This year was big.
The barrage of complex tax changes and updates were so far-reaching, that every individual and business has been touched by it in some way. With the Tax Cuts and Jobs Act (TCJA) changing the playing field in the tax realm, you may want to consider making some strategic year-end moves to help minimize your tax burden. Businesses have greatly been impacted by the TCJA for 2018, including the corporate tax rate cut to a flat 21% (previously 35%), and the addition of the QBI deduction (20% business income deduction for S-Corps, Partnerships, sole proprietors, rentals, estates & trusts) for taxpayers other than corporations (noted above).
Download 2018 Tax Rates and Tables
Download 2019 Tax Rates and Tables
The Tax Cuts and Jobs Act of 2017 (ACT) was signed into law on December 22, 2017, by President Donald Trump. The ACT was the biggest tax reform enacted in over thirty (30) years comprising of no fewer than 130 new tax provisions. Taxpayers and tax professionals will find it difficult to cope with the ACT, particularly the 20 percent (20%) deduction provision. The IRS stated it will set aside $291 million to implement the technology necessary to build their systems for the new ACT. The Joint Committee on Taxation predicts 18 million individuals will no longer itemize on their 2018 returns which is a 61.3% decrease. A second tax bill (2.0) is expected to hold a vote after mid-term elections although no hearings have been scheduled in the Ways and Means Committee.
In conclusion, we are all going to be under a huge shoot in the dark waiting for what our government has in store for us. I have listed some of the major changes in the tax reform.
Code Section 199A
Starting in 2018, business owners will potentially be allowed a deduction of 20% of their qualified business income from pass-through entities (including Schedule C, E and F businesses) when calculating taxable income. The deduction is calculated separately for each of the taxpayer’s businesses. Qualified business income is defined as the “net amount” of qualified items of income, gain, deduction, and loss with respect to any qualified trade or business of the taxpayer.” Note that shareholder wages and guaranteed payments are not included in the calculation of qualified business income. Here are the details and exceptions in simplified terms:
All businesses other than Professional Service Business:
All business owners, other than professional service businesses, can take the full 20% deduction if their taxable income is less than $315,000 married filing jointly or $157,500 single/head of household/married filing separately. Business owners whose taxable income is over $315,000 married filing jointly or $157,500 single/head of household/married filing separately may potentially be entitled to a deduction, however, it may be limited based on wages paid in the business and tangible property owned.
Professional Service Businesses:
Professional services businesses, (accountants, lawyers, doctors, etc.), can take the full 20% deduction if their taxable income is less than $315,000 married filing jointly or $157,500 single/head of household/married filing separately. Professionals whose taxable income is between $315,000 – $415,000 married filing jointly or $157,500 – $257,500 single/head of household/married filing separately may potentially be entitled to a deduction; however, it may be limited based on wages paid in the business, tangible property owned and other factors. If taxable income of a professional is over $415,000 married filing jointly or $257,500 single/head of household/married filing separately then no deduction is allowed.
Wage and tangible property limitation:
A taxpayer whose taxable income falls in the range where the wage and tangible property limitations apply will have to do a few extra calculations. The pass-through deduction will be limited to the lesser of:
- 20% of pass-through business income or 2. The greater of:
- 50% of W2 wages paid by the business or 2. 25% of W2 wages paid by the business plus 2.5% of qualified tangible property
owned by the business
The wages and qualified property for each business is allocated to the individual owner based on his/her respective ownership percentage. Qualified tangible property is defined as the unadjusted basis of assets for a period no longer than the longer of the asset’s useful life or 10 years.
I imagine this upcoming tax season to be much different than any others we CPAs have worked through thus far. We have the task of preparing 2017 returns, under the old law, while keeping in mind the new law and how that will affect our clients starting in 2018. Below are just a few ideas for the upcoming year:
Slow down the depreciation!
This may sound counterintuitive, but many business owners do not differentiate between cash flow and net profit, for tax purposes. As a result, often businesses are not prepared to write a check on April 15th to pay their tax bill. However, given the pass-through deduction for businesses and lower rates, accelerated depreciation may not be as desirable. Sure, it is great to take a large deduction all in one year, but what about all those years afterwards cash is used to pay down an asset loan without a corresponding deduction? This is a great opportunity to create income and expense matching for business owners.
Contribute to retirement and/or Health Savings Account (HSA).
Taxpayers, especially business owners, will probably have more disposable income to invest in their retirement or HSA account. Additionally, contributions to retirement accounts and HSAs could reduce taxable income for those taxpayers whose income is near or over the limitations. For example, suppose Bob is a single filer self-employed attorney whose taxable income is $175,000 before calculating the pass-through deduction. If Bob contributed $17,500 or more to a retirement account, he would be eligible to deduct the full 20 percent pass-through business deduction on his tax return.
Income shifting.
We cannot forget that S-Corporations must continue to pay “reasonable compensation” to their shareholders who provide services to the business. However, there is still an opportunity to think about how we structure the pay of business owners, other than for purposes of reducing payroll taxes. This could apply not only for S-Corporations but Partnerships as well. Shifting income from guaranteed payments to ordinary income will give partners the benefit of a deduction, assuming all limitations allow it.
Invest in assets.
Do you or a business owner who is renting an office building have an opportunity to purchase it? As we have learned, property ownership can potentially be a factor in calculating the pass- through deduction. The building may be home to other business tenants that pay rent, which would increase cash flow. The business owner would also be entitled to the pass-through deduction on the rental income as well.
Invest in employees.
Suppose a doctor is providing services at capacity and would like to slow down or take time to manage the business. We could suggest they hire another doctor to help with the overflow and take over some of the patient care. Yes, the additional wages and benefits will be an expense of the business, but what if the additional expenses reduced the doctor’s income enough to reap the pass-through business deduction? This may or may not create a huge tax savings, but the benefits could be more intangible in nature. We also may be able to justify a lower salary for the doctor (if S-Corporation) if he/she is providing fewer personal services.
Hire your Spouse/Children.
What better way to shift income, reduce taxable income and create higher wages (for purposes of the W2 limitation)? We should be careful to communicate to our clients that the spouse/child needs to be a legitimate employee. Other benefits of hiring spouses and children is the ability to contribute to an employer-sponsored plan or an IRA, (if they didn’t have earned income from another source).
Re-evaluate how your entity is taxed.
This is as good a time as ever to analyze a businesses’ entity choice. Does it perhaps now make sense for an S-Corporation to change to a partnership or C-Corporation? Should a Schedule C business convert to a different type of entity? Across the board, the tax savings may not be significantly different but depending on the business there could be reasons to change.
Plan for succession.
Business owners who are near retirement or have an interest in selling their business may now have many succession opportunities. The purchase of a business may be even more attractive to potential buyers as they may see the tax benefits and lower rates as an opportunity to take over a business that they may not have been able to afford in the past. The sale could be to a key employee or competitor or relative. This is also a good time for owners to have an appraisal or business valuation performed.
Refinance loans/contracts:
Taxpayers with high-interest loans or unfavorable contracts may have a chance to refinance or re-negotiate terms. Once businesses begin to realize tax savings, they should start showing a much healthier balance sheet in the way of increased cash, investments, and equity and decreased debt. This may give them more leverage to negotiate more favorable terms.
Innovate and expand:
An increase in cash flow, equity and borrowing ability could translate into turning ideas and plans into reality. Business owners and executives have probably bounced around the idea of
adding additional locations, expanding a product line or developing a new idea for years. Now the funds and resources may be available to make it happen.
In closing, tax reform brings new challenges to CPAs, business owners and others in the financial community, but it also provides opportunities.
New Benefits of Employee Travel Expense Reimbursement Plans Under TCJA
Do you reimburse your employees for business travel expenses? If you don’t, you may want to consider implementing a reimbursement plan, because changes under the Tax Cuts and Jobs Act (TCJA) make these reimbursements even more attractive to employees. Many businesses who do reimburse for business travel expenses find that it helps attract and retain good employees, plus travel reimbursements also come with tax benefits if you follow an IRS accepted method.
The TCJA’s Impact
Before the TCJA, unreimbursed business travel expenses generally were deductible on an employee’s individual tax return (subject to a 50% limit for meals and entertainment) as a miscellaneous itemized deduction. This allowed many employees with substantial unreimbursed expenses to recoup some of this cost on their personal income tax returns.
For 2018 through 2025, the TCJA suspends miscellaneous itemized deductions subject to the 2% of AGI floor. That means even employees who itemize deductions, and have enough expenses that they would exceed the 2% of adjusted gross income (AGI) floor, won’t be able to enjoy a tax deduction for business travel. Therefore, business travel expense reimbursements are now more important to employees than ever before.
The Potential Tax Benefits
Your business can deduct qualifying reimbursements, and they’re excluded from the employee’s taxable income. The deduction is subject to a 50% limit for meals and, under the TCJA, entertainment expenses are no longer deductible.
To be deductible and excludable, travel expenses must be legitimate business expenses and the reimbursements must comply with IRS rules. You can use either an accountable plan or the per diem method to ensure compliance.
Reimbursing Actual Expenses
An accountable plan is a formal arrangement to advance, reimburse or provide allowances for business expenses. To qualify as “accountable,” your plan must meet the following criteria:
- Payments must be for “ordinary and necessary” business expenses.
- Employees must substantiate these expenses — including amounts, times and places — ideally at least monthly.
- Employees must return any advances or allowances they can’t substantiate within a reasonable time, typically 120 days.
The IRS will treat plans that fail to meet these conditions as nonaccountable, transforming all reimbursements into wages taxable to the employee, subject to income taxes (employee) and employment taxes (employer and employee).
Keeping it Simple
With the per diem method, instead of tracking actual expenses, you use IRS tables to determine reimbursements for lodging, meals and incidental expenses, or just for meals and incidental expenses, based on location. (If you don’t go with the per diem method for lodging, you’ll need receipts to substantiate those expenses.)
Be sure you don’t pay employees more than the appropriate per diem amount. The IRS imposes heavy penalties on businesses that routinely overpay per diems.
Buying Qualifying Business Assets Before Year-End Could Reduce Your Tax Liability
There is still time to reduce your 2018 tax liability by purchasing qualifying business assets, but you need to act soon! The Tax Cuts and Jobs Act (TCJA) has enhanced two depreciation-related breaks that are popular year-end tax planning tools for businesses. To take advantage of these tax-saving measures, you must purchase qualifying assets and place them in service by the end of the tax year.
Section 179 Expensing
Effective January 1, 2018, and beyond, the ACT expanded the definition of Sec. 179 property, allowing taxpayers to elect certain improvements made to nonresidential real property after the date when the property was first placed in service. Improvements that qualify for the Sec. 179 deduction (up to $1 million) include but are not limited to:
– Roofs; – HVAC property (Heating, ventilation, and air conditioning – Security systems AND – Fire protection and alarm systems. Bonus Depreciation Modified/Phased-Out
The ACT modified the “bonus” depreciation. Under the ACT, businesses can write-off the entire cost of qualified assets purchased and placed in service after September 27, 2017. The bonus depreciation applies to NEW and USED asset purchases with lives of 20-years or less.
The 100% bonus depreciation is effective through 2022. However, it will phase-put at twenty percent (20%) each year thereafter before expiring in 2027 as follows:
– 100% in 2018-2022 – 80% in 2023 – 60% in 2024 – 40% in 2025 – 20% 2026 AND – 0% in 2027.
Traditional, Powerful Strategy
Keep in mind that Sec. 179 expensing and bonus depreciation can also be used for business vehicles. So, purchasing vehicles before year end could reduce your 2018 tax liability. But, depending on the type of vehicle, additional limits may apply.
MEALS & ENTERTAINMENT
The following is transitional guidance that may be used in determining the deductibility of business meals until the proposed regulations are issued.
Under Notice 2018-76, taxpayers may deduct 50% of an otherwise allowable business meal if:
- The expense is an ordinary and necessary expense, paid or incurred during the taxable year in carrying on any trade or business;
- The expense is not lavish or extravagant under the circumstances;
- The taxpayer, or an employee of the taxpayer, is present at the furnishing of the food or beverages;
- The food and beverages are provided to a current or potential business customer, client, consultant or similar business contact;
- In the case of food and beverages provided during or at an entertainment activity, the food and beverages are purchased separately from the entertainment, or the cost of the food and beverages is stated separately from the cost of the entertainment on one or more bills, invoices, or receipts. The entertainment disallowance rule may not be circumvented through inflating the amount charged for food and beverages.
Notice 2018-76, also includes a statement that the U.S. Department of the Treasury and IRS intend to issue separate guidance addressing the treatment of expenses for food and beverages furnished primarily to employees on the employer’s business premises.