $10,000. Your maximum dollar limit for 2003 is $135,000. You can claim a section 179 deduction of $125,000 ($135,000 – $10,000) for 2003 (if your taxable income from trades or businesses is at least $125,000).
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Recapture.


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The recapture rules of section 179 apply when qualified zone property is no longer used in an empowerment zone by an enterprise zone business.
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More information.


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For more information about the section 179 deduction and the increased section 179 deduction (including the section 179 deduction for off-the-shelf computer software that is placed in service in 2003), see chapter 2 of Publication 946. Also, see sections 1397A, 1397C, and 1397D of the Internal Revenue Code.
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Rollover of Gain From Sale of Empowerment Zone Assets


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If you sold a qualified empowerment zone asset that you held for more than one year, you may be able to elect to postpone part or all of the gain that you would otherwise include on Schedule D. If you make the election, the gain on the sale generally is recognized only to the extent, if any that the amount realized on the sale exceeds the cost of qualified empowerment zone assets (replacement property) you purchased during the 60-day period beginning on the date of the sale. The following rules apply.
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Qualified empowerment zone asset.


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The following are qualified empowerment zone assets.
 • Tangible property, if
  1. You acquired the property after December 21, 2000,
  2. The original use of the property in the empowerment zone began with you, and
  3. Substantially all of the use of the property, during substantially all of the time that you held it, was in your enterprise zone business; and
 • Stock in a domestic corporation or a capital or profits
  interest in a domestic partnership, if:
  1. You acquired the stock or partnership interest after December 21, 2000, solely in exchange for cash, from the corporation at its original issue (directly or through an underwriter) or from the partnership;
  2. The business was an enterprise zone business (or a new business being organized as an enterprise zone business) as of the time you acquired the stock or partnership interest; and
  3. The business qualified as an enterprise zone business during substantially all of the time during which you held the stock or partnership interest.
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How to report.


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Report the entire gain realized from the sale, as you otherwise would, without regard to the election. On Schedule D, line 8, enter "Section 1397B Rollover" in column (a) and enter as a loss in column (f) (and for 2003 only, in column (g) for sales after May 5, 2003) the amount of gain included on Schedule D that is not recognized. (If you report the sale directly on Schedule D, line 8, use the line directly below the line on which you reported the sale.)
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More information.


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For more information about rollover of gain from empowerment zone assets, see section 1397B of the Internal Revenue Code.
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Increased Exclusion of Gain From Qualified Small Business Stock


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Increased Exclusion of Gain From Qualified Small Business Stock

Taxpayers other than corporations generally can exclude from income 50% of their gain from the sale or trade of qualified small business stock held more than 5 years. If the stock is in a corporation that qualifies as an enterprise zone business (defined earlier under Increased Section 179 Deduction) during substantially all of the time you hold the stock, you can exclude 60% of your gain.
To claim this increased exclusion, you must have acquired the stock after December 21, 2000. Gain from periods after 2014 will not qualify for the increased exclusion.
The requirement that the corporation must qualify as an enterprise zone business during substantially all of the time you hold the stock will still be met if the corporation ceased to qualify after the 5-year period beginning on the date you acquired the stock. However, the gain that qualifies for the 60% exclusion cannot be more than the gain you would have had if you had sold the stock on the date the corporation ceased to qualify.
If you sell the stock after 2009, disregard the end of the empowerment zone designation on December 31, 2009, in determining whether the corporation qualified as an enterprise zone business during substantially all of the time you held the stock.
For more information about this exclusion, including a definition of qualified small business stock, see chapter 4 of Publication 550, Investment Income and Expenses.
previous pagePrevious Page: Publication 954 - Tax Incentives for Empowerment Zones and Other Distressed Communities - Tax Incentives for Distressed Communities
next pageNext Page: Publication 954 - Tax Incentives for Empowerment Zones and Other Distressed Communities - Renewal Communities
 Use previous pagenext page to find additional occurrences of topic items.Index for this Publication