Tax Reform - Changes Affecting Businesses

Overview of New Tax Reform Changes Affecting Businesses

On December 22, the President signed into law the Tax Cuts and Jobs Act of 2017 (TCJA). The 503-page TCJA is the largest tax overhaul since the 1986 Tax Reform Act and it will affect almost every individual and business in the United States. Unlike the provisions for individuals, which generally expire after 2025, the business-related provisions in the TCJA are permanent and generally take effect in tax years beginning after 2017.

For businesses, highlights of the TCJA include: (1) an increase in amounts that may be expensed under bonus depreciation and Section 179; (2) a 21 percent flat corporate tax rate; (3) a new business deduction for sole proprietorships and pass-through entities; and (4) the elimination of the corporate alternative minimum tax (AMT).

Changes Affecting Businesses

The following is a summary of some of the more significant changes under the new tax law that may affect your business.

Reduction in Corporate Tax Rate and Dividends Received Deduction

TCJA eliminates the graduated corporate tax rate structure and instead taxes corporate taxable income at 21 percent. It also eliminates the special tax rate for personal service corporations and repeals the maximum corporate tax rate on net capital gain as obsolete.

A corresponding change reduces the 70 percent dividends received deduction available to corporations that receive a dividend from another taxable domestic corporation to 50 percent, and the 80 percent dividends received deduction for dividends received from a 20 percent owned corporation to 65 percent.

Corporate Alternative Minimum Tax (AMT) Eliminated

TCJA repeals the corporate AMT. It also allows the AMT credit to offset the regular tax liability for any taxable year. In addition, the AMT credit is refundable for any taxable year beginning after 2017 and before 2022 in an amount equal to 50 percent (100 percent in the case of taxable years beginning in 2021) of the excess of the minimum tax credit for the taxable year over the amount of the credit allowable for the year against regular tax liability.

Enhanced Bonus Depreciation Deduction

TCJA extends and modifies the additional first-year (i.e., "bonus") depreciation deduction, which had generally been scheduled to end in 2019, through 2026 (through 2027 for longer production period property and certain aircraft). Under the new law, the 50-percent additional depreciation allowance is increased to 100 percent for property placed in service after September 27, 2017, and before January 1, 2023 (January 1, 2024, for longer production period property and certain aircraft), as well as for specified plants planted or grafted after September 27, 2017, and before January 1, 2023.

The 100-percent allowance is phased down by 20 percent per calendar year for property placed in service, and specified plants planted or grafted, in taxable years beginning after 2022 (after 2023 for longer production period property and certain aircraft).

TCJA also maintains the bonus depreciation increase amount of $8,000 for luxury passenger automobiles placed in service after December 31, 2017, that had been scheduled to be phased down in 2018 and 2019.

TCJA also removes the requirement that, in order to qualify for bonus depreciation, the original use of qualified property must begin with the taxpayer. Thus, the provision applies to purchases of used as well as new items.

TCJA also expands the definition of qualified property eligible for the additional first-year depreciation allowance to include qualified film, television and live theatrical productions, effective for productions placed in service after September 27, 2017, and before January 1, 2023.

Enhanced Section 179 Expensing

TCJA increases the maximum amount a taxpayer may expense under Code Sec. 179 to $1,000,000, and increases the phase-out threshold amount to $2,500,000. Thus, the maximum amount you may expense, for taxable years beginning after 2017, is $1,000,000 of the cost of qualifying property you place in service during the tax year. The $1,000,000 amount is reduced (but not below zero) by the amount by which the cost of qualifying property placed in service during the taxable year exceeds $2,500,000.

In addition, TCJA expands the definition of Code Sec. 179 property to include certain depreciable tangible personal property used predominantly to furnish lodging or in connection with furnishing lodging.

TCJA also expands the definition of qualified real property eligible for Code Sec. 179 expensing to include any of the following improvements to nonresidential real property placed in service after the date such property was first placed in service: roofs; heating, ventilation, and air-conditioning property; fire protection and alarm systems; and security systems.

Modifications to Depreciation Limitations on Luxury Automobiles and Personal Use Property

TCJA increases the depreciation limitations that apply to listed property, such as luxury automobiles. For passenger automobiles that qualify as luxury automobiles (i.e., gross unloaded weight of 6,000 lbs or more) placed in service after December 31, 2017, and for which the additional first-year depreciation deduction is not claimed, the maximum amount of allowable depreciation is $10,000 for the year in which the vehicle is placed in service, $16,000 for the second year, $9,600 for the third year, and $5,760 for the fourth and later years in the recovery period. The limitations are indexed for inflation for luxury passenger automobiles placed in service after 2018.

In addition, TCJA removes computer or peripheral equipment from the definition of listed property. Such property is therefore not subject to the heightened substantiation requirements that apply to listed property.

Modification of Like-Kind Exchange Rules

TCJA modifies the rule for like-kind exchanges by limiting its application to real property that is not held primarily for sale. While the provision generally applies to exchanges completed after December 31, 2017, an exception is provided for any exchange if the property disposed of by the taxpayer in the exchange is disposed of on or before December 31, 2017, or the property received by the taxpayer in the exchange is received on or before such date.

Other Changes Relating to Cost Recovery and Property Transactions

TCJA makes the following additional changes with respect to cost recovery and property transactions:

(1) allows for expensing of certain costs of replanting citrus plants lost by reason of casualty;

(2) shortens the alternative depreciation system (ADS) recovery period for residential rental property from 40 to 30 years;

(3) allows an electing real property trade or business to use the ADS recovery period in depreciating real and qualified improvement property;

(4) shortens the recovery period from 7 to 5 years for certain machinery or equipment used in a farming business;

(5) repeals the required use of the 150-percent declining balance method for depreciating property used in a farming business (i.e., for 3-, 5-, 7-, and 10-year property);

(6) excludes various types of self-created property from the definition of a "capital asset", including: patents, inventions, models or designs (whether or not patented), and secret formula and processes;

(7) specifies situations in which a contribution to the capital of a corporation is includable in the gross income of a corporation (i.e., contributions by a customer or potential customer, and contributions by governmental entities and civic groups); and

(8) tweaks the carried interest rule to provide that a profits interest must be held for three years, rather than one year, in order to receive favorable long-term capital gain treatment.

Repeal of Domestic Activities Production Deduction

TCJA repeals the deduction for domestic production activities.  For our construction and manufacturing clients, this could be the loss of a substantial deduction.

New Deduction for Qualified Business Income

If you are a sole proprietor, a partner in a partnership, a member in an LLC taxed as a partnership (hereafter, "partner"), or a shareholder in an S corporation, TCJA provides a new deduction for qualified business income for taxable years beginning after December 31, 2017, and before January 1, 2026. Trusts and estates are also eligible for this deduction.

The amount of the deduction is generally 20 percent of the taxpayer's qualifying business income from a qualified trade or business.

Example: In 2018, Joe receives $100,000 in salary from his job at XYZ Corporation and $50,000 of qualified business income from a side business that he runs as a sole proprietorship. Joe's deduction for qualified business income in 2018 is $10,000 (20 percent x $50,000).

The deduction for qualified business income is claimed by individual taxpayers on their personal tax returns. The deduction reduces taxable income. The deduction is not used in computing adjusted gross income. Thus, it does not affect limitations based on adjusted gross income.

The deduction is subject to several restrictions and limitations, discussed below.

Qualified Trade or Business. A qualified trade or business means any trade or business other than (1) a specified service trade or business, or (2) the trade or business of being an employee. A "specified service trade or business" is defined as any trade or business involving the performance of services in the fields of health, law, accounting, actuarial science, performing arts, consulting, athletics, financial services, brokerage services, including investing and investment management, trading, or dealing in securities, partnership interests, or commodities, and any trade or business where the principal asset of such trade or business is the reputation or skill of one or more of its employees. Engineering and architecture services are specifically excluded from the definition of a specified service trade or business.

Special Rule Where Taxpayer's Income is Below a Specified Threshold. The rule disqualifying specified service trades or businesses from being considered a qualified trade or business does not apply to individuals with taxable income of less than $157,500 ($315,000 for joint filers). After an individual reaches the threshold amount, the restriction is phased in over a range of $50,000 in taxable income ($100,000 for joint filers). If an individual's income falls within the range, he or she is allowed a partial deduction. Once the end of the range is reached, the deduction is completely disallowed.

"Domestic" Business Income Requirement. Items are treated as qualified items of income, gain, deduction, and loss only to the extent they are effectively connected with the conduct of a trade or business within the United States.

Qualified Business Income. Qualified business income means the net amount of qualified items of income, gain, deduction, and loss with respect to the qualified trade or business of the taxpayer. Qualified business income does not include any amount paid by an S corporation that is treated as reasonable compensation of the taxpayer, or any guaranteed payment (or other payment) to a partner for services rendered with respect to the trade or business. Qualified items do not include specified investment-related income, deductions, or losses, such as capital gains and losses, dividends and dividend equivalents, interest income other than that which is properly allocable to a trade or business, and similar items.

Loss Carryovers. If the net amount of qualified business income from all qualified trades or businesses during the tax year is a loss, it is carried forward as a loss from a qualified trade or business in the next tax year (and reduces the qualified business income for that year).

W-2 Wage Limitation. The deductible amount for each qualified trade or business is the lesser of:

(1) 20 percent of the taxpayer's qualified business income with respect to the trade or business; or

(2) the greater of: (a) 50 percent of the W-2 wages with respect to the trade or business, or (b) the sum of 25 percent of the W-2 wages with respect to the trade or business and 2.5 percent of the unadjusted basis, immediately after acquisition, of all qualified property (generally all depreciable property still within its depreciable period at the end of the tax year).

Example: Susan owns and operates a sole proprietorship that sells cupcakes. The cupcake business pays $100,000 in W-2 wages and has $350,000 in qualified business income. For the sake of simplicity, assume the business had no qualified property and that the variation of the limitation involving the unadjusted basis of such property isn't relevant. Susan's deduction for qualified business income is $50,000, which is the lesser of (a) 20 percent of $350,000 in qualified business income ($70,000), or (b) the 50 percent of W-2 wages ($50,000).

The W-2 wage limitation does not apply to individuals with taxable income of less than $157,500 ($315,000 for joint filers). After an individual reaches the threshold amount, the W-2 limitation is phased in over a range of $50,000 in taxable income ($100,000 for joint filers).

Allocation of Partnership and S Corporations Items. In the case of a partnership or S corporation, the business income deduction applies at the partner or shareholder level. Each partner in a partnership takes into account the partner's allocable share of each qualified item of income, gain, deduction, and loss, and is treated as having W-2 wages for the taxable year equal to the partner's allocable share of W-2 wages of the partnership. Similarly, each shareholder in an S corporation takes into account the shareholder's pro rata share of each qualified item and W-2 wages.

Additional Limitations on the Deduction for Qualified Business Income. This deduction for qualified business income is subject to some overriding limitations relating to taxable income, net capital gains, and other items which are beyond the scope of this letter and will not affect the amount of the deduction in most situations.

Carryover of Business Losses

TCJA provides that, for taxable years beginning after December 31, 2017, and before January 1, 2026, excess business losses of a taxpayer other than a corporation are not allowed for the taxable year. Instead, if you incur such losses, you must carry them forward and treat them as part of your net operating loss (NOL) carryforward in subsequent taxable years. Thus, TCJA generally repeals the two-year carryback and the special carryback provisions under prior law; however, it does provide a two-year carryback in the case of certain losses incurred in the trade or business of farming. NOL carryovers generally are allowed for a taxable year up to the lesser of your carryover amount or 80 percent of your taxable income determined without regard to the deduction for NOLs.

Relaxed Gross Receipts Test for Various Accounting Methods

TCJA expands the universe of taxpayers who can use various accounting methods by increasing the gross receipts threshold ("gross receipts test") under which those methods may be used. TCJA increases the limit for the gross receipts test to $25 million for using the cash method of accounting (including the use by farming C corporations and farming partnerships with a C corporation partner).

The new law also increases the limit for the gross receipts test to $25 million for exemption from the following accounting requirements/methods:

(1) uniform capitalization rules;

(2) the requirement to keep inventories (allowing taxpayers to treat inventories as non-incidental materials and supplies, or in another manner conforming with the taxpayer's financial accounting treatment of inventories); and

(3) the requirement to use the percentage-of-completion method for certain long-term contracts (allowing the use of the more favorable completed-contract method, or any other permissible exempt contract method).

Additional requirements and restrictions apply to the use of the above-mentioned accounting methods. For most, only the dollar limit for the gross receipts test has been relaxed.

Accounting Method Rules Relating to Income Recognition Modified

TCJA revises the rules associated with the recognition of income. Specifically, the new law requires a taxpayer subject to the all events test for an item of gross income to recognize such income no later than the taxable year in which such income is taken into account as income on an applicable financial statement or another financial statement under rules specified by the Secretary, but provides an exception for long-term contract income to which Code Sec. 460 applies.

TCJA also codifies the current deferral method of accounting for advance payments for goods and services provided by the IRS under Rev. Proc. 2004-34. That is, the law allows taxpayers to defer the inclusion of income associated with certain advance payments to the end of the tax year following the tax year of receipt if such income also is deferred for financial statement purposes.

Interest Deduction Rules Changed for Certain Taxpayers

Under TCJA, a taxpayer's deduction for business interest is limited to the sum of business interest income plus 30 percent of adjusted taxable income for the taxable year. There is an exception to this limitation, however, for certain small taxpayers, certain real estate businesses that make an election to be exempt from this rule, and businesses with floor plan financing, which is a specialized type of financing used by car dealerships, and for certain regulated utilities.

For smaller taxpayers, TCJA exempts from the interest limitation taxpayers with average annual gross receipts for the three-taxable year period ending with the prior taxable year that do not exceed $25 million. Further, at the taxpayer's election, any real property development, redevelopment, construction, reconstruction, acquisition, conversion, rental, operation, management, leasing, or brokerage trade or business is not treated as a trade or business for purposes of the limitation, and therefore the limitation does not apply to such trades or businesses.

Limitation on Deduction by Employers of Expenses for Fringe Benefits

TCJA provides that no deduction is allowed with respect to:

(1) an activity generally considered to be entertainment, amusement or recreation;

(2) membership dues with respect to any club organized for business, pleasure, recreation or other social purposes; or

(3) a facility or portion thereof used in connection with any of the above items.

Thus, the present-law exception to the deduction disallowance for entertainment, amusement, or recreation that is directly related to (or, in certain cases, associated with) the active conduct of the taxpayer's trade or business (and the related rule applying a 50 percent limit to such deductions) is repealed.

TCJA also disallows a deduction for expenses associated with providing any qualified transportation fringe to employees of the taxpayer, and except as necessary for ensuring the safety of an employee, any expense incurred for providing transportation (or any payment or reimbursement) for commuting between the employee's residence and place of employment.

A business may still generally deduct 50 percent of the food and beverage expenses associated with operating their trade or business (e.g., meals consumed by employees during work travel). For amounts incurred and paid after December 31, 2017, and until December 31, 2025, this 50 percent limitation is expanded to expenses of the employer associated with providing food and beverages to employees through an eating facility that meets requirements for de minimis fringes and for the convenience of the employer. Such amounts incurred and paid after December 31, 2025 are not deductible.

Employer Credit for Paid Family and Medical Leave

For 2018 and 2019, TCJA allows eligible employers to claim a general business credit equal to 12.5 percent of the amount of wages paid to qualifying employees during any period in which such employees are on family and medical leave if the rate of payment under the program is 50 percent of the wages normally paid to an employee. The credit is increased by 0.25 percentage points (but not above 25 percent) for each percentage point by which the rate of payment exceeds 50 percent.

Observation: An employer must have a written policy in place that provides family and medical leave to all employees on a non-discriminatory basis in order to qualify for the credit. Given the cost of implementing such a policy and complying with yet-to-be-announced reporting requirements, the credit may be impractical for many employers to pursue during the short period it's available. For companies that already have a qualifying family and medical leave plan in place, however, the credit may provide a nice windfall.

Partnership Rule Changes

Several changes were made to the partnership tax rules.

First, gain or loss from the sale or exchange of a partnership interest is treated as effectively connected with a U.S. trade or business to the extent that the transferor would have had effectively connected gain or loss had the partnership sold all of its assets at fair market value as of the date of the sale or exchange. Any gain or loss from the hypothetical asset sale by the partnership is allocated to interests in the partnership in the same manner as nonseparately stated income and loss.

Second, the transferee of a partnership interest must withhold 10 percent of the amount realized on the sale or exchange of the partnership interest unless the transferor certifies that the transferor is not a nonresident alien individual or foreign corporation.

Third, TCJA modifies the definition of a substantial built-in loss such that a substantial built-in loss is considered to exist if the transferee of a partnership interest would be allocated a net loss in excess of $250,000 upon a hypothetical disposition by the partnership of all partnership's assets in a fully taxable transaction for cash equal to the assets' fair market value, immediately after the transfer of the partnership interest.

Fourth, TCJA modifies the basis limitation on partner losses to provide that a partner's distributive share of items that are not deductible in computing the partnership's taxable income, and not properly chargeable to capital account, are allowed only to the extent of the partner's adjusted basis in its partnership interest at the end of the partnership taxable year in which an expenditure occurs. Thus, the basis limitation on partner losses applies to a partner's distributive share of charitable contributions and foreign taxes. Lastly, TCJA repeals the rule providing for technical terminations of partnerships. Under that rule, a partnership's existence did not necessarily end; rather, it resulted in the termination of some tax attributes and the possibly early closing of the tax year.

S Corporation Changes

TCJA makes several changes to the tax rules involving S corporations. First, it provides that income that must be taken into account when an S corporation revokes its election is taken into account ratably over six years, rather than the four years under prior law. Second, it allows a nonresident alien individual to be a potential current beneficiary of an electing small business trust (ESBT). Third, it provides that the charitable contribution deduction of an ESBT is not determined by the rules generally applicable to trusts but rather by the rules applicable to individuals. Thus, the percentage limitations and carryforward provisions applicable to individuals apply to charitable contributions made by the portion of an ESBT holding S corporation stock.

International Tax Changes

TCJA makes sweeping changes to the Unites States' international tax regime through a series of highly complex provisions that are beyond the scope of this letter.

Concluding Thoughts

As you can see, the provisions in the TCJA are quite extensive and complicated – simplification was certainly not achieved.

Be assured we will be contacting you regarding how these changes will impact your business, and what kind of strategies we can adopt to ensure that your business gets the best possible tax outcome under the new rules. 

Let us know of any questions.

Your Team at Roeser Accountancy Corporation

 

Tax Reform - Changes Affecting Individuals

Overview of New Tax Reform Changes Affecting Individuals

The following is a brief overview of the Tax Cuts and Jobs Act  (TCJA) key changes (and non-changes) affecting individuals.

Tax Rates and Brackets. The new tax reform provides seven tax brackets, with most rates being two to three points lower than the ones under present law (the top rate goes from 39.6 percent to 37 percent). The top rate kicks in at $600,000 of taxable income for joint filers, $300,000 for married taxpayers filing separately, and $400,000 for all other individual taxpayers.

Observation: While applicable rates at any given level of income generally go down by two to three points, some go up. For example, the rate for single individuals with taxable income between $200,000 and $400,000 goes from 33 percent to 35 percent.

Capital Gain Rates and Net Investment Income Tax. Tax rates on capital gains and the 3.8 percent net investment income tax (NIIT) are unchanged by TCJA.  This special tax does not generally apply to the sale of one’s business stock.

Personal Exemptions and Standard Deduction. TCJA repeals the personal exemption deductions, but nearly doubles the standard deduction amounts to $24,000 for joint filers and surviving spouses, $18,000 for heads of household, and $12,000 for single individuals and married filing separately (additional amounts for the elderly and blind are retained).

Observation: The fact that the standard deduction has nearly doubled may create the misleading impression that you'll reap a large tax benefit from the change. But, because the increase in the standard deduction was coupled with the repeal of the deduction for personal exemption ($4,150, per exemption in 2018), the actual benefit is fairly modest. For example, the overall amount of income that is exempt from tax will increase by $2,700 for joint filers - a nice increase, but nowhere near double the $13,000 standard deduction under prior law.

Because the standard deduction is generally claimed only when its amount exceeds available itemized deductions, the increases will not benefit you if you itemize (the repeal of personal exemptions, by contrast, will affect you whether you itemize or not).

Exemption for Dependents and Child Tax Credit. As part of the repeal of personal exemption deductions, TCJA repealed exemptions for dependents. To compensate, TCJA increases the child tax credit to $2,000 ($1,400 is refundable), up from $1,000 (fully refundable) under present law. The modified adjusted gross income threshold where the credit phases out is $400,000 for joint filers and $200,000 for all others (up from $230,000 and $115,000, respectively). The maximum age for a child eligible for the credit remains 16 (at the end of the tax year).

TCJA also provides a $500 nonrefundable tax credit for dependent children over age 16 and all other dependents. Most families with non-child dependents will lose some ground here, as the $500 credit will generally be less valuable than the $4,150 exemption deduction it replaces.

Other Tax Breaks for Families Unchanged. The child and dependent care expenses credit, the adoption credit, and the exclusions for dependent care assistance and adoption assistance under employer plans are all unchanged by TCJA.

Passthrough Tax Break. TCJA creates a new 20 percent deduction for qualified business income from sole proprietorships, S corporations, partnerships, and LLCs taxed as partnerships. The deduction, which is available to both itemizers and nonitemizers, is claimed by individuals on their personal tax returns as a reduction to taxable income. The new tax break is subject to some complicated restrictions and limitations, but the rules that apply to individuals with taxable income at or below $157,500 ($315,000 for joint filers) are simpler and more permissive than the ones that apply above those thresholds.

Example: In 2018, Joe receives a salary of $100,000 from his job at XYZ Corporation and $50,000 of qualified business income from a side business that he runs as a sole proprietorship. Joe has no other items of income or loss. Joe's deduction for qualified business income in 2018 is $10,000 (20 percent of $50,000).

Observation: The effective marginal tax rate on qualified business income for individuals in the top 37-percent tax bracket who are able to fully apply the new deduction will be 29.6 percent - fully 10 points lower than the top rate under current law.

Deduction for State and Local Taxes (SALT). TCJA imposes a $10,000 limit on the deduction for state and local taxes, which can be used for both property taxes and income taxes (or sales taxes in lieu of income taxes) and repeals the deduction for foreign property taxes. There is no limit on the amount of the SALT deduction under present law.

Mortgage Interest Deduction. TJCA reduces to $750,000 (from $1 million) the limit on the loan amount for which a mortgage interest deduction can be claimed by individuals, with existing loans grandfathered. TCJA also repeals the deduction for interest on home equity loans.

Deduction for Medical Expenses. An early version of the tax overhaul passed by the House would have repealed the deduction for unreimbursed medical expenses. TCJA retains that deduction and enhances it for 2017 and 2018 by lowering the adjusted gross income (AGI) floor for claiming the deduction from 10 percent to 7.5 percent for all taxpayers.

Deduction for Casualty and Theft Losses. TCJA repeals the deduction for casualty and theft losses, except for losses incurred in presidentially declared disaster areas.

Observation: The new law does, however, provide enhanced relief for victims in federally declared disaster areas in 2016 and 2017.

Deduction for Charitable Contributions. TCJA retains the charitable contribution deduction and increases the maximum contribution percentage limit from 50 percent of a taxpayer's contribution base to 60 percent for cash contributions to public charities.

Deduction for Certain Miscellaneous Expenses. TCJA repeals the deduction for any miscellaneous itemized deductions subject to 2-percent of AGI floor.

Repeal of Alimony Deduction. TCJA repeals the deduction for alimony paid and also the corresponding inclusion in income by the recipient, effective for tax years beginning in 2019. Alimony paid under separation agreements entered into prior to 2019 will generally be grandfathered under the old rules.

Education-Related Tax Breaks Preserved. TCJA retains deductions for student loan interest and educator expenses, and also exclusions for graduate student tuition waivers and employer educational assistance programs.

Alternative Minimum Tax. TCJA increases alternative minimum tax (AMT) exemption amounts by 27 percent, and sharply increases the income level where the exemption is phased out. Combined with the effects of other TCJA changes, many individuals who are currently subject AMT in 2017, will not be in 2018 and beyond.

Expanded Uses for 529 Plan Distributions. TCJA allows up to $10,000 in aggregate 529 distributions per year to be used for elementary and secondary school tuition. Under present law, 529 distributions can only be used for higher education expenses.

Repeal of Individual Healthcare Mandate. TCJA repeals the tax penalty on individuals who fail to carry health insurance enacted as part of the Affordable Care Act (ACA).

Estate and Gift Tax Exclusion. TCJA permanently doubles the basic exclusion amount for estate and gift tax purposes from $5.6 to $11.2 million, per person. So a married couple can pass on approximately 22 million without incurring estate taxes on their death.  The annual gift tax exclusion was raised from $14,000 per person to $15,000 per person starting in year 2018. Therefore, a married couple can gift $30,000 per year to an individual such as their children without tax consequences.  

Please let us know of any questions.

Your Team at Roeser Accountancy Corporation

 

Personal Use of Autos by Employees and Owners

In some situations, it makes sense for a company to give its employee's company owned or leased vehicles for their everyday use.  If you’re an employee who drives an employer-provided vehicle, you should be aware of some tax implications if you also use the vehicle for personal use.  If you are an owner and employee, these rules apply to you as well.

When an employer provides a vehicle to an employee (or owner) with no restrictions on the use, it is assumed that the vehicle will be driven for both business and personal reasons (commuting to and from work, for business during work days, and personally on the weekends and outside of work hours).  Personal use of the company-provided vehicle is considered to be a fringe benefit for the employee – a form of “non-cash” compensation.  Because of this, the employer should report the value of the employee’s personal use of the vehicle in the employee’s wages (included in box 1 on Form W-2).

This concept is important for small businesses to keep in mind. An S Corporation with two shareholders, for example, each using a company-owned vehicle, must account for the business versus personal use of the vehicles.  If the S Corporation purchased or leases the vehicles, depreciates them and takes deductions for all related expenses, the employee-shareholders are receiving a fringe benefit for the personal use of the vehicles.  The employee-shareholders should be including the value of that personal use as income on their personal returns.

The rule is for the business to include only the value associated with the employee’s personal use on their W-2.  In this case, the employee-shareholder would only be included in income the amount associated with their personal use and, therefore, would not deduct any expenses for business use on his or her individual return (unless there are some additional expenses unreimbursed by the employer).  The IRS publishes a table to determine the value of the personal use; the Annual Lease Value Table.  Please contact us for a copy.

The personal use amount should be included in the W2 and is subject to federal and state tax withholding and other usual payroll taxes such as Social Security. 

Please contact our office for further assistance with calculating the personal use amounts.

Roeser Accountancy Corporation

December 2017

 

 

 

Health Insurance for S-Corp Owners

As the 2017 year-end closes in, it’s a good time to revisit the proper treatment of health insurance premiums and S corporation “2 percent shareholders.”

If you own more than 2 percent of the outstanding stock of an S corporation (or stock giving you more than 2 percent of the total voting power), a good chance may exist that your health insurance premiums are not being handled properly at the corporate level. As a result, you could be at risk from a personal tax standpoint.

Health insurance premiums paid by an S corporation on behalf of its 2 percent shareholders should be reported as wages on shareholder W-2 forms. Too often, these payments are not included in wages because the premiums are paid along with those for rank-and-file employees.

From the corporation’s perspective, premiums are different than payroll. Unfortunately, in the eyes of the IRS, they belong on the W-2.

Excluding these amounts from wages jeopardizes the 2 percent shareholders’ ability to deduct these premiums on their personal tax return as self-employed health insurance in arriving at adjusted gross income (AGI). Based on the cost of health insurance, the value of this tax deduction is not something to take lightly.

If there are family members employed by the corporation and covered under the health plan, premium payments made on their behalf may also be required to be included in their wages. Generally, this applies to a spouse, sons, daughters, parents and other direct relatives of 2 percent shareholders.

As wages, these amounts are subject to withholding. But what about Social Security and Medicare tax?

If the 2 percent shareholders are participating in a corporate plan established for the benefit of employees and their dependents, these amounts are not subject to Social Security and Medicare. But they are subject if there is no such plan for the employees.

As far as premium payments and the personal deduction for AGI, it’s important that the corporation make the premium payment or reimburse the 2 percent shareholder making the payment. The 2 percent shareholder cannot make the payment personally.

For those clients who request, we will make the adjustments in your QuickBooks software and process payroll appropriately. 

 Roeser Accountancy Corporation

December 2017

 

How to Estimate Your Social Security Benefits

Tools for Planning Ahead

Social Security plays a vital role in the retirement planning of nearly every American. Yet it can be hard to guess how much you should expect from Social Security after you retire. By using some tools that are available, though, you can estimate how big your Social Security benefits will be when you need them.  Planning ahead is important, as there may be things you should be doing now to increase the ultimate benefit.

Here’s How its Determined

If you want to know exactly what to expect from Social Security, you’ll have to do a lot of legwork. To come up with the number, the Social Security Administration takes your entire work history, indexing your annual earnings for inflation and then choosing the 35 highest-earning years. Then, the SSA adds up those annual earnings for the 35 top years and then finds the average indexed monthly earnings.

After you have that number, you’ll run it through a formula that differs depending on your age. For example, if you’re turning 62 in 2017, then your benefit equals the sum of the following:

  • 90% of the first $885
  • 32% of the amount between $885 and $5,336
  • 15% of the amount above $5,336

The result is the primary amount, which is what your monthly benefit will be if you retire at full retirement age. If you retire early, then your benefits will be reduced. If you retire later, then you can get higher benefits. Delayed retirement credits for taking benefits past full retirement age amount to 8% per year, while the penalty for taking benefits early ranges from 5% to 7% per year.

Special Opportunities for Those Born Before 1953

For those born in 1953 or earlier, there may be opportunities to file for spousal benefits while allowing your benefits to defer and grow.  Be sure to check this out when planning your Social Security benefits or contact Bill Roeser for more information.

The Social Security Online Website Can Help

One place where you can always get a basic estimate that’s tailored reasonably well to your past work history is from your Social Security benefits statement. The SSA now mails out paper statements only once every five years, but you can always access yours via the internet from the mySocialSecurity website.  I encourage all my clients to register for the online access to their government account and review the reported history of earnings and the calculations provided.

The Social Security Administration has created several calculators to try to make it easier to come up with reasonable estimates of what your benefits will be. Four calculators can give you benefit estimates with varying degrees of sophistication and precision:

  • The Social Security Quick Calculator makes simple assumptions about your past and future earnings to give you a basic look at your estimated retirement benefit based on your current earnings. If your earnings have been relatively stable throughout most of your career, then this calculator gives a good estimate.
  • The Online Calculator offers more precision by letting you input your past work history. The calculator still has to make assumptions about the future based on what you’ve made in the most recent year. However, the actual work history makes a more accurate estimate possible than the simple calculator’s basic assumptions.
  • If you don’t want to type in your information yourself, the Retirement Estimator does some of the legwork for you. It accesses your Social Security work history directly to fill in blanks about your earnings. But it doesn’t work well if you’re currently receiving benefits based on another person’s work record.
  • The Detailed Calculator is the most sophisticated SSA tool. It gives information about both future and past retirement benefits, and dependent and survivor benefits are also available in addition to benefits based on your own work history. Still, you won’t get a complete picture of how any other benefits integrate with your own.

Until it’s actually time to file, you can’t know for certain how much your Social Security monthly benefits will be. Yet by looking at estimates, you’ll likely get close enough to be able to make good plans about your retirement finances.

For more information and additional blogs by Bill Roeser, see AccountingMatters.blog

Bill Roeser, CPA, CFP

Tax Reform is Coming! How Will it Impact You!

Today, the natural question for those of us in business or the  tax world is, “What does the election mean for tax policy in general, and tax reform in particular?”

The answer is somewhat mixed. To be sure, Republicans generally have supported lower taxes and the idea of tax reform, but they are not currently unified behind any particular plan or approach. In fact, there are meaningful differences among the policies being considered in the House and the Senate versus the tax plan proposed by President Trump. So it will be interesting to see how, or if, those differences will be resolved.

Here are five issues we think will be important in the coming discussion over tax reform. *

The Estate Tax

A number of factors make the estate tax an issue to watch in the coming year. Repeal of the estate tax is a feature of both the Trump and House Republican tax plans. Furthermore, it is a policy proposal that has fairly strong popular support. Third, it collects less than 1 percent of federal revenue, making it less of a deficit concern than many other tax-cutting priorities. And finally, the repeal of a tax is a relatively simple policy negotiation that could move quickly if it became a priority.

The House voted last year to repeal the estate tax, and the composition of the chamber has not changed much with Tuesday’s election. The main questions on this policy are whether any change to step-up basis would happen in an estate tax repeal, and whether it has the votes to pass the Senate. All in all, though, repeal of this tax seems like a priority that would have relatively little in its way.

Pass-through Businesses

Under current law, the tax code distinguishes between two major types of businesses. The first type of business is the traditional C corporation, which is taxed twice: once at the entity level at 35 percent, then again at the shareholder level when individuals pay tax on their dividends and capital gains. The second business form is known as a “pass-through” business. These businesses are not taxed at the entity level. Instead, their profits are passed immediately to their owners and are subject to the individual income tax.

The different treatment of these businesses is a challenge for tax reform. Most agree that the statutory marginal tax rate on C corporations is too high. Yet, if a tax plan only cut the corporate income tax rate, pass-through businesses would not receive a tax cut. In fact, if the corporate rate were cut in concert with base broadening, pass-through businesses could face a tax increase. As such, some plans attempt to deal with this by also cutting the ordinary income tax rate. However, cutting individual income tax rates is very expensive.

One way lawmakers have proposed to deal with this political issue is to provide pass-through business income a special, reduced rate compared to wage income. Both the House GOP tax plan and Trump’s tax plan provide a special low rate or system for pass-through businesses. Both plans have a top ordinary rate of 33 percent, but the House GOP plan caps the pass-through rate at 25 percent; Trump’s plan caps the pass-through rate at 15 percent. However, it is still unclear exactly how Trump’s tax plan would treat pass-through businesses.

While this deals with the political problem of pass-through businesses feeling left out of tax reform, there are significant policy concerns. Creating a special rate for pass-through businesses can encourage gaming. Individuals who own businesses would have an incentive to re-categorize their wage income to business income. There is no strong theoretical case that pass-through business income should be taxed at a lower rate than wage income. It would also increase the tax differential between corporate investment and pass-through investment.

It is worth noting that there is a tax reform proposal that could address this. Specifically, the corporate integration proposal from Senator Hatch (R-UT). His yet-to-be-released proposal would integrate the individual and business tax code by allowing corporations to deduct their dividends against their taxable income. It would also tax dividends at ordinary income tax rates. There are a lot of moving pieces with this plan, but the goal of this plan is make sure that all business and individual income are taxed at roughly the same marginal tax rate. If this is included in reform, lawmakers could reduce the marginal tax rate on corporate investment and make sure that pass-through and corporate income are taxed more equally.

Individual Income Tax

Tax rates

The Trump Plan will collapse the current seven tax brackets to three brackets. The rates and breakpoints are as shown below. Low-income Americans will have an effective income tax rate of 0. The tax brackets are similar to those in the House GOP tax blueprint.

Brackets & Rates for Married-Joint filers:
Less than $75,000: 12%
More than $75,000 but less than $225,000: 25%
More than $225,000: 33%
*Brackets for single filers are ½ of these amounts

The Trump Plan will retain the existing capital gains rate structure (maximum rate of 20 percent) with tax brackets shown above. Carried interest will be taxed as ordinary income.

The 3.8 percent Obamacare tax on investment income will be repealed, as will the alternative minimum tax.

Deductions

The Trump Plan will increase the standard deduction for joint filers to $30,000, from $12,600, and the standard deduction for single filers will be $15,000. The personal exemptions will be eliminated as will the head-of-household filing status.

In addition, the Trump Plan will cap itemized deductions at $200,000 for Married-Joint filers or $100,000 for Single filers.

Childcare

Americans will be able to take an above-the-line deduction for children under age 13 that will be capped at state average for age of child, and for eldercare for a dependent. The exclusion will not be available to taxpayers with total income over $500,000 Married-Joint /$250,000 Single, and because of the cap on the size of the benefit, working and middle class families will see the largest percentage reduction in their taxable income.

The childcare exclusion would be provided to families who use stay-at-home parents or grandparents as well as those who use paid caregivers, and would be limited to 4 children per taxpayer. The eldercare exclusion would be capped at $5,000 per year. The cap would increase each year at the rate of inflation.

The Trump Plan would offer spending rebates for childcare expenses to certain low-income taxpayers through the Earned Income Tax Credit (EITC). The rebate would be equal to 7.65 percent of remaining eligible childcare expenses, subject to a cap of half of the payroll taxes paid by the taxpayer (based on the lower-earning parent in a two-earner household).

This rebate would be available to married joint filers earning $62,400 ($31,200 for single taxpayers) or less. Limitations on costs eligible for exclusion and the number of beneficiaries would be the same as for the basic exclusion. The ceiling would increase with inflation each year.

All taxpayers would be able to establish Dependent Care Savings Accounts (DCSAs) for the benefit of specific individuals, including unborn children. Total annual contributions to a DCSA are limited to $2,000 per year from all sources, which include the account owner (parent in the case of a minor or the person establishing elder care account), immediate family members of the account owner, and the employer of the account owner. When established for children, the funds remaining in the account when the child reaches 18 can be used for education expenses, but additional contributions could not be made.

To encourage lower-income families to establish DCSAs for their children, the government will provide a 50 percent match on parental contributions of up to $1,000 per year for these households. When parents fill out their taxes they can check a box to directly deposit any portion of their EITC into their Dependent Care Savings Account. All deposits and earnings thereon will be free from taxation, and unused balances can rollover from year to year.

Federal Revenue

Trump will enter office promising a large increase in infrastructure spending, additional military spending, and a pledge to not touch entitlements. At the same time, he will bring with him a tax plan that would reduce federal revenues by about $6 trillion over the next decade. Without adjustments, Trump’s plan would significantly increase the federal deficit, which is already projected to increase significantly under current law. According to the Committee for a Responsible Federal Budget, his complete fiscal plan would increase federal debt by $5.3 trillion over the next decade

Given this disconnect, it is likely that Trump will need to either revisit his spending priorities, his tax plan, or both. If he revisits his tax plan and wants to keep the marginal rates the way they are, he will need to find ways to reduce the cost.

Trump could reduce the cost of his tax plan if he follows the lead of the House GOP tax reform plan and takes base broadening more seriously. Overall, the House GOP plan has a significantly smaller impact on the federal budget and could be more realistically matched with spending cuts. We estimated that the House GOP plan would reduce federal revenue by $2.4 trillion over the next decade. However, when accounting for economy growth, the cost is about $200 billion (a little more if you include the elimination of the ACA-related taxes). It maintains a relatively small impact on the deficit compared to Trump’s plan by significantly broadening the individual and business tax bases. It limits itemized deductions for individuals, eliminates the net interest expense deduction for businesses, and border-adjusts the corporate income tax.

The Corporate Tax Rate

Both the Trump plan and the House GOP plan include substantial reductions in the corporate tax rate, from its current 35 percent to top rates of 15 percent and 20 percent, respectively. The current rate is the highest in the developed world. The Trump plan would be a bold step that leapfrogs the United States all the way to having one of the lowest rates in the developed world, while the House GOP plan is more modest in its reduction.

The House GOP plan, furthermore, contained a number of significant base broadeners in order to offset the revenue lost from lower rates. The Trump plan does not have those base broadeners, and as a result its corporate income tax raises substantially less revenue than that of the House GOP plan. If Trump decides to scale back the size of his net tax cut, he may give the House GOP’s 20 percent corporate rate, or its base broadeners, another look.

Please let us know of any questions - and we'll keep you informed as matters develop.

Bill Roeser, CPA, CFP, CVA

*Reference and Credit to: TaxFoundation.org

 

7 Tips to a Better Tax Time

So you own a small business and you’re not a tax expert. That’s okay, few are. Your focus is on your business, not on tax rules and regulations. As a result, tax time can be a time of panic and stress as you scramble to get information together in order to meet deadlines and avoid penalties.

The key to minimizing tax woes is to treat taxes like any other business practice: as an ongoing process that needs attention throughout the year in order to be successful. When you begin to think this way, preparing for tax time on a continual basis will allow you to focus on what you’re passionate about: growing your business.  Focus on your core competencies.

Having worked with thousands of individuals and businesses over the years,  I know first-hand how difficult tax preparation time can be.  What ultimately makes tax season more manageable is using technology to help automate the processes, and working with a professional. With that in mind, I’ve listed out seven tips that will help you prepare for tax season all year long.

1. Get started now – After you complete your 2016 taxes, schedule time on your calendar to establish better habits for next year and beyond. You may have promised yourself last year that you’d never again wait until the last minute to file taxes, but just like anything else, life happens and things fall through the cracks. Make the commitment to do better while the most recent tax season is fresh in your mind.
 
2. Ditch the shoebox – Collecting receipts in a shoebox or other container is highly inefficient and can make year-end even more stressful. Do you even know what’s in there? Can you find it?  Start recording everything electronically so you’ll have an archive ready when it’s time to file next year.  User a good scanner, such as the Fujitsu ScanSnap and software like Evernote or Dropbox to store your information.  And, since now all your information is stored electronically…

3. Back up your electronic records – What would happen to your data in the event of a man-made or natural disaster? Backing up your records and files on a routine basis to a remote location, like in the cloud using Carbonite or Mozy, saves valuable business information. The IRS won’t forgive you because your records are missing, so be sure to have a contingency plan, just in case.

4. Work with an accountant, a CPA – An accountant can be a trusted advisor throughout the year to help you plan properly for tax season. This partnership can also provide sound business advice throughout the year, as many have not only tax expertise, but great business counsel. Build a relationship with an accountant that you trust so that you can tap into this expertise all year long.

There are too many rules to know and understand.  Also, the IRS now has over 10,000 forms.  Hire a CPA and let them work their magic on your tax return.  They pay for themselves many times over and will not only save you money, but will keep you out of trouble.  Hire a CPA professional who’s been doing it a while, ten years or more, for the best experience.

5. Use online banking – Most banks let you download all of your transactions. Go in every month and mark the transactions that are tax deductible. When next spring rolls around you’ll have a comprehensive list of tax deductible items ready to go.

6. Automate the accounting process – If you are not using an accounting solution, it’s time to consider one.  There are now many online solutions available including QuickBooks, Xero, and Freshbooks.  Using online accounting will eliminate the need to invest a large amount of money upfront and you’ll always have access to the latest version of the software. Your accountant can help you determine the best fit, and access by your accountant will save you time, money and frustration.   

 7. Don’t be late – How do you ensure you’re not late for regular meetings or appointments? You likely have them marked in your calendar and you prepare in advance. Do the same thing when it comes to filing taxes, otherwise you might face hefty penalties; ones that could be avoided with the proper planning.  There are more deadlines than just April 15.  Businesses must file many different types of tax returns and associated forms.  Don’t dump your information on your accountants desk on April 1 – give them plenty of time to get it done in time and accept an extension if you bring your information in late.

Working with an accountant and using tools that make the process easier will not only help you handle tax time, but give your small business a competitive edge, and get you back to doing what you love.
 

 



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