As we head into year-end tax planning, there are a lot of moving parts to consider. The Tax Cuts and Jobs Act (TCJA) was a sweeping piece of legislation that left us with some answers, a lot of questions and numerous potential opportunities to explore. While there never seems to be a “one-size-fits-all” solution to tax planning, now more than ever taxpayers will need to critically analyze and challenge their tax situation and strategies of years past.
Below are some of the main provisions and opportunities business owners should be discussing with advisors before year-end.
C vs. Flow-Through Entity
One of the biggest questions for companies after the TCJA became should an entity elect to be taxed as a C Corporation? Here are a few reasons why some may consider a C Corporation a more favorable structure:
- New lower corporate tax rate of 21%
- Owner fringe benefits
- Repeal of alternative minimum tax (AMT)
- Ability to choose any fiscal year
- State taxes deductible without a limit
- Less cumbersome compliance
- No corporate income tax in some states, such as Ohio
But there is a lot of careful analysis that will need to be done before making the decision to switch:
- Remember the corporation double tax still applies (federal rate is 39.8%).
- Examine tax brackets carefully. For example, married filing jointly taxpayers who own a pass-through entity and take the standard deduction won’t rise above a 21% rate until they have an adjusted gross income (AGI) of $402,500. If those same taxpayers use the full qualified business income deduction (QBID) for their pass-through entity, they won’t reach the 21% effective rate until they reach $808,000 of AGI.
- Know the ramifications of revoking an S Corporation election. You will have to wait five years to re-elect the S Corporation status and then will be subject to built-in gains tax for another five years after re-electing. The decision could leave you with significant tax liability exposure.
>> Read more in “Tax Reform Watch: Should a Pass-Through Entity Switch to a C Corporation in Light of the Lower Corporate Tax Rate?
Section 199A – Qualified Business Income Deduction (QBID)
This is one of the most impactful and biggest changes for owners of pass-through entities, and is a significant consideration when deciding on entity structure. Essentially, for tax years 2018 through 2025, owners (individuals, estates and trusts) of partnerships, S Corporations and sole proprietorships can take a maximum deduction of 20% of their qualified business income. The deduction is applied at the individual taxpayer level, not the entity level. However, wage limitations apply and specified service business owners are not eligible for the deduction if their taxable income is above a certain threshold.
To qualify without any limitations, individuals may need to consider reducing their taxable income so it falls under the $157,500 threshold ($315,000 married filing jointly). One way to accomplish this is to make contributions to retirement plans or health savings accounts or even through charitable contributions.
>> Read more on the provision and recent guidance in “Proposed Regulations Clarify Tax Reform’s Business Income Deduction for Pass-Through Entities.”
Accounting Method Changes
Evaluate your current accounting method, cash or accrual. The gross receipts limit for cash-basis accounting is now much higher — $25 million prior three-year average — so more businesses can use the method if desired, which generally gives taxpayers more control over their taxable income. Be just as critical of which method to use as you would in deciding on entity structure.
Bonus Depreciation/Section 179 Expensing
The TCJA increases the Section 179 expensing threshold to $1 million with a higher phase out amount, and increases bonus depreciation to 100% for property placed in service after September 27, 2017, and before January 1, 2023. Also, now taxpayers can write off not only brand-new fixed assets, but also assets that are “new-to-you,” a group that previously did not qualify. Purchasing new or used assets before year-end could be helpful to your overall tax strategy.
>> Read more in “New Bonus Depreciation Rules Clarified in IRS Proposed Guidance”
There have been a lot of questions on meals and entertainment expenses. Recent transitional guidance clarified that the 50% deduction for meals remains allowable in certain circumstances and clarifies when businesses can claim it.
>> Read more in “Transitional IRS Guidance Create Five-Part Test to Deduct Meal Expenses.”
It is a good practice to create separate general ledger accounts to separately record all of your meal and entertainment expense-related items to help ensure the proper tax deductibility treatment is given to each.
Research and Development Expenses
The R&D credit is a great opportunity for businesses that incur expenses to improve processes or develop new products. Note that after 2021, R&D expenses will need to be capitalized and amortized. Also, check to see if your state offers a state-level R&D credit for more savings.
The TCJA overhauled the U.S. international tax regime. The changes are substantial, specifically as they relate to the new GILTI and FIDII provisions. Taxpayers who own more than 10% of a foreign business must take the time to understand the changes, their potential impact and any planning strategies to mitigate negative tax consequences.
>> Read more in “Tax Reform Watch: An Overhaul of the U.S. International Tax System” and “3 GILTI Planning Options Non-C Corporations Should Consider Before Year-End.”
New IRS audit procedures introduced in the Bipartisan Budget Act of 2015 will hold certain partnerships responsible for paying any tax and related interest and penalties resulting from an IRS audit, beginning with the 2018 tax year.
There is much to consider if you are a partnership. Consider your opt-out and push-out options and any necessary partnership agreement updates, including who you will select for a partnership representative. Note that any LLC agreements must be updated by March 15, 2019.
>> Read more in “IRS Finalizes Opt-Out Rules for IRS Partnership Audits; Proposes Additional Regs”
The Wayfair Decision
We can’t forget one of the biggest decisions to affect state sales tax in decades. The decision gives states more control over requiring out-of-state businesses to collect sales tax — regardless if they have a physical presence in the state. And that will mean changes for all types of sellers who have sales in locations throughout the U.S., not just retailers. Some state statutes to collect more sales tax are already in effect. If your company has met certain thresholds this year in any of those states and are not collecting, you are already out of compliance and creating a liability. You’ll need to review and update your processes and procedures surrounding sales tax collection, both historically and going forward. Also, review your business’ current accounting system and staffing to determine if they can accurately and effectively collect and remit sales tax in multiple states.
>> Read more in “Supreme Court Overturns Quill Decision, Changes Sales Tax Landscape.”
There are many other provisions in the TCJA that can aid in your year-end planning, such as the limitation on business interest, net operating loss considerations and rules on excess business losses. Work closely with your advisor to identify all of your opportunities.
Please contact a member of your service team for further discussion.
Cohen & Company is not rendering legal, accounting or other professional advice. Information contained in this post is considered accurate as of the date of publishing. Any action taken based on information in this blog should be taken only after a detailed review of the specific facts, circumstances and current law.