Navigating the Maze of Tax Planning

Amanda Ellis

You should always meet with your CPA for tax planning, but here you’ll find some important things to know about recent tax reform and how it might affect your business.

On December 22, the Tax Cuts and Jobs Act enacted a major overhaul of the existing Internal Revenue Code — one not seen since the Reagan administration.

“It’s too early to tell whether these tax savings will achieve the intended results of creating jobs, encouraging innovation, repatriating cash held in foreign countries and continued economic growth,” says James Purgason, HHM. “Regardless, The Tax Cuts and Jobs Act will likely prove to be historically relevant when drafting future tax legislation.”

The Act extended, revised or expanded a number of provisions, while some items are brand new. Businesses should already be planning to maximize these prospective changes when they file in the coming years. 

Highlights of tax reform changes:

  • May make certain types of businesses structured as pass-through entities, such as S corporations, Limited Liability Companies, or self-employed individuals, eligible for a 20 percent deduction of qualified business income.
  • Changed corporate tax rates to a flat rate of 21 percent. 
  • Repealed corporate AMT.
  • Reduced the highest individual income tax bracket to 37 percent (from 39.6 percent).
  • Increased deduction limit on personal property acquisitions such as equipment, furniture and fixtures used for business purposes to $1,000,000 per year.
  • Increased bonus depreciation on qualified acquisitions of tangible property like equipment, furniture, fixtures and equipment to 100 percent.
  • Increased auto depreciation limits for vehicles used for business to $10,000 for the first year, $16,000 for the second year, and $9,600 for the third year.
  • Repealed deduction for entertainment expenses (but preserved 50 percent deduction for business meals).
  • Preserved the Research and Development credit.
  • Preserved like-kind exchanges for real property, but repealed exchanges for personal property.
  • Enacted a 12.5 to 25 percent employer credit for paid family or medical leave.

Highlights provided by Kim Lawrence, Elliott Davis LLC

Just Passing Through

The biggest tax change affecting small businesses is the new deduction available to small business owners of pass-through entities.

Many small businesses operate as Limited Liability Corporations (LLCs), partnerships, S corporations or sole proprietorships. Since these types of businesses have their incomes taxed on owners’ personal income tax returns, they won’t enjoy the 21 percent reduction in the corporate tax rate.

However, the Qualified Business Income (QBI) Deduction is now available for these non-corporate entities, commonly referred to as ‘the pass-through deduction’ or ‘the 20 percent deduction’. This deduction will result in a reduction in income tax related to the trade or business income being reported on the owner’s return.  

However, business owners beware: it is wrought with exclusions, thresholds, phase-ins and phase-outs.

“We could write an entire article just calculating the QBI Deduction that would take pages to work through the intricacies and calculations. It would be pretty yawn-inducing,” says James Purgason, HHM. “But we can spell out one component of the calculation like this: the sum of the lesser of 20 percent of the taxpayer’s qualified business income, or; the greater of:  50 percent of the W-2 wages with respect to the business, or 25 percent of the W-2 wages with respect to the business plus 2.5 percent of the unadjusted basis of all qualified property.”

“This is an area where tax simplification wasn’t the goal. It’s complex, especially if you exceed the income thresholds ($157,500 for single filers or $415,000 for joint filers), and I recommend consultation with an income tax professional,” says Dennis Blanton, LBMC.

To add to the complexity, certain specified businesses are excluded from the definition of QBI. These include trades or businesses involving services in the fields of health, law, consulting, athletics, financial or brokerage services, or where the principal asset is the reputation or skill of employees or owners.

“Service businesses should consider accelerating deductions in 2018 to get their income below the thresholds to take advantage of that deduction. If they don’t, the increase in taxes for them is going to be significant,” says Kyle Butler, Mauldin & Jenkins. “Favorable provisions for deducting and capital improvements in 2018 and going forward are one way businesses can get their taxable income down.”

Time for those fancy new office chairs?

Businesses will be able to deduct 100 percent of the cost of qualifying tangible property. This could include new or used office furniture, fixtures and equipment as long as the contact entered into, the purchase date, and the placed in service date take place after Sept. 27, 2017, and before Jan. 1, 2023, under new bonus depreciation rules.

The percentage amount of the deduction phases out over those five years. The amount you can expense increased to $1 million, and the phase out amount increased to $2.5 million. This allows businesses to benefit from an immediate income tax deduction for these investments.

What about C corporations?

Recent tax reform changed corporate tax rates to a flat rate of 21 percent. In recent years, C corporations lost favor as an entity choice due to more favorable individual income tax laws and the double taxation in effect for C corporations. Thus businesses typically opted for Limited Liability Company (LLC) and S corporation designations to achieve similar legal protections and a more tax efficient entity structure. 

With the new corporate tax rates in effect for 2018, many business owners wonder if they should reorganize to take advantage of the new rates. A significant number of financial, legal and operational factors play into deciding whether to undergo a reorganization. And even at a shiny new tax rate, C corporations still have the burden of double taxation if corporate income is distributed to business owners as dividends, which are considered personal income. Tax on corporate income is paid first at the corporate level and again on dividends at the individual level.

Kyle Butler, Mauldin & Jenkins, says one good reason a business might consider reorganizing as a C corp is to retain cash inside a business for growth.

“Overall the effective tax rate is higher if you’re a C corp, but the C corp corporate tax rate is low, which can be beneficial for reinvesting back into your company.”

Lost yet?  Yes, this is where CPAs spend their lives. In the nitty gritty details with lots of coffee.

While the Tax Cuts and Jobs Act generated numerous headlines, we’re a long way from filing a tax return on a postcard. That’s why your best move is to meet with a CPA who can help you cut through the complexity to determine what you may be entitled to and how to maximize the benefits of tax reform.  

Contributions from:

Dennis Blanton, Shareholder, LBMC, PC

Kyle Butler, Partner, Mauldin & Jenkins, LLC

Kim Lawrence, Shareholder, Elliott Davis LLC

James Purgason, Senior Manager, CPA, Henderson, Hutcherson & McCullough (HHM), PLLC

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