Do you and your spouse together operate a profitable unincorporated small business? If so, you face some challenging tax issues.
An unincorporated business with your spouse is classified as a partnership for federal income tax purposes, unless you can avoid that treatment. Otherwise, you must file an annual partnership return, on Form 1065. In addition, you and your spouse must be issued separate Schedule K-1s, which allocate the partnership’s taxable income, deductions and credits between the two of you. This is only the beginning of the unwelcome tax compliance tasks.
The SE tax is how the government collects Social Security and Medicare taxes from self-employed individuals. For 2023, the SE tax consists of 12.4% Social Security tax on the first $160,200 of net SE income plus 2.9% Medicare tax. Once your 2023 net SE income surpasses the $160,200 ceiling, the Social Security tax component of the SE tax ends. But the 2.9% Medicare tax component continues before increasing to 3.8% — thanks to the 0.9% additional Medicare tax — if the combined net SE income of a married joint-filing couple exceeds $250,000.
With your joint Form 1040, you must include a Schedule SE to calculate SE tax on your share of the net SE income passed through to you by your spousal partnership. The return must also include a Schedule SE for your spouse to calculate the tax on your spouse’s share of net SE income passed through to him or her. This can result in a big SE tax bill.
For example, let’s say you and your spouse each have net 2023 SE income of $150,000 ($300,000 total) from your profitable 50/50 partnership business. The SE tax on your joint tax return is a whopping $45,900 ($150,000 x 15.3% x 2). That’s on top of regular federal income tax.
Strategy 1: Use an IRS-approved method to minimize SE tax in a community property state
Under IRS Revenue Procedure 2002-69, for federal tax purposes, you can treat an unincorporated spousal business in a community property state as a sole proprietorship operated by one of the spouses. By effectively allocating all the net SE income to the proprietor spouse, only the first $160,200 of net SE income is hit with the 12.4% Social Security tax. That can cut your SE tax bill.
Strategy 2: Convert a spousal partnership into an S corporation and pay modest salaries
If you and your unincorporated spousal business aren’t in a community property state, consider converting the business to S corporation status to reduce Social Security and Medicare taxes. That way, only the salaries paid to you and your spouse get hit with the Social Security and Medicare tax, collectively called FICA tax. You can then pay modest, but reasonable, salaries to you and your spouse as shareholder-employees while paying out most or all remaining corporate cash flow to yourselves as FICA-tax-free cash distributions.
Strategy 3: Disband your partnership and hire your spouse as an employee
You can disband the existing spousal partnership and start running the operation as a sole proprietorship operated by one spouse. Then hire the other spouse as an employee of the proprietorship. Pay that spouse a modest cash salary. You must withhold 7.65% from the salary to cover the employee-spouse’s share of the Social Security and Medicare taxes. The proprietorship must also pay 7.65% as the employer’s half of the taxes. However, since the employee-spouse’s salary is modest, the FICA tax will also be modest.
With this strategy, you file only one Schedule SE — for the spouse treated as the proprietor — with your joint tax return. That minimizes the SE tax, because no more than $160,200 (for 2023) is exposed to the 12.4% Social Security portion of the SE tax.
Having a profitable unincorporated business with your spouse that’s classified as a partnership for federal income tax purposes can lead to compliance headaches and high SE tax bills. Work with us to identify appropriate tax-saving strategies.
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The IRS announced that it has stopped processing all new Employee Retention Credit (ERC) refund claims and will continue its moratorium at least through December 31, 2023. (IR-2023-169)
In IRS Commissioner Werfel’s words:
“The IRS is increasingly alarmed about honest small business owners being scammed by unscrupulous actors, and we could no longer tolerate growing evidence of questionable claims pouring in… The continued aggressive marketing of these schemes is harming well-meaning businesses and delaying the payment of legitimate claims, which makes it harder to run the rest of the tax system.”
The IRS is continuing to process ERC claims filed prior to the 09/14/2023 announcement, but even those claims will face long processing delays (up to 180 days from 90 days) because the IRS is placing stricter compliance reviews on all claims. The IRS is developing a new settlement program for taxpayers who received an improper ERC payment that should be available later in Fall 2023.
The IRS’s release is available HERE and contains advice for taxpayers whose ERC claims may be in various stages.
The Tax Cuts and Jobs Act liberalized the rules for depreciating business assets. However, the amounts change every year due to inflation adjustments. And due to high inflation, the adjustments for 2023 were big. Here are the numbers that small business owners need to know.
For qualifying assets placed in service in tax years beginning in 2023, the maximum Sec. 179 deduction is $1.16 million. But if your business puts in service more than $2.89 million of qualified assets, the maximum Sec. 179 deduction begins to be phased out.
Eligible assets include depreciable personal property such as equipment, computer hardware and peripherals, vehicles and commercially available software.
Sec. 179 deductions can also be claimed for real estate qualified improvement property (QIP), up to the maximum allowance of $1.16 million. QIP is defined as an improvement to an interior portion of a nonresidential building placed in service after the date the building was placed in service. However, expenditures attributable to the enlargement of a building, elevators or escalators, or the internal structural framework of a building don’t count as QIP and usually must be depreciated over 39 years. There’s no separate Sec. 179 deduction limit for QIP, so deductions reduce your maximum allowance dollar for dollar.
For nonresidential real property, Sec. 179 deductions are also allowed for qualified expenditures for roofs, HVAC equipment, fire protection and alarm systems, and security systems.
Finally, eligible assets include depreciable personal property used predominantly in connection with furnishing lodging, such as furniture and appliances in a property rented to transients.
There’s a special limitation on Sec. 179 deductions for heavy SUVs, meaning those with gross vehicle weight ratings (GVWR) between 6,001 and 14,000 pounds. For tax years beginning in 2023, the maximum Sec. 179 deduction for heavy SUVs is $28,900.
For qualified new and used assets that were placed in service in calendar year 2022, 100% first-year bonus depreciation percentage could be claimed.
However, for qualified assets placed in service in 2023, the first-year bonus depreciation percentage dropped to 80%. In 2024, it’s scheduled to drop to 60% (40% in 2025, 20% in 2026 and 0% in 2027 and beyond).
Eligible assets include depreciable personal property such as equipment, computer hardware and peripherals, vehicles and commercially available software. First-year bonus depreciation can also be claimed for real estate QIP.
Exception: For certain assets with longer production periods, these percentage cutbacks are delayed by one year. For example, the 80% depreciation rate will apply to long-production-period property placed in service in 2024.
For federal income tax depreciation purposes, passenger autos are defined as cars, light trucks and light vans. These vehicles are subject to special depreciation limits under the so-called luxury auto depreciation rules. For new and used passenger autos placed in service in 2023, the maximum luxury auto deductions are as follows:
These allowances assume 100% business use. They’ll be further adjusted for inflation in future years.
Heavy SUVs, pickups, and vans (those with GVWRs above 6,000 pounds) are exempt from the luxury auto depreciation limitations because they’re considered transportation equipment. As such, heavy vehicles are eligible for Sec. 179 deductions (subject to the special deduction limit explained earlier) and first-year bonus depreciation.
Here’s the catch: Heavy vehicles must be used over 50% for business. Otherwise, the business-use percentage of the vehicle’s cost must be depreciated using the straight-line method and it’ll take six tax years to fully depreciate the cost.
Consult with us for the maximum depreciation tax breaks in your situation.
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California State Law requires employers who reported having an average of 5 or more employees in 2022 to register for CalSavers unless they meet one of the conditions for exemption:
Employers will start receiving their official registration information by US mail and email. If you believe your company is exempt from the mandate, submit an exemption request.
Registration/Exemption Deadline: December 31, 2023 for 5 or more employees.
In 2022, California passed legislation (SB 1126) to expand the CalSavers mandate to employers with at least one employee. Starting on January 1, 2023, employers with 1-4 employees (as reported to the EDD in the preceding calendar year) who are not otherwise exempt from participation can register with CalSavers.
Registration/Exemption Deadline: December 31, 2025 for 1-4 employees
Inheritance brings its own set of challenges. Within the vast world of financial legacies, inherited Individual Retirement Accounts (IRAs) stand out thanks to their annual withdrawal requirements, also known as Required Minimum Distributions (RMDs). With these RMDs comes the caveat of taxation. However, when the Secure Act of 2019 was introduced, it brought clarity and confusion, mainly by introducing new beneficiary categories.
The Secure Act ushered in three beneficiary categories, each with distinct withdrawal rules:
Many beneficiaries, particularly NEDBs, found these rules intricate. The real task was classifying themselves correctly and adhering to the associated RMD rules to avoid tax penalties.
In response to the confusion stemming from the Secure Act’s implementation, the IRS released Notice 2022-53 in October 2022. For those beneficiaries whose original IRA owner had begun their RMDs, they must commence their own RMDs in the year following the owner’s passing. Furthermore, the complete balance should be dispensed by the 10th year after the owner’s death.
Recognizing the challenges arising from the Secure Act, the IRS also waived penalties for NEDBs who missed RMDs in 2021 and 2022 to show its commitment to assist during these regulatory transitions.
Things to remember:
To navigate the inherited IRA terrain confidently, beneficiaries should:
Although financial regulations seem intimidating, beneficiaries can efficiently manage their inherited IRAs with the right guidance and proactive approach. By understanding their specific obligations under the Secure Act and seeking expert advice, beneficiaries can comply with regulations and make informed decisions that honor their inheritances and bolster their financial futures.
If you’re getting a divorce, you know the process is generally filled with stress. But if you’re a business owner, tax issues can complicate matters even more. Your business ownership interest is one of your biggest personal assets and in many cases, your marital property will include all or part of it.
In general, you can divide most assets, including cash and business ownership interests, between you and your soon-to-be ex-spouse without any federal income or gift tax consequences. When an asset falls under this tax-free transfer rule, the spouse who receives the asset takes over its existing tax basis (for tax gain or loss purposes) and its existing holding period (for short-term or long-term holding period purposes).
For example, let’s say that under the terms of your divorce agreement, you give your house to your spouse in exchange for keeping 100% of the stock in your business. That asset swap would be tax-free. And the existing basis and holding period for the home and the stock would carry over to the person who receives them.
Tax-free transfers can occur before a divorce or at the time it becomes final. Tax-free treatment also applies to post-divorce transfers as long as they’re made “incident to divorce.” This means transfers that occur within:
Eventually, there will be tax implications for assets received tax-free in a divorce settlement. The ex-spouse who winds up owning an appreciated asset — when the fair market value exceeds the tax basis — generally must recognize taxable gain when it’s sold (unless an exception applies).
What if your ex-spouse receives 49% of your highly appreciated small business stock? Thanks to the tax-free transfer rule, there’s no tax impact when the shares are transferred. Your ex will continue to apply the same tax rules as if you had continued to own the shares, including carryover basis and carryover holding period. When your ex-spouse ultimately sells the shares, he or she will owe any capital gains taxes. You will owe nothing.
Note: The person who winds up owning appreciated assets must pay the built-in tax liability that comes with them. From a net-of-tax perspective, appreciated assets are worth less than an equal amount of cash or other assets that haven’t appreciated. That’s why you should always take taxes into account when negotiating your divorce agreement.
In addition, the beneficial tax-free transfer rule is now extended to ordinary-income assets, not just to capital-gains assets. For example, if you transfer business receivables or inventory to your ex-spouse in a divorce, these types of ordinary-income assets can also be transferred tax-free. When the asset is later sold, converted to cash or exercised (in the case of nonqualified stock options), the person who owns the asset at that time must recognize the income and pay the tax liability.
Like many major life events, divorce can have significant tax implications. For example, you may receive an unexpected tax bill if you don’t carefully handle the splitting up of qualified retirement plan accounts (such as a 401(k) plan) and IRAs. And if you own a business, the stakes are higher. Contact us. We can help you minimize the adverse tax consequences of settling your divorce.
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Let’s say you decide to, or are asked to, guarantee a loan to your corporation. Before agreeing to act as a guarantor, endorser or indemnitor of a debt obligation of your closely held corporation, be aware of the possible tax implications. If your corporation defaults on the loan and you’re required to pay principal or interest under the guarantee agreement, you don’t want to be caught unaware.
If you’re compelled to make good on the obligation, the payment of principal or interest in discharge of the obligation generally results in a bad debt deduction. This may be either a business or a nonbusiness bad debt deduction. If it’s a business bad debt, it’s deductible against ordinary income. A business bad debt can be either totally or partly worthless. If it’s a nonbusiness bad debt, it’s deductible as a short-term capital loss, which is subject to certain limitations on deductions of capital losses. A nonbusiness bad debt is deductible only if it’s totally worthless.
In order to be treated as a business bad debt, the guarantee must be closely related to your trade or business. If the reason for guaranteeing the corporation loan is to protect your job, the guarantee is considered closely related to your trade or business as an employee. But employment must be the dominant motive. If your annual salary exceeds your investment in the corporation, this generally shows that the dominant motive for the guarantee was to protect your job. On the other hand, if your investment in the corporation substantially exceeds your annual salary, that’s evidence that the guarantee was primarily to protect your investment rather than your job.
Except in the case of job guarantees, it may be difficult to show the guarantee was closely related to your trade or business. You’d have to show that the guarantee was related to your business as a promoter, or that the guarantee was related to some other trade or business separately carried on by you.
If the reason for guaranteeing your corporation’s loan isn’t closely related to your trade or business and you’re required to pay off the loan, you can take a nonbusiness bad debt deduction if you show that your reason for the guarantee was to protect your investment, or you entered the guarantee transaction with a profit motive.
In addition to satisfying the above requirements, a business or nonbusiness bad debt is deductible only if you meet these three requirements:
Any payment you make on a loan you guaranteed is deductible as a bad debt in the year you make it, unless the agreement (or local law) provides for a right of subrogation against the corporation. If you have this right, or some other right to demand payment from the corporation, you can’t take a bad debt deduction until the rights become partly or totally worthless.
These are only some of the possible tax consequences of guaranteeing a loan to your closely held corporation. To learn all the implications in your situation, consult with us.
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Does your business receive large amounts of cash or cash equivalents? If so, you’re generally required to report these transactions to the IRS — and not just on your tax return.
Each person who, in the course of operating a trade or business, receives more than $10,000 in cash in one transaction (or two or more related transactions), must file Form 8300. Who is a “person”? It can be an individual, company, corporation, partnership, association, trust or estate. What are considered “related transactions”? Any transactions conducted in a 24-hour period. Transactions can also be considered related even if they occur over a period of more than 24 hours if the recipient knows, or has reason to know, that each transaction is one of a series of connected transactions.
In order to complete a Form 8300, you’ll need personal information about the person making the cash payment, including a Social Security or taxpayer identification number.
For Form 8300 reporting purposes, cash includes U.S. currency and coins, as well as foreign money. It also includes cash equivalents such as cashier’s checks (sometimes called bank checks), bank drafts, traveler’s checks and money orders.
Money orders and cashier’s checks under $10,000, when used in combination with other forms of cash for a single transaction that exceeds $10,000, are defined as cash for Form 8300 reporting purposes.
Note: Under a separate reporting requirement, banks and other financial institutions report cash purchases of cashier’s checks, treasurer’s checks and/or bank checks, bank drafts, traveler’s checks and money orders with a face value of more than $10,000 by filing currency transaction reports.
Although many cash transactions are legitimate, the IRS explains that the information reported on Form 8300 “can help stop those who evade taxes, profit from the drug trade, engage in terrorist financing and conduct other criminal activities. The government can often trace money from these illegal activities through the payments reported on Form 8300 and other cash reporting forms.”
Failing to comply with the law can result in fines and even jail time. In one case, a Niagara Falls, NY, business owner was convicted of willful failure to file Form 8300 after receiving cash transactions of more than $10,000. In a U.S. District Court, he pled guilty and was recently sentenced to five months home detention, fined $10,000 and he agreed to pay restitution to the IRS. He had received cash rent payments in connection with a building in which he had an ownership interest.
Businesses required to file reports of large cash transactions on Forms 8300 should know that in addition to filing on paper, e-filing is an option. The form is due 15 days after a transaction and there’s no charge for the e-file option. Businesses that file electronically get an automatic confirmation of receipt when they file.
Effective January 1, 2024, you may have to e-file Forms 8300 if you’re required to e-file other information returns, such as 1099 and W-2 forms. You must e-file if you’re required to file at least 10 information returns other than Form 8300 during a calendar year.
The IRS also reminds businesses that they can “batch file” their reports, which is especially helpful to those required to file many forms.
You should keep a copy of each Form 8300 for five years from the date you file it, according to the IRS. “Confirmation receipts don’t meet the recordkeeping requirement,” the tax agency added.
Contact us with any questions or for assistance.
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Let’s say you own highly appreciated land that’s now ripe for development. If you subdivide it, develop the resulting parcels and sell them off for a hefty profit, it could trigger a large tax bill.
In this scenario, the tax rules generally treat you as a real estate dealer. That means your entire profit — including the portion from pre-development appreciation in the value of the land — will be treated as high-taxed ordinary income subject to a federal rate of up to 37%. You may also owe the 3.8% net investment income tax (NIIT) for a combined federal rate of up to 40.8%. And you may owe state income tax too.
It would be better if you could arrange to pay lower long-term capital gain (LTCG) tax rates on at least part of the profit. The current maximum federal income tax rate on LTCGs is 20% or 23.8% if you owe the NIIT.
Thankfully, there’s a strategy that allows favorable LTCG tax treatment for all pre-development appreciation in the land value. You must have held the land for more than one year for investment (as opposed to holding it as a real estate dealer).
The portion of your profit attributable to subsequent subdividing, development and marketing activities will still be considered high-taxed ordinary income, because you’ll be considered a real estate dealer for that part of the process.
But if you can manage to pay a 20% or 23.8% federal income tax rate on a big chunk of your profit (the pre-development appreciation part), that’s something to celebrate.
Here’s the three-step strategy that could result in paying a smaller tax bill on your real estate development profits.
If you individually own the appreciated land, you can establish an S corporation owned solely by you to function as the developer. If you own the land via a partnership, or via an LLC treated as a partnership for federal tax purposes, you and the other partners (LLC members) can form the S corp and receive corporate stock in proportion to your percentage partnership (LLC) interests.
Sell the appreciated land to the S corp for a price equal to the land’s pre-development fair market value. If necessary, you can arrange a sale that involves only a little cash and a big installment note the S corp owes you. The business will pay off the note with cash generated by selling off parcels after development. The sale to the S corp will trigger a LTCG eligible for the 20% or 23.8% rate as long as you held the land for investment and owned it for over one year.
The S corp will subdivide and develop the property, market it and sell it off. The profit from these activities will be higher-taxed ordinary income passed through to you as an S corp shareholder. If the profit is big, you’ll probably pay the maximum 37% federal rate (or 40.8% percent with the NIIT. However, the average tax rate on your total profit will be much lower, because a big part will be lower-taxed LTCG from pre-development appreciation.
Thanks to the tax treatment created by this S corp developer strategy, you can lock in favorable treatment for the land’s pre-development appreciation. That’s a huge tax-saving advantage if the land has gone up in value. Consult with us if you have questions or want more information.
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If you own an unincorporated small business, you probably don’t like the size of your self-employment (SE) tax bills. No wonder!
For 2023, the SE tax is imposed at the painfully high rate of 15.3% on the first $160,200 of net SE income. This includes 12.4% for Social Security tax and 2.9% for Medicare tax. The $160,200 Social Security tax ceiling is up from the $147,000 ceiling for 2022, and it’s only going to get worse in future years, thanks to inflation. Above the Social Security tax ceiling, the Medicare tax component of the SE tax continues at a 2.9% rate before increasing to 3.8% at higher levels of net SE income thanks to the 0.9% additional Medicare tax, on all income.
For wages paid in 2023 to an S corporation employee, including an employee who also happens to be a shareholder, the FICA tax wage withholding rate is 7.65% on the first $160,200 of wages: 6.2% for Social Security tax and 1.45% for Medicare tax. Above $160,200, the FICA tax wage withholding rate drops to 1.45% because the Social Security tax component is no longer imposed. But the 1.45% Medicare tax wage withholding hits compensation no matter how much you earn, and the rate increases to 2.35% at higher compensation levels thanks to the 0.9% additional Medicare tax.
An S corporation employer makes matching payments except for the 0.9% Additional Medicare tax, which only falls on the employee. Therefore, the combined employee and employer FICA tax rate for the Social Security tax is 12.4%, and the combined rate for the Medicare tax is 2.9%, increasing to 3.8% at higher compensation levels — same as the corresponding SE tax rates.
Note: In this article, we’ll refer to the Social Security and Medicare taxes collectively as federal employment taxes whether paid as SE tax for self-employed folks or FICA tax for employees.
While wages paid to an S corporation shareholder-employee get hit with federal employment taxes, any remaining S corp taxable income that’s passed through to the employee-shareholder is exempt from federal employment taxes. The same is true for cash distributions paid out to a shareholder-employee. Since passed-through S corporation taxable income increases the tax basis of a shareholder-employee’s stock, distributions of corporate cash flow are usually free from federal income tax.
In appropriate circumstances, an S corp can follow the tax-saving strategy of paying modest, but justifiable, salaries to shareholder-employees. At the same time, it can pay out most or all of the remaining corporate cash flow in the form of federal-employment-tax-free shareholder distributions. In contrast, an owner’s share of net taxable income from a sole proprietorship, partnership and LLC (treated as a partnership for tax purposes) is generally subject to the full ravages of the SE tax.
Running your business as an S corporation and paying modest salaries to the shareholder-employee(s) may mean reduced capacity to make deductible contributions to tax-favored retirement accounts. For example, if an S corporation maintains a SEP, the maximum annual deductible contribution for a shareholder-employee is limited to 25% of salary. So the lower the salary, the lower the maximum contribution. However, if the S corp sets up a 401(k) plan, paying modest salaries generally won’t preclude generous contributions.
Converting an unincorporated business into an S corporation has other legal and tax implications. It’s a big decision. We can explain all the issues.
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Government officials saw a large increase in the number of new businesses launched during the COVID-19 pandemic. And the U.S. Census Bureau reports that business applications are still increasing slightly (up 0.4% from April 2023 to May 2023). The Bureau measures this by tracking the number of businesses applying for Employer Identification Numbers.
If you’re one of the entrepreneurs, you may not know that many of the expenses incurred by start-ups can’t be currently deducted on your tax return. You should be aware that the way you handle some of your initial expenses can make a large difference in your federal tax bill.
If you’re starting or planning to launch a new business, here are three rules to keep in mind:
In general, start-up expenses are those you incur to:
To qualify for the election, an expense also must be one that would be deductible if it were incurred after a business began. One example is money you spend analyzing potential markets for a new product or service.
To be eligible as an “organization expense,” an expense must be related to establishing a corporation or partnership. Some examples of organization expenses are legal and accounting fees for services related to organizing a new business and filing fees paid to the state of incorporation.
If you have start-up expenses that you’d like to deduct this year, you need to decide whether to take the election described above. Recordkeeping is critical. Contact us about your start-up plans. We can help with the tax and other aspects of your new business.
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As we increasingly embrace the post-pandemic era, the world of work has undergone a significant shift. Many companies have opted for remote work models, dispersing employees across various states and countries. However, while beneficial in many respects, this transition carries complex tax implications for businesses. Understanding and adapting these implications has become vital to business planning and decision-making.
To navigate the labyrinth of tax consequences linked with remote work, it’s crucial first to understand the term ‘nexus.’ In tax language, ‘nexus’ indicates a sufficient connection between a taxpayer and a jurisdiction that establishes tax obligations in that jurisdiction. Generally, there are two types of nexus tests – physical and economic.
One primary concern for remote workers and businesses is the potential risk of double taxation. Double taxation occurs when an employee works remotely in one state for a company located in another, resulting in tax obligations in both states. This can occur due to conflicting tax laws among states or the lack of coordination regarding the taxation rights of remote workers.
As such, the convenience of remote work might sometimes lead to the inconvenience of grappling with multiple state tax obligations. Understanding each state’s tax laws is essential and discussing with your financial advisor how to mitigate the risk of double taxation.
The location of your employees can impact your business’s tax obligations significantly. As a business owner, you may need to register with each state where you have employees and comply with all tax obligations, including corporate income tax, gross receipts tax, franchise tax, and sales and use tax.
In addition, employment tax requirements such as income tax withholding, unemployment insurance, and workers’ compensation insurance need to be addressed in each jurisdiction where a remote employee is located. Failure to comply with these obligations can result in penalties, affecting your business’s financial health.
Given the complexity of these tax issues, it’s important to conduct thorough research and consult with a financial advisor or tax professional. This can help you develop a comprehensive understanding of the relevant concepts, conduct regular reviews of the factors impacting your business, and, ultimately, avoid unwelcome surprises.
While navigating this new tax landscape can be challenging, it’s crucial to remember that being proactive in understanding these changes can help your business adapt more effectively to the evolving world of work. Through an informed approach and consistent monitoring, business owners can ensure compliance and take full advantage of the opportunities presented by the remote work model.
Here are some of the key tax-related deadlines affecting businesses and other employers during the third quarter of 2023. Keep in mind that this list isn’t all-inclusive, so there may be additional deadlines that apply to you. Contact us to ensure you’re meeting all applicable deadlines and to learn more about the filing requirements.
July 31
August 10
September 15
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Your business may be able to claim big first-year depreciation tax deductions for eligible real estate expenditures rather than depreciate them over several years. But should you? It’s not as simple as it may seem.
For qualifying assets placed in service in tax years beginning in 2023, the maximum allowable first-year Section 179 depreciation deduction is $1.16 million. Importantly, the Sec. 179 deduction can be claimed for real estate qualified improvement property (QIP), up to the maximum annual allowance.
QIP includes any improvement to an interior portion of a nonresidential building that’s placed in service after the date the building is placed in service. For Sec. 179 deduction purposes, QIP also includes HVAC systems, nonresidential building roofs, fire protection and alarm systems and security systems that are placed in service after the building is first placed in service.
However, expenditures attributable to the enlargement of the building, any elevator or escalator, or the building’s internal structural framework don’t count as QIP and must be depreciated over several years.
A taxpayer’s Sec. 179 deduction can’t cause an overall business tax loss, and the maximum deduction is phased out if too much qualifying property is placed in service in the tax year. The Sec. 179 deduction limitation rules can get tricky if you own an interest in a pass-through business entity (partnership, LLC treated as a partnership for tax purposes, or S corporation). Finally, trusts and estates can’t claim Sec. 179 deductions, and noncorporate lessors face additional restrictions. We can give you full details.
Beyond the Sec. 179 deduction, 80% first-year bonus depreciation is also available for QIP that’s placed in service in calendar year 2023. If your objective is to maximize first-year write-offs, you’d claim the Sec. 179 deduction first. If you max out on that, then you’d claim 80% first-year bonus depreciation.
Note that for first-year bonus depreciation purposes, QIP doesn’t include nonresidential building roofs, HVAC systems, fire protection and alarm systems, or security systems.
Here are two reasons why you should think twice before claiming big first-year depreciation deductions for QIP.
First-year Sec. 179 deductions and bonus depreciation claimed for QIP can create depreciation recapture that’s taxed at higher ordinary income rates when the QIP is sold. Under current rules, the maximum individual rate on ordinary income is 37%, but you may also owe the 3.8% net investment income tax (NIIT).
On the other hand, for QIP held for more than one year, gain attributable to straight-line depreciation is taxed at an individual federal rate of only 25%, plus the 3.8% NIIT if applicable.
When you claim big first-year depreciation deductions for QIP, your depreciation deductions for future years are reduced accordingly. If federal income tax rates go up in future years, you’ll have effectively traded potentially more valuable future-year depreciation write-offs for less-valuable first-year write-offs.
As you can see, the decision to claim first-year depreciation deductions for QIP, or not claim them, can be complicated. Consult with us before making depreciation choices.
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If you and your employees are traveling for business this summer, there are a number of considerations to keep in mind. Under tax law, in order to claim deductions, you must meet certain requirements for out-of-town business travel within the United States. The rules apply if the business conducted reasonably requires an overnight stay.
Note: Under the Tax Cuts and Jobs Act, employees can’t deduct their unreimbursed travel expenses on their own tax returns through 2025. That’s because unreimbursed employee business expenses are “miscellaneous itemized deductions” that aren’t deductible through 2025.
However, self-employed individuals can continue to deduct business expenses, including away-from-home travel expenses.
The actual costs of travel (for example, plane fare and cabs to the airport) are deductible for out-of-town business trips. You’re also allowed to deduct the cost of meals and lodging. Your meals are deductible even if they’re not connected to a business conversation or other business function. Although there was a temporary 100% deduction in 2021 and 2022 for business food and beverages provided by a restaurant, it was not extended to 2023. Therefore, there’s once again a 50% limit on deducting eligible business meals this year.
Keep in mind that no deduction is allowed for meal or lodging expenses that are “lavish or extravagant,” a term that’s been interpreted to mean “unreasonable.”
Personal entertainment costs on the trip aren’t deductible, but business-related costs such as those for dry cleaning, phone calls and computer rentals can be written off.
Some allocations may be required if the trip is a combined business/pleasure trip, for example, if you fly to a location for four days of business meetings and stay on for an additional three days of vacation. Only the costs of meals, lodging, etc., incurred for the business days are deductible — not those incurred for the personal vacation days.
On the other hand, with respect to the cost of the travel itself (plane fare, etc.), if the trip is primarily business, the travel cost can be deducted in its entirety and no allocation is required. Conversely, if the trip is primarily personal, none of the travel costs are deductible. An important factor in determining if the trip is primarily business or personal is the amount of time spent on each (although this isn’t the sole factor).
If the trip doesn’t involve the actual conduct of business but is for the purpose of attending a convention, seminar, etc., the IRS may check the nature of the meetings carefully to make sure it isn’t a vacation in disguise. Retain all material helpful in establishing the business or professional nature of this travel.
The rules for deducting the costs of a spouse who accompanies you on a business trip are very restrictive. No deduction is allowed unless the spouse is an employee of you or your company, and the spouse’s travel is also for a business purpose.
Finally, note that personal expenses you incur at home as a result of taking the trip aren’t deductible. For example, let’s say you have to board a pet while you’re away. The cost isn’t deductible. Contact us if you have questions about your small business deductions.
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If you’re claiming deductions for business meals or auto expenses, expect the IRS to closely review them. In some cases, taxpayers have incomplete documentation or try to create records months (or years) later. In doing so, they fail to meet the strict substantiation requirements set forth under tax law. Tax auditors are adept at rooting out inconsistencies, omissions and errors in taxpayers’ records, as illustrated by one recent U.S. Tax Court case.
In the case, a married couple claimed $13,596 in car and truck expenses, supported only by mileage logs that weren’t kept contemporaneously and were made using estimates rather than odometer readings. The court disallowed the entire deduction, stating that “subsequently prepared mileage records do not have the same high degree of credibility as those made at or near the time the vehicle was used and supported by documentary evidence.”
The court noted that it appeared the taxpayers attempted to deduct their commuting costs. However, it stated that “expenses a taxpayer incurs traveling between his or her home and place of business generally constitute commuting expenses, which … are nondeductible.”
A taxpayer isn’t relieved of the obligation to substantiate business mileage, even if he or she opts to use the standard mileage rate (65.5 cents per business mile in 2023), rather than keep track of actual expenses.
The court also ruled the couple wasn’t entitled to deduct $5,233 of travel, meal and entertainment expenses because they didn’t meet the strict substantiation requirements of the tax code. (TC Memo 2022-113)
This case is an example of why it’s critical to maintain meticulous records to support business expenses for vehicle and meal deductions. Here’s a list of “DOs and DON’Ts” to help meet the strict IRS and tax law substantiation requirements for these items:
DO keep detailed, accurate records. For each expense, record the amount, the time and place, the business purpose, and the business relationship of any person to whom you provided a meal. If you have employees who you reimburse for meals and auto expenses, make sure they’re complying with all the rules.
DON’T reconstruct expense logs at year end or wait until you receive a notice from the IRS. Take a moment to record the details in a log or diary or on a receipt at the time of the event or soon after. Require employees to submit monthly expense reports.
DO respect the fine line between personal and business expenses. Be careful about combining business and pleasure. Your business checking account shouldn’t be used for personal expenses.
DON’T be surprised if the IRS asks you to prove your deductions. Vehicle and meal expenses are a magnet for attention. Be prepared for a challenge.
With organization and guidance from us, your tax records can stand up to inspection from the IRS. There may be ways to substantiate your deductions that you haven’t thought of, and there may be a way to estimate certain deductions (called “the Cohan rule”), if your records are lost due to a fire, theft, flood or other disaster.
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As we approach the halfway point of 2023, it’s the perfect opportunity to evaluate your business tax planning and determine ways to decrease your tax burden. Employing the right strategies can reduce your taxes, optimize your cash flow, and enhance your long-term financial success.
In this article, we’ll introduce three tax strategies for 2023: Roth IRA conversions, tax loss harvesting, and year-round charitable giving. By familiarizing yourself with these tactics and how they can benefit your enterprise, you can make well-informed decisions and capitalize on available tax savings. Let’s dive into these tax-saving concepts and explore the options available for your business.
Roth IRA conversions effectively transform a portion of your traditional IRA into a tax-free asset that can provide you with cash distributions in your retirement years. Converting a portion of your traditional IRA can save you taxes at a potentially lower marginal tax rate and create a tax-free asset that can serve as a mechanism for tax redistribution during retirement. Even better, consider using this strategy as a future legacy asset for your beneficiaries.
By converting to a Roth IRA, you can ensure your desired assets are passed onto your loved ones.
Tax loss harvesting is a strategy that involves taking advantage of market volatility to generate a tax asset using captured capital losses. These losses can be used to offset future capital gains, and any remaining losses can be used to offset gains in subsequent years. Another effective strategy involves pairing these losses with qualified opportunity zones, which can further reduce your tax liabilities.
Investors who suffered losses due to the steep decline of the cryptocurrency and stock markets can benefit from this approach. The recent market downturn could also lead more investors to opportunity zone funds, presenting an excellent opportunity to maximize tax benefits.
End-of-year charitable donations have long been a go-to for taxpayers seeking tax deductions. However, there are benefits to giving year-round, especially when combined with investments.
For example, investors with appreciated securities in a taxable account can use these securities to fulfill their philanthropic goals. This strategy allows for a fair market value deduction without having to pay taxes on the capital gain. It’s a practical way to donate without sacrificing your end-of-the-year cash or check donation.
Charitable remainder trusts offer another means of donating to worthwhile causes and taking advantage of tax breaks. Although the lower interest rates over the last few years have cooled investor interest in these trusts, the benefits of using these trusts become increasingly clear as rates rise.
Don’t wait until the end of the year to give back. Consider these charitable giving strategies to boost your philanthropic impact and build a better future.
Remember, it’s essential to review your tax planning regularly to take advantage of available opportunities and ensure you’re putting your assets to their best use. With these actionable takeaways, you can start making informed decisions today and set your business up for long-term financial success.
The IRS recently released guidance providing the 2024 inflation-adjusted amounts for Health Savings Accounts (HSAs).
An HSA is a trust created or organized exclusively for the purpose of paying the “qualified medical expenses” of an “account beneficiary.” An HSA can only be established for the benefit of an “eligible individual” who is covered under a “high-deductible health plan.” In addition, a participant can’t be enrolled in Medicare or have other health coverage (exceptions include dental, vision, long-term care, accident and specific disease insurance).
Within specified dollar limits, an above-the-line tax deduction is allowed for an individual’s contributions to an HSA. This annual contribution limitation and the annual deductible and out-of-pocket expenses under the tax code are adjusted annually for inflation.
In Revenue Procedure 2023-23, the IRS released the 2024 inflation-adjusted figures for contributions to HSAs, which are as follows:
Annual contribution limitation. For calendar year 2024, the annual contribution limitation for an individual with self-only coverage under an HDHP will be $4,150. For an individual with family coverage, the amount will be $8,300. This is up from $3,850 and $7,750, respectively, in 2023.
There is an additional $1,000 “catch-up” contribution amount for those age 55 and older in 2024 (and 2023).
High-deductible health plan defined. For calendar year 2024, an HDHP will be a health plan with an annual deductible that isn’t less than $1,600 for self-only coverage or $3,200 for family coverage (up from $1,500 and $3,000, respectively, in 2023). In addition, annual out-of-pocket expenses (deductibles, co-payments, and other amounts, but not premiums) won’t be able to exceed $8,050 for self-only coverage or $16,100 for family coverage (up from $7,500 and $15,000, respectively, in 2023).
There are a variety of benefits to HSAs. Contributions to the accounts are made on a pre-tax basis. The money can accumulate tax-free year after year and can be withdrawn tax-free to pay for a variety of medical expenses such as doctor visits, prescriptions, chiropractic care and premiums for long-term care insurance. In addition, an HSA is “portable.” It stays with an account holder if he or she changes employers or leaves the workforce. Contact your employee benefits and tax advisors if you have questions about HSAs at your business.
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Many businesses use independent contractors to help keep their costs down — especially in these times of staff shortages and inflationary pressures. If you’re among them, be careful that these workers are properly classified for federal tax purposes. If the IRS reclassifies them as employees, it can be an expensive mistake.
The question of whether a worker is an independent contractor or an employee for federal income and employment tax purposes is a complex one. If a worker is an employee, your company must withhold federal income and payroll taxes and pay the employer’s share of FICA taxes on the wages, plus FUTA tax. A business may also provide the worker with fringe benefits if it makes them available to other employees. In addition, there may be state tax obligations.
On the other hand, if a worker is an independent contractor, these obligations don’t apply. In that case, the business simply sends the contractor a Form 1099-NEC for the year showing the amount paid (if it’s $600 or more).
Who’s an “employee?” Unfortunately, there’s no uniform definition of the term.
The IRS and courts have generally ruled that individuals are employees if the organization they work for has the right to control and direct them in the jobs they’re performing. Otherwise, the individuals are generally independent contractors. But other factors are also taken into account including who provides tools and who pays expenses.
Some employers that have misclassified workers as independent contractors may get some relief from employment tax liabilities under Section 530. This protection generally applies only if an employer meets certain requirements. For example, the employer must file all federal returns consistent with its treatment of a worker as a contractor and it must treat all similarly situated workers as contractors.
Note: Section 530 doesn’t apply to certain types of workers.
Be aware that you can ask the IRS (on Form SS-8) to rule on whether a worker is an independent contractor or employee. However, you should also be aware that the IRS has a history of classifying workers as employees rather than independent contractors.
Businesses should consult with us before filing Form SS-8 because it may alert the IRS that your business has worker classification issues — and it may unintentionally trigger an employment tax audit.
It may be better to properly set up a relationship with workers to treat them as independent contractors so that your business complies with the tax rules.
Workers who want an official determination of their status can also file Form SS-8. Dissatisfied independent contractors may do so because they feel entitled to employee benefits and want to eliminate their self-employment tax liabilities.
If a worker files Form SS-8, the IRS will notify the business with a letter. It identifies the worker and includes a blank Form SS-8. The business is asked to complete and return the form to the IRS, which will render a classification decision.
These are the basic tax rules. Contact us if you’d like to discuss how to classify workers at your business. We can help make sure that your workers are properly classified.
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Whether you’re operating a new company or an established business, losses can happen. The federal tax code may help soften the blow by allowing businesses to apply losses to offset taxable income in future years, subject to certain limitations.
The net operating loss (NOL) deduction addresses the tax inequities that can exist between businesses with stable income and those with fluctuating income. It essentially lets the latter average out their income and losses over the years and pay tax accordingly.
You may be eligible for the NOL deduction if your deductions for the tax year are greater than your income. The loss generally must be caused by deductions related to your:
The following generally aren’t allowed when determining your NOL:
Individuals and C corporations are eligible to claim the NOL deduction. Partnerships and S corporations generally aren’t eligible, but partners and shareholders can use their separate shares of the business’s income and deductions to calculate individual NOLs.
The Tax Cuts and Jobs Act (TCJA) made significant changes to the NOL rules. Previously, taxpayers could carry back NOLs for two years, and carry forward the losses 20 years. They also could apply NOLs against 100% of their taxable income.
The TCJA limits the NOL deduction to 80% of taxable income for the year and eliminates the carryback of NOLs (except for certain farming losses). However, it does allow NOLs to be carried forward indefinitely.
A COVID-19 relief law temporarily loosened the TCJA restrictions. It allowed NOLs arising in 2018, 2019 or 2020 to be carried back five years and removed the taxable income limitation for years beginning before 2021. As a result, NOLs could completely offset income. However, these provisions have expired.
If your NOL carryforward is more than your taxable income for the year to which you carry it, you may have an NOL carryover. The carryover will be the excess of the NOL deduction over your modified taxable income for the carryforward year. If your NOL deduction includes multiple NOLs, you must apply them against your modified taxable income in the same order you incurred them, beginning with the earliest.
The TCJA established an “excess business loss” limitation, which took effect in 2021. For partnerships or S corporations, this limitation is applied at the partner or shareholder level, after the outside basis, at-risk and passive activity loss limitations have been applied.
Under the rule, noncorporate taxpayers’ business losses can offset only business-related income or gain, plus an inflation-adjusted threshold. For 2023, that threshold is $289,000 ($578,000 if married filing jointly). Remaining losses are treated as an NOL carryforward to the next tax year. In other words, you can’t fully deduct them because they become subject to the 80% income limitation on NOLs, reducing their tax value.
Important: Under the Inflation Reduction Act, the excess business loss limitation applies to tax years beginning before January 1, 2029. Under the TCJA, it had been scheduled to expire after December 31, 2026.
The tax rules regarding business losses are complex, especially when accounting for how NOLs can interact with other potential tax breaks. We can help you chart the best course forward.
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If you’re the owner of an incorporated business, you know there’s a tax advantage to taking money out of a C corporation as compensation rather than as dividends. The reason: A corporation can deduct the salaries and bonuses that it pays executives, but not dividend payments. Therefore, if funds are paid as dividends, they’re taxed twice, once to the corporation and once to the recipient. Money paid out as compensation is only taxed once — to the employee who receives it.
However, there are limits to how much money you can take out of the corporation this way. Under tax law, compensation can be deducted only to the extent that it’s reasonable. Any unreasonable portion isn’t deductible and, if paid to a shareholder, may be taxed as if it were a dividend. Keep in mind that the IRS is generally more interested in unreasonable compensation payments made to someone “related” to a corporation, such as a shareholder-employee or a member of a shareholder’s family.
There’s no simple way to determine what’s reasonable. If the IRS audits your tax return, it will examine the amount that similar companies would pay for comparable services under similar circumstances. Factors that are taken into account include the employee’s duties and the amount of time spent on those duties, as well as the employee’s skills, expertise and compensation history. Other factors that may be reviewed are the complexities of the business and its gross and net income.
There are four steps you can take to make it more likely that the compensation you earn will be considered “reasonable,” and therefore deductible by your corporation:
You can avoid problems and challenges by planning ahead. Contact us if you have questions or concerns about your situation.
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Fraud. Scam. Phishing. Regardless of what you call these illicit activities, it’s important to protect yourself against the bad players that take advantage of weaknesses for their gain. Not only is it inconvenient, but there’s often a financial cost when you’re a victim of fraud.
The IRS releases an annual ‘Dirty Dozen’ list featuring the top taxpayer scams for the coming year. The list is certainly not exhaustive of every potential pitfall out there, but it is an excellent place to start educating yourself (and your team if you’re a business owner). Here’s a summary of the 2023 IRS Dirty Dozen.
Employer Retention Credit Promoters: Businesses have been targeted by companies claiming to help them submit tax returns and adjustments to take maximum advantage of the Employee Retention Credit (ERC). These promoters collect a fee for preparation services, which is often tied to the value of the proposed credit. Usually, the targeted businesses don’t qualify for the credit, so when the adjustment claim is either rejected by the IRS or found to be incorrect during an audit, the business is out the funds paid to the promoter, as well as any monies received from the ERC they were not eligible for and potential IRS fees.
Phishing and Smishing Scams: Emails, texts, phone calls. These are all popular channels for scammers trying to obtain sensitive information from taxpayers by lying and saying they work for the IRS. Please remember that the IRS will always initiate contact with taxpayers by mail.
Online Account Assistance: The IRS Online Account tool provides helpful information to taxpayers. Scammers are using this as an opportunity to learn social security numbers and other sensitive information by calling and offering to help taxpayer set up their online accounts. This can lead to identity theft and a big headache for taxpayers trying to sort everything out.
Fuel Tax Credit Promoters: Like the Employee Retention Credit promotors, Fuel Tax Credit promoters claim that the taxpayer is qualified for the credit when they may not be. These scammers usually charge a big fee to assist the taxpayer in submitting these claims.
Fake Charity Scams: Major disasters like hurricanes, floods, and wildfires can lead to an increase in counterfeit charities to dupe taxpayers. When these disasters occur, people want to help those affected. Scammers take advantage of this generosity by using fake charities as a front for stealing money and private information. Be sure to take the time to thoroughly research any organization before donating.
Shady Tax Preparers: Common warning signs of a shady tax preparer include charging a fee based on the size of the refund or refusing to sign the form as a preparer as required by law. Make sure you’re using a trusted and knowledgeable tax preparer.
Social Media Trends: While this may seem unsurprising to most, it bears repeating – you can’t always trust what you hear on the internet. Social media can circulate misinformation quickly, including ‘hacks’ for getting a bigger tax refund. These trends usually involve lying on tax forms or creating false income. The IRS reminds taxpayers that falsifying tax documents is illegal and penalties are involved.
Spearphishing Email Scams: Bad players have been sending email requests to tax preparers, and payroll and human resources teams to try and gain sensitive client and employee data like W-2 information. These requests can look like they’re from a potential new client, and the scammers then use the data they collect to submit a series of false tax refund filings and collect on the tax returns. Businesses can protect themselves with these cybersecurity tips.
Offer in Compromise Mills: Promoters target taxpayers that owe the IRS money by offering to settle their debts with the IRS at a steep discount for a fee. Many times, the targeted taxpayers don’t meet the technical requirements to obtain an offer, meaning they still owe the IRS the same amount and are paying excessive fees to these companies. Taxpayers can check their eligibility for an Offer in Compromise using this free IRS tool.
Charitable Remainder Annuity Trust Schemes: Promoters can misuse Charitable Remainder Annuity Trusts and monetized installment sales by misapplying the rules, leaving filers vulnerable. These types of schemes are often targeted at wealthy taxpayers.
Tax Avoidance Schemes: The IRS warns taxpayers to be wary of anyone claiming to reduce their taxes owed drastically or even to nothing. This could include micro-captive insurance arrangements, international accounts, and syndicated conservation easements.
Be diligent with your information, teach your employees how to recognize scams, and be sure to discuss any changes in tax strategy with your trusted tax professional. If anyone contacts you with a claim that seems too good to be true, it probably is.
If your business occupies substantial space and needs to increase or move from that space in the future, you should keep the rehabilitation tax credit in mind. This is especially true if you favor historic buildings.
The credit is equal to 20% of the qualified rehabilitation expenditures (QREs) for a qualified rehabilitated building that’s also a certified historic structure. A qualified rehabilitated building is a depreciable building that has been placed in service before the beginning of the rehabilitation and is used, after rehabilitation, in business or for the production of income (and not held primarily for sale). Additionally, the building must be “substantially” rehabilitated, which generally requires that the QREs for the rehabilitation exceed the greater of $5,000 or the adjusted basis of the existing building.
A QRE is any amount chargeable to capital and incurred in connection with the rehabilitation (including reconstruction) of a qualified rehabilitated building. QREs must be for real property (but not land) and can’t include building enlargement or acquisition costs.
The 20% credit is allocated ratably to each year in the five-year period beginning in the tax year in which the qualified rehabilitated building is placed in service. Thus, the credit allowed in each year of the five-year period is 4% (20% divided by 5) of the QREs with respect to the building. The credit is allowed against both regular federal income tax and alternative minimum tax.
The Tax Cuts and Jobs Act, which was signed at the end of 2017, made some changes to the credit. Specifically, the law:
Contact us to discuss the technical aspects of the rehabilitation credit. There may also be other federal tax benefits available for the space you’re contemplating. For example, various tax benefits might be available depending on your preferences as to how a building’s energy needs will be met and where the building is located. In addition, there may be state or local tax and non-tax subsidies available.
Getting beyond these preliminary considerations, we can work with you and construction professionals to determine whether a specific available “old” building can be the subject of a rehabilitation that’s both tax-credit-compliant and practical to use. And, if you do find a building that you decide you’ll buy (or lease) and rehabilitate, we can help you monitor project costs and substantiate the compliance of the project with the requirements of the credit and any other tax benefits.
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California taxpayers should note the changes made to these tax laws over the last several months. Here’s an overview of what you may have missed:
California law requires holders of unclaimed property to attempt to notify owners of the property regularly, to keep records of the property and to turn over the property to the State Controller’s Office after the appropriate dormancy period. Unclaimed property could be:
Under California Assembly Bill 466, the dormancy period has been set to one year for payroll accounts and three years for Securities, Accounts Receivable and Payable, and Disbursements. The law also requires businesses to review their books and records annually to determine if they have any unclaimed property to report. Keep in mind, businesses must also complete the following reporting requirements:
In addition, the State of California identifies the following filling and reporting deadlines:
Personal property owners in California will receive annual assessments and tax bills for the personal property based on their county or local jurisdiction laws. In order to stay in compliance with tax laws, keep these points in mind:
The Tax Cuts and Jobs Act limited the state tax deduction for personal income in pass-through entities to $10,000. In California, pass-through entities pay tax, and the PTE owns remain taxable on the distributive shares of income. However, the owners receive a tax credit for a share of the PTE tax. The nonrefundable tax credit can be carried forward for up to 5 years.
In order to qualify as a pass-through entity, the election must be made annually and consented to by each owner to the pass-through entity. Payments of more than $1,000 or 50% of the prior year PTE tax are due by June 15 of the current tax year, with the remaining due on March 15 of the following year. This is effective for tax years beginning January 1, 2021 or later and before January 1, 2026.
The following are business taxes that business owners should be aware of for San Francisco and Los Angeles.
In late 2022 and early 2023, California issued qualified taxpayers a total of $9.2 billion in refunds of tax overpayments, called the Middle Class Tax Refund. The State of California noted these payments are not liable for state taxes previously. In February, the IRS determined that it will not challenge the tax treatment of these payments on 2022 tax filings, citing their general welfare and disaster relief exception.
Due to historically high rain, snow, and flooding in much of California, the IRS is offering disaster relief assistance in the form of due date extensions on required tax filings and payments. The new deadline for tax payments due from January through October is October 16, 2023. This includes:
For more information on the counties qualified for tax relief and what payments have been extended, please visit the IRS press release or call our team.
Summer is around the corner so you may be thinking about hiring young people at your small business. At the same time, you may have children looking to earn extra spending money. You can save family income and payroll taxes by putting your child on the payroll. It’s a win-win!
Here are four tax advantages.
You can turn some of your high-taxed income into tax-free or low-taxed income by shifting some business earnings to a child as wages for services performed. In order for your business to deduct the wages as a business expense, the work done by the child must be legitimate and the child’s salary must be reasonable.
For example, suppose you’re a sole proprietor in the 37% tax bracket. You hire your 16-year-old son to help with office work full-time in the summer and part-time in the fall. He earns $10,000 during the year (and doesn’t have other earnings). You can save $3,700 (37% of $10,000) in income taxes at no tax cost to your son, who can use his $13,850 standard deduction for 2023 to shelter his earnings.
Family taxes are cut even if your son’s earnings exceed his standard deduction. That’s because the unsheltered earnings will be taxed to him beginning at a 10% rate, instead of being taxed at your higher rate.
Your business likely will have to withhold federal income taxes on your child’s wages. Usually, an employee can claim exempt status if he or she had no federal income tax liability for last year and expects to have none this year.
However, exemption from withholding can’t be claimed if: 1) the employee’s income exceeds $1,250 for 2023 (and includes more than $400 of unearned income), and 2) the employee can be claimed as a dependent on someone else’s return.
Keep in mind that your child probably will get a refund for part or all of the withheld tax when filing a return for the year.
If your business isn’t incorporated, you can also save some Social Security tax by shifting some of your earnings to your child. That’s because services performed by a child under age 18 while employed by a parent aren’t considered employment for FICA tax purposes.
A similar but more liberal exemption applies for FUTA (unemployment) tax, which exempts earnings paid to a child under age 21 employed by a parent. The FICA and FUTA exemptions also apply if a child is employed by a partnership consisting only of his or her parents.
Note: There’s no FICA or FUTA exemption for employing a child if your business is incorporated or is a partnership that includes non-parent partners. However, there’s no extra cost to your business if you’re paying a child for work you’d pay someone else to do.
Your business also may be able to provide your child with retirement savings, depending on your plan and how it defines qualifying employees. For example, if you have a SEP plan, a contribution can be made for the child up to 25% of his or her earnings (not to exceed $66,000 for 2023).
Contact us if you have any questions about these rules in your situation. Keep in mind that some of the rules about employing children may change from year to year and may require your income-shifting strategies to change too.
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Here are some of the key tax-related deadlines that apply to businesses and other employers during the second quarter of 2023. Keep in mind that this list isn’t all-inclusive, so there may be additional deadlines that apply to you. Contact us to ensure you’re meeting all applicable deadlines and to learn more about the filing requirements.
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It’s been years since the Tax Cuts and Jobs Act (TCJA) of 2017 was signed into law, but it’s still having an impact. Several provisions in the law have expired or will expire in the next few years. One provision that took effect last year was the end of current deductibility for research and experimental (R&E) expenses.
The TCJA has affected many businesses, including manufacturers, that have significant R&E costs. Starting in 2022, Internal Revenue Code Section 174 R&E expenditures must be capitalized and amortized over five years (15 years for research conducted outside the United States). Previously, businesses had the option of deducting these costs immediately as current expenses.
The TCJA also expanded the types of activities that are considered R&E for purposes of IRC Sec. 174. For example, software development costs are now considered R&E expenses subject to the amortization requirement.
Businesses should consider the following strategies for minimizing the impact of these changes:
For 2022 tax returns, the IRS recently released guidance for taxpayers to change the treatment of R&E expenses (Revenue Procedure 2023-11). The guidance provides a way to obtain automatic consent under the tax code to change methods of accounting for specified research or experimental expenditures under Sec. 174, as amended by the TCJA. This is important because unless there’s an exception provided under tax law, a taxpayer must secure the consent of the IRS before changing a method of accounting for federal income tax purposes.
The recent revenue procedure also provides a transition rule for taxpayers who filed a tax return on or before January 17, 2023.
We can advise you how to proceed. There have also been proposals in Congress that would eliminate the amortization requirements. However, so far, they’ve been unsuccessful. We’re monitoring legislative developments and can help adjust your tax strategies if there’s a change in the law.
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Under tax law, businesses can generally deduct advertising and marketing expenses that help keep existing customers and bring in new ones. This valuable tax deduction can help businesses cut their taxes.
However, in order to be deductible, advertising and marketing expenses must be “ordinary and necessary.” As one taxpayer recently learned in U.S. Tax Court, not all expenses are eligible. An ordinary expense is one that’s common and accepted in the industry. And a necessary expense is one that’s helpful and appropriate for the business.
According to the IRS, here are some advertising expenses that are usually deductible:
An attorney deducted his car-racing expenses and claimed they were advertising for his personal injury law practice. He contended that his racing expenses, totaling over $303,000 for six tax years, were deductible as advertising because the car he raced was sponsored by his law firm.
The IRS denied the deductions and argued that the attorney’s car racing wasn’t an ordinary and necessary expense paid or incurred while carrying on his business of practicing law. The Tax Court agreed with the IRS.
When making an ordinary and necessary determination for an expense, most courts look to the taxpayer’s primary motive for incurring the expense and whether there’s a “proximate” relationship between the expense and the taxpayer’s occupation. In this case, the taxpayer’s car-racing expenses were neither necessary nor common for a law practice, so there was no “proximate” relationship between the expense and the taxpayer’s occupation. And, while the taxpayer said his primary motive for incurring the expense was to advertise his law business, he never raced in the state where his primary law practice was located, and he never actually got any legal business from his car-racing activity.
The court noted that the car “sat in his garage” after he returned to the area where his law practice was located. The court added that even if the taxpayer raced in that area, “we would not find his expenses to be legitimate advertising expenses. His name and a decal for his law firm appeared in relatively small print” on his car.
This form of “signage,” the court stated, “is at the opposite end of the spectrum from (say) a billboard or a newspaper ad. Indeed, every driver’s name typically appeared on his or her racing car.” (TC Memo 2023-18)
There are no deductions allowed for personal expenses or hobbies. But as explained above, you can deduct ordinary and necessary advertising and marketing expenses in a bona fide business. The key to protecting your deductions is to keep meticulous records to substantiate them. Contact us with questions about your situation.
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If you’re buying or replacing a vehicle that you’ll use in your business, be aware that a heavy SUV may provide a more generous tax break this year than you’d get from a smaller vehicle. The reason has to do with how smaller business cars are depreciated for tax purposes.
Business cars are subject to more restrictive tax depreciation rules than those that apply to other depreciable assets. Under the so-called “luxury auto” rules, depreciation deductions are artificially “capped.” Those caps also extend to the alternative deduction that a taxpayer can claim if it elects to use Section 179 expensing for all or part of the cost of a business car. (It allows you to write-off an asset in the year it’s placed in service.)
These rules include smaller trucks or vans built on truck chassis that are treated as cars. For most cars that are subject to the caps and that are first placed in service in calendar year 2023, the maximum depreciation and/or expensing deductions are:
Generally, the effect is to extend the number of years it takes to fully depreciate the vehicle.
Because of the restrictions for cars, you may be better off from a tax timing perspective if you replace your business car with a heavy SUV instead of another car. That’s because the caps on annual depreciation and expensing deductions for passenger automobiles don’t apply to trucks or vans that are rated at more than 6,000 pounds gross (loaded) vehicle weight. This includes large SUVs, many of which are priced over $50,000.
The result is that in most cases, you’ll be able to write-off a majority of the cost of a new SUV used entirely for business purposes by utilizing bonus and regular depreciation in the year you place it into service. For 2023, bonus depreciation is available at 80%, but is being phased down to zero over the next few years.
If you consider electing Section 179 expensing for all or part of the cost of an SUV, you need to know that an inflation-adjusted limit, separate from the general caps described above, applies ($28,900 for an SUV placed in service in tax years beginning in 2023, up from $27,000 for an SUV placed in service in tax years beginning in 2022). There’s also an aggregate dollar limit for all assets elected to be expensed in the year that would apply. Following the expensing election, you would then depreciate the remainder of the cost under the usual rules without regard to general annual caps.
Please note that the tax benefits described above are all subject to adjustment for non-business use. Also, if business use of an SUV doesn’t exceed 50% of total use, the SUV won’t be eligible for the expensing election, and would have to be depreciated on a straight-line method over a six-tax-year period.
Contact us for more details about this opportunity to get hefty tax write-offs if you buy a heavy SUV for business.
© 2023
Many people began working from home during the COVID-19 pandemic — and many still work from their home offices either all the time or on a hybrid basis. If you’re self-employed and run your business from home or perform certain functions there, you might be able to claim deductions for home office expenses against your business income. There are two methods for claiming this tax break: the actual expense method and the simplified method.
In general, you qualify for home office deductions if part of your home is used “regularly and exclusively” as your principal place of business.
If your home isn’t your principal place of business, you may still be able to deduct home office expenses if:
Many eligible taxpayers deduct actual expenses when they claim home office deductions. Deductible home office expenses may include:
But keeping track of actual expenses can take time and it requires organized recordkeeping.
Fortunately, there’s a simplified method: You can deduct $5 for each square foot of home office space, up to a maximum of $1,500.
The cap can make the simplified method less valuable for larger home office spaces. Even for small spaces, taxpayers may qualify for bigger deductions using the actual expense method. So, tracking your actual expenses can be worth it.
When claiming home office deductions, you’re not stuck with a particular method. For instance, you might choose the actual expense method on your 2022 return, use the simplified method when you file your 2023 return next year and then switch back to the actual expense method for 2024. The choice is yours.
If you sell — at a profit — a home on which you claimed home office deductions, there may be tax implications. We can explain them to you.
Also be aware that the amount of your home office deductions is subject to limitations based on the income attributable to your use of the office. Other rules and limitations may apply. But any home office expenses that can’t be deducted because of these limitations can be carried over and deducted in later years.
Unfortunately, the Tax Cuts and Jobs Act suspended the business use of home office deductions from 2018 through 2025 for employees. Those who receive paychecks or Form W-2s aren’t eligible for deductions, even if they’re currently working from home because their employers closed their offices due to COVID-19.
We can help you determine if you’re eligible for home office deductions and how to proceed in your situation.
© 2023
Merger and acquisition activity dropped dramatically last year due to rising interest rates and a slowing economy. The total value of M&A transactions in North America in 2022 was down 41.4% from 2021, according to S&P Global Market Intelligence.
But some analysts expect 2023 to see increased M&A activity in certain industries. If you’re considering buying or selling a business, it’s important to understand the tax implications.
Under current tax law, a transaction can basically be structured in two ways:
1. Stock (or ownership interest). A buyer can directly purchase a seller’s ownership interest if the target business is operated as a C or S corporation, a partnership, or a limited liability company (LLC) that’s treated as a partnership for tax purposes.
The current 21% corporate federal income tax rate makes buying the stock of a C corporation somewhat more attractive. That’s because the corporation will pay less tax and generate more after-tax income. Plus, any built-in gains from appreciated corporate assets will be taxed at a lower rate when they’re eventually sold.
The current individual federal tax rates have also made ownership interests in S corporations, partnerships, and LLCs more attractive. Reason: The passed-through income from these entities also is taxed at lower rates on a buyer’s personal tax return. However, individual rate cuts are scheduled to expire at the end of 2025.
2. Assets. A buyer can also purchase the assets of a business. This may happen if a buyer only wants specific assets or product lines. And it’s the only option if the target business is a sole proprietorship or a single-member LLC that’s treated as a sole proprietorship for tax purposes.
What buyers want
For several reasons, buyers usually prefer to buy assets rather than ownership interests. In general, a buyer’s primary goal is to generate enough cash flow from an acquired business to pay any acquisition debt and provide an acceptable return on the investment. Therefore, buyers are concerned about limiting exposure to undisclosed and unknown liabilities and minimizing taxes after a transaction closes.
A buyer can step up (or increase) the tax basis of purchased assets to reflect the purchase price. Stepped-up basis lowers taxable gains when certain assets, such as receivables and inventory, are sold or converted into cash. It also increases depreciation and amortization deductions for qualifying assets.
In general, sellers prefer stock sales for tax and nontax reasons. One of their objectives is to minimize the tax bill from a sale. That can usually be achieved by selling their ownership interests in a business (corporate stock, or partnership or LLC interests) as opposed to selling assets.
With a sale of stock or other ownership interest, liabilities generally transfer to the buyer, and any gain on sale is generally treated as lower-taxed long-term capital gain (assuming the ownership interest has been held for more than one year).
Be aware that other issues, such as employee benefits, can also cause tax issues in M&A transactions. Buying or selling a business may be the largest transaction you’ll ever make, so it’s important to seek professional assistance before finalizing a deal. After a transaction is complete, it may be too late to get the best tax results. Contact us about how to proceed.
© 2023
The IRS has released the updated tax brackets, deductions, and credits for the 2023 tax year. While tax filing for this year won’t happen until early 2024, it’s important to pay attention to your tax rate. Strategizing now can help minimize your tax liability and maximize your income potential. Here are the updated numbers for 2023.
The tax brackets for the 2023 tax year (filing in the spring of 2024) are as follows:
| Tax Rate | Single Filers, Married Filing Separately* | Heads of Household | Married Filing Jointly |
| 10% | < $11,000 | <$15,700 | < $22,000 |
| 12% | $11,000 | $15,700 | $22,000 |
| 22% | $44,725 | $59,850 | $89,450 |
| 24% | $95,375 | $95,350 | $190,750 |
| 32% | $182,100 | $182,100 | $364,200 |
| 35% | $231,250 | $231,250 | $462,500 |
| 37% | $578,125/$346,875* | $578,100 | $693,750 |
In addition to the tax brackets for 2023, taxpayers should be aware of these credits, deductions, and phase-outs.
To discuss how these updates may affect your unique tax situation or to create a tax plan for the year, please reach out to one of our knowledgeable professionals today!
Many businesses in certain industries employ individuals who receive tips as part of their compensation. These businesses include restaurants, hotels, and salons.
Tips are optional payments that customers make to employees who perform services. They can be cash or noncash. Cash tips include those received directly from customers, electronically paid tips distributed to employees by employers, and tips received from other employees under tip-sharing arrangements. Generally, workers must report cash tips to their employers. Noncash tips are items of value other than cash. They may include tickets, passes, or other items that customers give employees. Workers don’t have to report noncash tips to employers.
For tax purposes, four factors determine whether a payment qualifies as a tip:
Tips can also be direct or indirect. A direct tip occurs when an employee receives it directly from a customer, even as part of a tip pool. Directly tipped employees include wait staff, bartenders and hairstylists. An indirect tip occurs when an employee who normally doesn’t receive tips receives one. Indirectly tipped employees include bussers, service bartenders, cooks and salon shampooers.
Tipped workers must keep daily records of the cash tips they receive. To keep track of them, they can use Form 4070A, Employee’s Daily Record of Tips. It is found in IRS Publication 1244.
Workers should also keep records of the dates and value of noncash tips. Although the IRS doesn’t require workers to report noncash tips to employers, they must report them on their tax returns.
Employees must report tips to employers by the 10th of the month following the month they were received. The IRS doesn’t require workers to use a particular form to report tips. However, a worker’s tip report generally should include:
Note: Employees whose monthly tips are less than $20 don’t need to report them to their employers but must include them as income on their tax returns.
Employers should send each employee a Form W-2 that includes reported tips. Employers also must:
In addition, “large” food or beverage establishments must file an annual report disclosing receipts and tips on Form 8027, Employer’s Annual Information Return of Tip Income and Allocated Tips.
If you’re an employer with tipped workers providing food and beverages, you may qualify for a federal tax credit involving the Social Security and Medicare taxes that you pay on employees’ tip income. The tip tax credit may be valuable to you. If you have any questions about the tax implications of tips, don’t hesitate to contact us.
© 2023
An array of tax-related limits that affect businesses are indexed annually, and due to high inflation, many have increased more than usual for 2023. Here are some that may be important to you and your business.
The amount of employees’ earnings that are subject to Social Security tax is capped for 2023 at $160,200 (up from $147,000 for 2022).
These are only some of the tax limits and deductions that may affect your business and additional rules may apply. Contact us if you have questions.
© 2023
With the 2023 filing season deadline drawing near, be aware that the deadline for businesses to file information returns for hired workers is even closer. By January 31, 2023, employers must file these forms:
Form W-2, Wage and Tax Statement. W-2 forms show the wages paid and taxes withheld for the year for each employee. They must be provided to employees and filed with the Social Security Administration (SSA). The IRS notes that “because employees’ Social Security and Medicare benefits are computed based on information on Form W-2, it’s very important to prepare Form W-2 correctly and timely.”
Form W-3, Transmittal of Wage and Tax Statements. Anyone required to file Form W-2 must also file Form W-3 to transmit Copy A of Form W-2 to the SSA. The totals for amounts reported on related employment tax forms (Form 941, Form 943, Form 944 or Schedule H for the year) should agree with the amounts reported on Form W-3.
Failing to timely file or include the correct information on either the information return or statement may result in penalties.
The January 31 deadline also applies to Form 1099-NEC, Nonemployee Compensation. These forms are provided to recipients and filed with the IRS to report non-employee compensation to independent contractors.
Payers must complete Form 1099-NEC to report any payment of $600 or more to a recipient.
If the following four conditions are met, you must generally report payments as nonemployee compensation:
Your business may also have to file a Form 1099-MISC for each person to whom you made certain payments for rent, medical expenses, prizes and awards, attorney’s services and more.
If you have questions about filing Form W-2, Form 1099-NEC or any tax forms, contact us. We can assist you in staying in compliance with all rules.
© 2023
If your small business has a retirement plan, and even if it doesn’t, you may see changes and benefits from a new law. The Setting Every Community Up for Retirement Enhancement 2.0 Act (SECURE 2.0) was recently signed into law. Provisions in the law will kick in over several years.
SECURE 2.0 is meant to build on the original SECURE Act, which was signed into law in 2019. Here are some provisions that may affect your business.
Retirement plan automatic enrollment. Under the new law, 401(k) plans will be required to automatically enroll employees when they become eligible, beginning with plan years after December 31, 2024. Employees will be permitted to opt out. The initial automatic enrollment amount would be at least 3% but not more than 10%. Then, the amount would be increased by 1% each year thereafter until it reaches at least 10%, but not more than 15%. All current 401(k) plans are grandfathered. Certain small businesses would be exempt.
Part-time worker coverage. The first SECURE Act requires employers to allow long-term, part-time workers to participate in their 401(k) plans with a dual eligibility requirement (one year of service and at least 1,000 hours worked or three consecutive years of service with at least 500 hours worked). The new law will reduce the three-year rule to two years, beginning after December 31, 2024. This provision would also extend the long-term part-time coverage rules to 403(b) plans that are subject to ERISA.
Employees with student loan debt. The new law will allow an employer to make matching contributions to 401(k) and certain other retirement plans with respect to “qualified student loan payments.” This means that employees who can’t afford to save money for retirement because they’re repaying student loan debt can still receive matching contributions from their employers into retirement plans. This will take effect beginning after December 31, 2023.
“Starter” 401(k) plans. The new law will allow an employer that doesn’t sponsor a retirement plan to offer a starter 401(k) plan (or safe harbor 403(b) plan) that would require all employees to be default enrolled in the plan at a 3% to 15% of compensation deferral rate. The limit on annual deferrals would be the same as the IRA contribution limit with an additional $1,000 in catch-up contributions beginning at age 50. This provision takes effect beginning after December 31, 2023.
Tax credit for small employer pension plan start-up costs. The new law increases and makes several changes to the small employer pension plan start-up cost credit to incentivize businesses to establish retirement plans. This took effect for plan years after December 31, 2022.
Higher catch-up contributions for some participants. Currently, participants in certain retirement plans can make additional catch-up contributions if they’re age 50 or older. The catch-up contribution limit for 401(k) plans is $7,500 for 2023. SECURE 2.0 will increase the 401(k) catch-up contribution limit to the greater of $10,000 or 150% of the regular catch-up amount for individuals ages 60 through 63. The increased amounts will be indexed for inflation after December 31, 2025. This provision will take effect for taxable years beginning after December 31, 2024. (There will also be increased catch-up amounts for SIMPLE plans.)
Retirement savings for military spouses. SECURE 2.0 creates a new tax credit for eligible small employers for each military spouse that begins participating in their eligible defined contribution plan. This became effective in 2023.
These are only some of the provisions in SECURE 2.0. Contact us if you have any questions about your situation.
© 2023
Please join us in congratulating Kim Spinardi, Partner at Hamilton Tharp, for being named a 2023 Rising Aztec!
Kim is one of ten SDSU alumni to earn the biennial award, which recognizes up-and-coming alumni. Recipients of this prestigious accolade are young professionals with extraordinary career achievements who are also recognized for their support of SDSU and engagement with the University and community.
Kim is a passionate supporter of the Aztec community. She is an SDSU Alumni board member and part of the Intercollegiate athletics committee. Kim mentors students through the Aztec Mentor Program (AMP) and Aztecs Going Pro. Additionally, Kim supports the university through fundraising for campus initiatives, colleges, and student organizations.
We are proud to have Kim on our team and to support SDSU in recognizing the achievements of its alumni. Congratulations, Kim, for this remarkable recognition of your endeavors. Keep up your exemplary work! Learn more about Kim and the other SDSU Alumni 2023 Rising Aztecs.
The IRS recently released the 2023 mileage rates for businesses to use as guidance when reimbursing workers for applicable miles driven within the year. The rates tend to increase yearly to account for rising fuel and vehicle and maintenance costs and insurance rate increases.
Businesses can use the standard mileage rate to calculate the deductible costs of operating qualified automobiles for business, charitable, medical, or moving purposes. Keep reading for the updated mileage rates and some reminders for mileage reimbursements and deductions.
Standard mileage rates for cars, vans, and pickups or panel trucks are as follows:
| Use Category | Mileage rate (as of Jan. 1, 2023) | Change from the previous year |
| Business miles driven | $0.655 per mile | $0.03 increase from mid-year 2022 |
| Medical or moving miles driven* | $0.22 per mile | $0.00 increase from mid-year 2022 |
| Miles driven for charitable organizations | $0.14 per mile | Note: Only congress may adjust the mileage rate for service to a charitable organization by a Congress-passed statute. |
*Moving miles reimbursement for qualified active-duty members of the Armed Forces
When reimbursing employees for miles driven, keep the following in mind:
To review your organization’s mileage reimbursement policy and any alternate methods for calculating appropriate reimbursement amounts, reach out to our team of knowledgeable professionals today.
The Employee Retention Credit (ERC) was a valuable tax credit that helped employers that kept workers on staff during the height of the COVID-19 pandemic. While the credit is no longer available, eligible employers that haven’t yet claimed it might still be able to do so by filing amended payroll returns for tax years 2020 and 2021.
However, the IRS is warning employers to beware of third parties that may be advising them to claim the ERC when they don’t qualify. Some third-party “ERC mills” are promising that they can get businesses a refund without knowing anything about the employers’ situations. They’re sending emails, letters and voice mails as well as advertising on television. When businesses respond, these ERC mills are claiming many improper write-offs related to taxpayer eligibility for — and computation of — the credit.
These third parties often charge large upfront fees or a fee that’s contingent on the amount of the refund. They may not inform taxpayers that wage deductions claimed on the companies’ federal income tax returns must be reduced by the amount of the credit.
According to the IRS, if a business filed an income tax return deducting qualified wages before it filed an employment tax return claiming the credit, the business should file an amended income tax return to correct any overstated wage deduction. Your tax advisor can assist with this.
Businesses are encouraged to be cautious of advertised schemes and direct solicitations promising tax savings that are too good to be true. Taxpayers are always responsible for the information reported on their tax returns. Improperly claiming the ERC could result in taxpayers being required to repay the credit along with penalties and interest.
The ERC is a refundable tax credit designed for businesses that:
Eligible taxpayers could have claimed the ERC on an original employment tax return or they can claim it on an amended return.
To be eligible for the ERC, employers must have:
As a reminder, only recovery startup businesses are eligible for the ERC in the fourth quarter of 2021. Additionally, for any quarter, eligible employers cannot claim the ERC on wages that were reported as payroll costs in obtaining Paycheck Protection Program (PPP) loan forgiveness or that were used to claim certain other tax credits.
If you didn’t claim the ERC, and believe you’re eligible, contact us. We can advise you on how to proceed.
© 2023
The new Secure Act 2.0 legislation expands upon the Secure Act of 2019 with updates to retirement savings plans across the country. Here’s what you need to know.
Plan sponsors of 401(k) and 403(b) plans will be required to automatically enroll eligible employees with a starting contribution of 3% of their salary beginning in 2025. This amount will increase annually by 1% until the deferral amount reaches 10% of their earnings. Employees can opt-out if they do not wish to enroll in the sponsored retirement plan. This goes into effect for all existing defined-contribution plans if the employer has more than 10 employees and has existed for more than three years. Government and churches are excluded.
In addition, unenrolled participant notification requirements have been eliminated except for an annual reminder of plan requirements and their opportunity to participate.
Over the next 10 years, the age when required minimum distributions go into effect will increase. Here are the highlights:
For those who failed to make their required minimum contribution, the Act reduces the penalty from 50% to 25%.
Certain hardships are eligible for penalty-free early withdrawals from retirement accounts, where retirement account owners are only responsible for applicable taxes instead of the early withdrawal fee. Eligible hardships have been expanded to include victims of domestic violence, terminally ill patients, and certain personal financial emergencies. In addition, victims of qualified federal disasters who have experienced significant financial impact may take an early withdrawal without penalty within 180 days of the disaster.
Currently, taxpayers aged 50 or older can make catch-up contributions to eligible retirement plans, like a 401(k) or IRA. Beginning in 2025, The Secure Act 2.0 increases limits to the greater of $10,000 or 50% more than the original catch-up amount for those aged 60, 61, 62, or 63. In addition, IRA catch-up limits will no longer be set to $1,000 per year but will increase with inflation. In 2024, catch-up contributions will also be subject to after-tax (ROTH) rules.
The Secure Act 2.0 permits qualified 403(b) and governmental 457(b) plans to allow employees to designate employer matching, nonelective contributions, and student loan matching contributions as pre- or post-tax contributions. Take note that Roth-designated employer contributions must be 100% vested.
If a part-time worker has worked for an employer for at least three consecutive years and worked a minimum of 500 hours per year for those three years, the plan sponsor must allow them to contribute to qualified 401(k) plans. Effective for 401(k) and 403 (b) plans beginning after December 31, 2024, the three-year requirement has been reduced to two years.
Beginning in 2023, businesses with 50 employees or fewer can take a credit of up to 100% of the startup costs for workplace retirement plans, up to the annual cap of $5,000. This is an increase from the 50% credit previously offered.
To review how your tax strategy is affected by the Secure Act 2.0, reach out to our team of knowledgeable professionals.
If you’re considering converting your C corporation to an S corporation, be aware that there may be tax implications if you’ve been using the last in, first out (LIFO) inventory method. That’s because of the LIFO recapture income that will be triggered by converting to S corporation status. We can meet to compute what the tax on this recapture would be and to see what planning steps might be taken to minimize it.
As you’re aware, your corporation has been reporting a lower amount of taxable income under LIFO than it would have under the first in, first out (FIFO) method. The reason: The inventory taken into account in calculating the cost of goods sold under LIFO reflects current costs, which are usually higher.
This benefit of LIFO over FIFO is equal to the difference between the LIFO value of inventory and the higher value it would have had if the FIFO method had been used. In effect, the tax law treats this difference as though it were profit earned while the corporation was a C corporation. To make sure there’s a corporate-level tax on this amount, it must be “recaptured” into income when the corporation converts from a C corporation to an S corporation. Also, the recapture amount will increase the corporation’s earnings and profits, which can have adverse tax consequences down the road.
There are a couple of rules that soften the blow of this recapture tax to some degree.
We can help you gauge your exposure to the LIFO recapture tax and can suggest strategies for reducing it. Contact us to discuss these issues in detail.
© 2022
Here are some of the key tax-related deadlines affecting businesses and other employers during the first quarter of 2023. Keep in mind that this list isn’t all-inclusive, so there may be additional deadlines that apply to you. If you have questions about filing requirements, contact us. We can ensure you’re meeting all applicable deadlines.
Give annual information statements to recipients of certain payments you made during 2022. You can use the appropriate version of Form 1099 or other information return. Form 1099 can be issued electronically with the consent of the recipient. This due date applies only to the following types of payments:
© 2022
If you own a business, you may wonder if you’re eligible to take the qualified business income (QBI) deduction. Sometimes this is referred to as the pass-through deduction or the Section 199A deduction.
The QBI deduction is:
Taxpayers other than corporations may be entitled to a deduction of up to 20% of their QBI. For 2022, if taxable income exceeds $170,050 for single taxpayers, or $340,100 for a married couple filing jointly, the QBI deduction may be limited based on different scenarios. For 2023, these amounts are $182,100 and $364,200, respectively.
The situations in which the QBI deduction may be limited include whether the taxpayer is engaged in a service-type of trade or business (such as law, accounting, health or consulting), the amount of W-2 wages paid by the trade or business, and/or the unadjusted basis of qualified property (such as machinery and equipment) held by the trade or business. The limitations are phased in.
Some taxpayers may be able to achieve significant savings with respect to this deduction (or be subject to a smaller phaseout of the deduction), by deferring income or accelerating deductions at year-end so that they come under the dollar thresholds for 2022. Depending on your business model, you also may be able to increase the deduction by increasing W-2 wages before year-end. The rules are quite complex, so contact us with questions and consult with us before taking the next steps.
© 2022
These days, most businesses have some intangible assets. The tax treatment of these assets can be complex.
IRS regulations require the capitalization of costs to:
Capitalized costs can’t be deducted in the year paid or incurred. If they’re deductible at all, they must be ratably deducted over the life of the asset (or, for some assets, over periods specified by the tax code or under regulations). However, capitalization generally isn’t required for costs not exceeding $5,000 and for amounts paid to create or facilitate the creation of any right or benefit that doesn’t extend beyond the earlier of 1) 12 months after the first date on which the taxpayer realizes the right or benefit or 2) the end of the tax year following the tax year in which the payment is made.
The term “intangibles” covers many items. It may not always be simple to determine whether an intangible asset or benefit has been acquired or created. Intangibles include debt instruments, prepaid expenses, non-functional currencies, financial derivatives (including, but not limited to options, forward or futures contracts, and foreign currency contracts), leases, licenses, memberships, patents, copyrights, franchises, trademarks, trade names, goodwill, annuity contracts, insurance contracts, endowment contracts, customer lists, ownership interests in any business entity (for example, corporations, partnerships, LLCs, trusts, and estates) and other rights, assets, instruments and agreements.
Here are just a few examples of expenses to acquire or create intangibles that are subject to the capitalization rules:
The IRS regulations generally characterize an amount as paid to “facilitate” the acquisition or creation of an intangible if it is paid in the process of investigating or pursuing a transaction. The facilitation rules can affect any type of business, and many ordinary business transactions. Examples of costs that facilitate acquisition or creation of an intangible include payments to:
Like most tax rules, these capitalization rules have exceptions. There are also certain elections taxpayers can make to capitalize items that aren’t ordinarily required to be capitalized. The above examples aren’t all-inclusive, and given the length and complexity of the regulations, any transaction involving intangibles and related costs should be analyzed to determine the tax implications.
Contact us to discuss the capitalization rules to see if any costs you’ve paid or incurred must be capitalized or whether your business has entered into transactions that may trigger these rules. You can also contact us if you have any questions.
© 2022
If you have money invested in the stock market, you’re well aware of potential volatility. Needless to say, this volatility can affect your net worth, thus affecting your lifestyle. Something you might not think about is the potential effect on your estate tax liability. Specifically, if the value of stocks or other assets drops precipitously soon after your death, estate tax could be owed on value that has disappeared. One strategy to ease estate tax liability in this situation is for the estate’s executor to elect to use an alternate valuation date.
Typically, assets owned by the deceased are included in his or her taxable estate based on their value on the date of death. For instance, if an individual owned stocks valued at $1 million on the day when he or she died, the stocks would be included in the estate at a value of $1 million.
Despite today’s favorable rules that allow a federal gift and estate tax exemption of $12.06 million, a small percentage of families still must contend with the federal estate tax. However, the tax law provides some relief to estates that are negatively affected by fluctuating market conditions. Instead of using the value of assets on the date of death for estate tax purposes, the executor may elect an “alternate valuation” date of six months after the date of death. This election could effectively lower a federal estate tax bill.
The election is permissible only if the total value of the gross estate is lower on the alternate valuation date than it was on the date of death. Of course, the election generally wouldn’t be made otherwise. If assets are sold after death, the date of the disposition controls. The value doesn’t automatically revert to the date of death.
Furthermore, the ensuing estate tax must be lower by using the alternate valuation date than it would have been using the date-of-death valuation. This would also seem to be obvious, but that’s not necessarily true for estates passing under the unlimited marital deduction or for other times when the estate tax equals zero on the date of death.
Note that the election to use the alternate valuation date generally must be made with the estate tax return. There is, however, a provision that allows for a late-filed election.
The alternate valuation date election can save estate tax, but there’s one potential drawback: The election must be made for the entire estate. In other words, the executor can’t cherry-pick stocks to be valued six months after the date of death and retain the original valuation date for other stocks or assets. It’s all or nothing.
This could be a key consideration if an estate has, for example, sizable real estate holdings in addition to securities. If the real estate has been appreciating in value, making the election may not be the best approach. The executor must conduct a thorough inventory and accounting of the value of all assets.
If your estate includes assets that can fluctuate in value, such as stocks, be sure your executor knows about the option of choosing an alternate valuation date. This option allows flexibility to reduce the chances of estate tax liability. Contact your estate planning advisor for additional information.
© 2022
These days, most businesses buy or lease computer software to use in their operations. Or perhaps your business develops computer software to use in your products or services or sells or leases software to others. In any of these situations, you should be aware of the complex rules that determine the tax treatment of the expenses of buying, leasing or developing computer software.
Some software costs are deemed to be costs of “purchased” software, meaning it’s either:
The entire cost of purchased software can be deducted in the year that it’s placed into service. The cases in which the costs are ineligible for this immediate write-off are the few instances in which 100% bonus depreciation or Section 179 small business expensing isn’t allowed, or when a taxpayer has elected out of 100% bonus depreciation and hasn’t made the election to apply Sec. 179 expensing. In those cases, the costs are amortized over the three-year period beginning with the month in which the software is placed in service. Note that the bonus depreciation rate will begin to be phased down for property placed in service after calendar year 2022.
If you buy the software as part of a hardware purchase in which the price of the software isn’t separately stated, you must treat the software cost as part of the hardware cost. Therefore, you must depreciate the software under the same method and over the same period of years that you depreciate the hardware. Additionally, if you buy the software as part of your purchase of all or a substantial part of a business, the software must generally be amortized over 15 years.
You must deduct amounts you pay to rent leased software in the tax year they’re paid, if you’re a cash-method taxpayer, or the tax year for which the rentals are accrued, if you’re an accrual-method taxpayer. However, deductions aren’t generally permitted before the years to which the rentals are allocable. Also, if a lease involves total rentals of more than $250,000, special rules may apply.
Some software is deemed to be “developed” (designed in-house or by a contractor who isn’t at risk if the software doesn’t perform). For tax years beginning before calendar year 2022, bonus depreciation applies to developed software to the extent described above. If bonus depreciation doesn’t apply, the taxpayer can either deduct the development costs in the year paid or incurred, or choose one of several alternative amortization periods over which to deduct the costs. For tax years beginning after calendar year 2021, generally the only allowable treatment is to amortize the costs over the five-year period beginning with the midpoint of the tax year in which the expenditures are paid or incurred.
If following any of the above rules requires you to change your treatment of software costs, it will usually be necessary for you to obtain IRS consent to the change.
Contact us with questions or for assistance in applying the tax rules for treating computer software costs in the way that is most advantageous for you.
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How much can you and your employees contribute to your 401(k)s next year — or other retirement plans? In Notice 2022-55, the IRS recently announced cost-of-living adjustments that apply to the dollar limitations for pensions, as well as other qualified retirement plans for 2023. The amounts increased more than they have in recent years due to inflation.
The 2023 contribution limit for employees who participate in 401(k) plans will increase to $22,500 (up from $20,500 in 2022). This contribution amount also applies to 403(b) plans, most 457 plans and the federal government’s Thrift Savings Plan.
The catch-up contribution limit for employees age 50 and over who participate in 401(k) plans and the other plans mentioned above will increase to $7,500 (up from $6,500 in 2022). Therefore, participants in 401(k) plans (and the others listed above) who are 50 and older can contribute up to $30,000 in 2023.
The limitation for defined contribution plans, including a Simplified Employee Pension (SEP) plan, will increase from $61,000 to $66,000. To participate in a SEP, an eligible employee must receive at least a certain amount of compensation for the year. That amount will increase in 2023 to $750 (from $650 for 2022).
Deferrals to a SIMPLE plan will increase to $15,500 in 2023 (up from $14,000 in 2022). The catch-up contribution limit for employees age 50 and over who participate in SIMPLE plans will increase to $3,500 in 2023, up from $3,000.
The IRS also announced that in 2023:
The 2023 limit on annual contributions to an individual IRA will increase to $6,500 (up from $6,000 for 2022). The IRA catch-up contribution limit for individuals age 50 and older isn’t subject to an annual cost-of-living adjustment and will remain $1,000.
Current high inflation rates will make it easier for you and your employees to save much more in your retirement plans in 2023. The contribution amounts will be a great deal higher next year than they’ve been in recent years. Contact us if you have questions about your tax-advantaged retirement plan or if you want to explore other retirement plan options.
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Companies that wish to reduce their tax bills or increase their refunds shouldn’t overlook the fuel tax credit. It’s available for federal tax paid on fuel used for nontaxable purposes.
The federal fuel tax, which is used to fund highway and road maintenance programs, is collected from buyers of gasoline, undyed diesel fuel, and undyed kerosene. (Dyed fuels, which are limited to off-road use, are exempt from the tax.)
But purchasers of taxable fuel may use it for nontaxable purposes. For example, construction businesses often use gasoline, undyed diesel fuel or undyed kerosene to run off-road vehicles and construction equipment, such as front loaders, bulldozers, cranes, power saws, air compressors, generators and heaters.
As of this writing, a federal fuel tax holiday has been proposed. But even if it’s signed into law (check with your tax advisor for the latest information), businesses can benefit from the fuel tax credit for months the holiday isn’t in effect.
Currently, the federal tax on gasoline is $0.184 per gallon, and the federal tax on diesel fuel and kerosene is $0.244 per gallon. Calculating the fuel tax credit is simply a matter of multiplying the number of gallons used for nontaxable purposes during the year by the applicable rate.
So, for instance, a company that uses 7,500 gallons of gasoline and 15,000 gallons of undyed diesel fuel to operate off-road vehicles and equipment is entitled to a $5,040 credit (7,500 x $0.184) + (15,000 x $0.244).
This may not seem like a large number, but it can add up over the years. And remember, a tax credit reduces your tax liability dollar for dollar. That’s much more valuable than a deduction, which reduces only your taxable income.
Keep in mind, though, that fuel tax credits are includable in your company’s taxable income. That’s because the full amount of the fuel purchases was previously deducted as business expenses, and you can’t claim a deduction and a credit on the same expense.
You can claim the credit by filing Form 4136, “Credit for Federal Tax Paid on Fuels,” with your tax return. If you don’t want to wait until the end of the year to recoup fuel taxes, you can file Form 8849, “Claim for Refund of Excise Taxes,” to obtain periodic refunds.
Alternatively, if your business files Form 720, “Quarterly Federal Excise Tax Return,” you can claim fuel tax credits against your excise tax liability.
No one likes to pay taxes they don’t owe, but if you forgo fuel tax credits, that’s exactly what you’re doing. Given the minimal burden involved in claiming these credits — it’s just a matter of tracking your nontaxable fuel uses and filing a form — there’s really no reason not to do so.
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What makes Roth IRAs so appealing? Primarily, it’s the ability to withdraw money from them tax-free. But to enjoy this benefit, there are a few rules you must follow, including the widely misunderstood five-year rule.
To understand the five-year rule, you first need to understand the three types of funds that may be withdrawn from a Roth IRA:
Contributed principal. This is your after-tax contributions to the account.
Converted principal. This consists of funds that had been in a traditional IRA but that you converted to a Roth IRA (paying tax on the conversion).
Earnings. This includes the (untaxed) returns generated from the contributed or converted principal.
Generally, you can withdraw contributed principal at any time without taxes or early withdrawal penalties, regardless of your age or how long the funds have been held in the Roth IRA. But to avoid taxes and penalties on withdrawals of earnings, you must meet two requirements:
The withdrawal must not be made before you turn 59½, die, become disabled or qualify for an exception to early withdrawal penalties (such as withdrawals for qualified first-time homebuyer expenses), and
You must satisfy the five-year rule.
Withdrawals of converted principal aren’t taxable because you were taxed at the time of the conversion. But they’re subject to early withdrawal penalties if you fail to satisfy the five-year rule.
As the name suggests, the five-year rule requires you to satisfy a five-year holding period before you can withdraw Roth IRA earnings tax-free or converted principal penalty-free. But the rule works differently depending on the type of funds you’re withdrawing.
If you’re withdrawing earnings, the five-year period begins on January 1 of the tax year for which you made your first contribution to any Roth IRA. For example, if you opened your first Roth IRA on April 1, 2018, and treated your initial contribution as one for the 2017 tax year, then the five-year period started on January 1, 2017. That means you were able to withdraw earnings from any Roth IRA tax- and penalty-free beginning on January 1, 2022 (assuming you were at least 59½ or otherwise exempt from early withdrawal penalties).
Note: If you’re not subject to early withdrawal penalties (because, for example, you’re 59½ or older), failure to satisfy the five-year rule won’t trigger a penalty, but earnings will be taxable.
If you’re withdrawing converted principal, the five-year holding period begins on January 1 of the tax year in which you do the conversion. For instance, if you converted a traditional IRA into a Roth IRA at any time during 2017, the five-year period began January 1, 2017, and ended December 31, 2021.
Unlike earnings, however, each Roth IRA conversion is subject to a separate five-year holding period. If you do several conversions over the years, you’ll need to track each five-year period carefully to avoid triggering unexpected penalties.
Keep in mind that the five-year rule only comes into play if you’re otherwise subject to early withdrawal penalties. If you’ve reached age 59½, or a penalty exception applies, then you can withdraw converted principal penalty-free even if the five-year period hasn’t expired.
You may be wondering why the five-year rule applies to withdrawals of funds that have already been taxed. The reason is that the tax benefits of Roth and traditional IRAs are intended to promote long-term saving for retirement. Without the five-year rule, a traditional IRA owner could circumvent the penalty for early withdrawals simply by converting it to a Roth IRA, paying the tax, and immediately withdrawing it penalty-free.
Note, however, that while the five-year rule prevents this, it’s still possible to use a conversion to withdraw funds penalty-free before age 59½. For example, you could convert a traditional IRA to a Roth IRA at age 45, pay the tax, wait five years and then withdraw the converted principal penalty-free.
Generally, one who inherits a Roth IRA may withdraw the funds immediately without fear of taxes or penalties, with one exception: The five-year rule may still apply to withdrawals of earnings if the original owner of the Roth IRA hadn’t satisfied the five-year rule at the time of his or her death.
For instance, suppose you inherited a Roth IRA from your grandfather on July 1, 2021. If he made his first Roth IRA contribution on December 1, 2018, you’ll have to wait until January 1, 2023, before you can withdraw earnings tax-free.
Many people are accustomed to withdrawing retirement savings freely once they reach age 59½. But care must be taken when withdrawing funds from a Roth IRA to avoid running afoul of the five-year rule and inadvertently triggering unexpected taxes or penalties. The rule is complex — so when in doubt, consult a tax professional before making a withdrawal.
The consequences of violating the five-year rule can be costly, but fortunately, there are ordering rules that help you avoid inadvertent mistakes. Under these rules, withdrawals from a Roth IRA are presumed to come from after-tax contributions first, converted principal second, and earnings third.
So, if contributions are large enough to cover the amount you wish to withdraw, you will avoid taxes and penalties even if the five-year rule hasn’t been satisfied for converted principal or earnings. Of course, if you withdraw the entire account balance, the ordering rules won’t help you.
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A significantly modified update to the Electric Drive Motor Vehicle Credit (IRC Section 30D), went into effect August 17, 2022, and changed this popular tax credit. As of January 1, 2023, the new Clean Vehicle Credit will go into effect. In this article we outline what you need to know about the updated credit.
While the previous credit also allowed up to a $7,500 credit for purchasers of eligible vehicles, it included a maximum manufacturing limit for each car manufacturer. That means General Motors and Tesla brand cars were no longer eligible for the credit. The new version of this tax credit is going to remove this cap but adds several new stipulations that will go into effect over time. In addition, the credit has been expanded to include all clean vehicle types, including plug-in hybrids and hydrogen fuel cell vehicles.
The Department of Entergy (DOE) has given a list of electric vehicles that may meet the updated Electric Drive Motor Vehicle Credit and new Clean Vehicle Credit at https://afdc.energy.gov/laws/inflation-reduction-act. They recommend that taxpayers still confirm that their vehicle meets the new North America assembly requirement.
Suppose you are one of the taxpayers that signed a purchase contract before August 16, 2022 but did not take possession until after August 16, 2022. In that case, you may have the opportunity to choose to use the updated Electric Drive Motor Vehicle Credit rules or be grandfathered into the old tax credit qualifications. This could benefit vehicles by manufacturers that have previously reached their manufacturing cap or for vehicles that do not meet the final assembly requirement. The National Highway Traffic Safety Administration (NHTSA) has a VIN decoder to see if the vehicle qualifies for tax credits.
The State of California does not have a comparable tax credit but offers rebates for purchases of qualified ‘clean vehicles.’ The rebate amounts range from $750 to $7,000 depending on the vehicle and the Manufacturer Suggested Retail Price (MRSP). In addition, low-income families can add up to $2,500 to the rebate for purchasing an eligible vehicle. View the list of vehicles eligible for the California rebate here.
To review your tax planning and whether a clean vehicle purchase would be advantageous, reach out to our team of knowledgeable tax professionals to schedule an appointment.
Many companies are eligible for tax write-offs for certain equipment purchases and building improvements. These write-offs can do wonders for a business’s cash flow, but whether to claim them isn’t always an easy decision. In some cases, there are advantages to following the regular depreciation rules. So it’s critical to look at the big picture and develop a strategy that aligns with your company’s overall tax-planning objectives.
Taxpayers can elect to claim 100% bonus depreciation or Section 179 expensing to deduct the full cost of eligible property up front in the year it’s placed in service. Alternatively, they may spread depreciation deductions over several years or decades, depending on how the tax code classifies the property.
Under the Tax Cuts and Jobs Act (TCJA), 100% bonus depreciation is available for property placed in service through 2022. Without further legislation, bonus depreciation will be phased down to 80% for property placed in service in 2023, 60% in 2024, 40% in 2025, and 20% in 2026; then, after 2026, bonus depreciation will no longer be available. (For certain property with longer production periods, these reductions are delayed by one year. For example, 80% bonus depreciation will apply to long-production-period property placed in service in 2024.)
In March 2020, a technical correction made by the CARES Act expanded the availability of bonus depreciation. Under the correction, qualified improvement property (QIP), which includes many interior improvements to commercial buildings, is eligible for 100% bonus depreciation not only following the phaseout schedule through 2026 but also retroactively to 2018. So, taxpayers that placed QIP in service in 2018 and 2019 may have an opportunity to claim bonus depreciation by amending their returns for those years. If bonus depreciation isn’t claimed, QIP is generally depreciable on a straight-line basis over 15 years.
Sec. 179 also allows taxpayers to fully deduct the cost of eligible property, but the maximum deduction in a given year is $1 million (adjusted for inflation to $1.08 million for 2022), and the deduction is gradually phased out once a taxpayer’s qualifying expenditures exceed $2.5 million (adjusted for inflation to $2.7 million for 2022).
While 100% first-year bonus depreciation or Sec. 179 expensing can significantly lower your company’s taxable income, it’s not always a smart move. Here are three examples of situations where it may be preferable to forgo bonus depreciation or Sec. 179 expensing:
You’re planning to sell QIP. If you’ve invested heavily in building improvements that are eligible for bonus depreciation as QIP and you plan to sell the building in the near future, you may be stepping into a tax trap by claiming the QIP write-off. That’s because your gain on the sale — up to the amount of bonus depreciation or Sec. 179 deductions you’ve claimed — will be treated as “recaptured” depreciation that’s taxable at ordinary-income tax rates as high as 37%. On the other hand, if you deduct the cost of QIP under regular depreciation rules (generally, over 15 years), any long-term gain attributable to those deductions will be taxable at a top rate of 25% upon the building’s sale.
You’re eligible for the Sec. 199A “pass-through” deduction. This deduction allows eligible business owners to deduct up to 20% of their qualified business income (QBI) from certain pass-through entities, such as partnerships, limited liability companies and S corporations, as well as sole proprietorships. The deduction, which is available through 2025 under the TCJA, can’t exceed 20% of an owner’s taxable income, excluding net capital gains. (Several other restrictions apply.)
Claiming bonus depreciation or Sec. 179 deductions reduces your QBI, which may deprive you of an opportunity to maximize the 199A deduction. And since the 199A deduction is scheduled to expire in 2025, it makes sense to take advantage of it while you can.
Your depreciation deductions may be more valuable in the future. The value of a deduction is based on its ability to reduce your tax bill. If you think your tax rate will go up in the coming years, either because you believe Congress will increase rates or you expect to be in a higher bracket, depreciation write-offs may be worth more in future years than they are now.
Keep in mind that forgoing bonus depreciation or Sec. 179 deductions only affects the timing of those deductions. You’ll still have an opportunity to write off the full cost of eligible assets; it will just be over a longer time period. Your tax advisor can analyze how these write-offs interact with other tax benefits and help you determine the optimal strategy for your situation.
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If you need to hire, be aware of a valuable tax credit for employers hiring individuals from one or more targeted groups. The Work Opportunity Tax Credit (WOTC) is generally worth $2,400 for each eligible employee but can be worth more — in some cases, much more.
Generally, an employer is eligible for the credit only for qualified wages paid to members of a targeted group. These groups are:
Employers of all sizes are eligible to claim the WOTC. This includes both taxable and certain tax-exempt employers located in the United States and in some U.S. territories. Taxable employers can claim the WOTC against income taxes. However, eligible tax-exempt employers can claim the WOTC only against payroll taxes and only for wages paid to members of the qualified veteran targeted group.
Many additional conditions must be fulfilled before employers can qualify for the credit. Each employee must have completed a minimum of 120 hours of service for the employer. Also, the credit isn’t available for employees who are related to the employer or who previously worked for the employer.
WOTC amounts differ for specific employees. The maximum credit available for the first year’s wages generally is $2,400 for each employee, or $4,000 for a recipient of long-term family assistance. In addition, for those receiving long-term family assistance, there’s a 50% credit for up to $10,000 of second-year wages. The maximum credit available over two years for these employees is $9,000 ($4,000 for Year 1 and $5,000 for Year 2).
For some veterans, the maximum WOTC is higher: $4,800 for certain disabled veterans, $5,600 for certain unemployed veterans, and $9,600 for certain veterans who are both disabled and unemployed.
For summer youth employees, the wages must be paid for services performed during any 90-day period between May 1 and September 15. The maximum WOTC credit available for summer youth is $1,200 per employee.
Additional rules and requirements apply. For example, you must obtain certification that an employee is a target group member from the appropriate State Workforce Agency before you can claim the credit. The certification generally must be requested within 28 days after the employee begins work. And in limited circumstances, the rules may prohibit the credit or require an allocation of it.
Nevertheless, for most employers that hire from targeted groups, the credit can be valuable. Contact your tax advisor with questions or for more information about your situation.
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On October 21, 2022, the Internal Revenue Service (IRS) announced the updated contribution limits to retirement plans in Notice 2022-55. The new limits are valid beginning in tax year 2023. These limits are important, as they cap the tax benefits that can be realized from retirement plan savings contributions each year and are adjusted to account for annual inflation.
There are several options available under the ‘Employer Contribution Plans’ category. These plans are typically funded through an employer and may or may not have contributions paid for by the employer. For 401(k), 403(b), the federal government’s Thrift Savings Plan, and most 457 plans, the contribution limit will increase from $20,500 in 2022 to $22,500 in 2023.
Individuals aged 50 years and above can contribute additional funds, called ‘Catch Up Contributions.’ The catch-up contribution limit or the employer-sponsored plans mentioned above will increase from $6,500 in 2022 to $7,500 in 2023. This means those with a qualifying employer-sponsored plan who are 50 or older can contribute up to $30,000 to tax-beneficial retirement plans.
Depending on income, the IRS provides tax benefits to non-employer-sponsored retirement accounts called Individual Retirement Arrangements (IRAs). The traditional IRA offers a deduction for the income in the tax year the contribution is made, while a Roth IRA offers tax benefits when the funds are withdrawn after the qualifying retirement age.
The IRS has increased the contribution limit to these types of accounts to $6,500 in 2023 from $6,000 in 2022. For individuals eligible for a catch-up contribution, the additional contribution amount remains at $1,000.
Keep in mind that there is an income limit on both Traditional IRA and Roth IRA accounts before the tax benefits start to phase out. These limits are:
Traditional IRA |
|
| Single Filers/Heads of Household | $73,000 to $83,000* |
| Married Filing Jointly (spouse contributing covered by employer plan) | $116,000 to $136,000* |
| Married Filing Jointly (contributor not covered by employer plan, but spouse is) | $218,000 to $228,000* |
| Married Filing Separate (contributor covered by an employer plan) | $0 to $10,000* |
Roth IRA |
|
| Single Filers/Heads of Household | $138,000 to $153,000* |
| Married Filing Jointly | $218,000 to $228,000* |
| Married Filing Separate | $0 to $10,000* |
Retirement Savings Contributions Credit |
|
| Single Filers/Married Filing Separate | $36,500 |
| Married Filing Jointly | $73,000 |
| Heads of Household | $54,750 |
*Note: Contribution limits to Traditional IRA and Roth IRA accounts phase out over the noted income range.
Need assistance understanding the tax benefits and contribution limits attached to the different tax-beneficial retirement accounts? Our team of knowledgeable professionals is here to help. Give us a call to discuss your tax strategy for retirement savings today.
The Social Security Administration recently announced that the wage base for computing Social Security tax will increase to $160,200 for 2023 (up from $147,000 for 2022). Wages and self-employment income above this threshold aren’t subject to Social Security tax.
The Federal Insurance Contributions Act (FICA) imposes two taxes on employers, employees, and self-employed workers. One is for the Old Age, Survivors, and Disability Insurance program, which is commonly known as Social Security. The other is for the Hospital Insurance program, which is commonly known as Medicare.
There’s a maximum amount of compensation subject to the Social Security tax, but no maximum for Medicare tax. For 2023, the FICA tax rate for employers is 7.65% — 6.2% for Social Security and 1.45% for Medicare (the same as in 2022).
For 2023, an employee will pay:
For 2023, the self-employment tax imposed on self-employed people is:
What happens if one of your employees works for your business and has a second job? That employee would have taxes withheld from two different employers. Can the employee ask you to stop withholding Social Security tax once he or she reaches the wage base threshold? Unfortunately, no. Each employer must withhold Social Security taxes from the individual’s wages, even if the combined withholding exceeds the maximum amount that can be imposed for the year. Fortunately, the employee will get a credit on his or her tax return for any excess withheld.
Contact us if you have questions about 2023 payroll tax filing or payments. We can help ensure you stay in compliance.
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Throughout the year, the Federal Emergency Management Agency (FEMA) will designate incidents that adversely affect residents in the affected areas as disasters. This FEMA designation puts relief efforts in motion, both short and long-term.
While immediate needs like food, water, and shelter are at the top of the list, long-term efforts, like relief options through the IRS, aim to help those affected get back on their feet.
In the past, the Senate was required to vote every time the IRS wanted to grant disaster relief provisions to FEMA-designated disaster areas. Now, the IRS can give disaster relief by extending deadlines for “certain time-sensitive acts.” This includes filing returns and paying taxes during the disaster period. For example, affected taxpayers usually receive a tax refund more quickly by “claiming losses related to the disaster on the tax return for the previous year.”
While in some areas of the country, disaster preparedness feels more like a what-if scenario, other parts of the country are all-too-familiar with preparing for floods, wildfires, and tornados. The IRS recommends:
Suppose you or your business have gone through a natural disaster, and you cannot access your original tax documents. In that case, the IRS recommends the following resources for obtaining important financial information when you are ready:
The IRS keeps a list of current and past disaster relief offered on its website. Some of the more recent disaster-related tax relief programs include:
We recommend talking with your tax advisor and visiting the IRS Disaster Relief Website for a comprehensive list.
Even though the overall IRS audit rate is currently low historically, it’s expected to increase as a result of provisions in the Inflation Reduction Act signed into law in August. So it’s more important than ever for taxpayers to follow the rules to minimize their chances of being subject to an audit. How can you reduce your audit chances? Watch for these 10 red flags that can trigger IRS scrutiny:
Of course, this isn’t the end of the list. There are many other potential audit triggers, depending on a taxpayer’s particular situation. Also, keep in mind that some audits are done on a random basis. So even if you have no common triggers on your return, you still could be subject to an audit (though the chances are lower).
With proper tax reporting and professional help, you can reduce the likelihood of triggering an audit. And if you still end up being subject to one, proper documentation can help you withstand it with little or no negative consequences.
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If you’re thinking about selling your home, it’s important to determine whether you qualify for the home sale gain exclusion. The exclusion is one of the most generous tax breaks in the tax code, so be sure to review its requirements before you sell.
Ordinarily, when you sell real estate or other capital assets that you’ve owned for more than one year, your profit is taxable at long-term capital gains rates of 15% or 20%, depending on your tax bracket. High-income taxpayers may also be subject to an additional 3.8% net investment income (NII) tax. If you’re selling your principal residence, however, the home sale gain exclusion may allow you to avoid tax on up to $250,000 in profit for single filers and up to $500,000 for married couples filing jointly.
Don’t assume that you’re eligible for this tax break just because you’re selling your principal residence. If you’re a single filer, to qualify for the exclusion, you must have owned and used the home as your principal residence for at least 24 months of the five-year period ending on the sale date.
If you’re married filing jointly, then both you and your spouse must have lived in the home as your principal residence for 24 months of the preceding five years and at least one of you must have owned it for 24 months of the preceding five years. Special eligibility rules apply to people who become unable to care for themselves, couples who divorce or separate, military personnel, and widowed taxpayers.
You can’t use the exclusion more than once in a two-year period, even if you otherwise meet the requirements. Also, if you convert an ineligible residence into a principal residence and live in it for 24 months or more, only a portion of your gain will qualify for the exclusion.
For example, John is single and has owned a home for five years, using it as a vacation home for the first three years and as his principal residence for the last two. If he sells the home for a $300,000 gain, only 40% of his gain ($120,000) qualifies for the exclusion, and the remaining $180,000 is taxable. (Note: Nonqualified use prior to 2009 doesn’t reduce the exclusion).
What if you sell your home before you meet the 24-month threshold due to a work- or health-related move, or certain other unforeseen circumstances? You may qualify for a partial exclusion.
For example, Paul and Linda bought a home in California for $1 million. One year later, Paul’s employer transferred him to its New York office, so the couple sold the home for $1.2 million. Paul and Linda didn’t meet the 24-month threshold but, because they sold the home due to a work-related move, they qualified for a partial exclusion of 12 months/24 months, or 50%.
Note that the 50% reduction applied to the exclusion, not to the couple’s gain. Thus, their exclusion was reduced to 50% of $500,000, or $250,000, which shielded their entire $200,000 gain from tax.
Before you sell your principal residence, determine the amount of your home sale gain exclusion and your expected gain (selling price less adjusted cost basis). Keep in mind that your cost basis is increased by the cost of certain improvements and other expenses, which in turn reduces your gain. Also, be aware that capital gains attributable to depreciation deductions (for a home office, for example) will be taxable regardless of the home sale gain exclusion.
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Do you own commercial or investment real estate that has substantially increased in value? If you sell the property, you may be hit with a huge capital gain tax liability. Possible solution: Consider a Section 1031 exchange (also known as a like-kind exchange) in which you swap qualifying properties while paying zero or little current tax.
Recent legislation has narrowed the availability of Sec. 1031 exchanges, but you can still use this technique for qualified real estate transactions. However, keep in mind that a repeal or modification of the rules has been discussed. So, if you’re interested in an exchange, you may want to act soon.
Under Sec. 1031 of the Internal Revenue Code, you can defer tax on the exchange of like-kind real estate properties if specific requirements are met. Previously, this tax break was available for various types of property, such as trade-ins of business vehicles. But as of 2018, the Tax Cuts and Jobs Act strictly limits the Sec. 1031 rules to real estate transactions.
Note that the properties — both the one you relinquish and the one you receive — must be business or investment properties. You can’t avoid current tax if you swap personal residences, but you may be able to exchange a vacation home that is treated as a rental property. (There may be other complications, so consult with your tax advisor.)
Normally, a sale of appreciated real estate would result in capital gains tax. For individual property owners, the maximum tax rate is 20% if the property has been owned for longer than one year. Otherwise, the gain for individuals is taxed at ordinary income tax rates currently topping out at 37%.
If you meet the requirements under Sec. 1031, there’s no current tax due on the exchange — except to the extent that you receive “boot” as part of the deal. Boot includes cash needed to “even things out” or other concessions of value (such as a reduction of mortgage debt). In some cases, cash may be combined with a valued benefit.
If you receive boot, you owe current tax on the amount equal to the lesser of:
On the other hand, if you’re the one paying boot, you won’t realize any taxable gain.
For these purposes, “like-kind” refers to the property’s nature or character. The prevailing tax regulations provide a liberal interpretation of what constitutes like-kind properties. For instance, you can exchange improved real estate for raw land, a strip mall for an apartment building or a marina for a golf course. It doesn’t have to be the exact same type of property (for example, a warehouse for a warehouse).
Timing is everything. The following two deadlines must be met for a like-kind exchange to qualify for tax-free treatment:
The 180-day period begins to run on the date of the transfer of legal ownership of the relinquished property. If that period straddles two tax years, it might be shortened by the tax return due date. So, if you give up title to the property in November or December this year, the due date for 2022 returns (April 18, 2023) would arrive before 180 days are up. Keep this in mind as the end of the year approaches.
Also, in the real world, it’s unlikely that you’ll own property that another person wants to acquire while he or she also owns property that you desire. These one-for-one exchanges are rare. The vast majority of Sec. 1031 real estate exchanges involve multiple parties. (See the sidebar, “Multiple-party exchanges.”)
Unless you’re an expert in the field, a Sec. 1031 exchange is not a do-it-yourself proposition. Enlist the services of professionals, including your CPA, who can provide the assistance you need.
Depending on your situation, you might use a “qualified intermediary” to cement a Section 1031 exchange. Essentially, the qualified intermediary is a third party that helps facilitate the deal. The parties create an agreement whereby the qualified intermediary:
Note that the agreement must limit the taxpayer’s rights to receive, pledge, borrow or otherwise obtain benefits of cash or other property held by the intermediary. In addition, specific IRS reporting requirements must be met. Typically, the intermediary charges a fee based on the value of the properties.
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Businesses can provide benefits to employees that don’t cost them much or anything at all. However, in some cases, employees may have to pay tax on the value of these benefits.
Here are examples of two types of benefits which employees generally can exclude from income:
However, many fringe benefits are taxable, meaning they’re included in the employees’ wages and reported on Form W-2. Unless an exception applies, these benefits are subject to federal income tax withholding, Social Security (unless the employee has already reached the year’s wage base limit) and Medicare.
The line between taxable and nontaxable fringe benefits may not be clear. As illustrated in one recent case, some taxpayers get into trouble if they cross too far over the line.
A retired airline pilot received free stand-by airline tickets from his former employer for himself, his spouse, his daughter, and two other adult relatives. The value of the tickets provided to the adult relatives was valued $5,478. The airline reported this amount as income paid to the retired pilot on Form 1099-MISC, which it filed with the IRS. The taxpayer and his spouse filed a joint tax return for the year in question but didn’t include the value of the free tickets in gross income.
The IRS determined that the couple was required to include the value of the airline tickets provided to their adult relatives in their gross income. The retired pilot argued the value of the tickets should be excluded as a de minimis fringe.
The U.S. Tax Court agreed with the IRS that the taxpayers were required to include in gross income the value of airline tickets provided to their adult relatives. The value, the court stated, didn’t qualify for exclusion as a no-additional-cost service because the adult relatives weren’t the taxpayers’ dependent children. In addition, the value wasn’t excludable under the tax code as a de minimis fringe benefit “because the tickets had a value high enough that accounting for their provision was not unreasonable or administratively impracticable.” (TC Memo 2022-36)
You may be able to exclude from wages the value of certain fringe benefits that your business provides to employees. But the requirements are strict. If you have questions about the tax implications of fringe benefits, contact us.
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You and your small business are likely to incur a variety of local transportation costs each year. There are various tax implications for these expenses.
First, what is “local transportation?” It refers to travel in which you aren’t away from your tax home (the city or general area in which your main place of business is located) long enough to require sleep or rest. Different rules apply if you’re away from your tax home for significantly more than an ordinary workday and you need sleep or rest in order to do your work.
The most important feature of the local transportation rules is that your commuting costs aren’t deductible. In other words, the fare you pay or the miles you drive simply to get to work and home again are personal and not business miles. Therefore, no deduction is available. This is the case even if you work during the commute (for example, via a cell phone, or by performing business-related tasks while on the subway).
An exception applies for commuting to a temporary work location that’s outside of the metropolitan area in which you live and normally work. “Temporary,” for this purpose, means a location where your work is realistically expected to last (and does in fact last) for no more than a year.
On the other hand, once you get to the work location, the cost of any local trips you take for business purposes is a deductible business expense. So, for example, the cost of travel from your office to visit a customer or pick up supplies is deductible. Similarly, if you have two business locations, the costs of traveling between them is deductible.
If your deductible trip is by taxi or public transportation, save a receipt if possible or make a notation of the expense in a logbook. Record the date, amount spent, destination, and business purpose. If you use your own car, note miles driven instead of the amount spent. Note also any tolls paid or parking fees and keep receipts.
You’ll need to allocate your automobile expenses between business and personal use based on miles driven during the year. Proper recordkeeping is crucial in the event the IRS challenges you.
Your deduction can be computed using:
From 2018 – 2025, employees, may not deduct unreimbursed local transportation costs. That’s because “miscellaneous itemized deductions” — a category that includes employee business expenses — are suspended (not allowed) for 2018 through 2025. However, self-employed taxpayers can deduct the expenses discussed in this article. But beginning with 2026, business expenses (including unreimbursed employee auto expenses) of employees are scheduled to be deductible again, as long as the employee’s total miscellaneous itemized deductions exceed 2% of adjusted gross income.
Contact us with any questions or to discuss the matter further.
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Does your business need real estate to conduct operations? Or does it otherwise hold property and put the title in the name of the business? You may want to rethink this approach. Any short-term benefits may be outweighed by the tax, liability, and estate planning advantages of separating real estate ownership from the business.
Businesses that are formed as C corporations treat real estate assets as they do equipment, inventory and other business assets. Any expenses related to owning the assets appear as ordinary expenses on their income statements and are generally tax deductible in the year they’re incurred.
However, when the business sells the real estate, the profits are taxed twice — at the corporate level and at the owner’s individual level when a distribution is made. Double taxation is avoidable, though. If ownership of the real estate were transferred to a pass-through entity instead, the profit upon sale would be taxed only at the individual level.
Separating your business ownership from its real estate also provides an effective way to protect it from creditors and other claimants. For example, if your business is sued and found liable, a plaintiff may go after all of its assets, including real estate held in its name. But plaintiffs can’t touch property owned by another entity.
The strategy also can pay off if your business is forced to file for bankruptcy. Creditors generally can’t recover real estate owned separately unless it’s been pledged as collateral for credit taken out by the business.
Separating real estate from a business may give you some estate planning options, too. For example, if the company is a family business but some members of the next generation aren’t interested in actively participating, separating property gives you an extra asset to distribute. You could bequest the business to one heir and the real estate to another family member who doesn’t work in the business.
The business simply transfers ownership of the real estate and the transferee leases it back to the company. Who should own the real estate? One option: The business owner could purchase the real estate from the business and hold title in his or her name. One concern is that it’s not only the property that’ll transfer to the owner, but also any liabilities related to it.
Moreover, any liability related to the property itself could inadvertently put the business at risk. If, for example, a client suffers an injury on the property and a lawsuit ensues, the property owner’s other assets (including the interest in the business) could be in jeopardy.
An alternative is to transfer the property to a separate legal entity formed to hold the title, typically a limited liability company (LLC) or limited liability partnership (LLP). With a pass-through structure, any expenses related to the real estate will flow through to your individual tax return and offset the rental income.
An LLC is more commonly used to transfer real estate. It’s simple to set up and requires only one member. LLPs require at least two partners and aren’t permitted in every state. Some states restrict them to certain types of businesses and impose other restrictions.
Separating the ownership of a business’s real estate isn’t always advisable. If it’s worthwhile, the right approach will depend on your individual circumstances. Contact us to help determine the best approach to minimize your transfer costs and capital gains taxes while maximizing other potential benefits.
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In today’s tough job market and economy, the Work Opportunity Tax Credit (WOTC) may help employers. Many business owners are hiring and should be aware that the WOTC is available to employers that hire workers from targeted groups who face significant barriers to employment. The credit is worth as much as $2,400 for each eligible employee ($4,800, $5,600, and $9,600 for certain veterans and $9,000 for “long-term family assistance recipients”). It’s generally limited to eligible employees who begin work for the employer before January 1, 2026.
The IRS recently issued some updated information on the pre-screening and certification processes. To satisfy a requirement to pre-screen a job applicant, a pre-screening notice must be completed by the job applicant and the employer on or before the day a job offer is made. This is done by filing Form 8850, Pre-Screening Notice, and Certification Request for the Work Opportunity Credit.
An employer is eligible for the credit only for qualified wages paid to members of a targeted group. These groups are:
There are a number of requirements to qualify for the credit. For example, there’s a minimum requirement that each employee must have completed at least 120 hours of service for the employer. Also, the credit isn’t available for certain employees who are related to or who previously worked for the employer.
There are different rules and credit amounts for certain employees. The maximum credit available for the first-year wages is $2,400 for each employee, $4,000 for long-term family assistance recipients, and $4,800, $5,600, or $9,600 for certain veterans. Additionally, for long-term family assistance recipients, there’s a 50% credit for up to $10,000 of second-year wages, resulting in a total maximum credit of $9,000 over two years.
For summer youth employees, the wages must be paid for services performed during any 90-day period between May 1 and September 15. The maximum WOTC credit available for summer youth employees is $1,200 per employee.
In some cases, employers may elect not to claim the WOTC. And in limited circumstances, the rules may prohibit the credit or require an allocation of it. However, for most employers hiring from targeted groups, the credit can be beneficial. Contact us with questions or for more information about your situation.
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While the new research and development tax credit requirements went into effect on January 10, 2022, which require more detailed proof that claims are valid, many businesses seeking the refund may face extra work when applying for the credit on their next tax return.
Knowing the credit’s specificity requirements will allow businesses to ensure sufficient information is collected and filed with amended tax returns to provide proof for the claim. Putting processes in place to record these requirements throughout the year can help lessen the paperwork burden around tax time.
Any business submitting an R&D tax credit claim must include detailed information about the funds for which they are requesting the credit and the business components related to the claim for the associated tax year.
For each business component, answer the following questions in detail:
The IRS has granted flexibility in how the information is presented, so businesses can use a list, table, or narrative.
In addition to the above questions, the IRS requires a business to provide tax-year totals for:
These expenses are outlined on Form 6765 (Credit for Increasing Research Activities) and must be completed appropriately to qualify for the credit.
The final piece of information the IRS requires is a signed declaration verifying that all facts provided in the report and on the tax forms are accurate.
If the IRS finds information is missing or requires additional clarification, it will request what is needed by letter. Businesses and taxpayers have 45 days from being notified, instead of the traditional 30 days, to remedy the situation.
If the business misses the window or does not provide sufficient information at that point, the IRS can deny the R&D tax credit claim.
After January 9, 2023, the IRS will no longer allow a perfection period. This mean means claims must be complete and accurate when submitted; otherwise, they are considered untimely if corrected after the deadline. The IRS advises that “taxpayers should take extra precaution to substantiate their credit for a refund claim.”
For assistance with the new research and development tax credit requirements as they apply to your business, reach out to our team to set up a time for a consultation.
Now that Labor Day has passed, it’s a good time to think about making moves that may help lower your small business taxes for this year and next. The standard year-end approach of deferring income and accelerating deductions to minimize taxes will likely produce the best results for most businesses, as will bunching deductible expenses into this year or next to maximize their tax value.
If you expect to be in a higher tax bracket next year, opposite strategies may produce better results. For example, you could pull income into 2022 to be taxed at lower rates, and defer deductible expenses until 2023, when they can be claimed to offset higher-taxed income.
Here are some other ideas that may help you save tax dollars if you act before year-end.
Taxpayers other than corporations may be entitled to a deduction of up to 20% of their qualified business income (QBI). For 2022, if taxable income exceeds $340,100 for married couples filing jointly (half that amount for others), the deduction may be limited based on: whether the taxpayer is engaged in a service-type business (such as law, health or consulting), the amount of W-2 wages paid by the business, and/or the unadjusted basis of qualified property (such as machinery and equipment) held by the business. The limitations are phased in.
Taxpayers may be able to salvage some or all of the QBI deduction by deferring income or accelerating deductions to keep income under the dollar thresholds (or be subject to a smaller deduction phaseout). You also may be able increase the deduction by increasing W-2 wages before year-end. The rules are complex, so consult us before acting.
More small businesses are able to use the cash (rather than the accrual) method of accounting for federal tax purposes than were allowed to do so in previous years. To qualify as a small business under current law, a taxpayer must (among other requirements) satisfy a gross receipts test. For 2022, it’s satisfied if, during a three-year testing period, average annual gross receipts don’t exceed $27 million. Not that long ago, it was only $5 million. Cash method taxpayers may find it easier to defer income by holding off billings until next year, paying bills early or making certain prepayments.
Consider making expenditures that qualify for the Section 179 expensing option. For 2022, the expensing limit is $1.08 million, and the investment ceiling limit is $2.7 million. Expensing is generally available for most depreciable property (other than buildings) including equipment, off-the-shelf computer software, interior improvements to a building, HVAC and security systems.
The high dollar ceilings mean that many small- and medium-sized businesses will be able to currently deduct most or all of their outlays for machinery and equipment. What’s more, the deduction isn’t prorated for the time an asset is in service during the year. Just place eligible property in service by the last days of 2022 and you can claim a full deduction for the year.
Businesses also can generally claim a 100% bonus first year depreciation deduction for qualified improvement property and machinery and equipment bought new or used, if purchased and placed in service this year. Again, the full write-off is available even if qualifying assets are in service for only a few days in 2022.
Consult With Us for More Ideas
These are just some year-end strategies that may help you save taxes. Contact us to tailor a plan that works for you.
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The business entity you choose can affect your taxes, your personal liability, and other issues. A limited liability company (LLC) is somewhat of a hybrid entity in that it can be structured to resemble a corporation for owner liability purposes and a partnership for federal tax purposes. This duality may provide you with the best of both worlds.
Like the shareholders of a corporation, the owners of an LLC (called “members” rather than shareholders or partners) generally aren’t liable for business debts except to the extent of their investment. Thus, they can operate the business with the security of knowing that their personal assets are protected from the entity’s creditors. This protection is far greater than that afforded by partnerships. In a partnership, the general partners are personally liable for the debts of the business. Even limited partners, if they actively participate in managing the business, can have personal liability.
LLC owners can elect under the check-the-box rules to have the entity treated as a partnership for federal tax purposes. This can provide a number of important benefits to them. For example, partnership earnings aren’t subject to an entity-level tax. Instead, they “flow through” to the owners, in proportion to the owners’ respective interests in profits, and are reported on the owners’ individual returns, and are taxed only once. To the extent the income passed through to you is qualified business income, you’ll be eligible to take the Section 199A pass-through deduction, subject to various limitations.
In addition, since you’re actively managing the business, you can deduct on your individual tax return your ratable shares of any losses the business generates. This, in effect, allows you to shelter other income that you (and your spouse, if you’re married) may have.
An LLC that’s taxable as a partnership can provide special allocations of tax benefits to specific partners. This can be an important reason for using an LLC over an S corporation (a form of business that provides tax treatment that’s similar to a partnership). Another reason for using an LLC over an S corporation is that LLCs aren’t subject to the restrictions the federal tax code imposes on S corporations regarding the number of owners and the types of ownership interests that may be issued.
In summary, an LLC would give you corporate-like protection from creditors while providing you with the benefits of taxation as a partnership. Be aware that the LLC structure is allowed by state statute, and states may use different regulations. Contact us to discuss in more detail how use of an LLC might benefit you and the other owners.
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A key provision of the American Rescue Plan Act passed in 2021 includes lowering the thresholds that trigger a Form 1099-K – Payment Card and Third-Party Network Transactions. This means businesses and individuals may receive this form for tax year 2022, something they may not have seen in previous years.
For tax years before January 1, 2022, third-party processors were required to file a Form 1099-K when sales-related transactions exceeded both $20,000 and 200 in number. Beginning in 2023, third-party processors, including Venmo, PayPal, Square, Zelle, and others, must use this form to report when sales-related transactions exceed $600, regardless of how many transactions are involved.
Organizations dealing with credit cards, cash, or checks most likely will not receive a Form 1099-K. However, if an organization uses third-party organizations, which includes many gig-economy jobs such as Uber and Lyft, or online retailers such as eBay and Etsy, there’s a chance they’ll see this form arrive with their tax documents for tax year 2022. Funds sent by friends and family are not included in the $600 threshold.
Businesses and individuals need to pay attention to how they manage their books and transactions from these payment types to make tax filing easier for the next tax season. Correctly logging any income received can help prevent unexpected tax bills in the future.
Form 1099-K is used to report the total amount of transactions received, and the form does not include calculations for credits, discounts, fees, and/or returns. Properly tracking income and debits will help business owners and individuals deduct these business costs come tax time.
If an individual receives Form 1099-K, it may help to file a Schedule C with their Form 1040. Our tax professionals can help identify if this is the best course of action and any additional benefits a Schedule C may offer.
With the new threshold, third-party settlement companies may increase the number of tax document issues, which may lead them to create new infrastructure to help with their reporting accuracy. As with any large change, there may be growing pains, which means potential errors on some of the forms issued.
Some of the expected errors include:
If you receive Form 1099-K and suspect an error, contact the Payment Settlement Entity (third-party settlement company) and request a corrected Form 1099-K. Keep a copy of the original and corrected forms and any communication with your tax documents.
There is no need to panic if you receive a Form 1099-K for the first time. Simply reach out to Hamilton Tharp for more help.
Most individuals saving for retirement outside of a defined work plan use an Individual Retirement Account, better known as an IRA. These accounts come with two vastly different types, depending on what tax benefits account holders would like to take advantage of. The first, the Traditional IRA, allows the account holder to deduct contributions made during the tax year, thus lowering their adjusted gross income (AGI). The Roth IRA, on the other hand, is funded with post-tax dollars, and money can be withdrawn after retirement age completely tax-free.
Don’t fret! If the Roth IRA sounds like a better option for you, but you have money in a Traditional IRA account, you could potentially convert it to a Roth IRA. Below, you’ll discover the basics of how to convert the account and why now might be a good time to do so.
Roth IRAs offer a way for savers to put aside money for retirement using post-tax dollars. Because of this, the contributions cannot be used as a tax deduction, and withdrawals on deposits and gains are tax-free after retirement age (59 ½). Contributions to a Roth IRA begin at $6,000 and decrease the higher your income. Once a married couple reaches $214,000 in AGI, the ability to contribute directly to a Roth IRA is eliminated.
Traditional IRA accounts can be converted to Roth IRA accounts so that the money in the account can then grow tax-free. In addition to the tax-free gains, there are several other benefits of a Roth IRA, including:
The process is typically simple.
The funds are transferred directly from a Traditional IRA to a separate ROTH IRA. Tax will be due on the amount transferred; however, growth with the market recovery will now be in your non-taxable account.
In short, converting a Traditional IRA to a Roth IRA can hold several tax and wealth management benefits for account holders. Completing the process when the stock market has dipped, and income tax rates are low can decrease the tax liability on the transferred balance, making the IRA conversion more advantageous to investors.
To discuss your specific situation and whether a Roth IRA conversion is the best move for you, reach out to our team of tax professionals today!
Please note that the information provided in this article is current as of July 2022. It is intended for general informational purposes only. It is not intended to be used for the purpose of avoiding penalties under the Internal Revenue Code. Consult with your financial advisor about your specific situation.
The Inflation Reduction Act (IRA), signed into law by President Biden on August 16, contains many provisions related to climate, energy, and taxes. There has been a lot of media coverage about the law’s impact on large corporations. For example, the IRA contains a new 15% alternative minimum tax on large, profitable corporations. And the law adds a 1% excise tax on stock buybacks of more than $1 million by publicly traded U.S. corporations.
But there are also provisions that provide tax relief for small businesses. Here are two:
Under current law, qualified small businesses can elect to claim a portion of their research credit as a payroll tax credit against their employer Social Security tax liability rather than against their income tax liability. This became effective for tax years that begin after December 31, 2015.
Qualified small businesses that elect to claim the research credit as a payroll tax credit do so on IRS Form 8974, “Qualified Small Business Payroll Tax Credit for Increasing Research Activities.” Currently, a qualified small business can claim up to $250,000 of its credit for increasing research activities as a payroll tax credit against the employer’s share of Social Security tax.
The IRA makes changes to the credit beginning next year. It allows for qualified small businesses to apply an additional $250,000 in qualifying research expenses as a payroll tax credit against the employer share of Medicare. The credit can’t exceed the tax imposed for any calendar quarter, with unused amounts of the credit carried forward. This provision will take effect for tax years beginning after December 31, 2022.
A qualified small business must meet certain requirements, including having gross receipts under a certain amount.
Another provision in the new law extends the limit on excess business losses for noncorporate taxpayers. Under prior law, there was a cap set on business loss deductions by noncorporate taxpayers. For 2018 through 2025, the Tax Cuts and Jobs Act limited deductions for net business losses from sole proprietorships, partnerships, and S corporations to $250,000 ($500,000 for joint filers). Losses in excess of those amounts (which are adjusted annually for inflation) may be carried forward to future tax years under the net operating loss rules.
Although another law (the CARES Act) suspended the limit for 2018, 2019 and 2020 tax years, it’s now back in force and has been extended through 2028 by the IRA. Businesses with significant losses should consult with us to discuss the impact of this change on their tax planning strategies.
These are only two of the many provisions in the IRA. There may be other tax benefits to your small business if you’re buying electric vehicles or green energy products. Contact us if you have questions about the new law and your situation.
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As you’re aware, certain employers are required to report information related to their employees’ health coverage. Does your business have to comply, and if so, what must be done?
Certain employers with 50 or more full-time employees (called “applicable large employers” or ALEs) must use Forms 1094-C and 1095-C to report the information about offers of health coverage and enrollment in health coverage for their employees. Specifically, an ALE uses Form 1094-C to report summary information for each employee and to transmit Forms 1095-C to the IRS. A separate Form 1095-C is used to report information about each employee. In addition, Forms 1094-C and 1095-C are used to determine whether an employer owes payments under the employer shared responsibility provisions (sometimes referred to as the “employer mandate”).
Under the mandate, an employer can be subject to a penalty if it doesn’t offer affordable minimum essential coverage that provides minimum value to substantially all full-time employees and their dependents. Form 1095-C is also used in determining eligibility of employees for premium tax credits.
On Form 1095-C, ALEs must report the following for each employee who was a full-time employee for any month of the calendar year:
If an ALE offers health coverage through an employer’s self-insured plan, the ALE also must report more information on Form 1095-C. For this purpose, a self-insured plan also includes one that offers some enrollment options as insured arrangements and other options as self-insured.
If an employer provides health coverage in another manner, such as through an insured health plan or a multiemployer health plan, the insurance issuer or the plan sponsor making the coverage available will provide the information about health coverage to enrolled employees. An employer that provides employer-sponsored self-insured health coverage but isn’t subject to the employer mandate isn’t required to file Forms 1094-C and 1095-C and reports instead on Forms 1094-B and 1095-B for employees who enrolled in the employer-sponsored self-insured health coverage.
On Form 1094-C, an employer can also indicate whether any certifications of eligibility for relief from the employer mandate apply.
Be aware that these reporting requirements may be more complex if your business is a member of an aggregated ALE group or if the coverage is provided through a multiemployer plan.
Note: Employers also report certain information about health coverage on employees’ W-2 forms. But it’s not the same information as what’s reported on 1095-C. The information on either form doesn’t cause excludable employer-provided coverage to become taxable to employees. It’s for informational purposes only.
The above is a simplified explanation of the reporting requirements. Contact us with questions or for assistance in complying with the requirements.
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The House of Representatives passed The Inflation Reduction Act (IRA) Friday, August 12, and President Joe Biden signed into law August 16. The legislation, which is a pared-down version of the proposed Build Back Better plan, was passed through the budget reconciliation process and is expected to pay for itself and decrease the budget deficit.
Key provisions in the IRA include funding for clean energy tax credits, an infusion of funds to the Internal Revenue Service, changes to Medicare prescription drug policies, and new corporate taxes.
Read on to learn about how these provisions could impact your business.
Lawmakers built several new tax provisions into the IRA to fund programs the bill introduces, modifies, or extends. In conjunction with the IRS measures listed below, these taxes are expected to fully fund the program and decrease the budget deficit. The two main taxes are:
Currently, the research tax credit allows for up to $250,000 to be deducted against qualifying payroll taxes which do not include the Medicare portion of FICA taxes. The IRA expands this credit to a $500,000 limit that also includes Medicare payroll taxes.
This goes into effect for tax years beginning after December 31, 2022, and allows for unused credit amounts to be carried forward in certain circumstances.
Much of the funding for the IRA – about $370 billion – is dedicated to green or renewable energy tax deductions. Of that amount, $60 billion is earmarked for growing the renewable energy infrastructure within manufacturing targeted at solar panels and wind turbines.
The IRA also modifies and extends through 2024 tax credits for producing electricity from qualified renewable resources, investments in qualified energy properties, and using alternative fuels and fuel mixtures (including biodiesel and renewable diesel).
New tax credits will be available in the coming years for the production and/or sale of:
With the modifications, businesses that use energy-efficient commercial buildings may see additional tax deduction opportunities. The IRS introduces a new credit for commercial clean vehicles and modifies the refundable tax credit on plug-in electric vehicle purchases.
The IRA provides funds so the Environmental Protection Agency (EPA) can create a greenhouse gas reduction fund and support existing programs that provide financial incentives to reduce air pollution emissions. These include replacing eligible medium- and heavy-duty vehicles with zero emissions options, identifying and reducing emissions from diesel engines, and monitoring air pollution and greenhouse gases.
The IRA provides additional funding for the IRS to hire more customer service representatives, processors, and auditors to decrease the time it takes to process returns for each tax year, lessen the hold times for taxpayers calling in, and increase audits. Audits are expected to target larger businesses and individuals with higher incomes.
The Inflation Reduction Act is expansive and could affect many business tax strategies. We’ll keep you updated as new information comes to light. In the meantime, consider scheduling your annual tax strategy review with one of our tax professionals to discuss how the IRA could impact your business.
Tax deadlines seem to sneak up on some people. Maybe you’re busy handling other business or personal matters, or perhaps you’re waiting on one last piece of information before calling your tax advisor for an appointment. Our clients know that we do everything in our power to get their tax returns filed on time but getting your paperwork to us early offers several benefits.
Let’s take a look at those benefits now.
At Hamilton Tharp, we work hard to ensure every tax return that goes out the door is accurate and error-free. But it’s human nature that mistakes happen when people work long hours and rush to get work done before a deadline.
Hopefully, reviewers catch those mistakes before the tax return is sent to the client for review. But in the worst-case scenario, an error escapes notice until after the return has been filed, and we need to amend the return.
Getting your paperwork in early ensures our preparers and reviewers have the time and energy to do their jobs to the best of their abilities.
IRS notices are never fun to deal with, and they’re especially bothersome when they’re entirely avoidable.
For example, say you had less than $10 of interest income from a savings account in the prior year, but you don’t include the 1099-INT with your tax documents this year. Since your tax preparer is up against a deadline, they mistakenly assume you closed the account or didn’t earn any interest from it.
In fact, the balance in your account was significantly higher this year, and you earned more interest but forgot to download the tax form. As a result, you receive a notice from the IRS requesting you to pay the additional tax owed, plus interest and penalties.
If the preparer had more time, they would follow up on the missing 1099-INT to ensure it’s not overlooked.
If you have college-age children, you’re likely familiar with the FAFSA. The FAFSA filing season opens each year on October 1. If you file your return by the April 15 deadline (or shortly thereafter), you have the tax information you need to submit your FAFSA early.
Clients sometimes run into issues when they go on extension, then put off getting us the information needed to complete and file their return until just before the October 15 extended deadline. Even if we can get your tax return filed quickly, there’s no guarantee that the IRS will process it, which can cause problems with your FAFSA if the U.S. Department of Education selects your application for verification.
Tax-related identity theft—where thieves use a victim’s Social Security number (SSN) to file a fraudulent return and claim a tax refund—is a growing problem. Often, the first indication a client has that their identity has been stolen is having their e-filed tax return rejected because someone else has already filed using their SSN.
Getting your tax documents to us early helps us file your tax returns before identity thieves have a chance. This also helps us avoid the last-minute scramble of getting signatures to file a paper return.
If you’re waiting on one last K-1, 1099, or another tax document, we recommend giving us what you have rather than waiting until you have everything. It’s much easier for us to get your return 99% complete early in the year and finalize it later than to get a pile of tax documents a week before the filing deadline.
It’s our goal to take the pain and stress of tax season off our client’s shoulders, and you can help us—by getting your paperwork to your tax advisor early. If you need help figuring out what documents you need or have another tax question, reach out to a Hamilton Tharp advisor.
Beginning January 1, 2022, the IRS has updated its 1099-K regulations to require all businesses that process payments to file a 1099-K for all sellers with more than $600 in gross sales in a calendar year. The American Rescue Plan Act of 2021 requires that sales completed on all e-commerce platforms —including Ticketmaster, StubHub, etc. — are subject to reporting to the IRS as of 01/01/2022. This means that any seller or fan earning more than $600 annually as a result of a sale, or sales, through any U.S. marketplace is required to complete a 1099 form.
In order to generate a complete Form 1099-K as required by state and federal tax laws, many of these sites will need your Taxpayer Identification Number (TIN). Your TIN is typically either your Social Security Number (SSN) or Employer Identification Number (EIN) for businesses.
If you meet these reporting requirements, you will receive a 1099-K at the beginning of each year. The same information will be sent to the IRS and state tax agencies where applicable. Be sure to keep track of the expenses as well, since these can be used to offset the income of the 1099-K.
For more information, please visit: https://www.irs.gov/businesses/understanding-your-form-1099-k
These days, most businesses have websites. But surprisingly, the IRS hasn’t issued formal guidance on when website costs can be deducted.
Fortunately, established rules that generally apply to the deductibility of business costs provide business taxpayers launching a website with some guidance as to the proper treatment of the costs. Plus, businesses can turn to IRS guidance that applies to software costs.
Hardware versus software
Let’s start with the hardware you may need to operate a website. The costs fall under the standard rules for depreciable equipment. Specifically, once these assets are operating, you can deduct 100% of the cost in the first year they’re placed in service (before 2023). This favorable treatment is allowed under the 100% first-year bonus depreciation break. Note: The bonus depreciation rate will begin to be phased down for property placed in service after calendar year 2022.
In later years, you can probably deduct 100% of these costs in the year the assets are placed in service under the Section 179 first-year depreciation deduction privilege. However, Sec. 179 deductions are subject to several limitations.
For tax years beginning in 2022, the maximum Sec. 179 deduction is $1.08 million, subject to a phaseout rule. Under the rule, the deduction is phased out if more than a specified amount ($2.7 million for 2022) of qualified property is placed in service during the year.
There’s also a taxable income limit. Under it, your Sec. 179 deduction can’t exceed your business taxable income. In other words, Sec. 179 deductions can’t create or increase an overall tax loss. However, any Sec. 179 deduction amount that you can’t immediately deduct is carried forward and can be deducted in later years (to the extent permitted by the applicable limits).
Similar rules apply to purchased off-the-shelf software. However, software license fees are treated differently from purchased software costs for tax purposes. Payments for leased or licensed software used for your website are currently deductible as ordinary and necessary business expenses.
Software developed internally
If, instead of being purchased, the website is designed in-house by the taxpayer launching the website (or designed by a contractor who isn’t at risk if the software doesn’t perform), for tax years beginning before calendar year 2022, bonus depreciation applies to the extent described above. If bonus depreciation doesn’t apply, the taxpayer can either:
For tax years beginning after calendar year 2021, generally, the only allowable treatment will be to amortize the costs over the five-year period beginning with the midpoint of the tax year in which the expenditures are paid or incurred.
If your website is primarily for advertising, you can currently deduct internal website software development costs as ordinary and necessary business expenses.
Paying a third party
Some companies hire third parties to set up and run their websites. In general, payments to third parties are currently deductible as ordinary and necessary business expenses.
Before business begins
Start-up expenses can include website development costs. Up to $5,000 of otherwise deductible expenses that are incurred before your business commences can generally be deducted in the year business commences. However, if your start-up expenses exceed $50,000, the $5,000 current deduction limit starts to be chipped away. Above this amount, you must capitalize some, or all, of your start-up expenses and amortize them over 60 months, starting with the month that business commences.
We can help
We can determine the appropriate treatment of website costs. Contact us if you want more information.
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Sometimes, bigger isn’t better: Your small- or medium-sized business may be eligible for some tax breaks that aren’t available to larger businesses. Here are some examples.
QBI deduction
For 2018 through 2025, the qualified business income (QBI) deduction is available to eligible individuals, trusts, and estates. But it’s not available to C corporations or their shareholders.
The QBI deduction can be up to 20% of:
Pass-through business entities report tax items to their owners, who then take them into account on their owner-level returns. The QBI deduction rules are complicated, and the deduction can be phased out at higher income levels.
Eligibility for cash-method accounting
Businesses that are eligible to use the cash method of accounting for tax purposes have the ability to fine-tune annual taxable income. This is accomplished by timing the year in which you recognize taxable income and claim deductions.
Under the cash method, you generally don’t have to recognize taxable income until you’re paid in cash. And you can generally write off deductible expenses when you pay them in cash or with a credit card.
Only “small” businesses are potentially eligible for the cash method. For this purpose under current law, a small business includes one that has no more than $25 million of average annual gross receipts, based on the preceding three tax years. This limit is adjusted annually for inflation. For tax years beginning in 2022, the limit is $27 million.
Section 179 deduction
The Sec. 179 first-year depreciation deduction potentially allows you to write off some (or all) of your qualified asset additions in the first year they’re placed in service. It’s available for both new and used property.
For qualified property placed in service in tax years 2018 and beyond, the deduction rules are much more favorable than under prior law. Enhancements include:
Higher deduction. The Sec. 179 deduction has been permanently increased to $1 million with annual inflation adjustments. For qualified assets placed in service in 2022, the maximum is $1.08 million.
Liberalized phase-out. The threshold above which the maximum Sec. 179 deduction begins to be phased out is $2.5 million with annual inflation adjustments. For qualified assets placed in service in 2022, the phase-out begins at $2.7 million.
The phase-out rule kicks in only if your additions of assets that are eligible for the deduction for the year exceed the threshold for that year. If they exceed the threshold, your maximum deduction is reduced dollar-for-dollar by the excess. Sec. 179 deductions are also subject to other limitations.
Bonus depreciation
While Sec. 179 deductions may be limited, those limitations don’t apply to first-year bonus depreciation deductions. For qualified assets placed in service in 2022, 100% first-year bonus depreciation is available. After this year, the first-year bonus depreciation percentages are scheduled to start going down to 80% for qualified assets placed in service in 2023. They will continue to be reduced until they reach 0% for 2028 and later years.
Contact us to determine if you’re taking advantage of all available tax breaks, including those that are available to small and large businesses alike.
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A business or individual might be able to dispose of appreciated real property without being taxed on the gain by exchanging it rather than selling it. You can defer tax on your gain through a “like-kind” or Section 1031 exchange.
A like-kind exchange is a swap of real property held for investment or for productive use in your trade or business for like-kind investment real property or business real property. For these purposes, “like-kind” is very broadly defined, and most real property is considered to be like-kind with other real property. However, neither the relinquished property nor the replacement property can be real property held primarily for sale. If you’re unsure whether the property involved in your exchange is eligible for a like-kind exchange, contact us to discuss the matter.
Here’s how the tax rules work
If it’s a straight asset-for-asset exchange, you won’t have to recognize any gain from the exchange. You’ll take the same “basis” (your cost for tax purposes) in the replacement property that you had in the relinquished property. Even if you don’t have to recognize any gain on the exchange, you still have to report the exchange on a form that is attached to your tax return.
However, the properties often aren’t equal in value, so some cash or other (non-like-kind) property is thrown into the deal. This cash or other property is known as “boot.” If boot is involved, you’ll have to recognize your gain, but only up to the amount of boot you receive in the exchange. In these situations, the basis you get in the like-kind replacement property you receive is equal to the basis you had in the relinquished property you gave up reduced by the amount of boot you received but increased by the amount of any gain recognized.
Here’s an example
Let’s say you exchange land (investment property) with a basis of $100,000 for a building (investment property) valued at $120,000 plus $15,000 in cash. Your realized gain on the exchange is $35,000: You received $135,000 in value for an asset with a basis of $100,000. However, since it’s a like-kind exchange, you only have to recognize $15,000 of your gain: the amount of cash (boot) you received. Your basis in the new building (the replacement property) will be $100,000, which is your original basis in the relinquished property you gave up ($100,000) plus the $15,000 gain recognized, minus the $15,000 boot received.
Note: No matter how much boot is received, you’ll never recognize more than your actual (“realized”) gain on the exchange.
If the property you’re exchanging is subject to debt from which you’re being relieved, the amount of the debt is treated as boot. The theory is that if someone takes over your debt, it’s equivalent to him or her giving you cash. Of course, if the replacement property is also subject to debt, then you’re only treated as receiving boot to the extent of your “net debt relief” (the amount by which the debt you become free of exceeds the debt you pick up).
Like-kind exchanges can be complex, but they’re a good tax-deferred way to dispose of investment or trade or business assets. We can answer any additional questions you have or assist with the transaction.
© 2022
Sadly, many businesses have been forced to shut down recently due to the pandemic and the economy. If this is your situation, we can assist you, including taking care of the various tax responsibilities that must be met.
Of course, a business must file a final income tax return and some other related forms for the year it closes its doors. The type of return to be filed depends on the type of business you have. Here’s a rundown of the basic requirements.
Sole proprietorships. You’ll need to file the usual Schedule C, “Profit or Loss from Business,” with your individual return for the year you close the business. You may also need to report self-employment tax.
Partnerships. A partnership must file Form 1065, “U.S. Return of Partnership Income,” for the year it closes. You also must report capital gains and losses on Schedule D. Indicate that this is the final return and do the same on Schedule K-1, “Partner’s Share of Income, Deductions, Credits, etc.”
All corporations. Form 966, “Corporate Dissolution or Liquidation,” must be filed if you adopt a resolution or plan to dissolve a corporation or liquidate any of its stock.
C corporations. File Form 1120, “U.S. Corporation Income Tax Return,” for the year you close. Report capital gains and losses on Schedule D. Indicate this is the final return.
S corporations. File Form 1120-S, “U.S. Income Tax Return for an S Corporation,” for the year of closing. Report capital gains and losses on Schedule D. The “final return” box must be checked on Schedule K-1.
All businesses. Other forms may need to be filed to report sales of business property and asset acquisitions if you sell your business.
Employees and contract workers
If you have employees, you must pay them final wages and compensation owed, make final federal tax deposits and report employment taxes. Failure to withhold or deposit employee income, Social Security, and Medicare taxes can result in full personal liability for what’s known as the Trust Fund Recovery Penalty.
If you’ve paid any contractors at least $600 during the calendar year in which you close your business, you must report those payments on Form 1099-NEC, “Nonemployee Compensation.”
Other tax issues
If your business has a retirement plan for employees, you’ll want to terminate the plan and distribute benefits to participants. There are detailed notice, funding, timing, and filing requirements that must be met by a terminating plan. There are also complex requirements related to flexible spending accounts, Health Savings Accounts, and other programs for your employees.
We can assist you with many other complicated tax issues related to closing your business, including debt cancellation, use of net operating losses, freeing up any remaining passive activity losses, depreciation recapture, and possible bankruptcy issues.
We can advise you on the length of time you need to keep business records. You also must cancel your Employer Identification Number (EIN) and close your IRS business account.
If your business is unable to pay all the taxes it owes, we can explain the available payment options to you. Contact us to discuss these issues and get answers to any questions.
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Although merger and acquisition activity has been down in 2022, according to various reports, there are still companies being bought and sold. If your business is considering merging with or acquiring another business, it’s important to understand how the transaction will be taxed under current law.
Stocks vs. assets
From a tax standpoint, a transaction can basically be structured in two ways:
1. Stock (or ownership interest). A buyer can directly purchase a seller’s ownership interest if the target business is operated as a C or S corporation, a partnership, or a limited liability company (LLC) that’s treated as a partnership for tax purposes.
The current 21% corporate federal income tax rate makes buying the stock of a C corporation somewhat more attractive. Reasons: The corporation will pay less tax and generate more after-tax income than it would have years ago. Plus, any built-in gains from appreciated corporate assets will be taxed at a lower rate when they’re eventually sold.
Under current law, individual federal tax rates are reduced from years ago and may also make ownership interests in S corporations, partnerships, and LLCs more attractive. Reason: The passed-through income from these entities also will be taxed at lower rates on a buyer’s personal tax return. However, individual rate cuts are scheduled to expire at the end of 2025, and, depending on future changes in Washington, they could be eliminated earlier or extended.
2. Assets. A buyer can also purchase the assets of a business. This may happen if a buyer only wants specific assets or product lines. And it’s the only option if the target business is a sole proprietorship or a single-member LLC that’s treated as a sole proprietorship for tax purposes.
Note: In some circumstances, a corporate stock purchase can be treated as an asset purchase by making a “Section 338 election.” Ask your tax advisor for details.
What buyers and sellers want
For several reasons, buyers usually prefer to purchase assets rather than ownership interests. Generally, a buyer’s main objective is to generate enough cash flow from an acquired business to pay any acquisition debt and provide an acceptable return on the investment. Therefore, buyers are concerned about limiting exposure to undisclosed and unknown liabilities and minimizing taxes after the deal closes.
A buyer can step up (increase) the tax basis of purchased assets to reflect the purchase price. Stepped-up basis lowers taxable gains when certain assets, such as receivables and inventory, are sold or converted into cash. It also increases depreciation and amortization deductions for qualifying assets.
Meanwhile, sellers generally prefer stock sales for tax and nontax reasons. One of their main objectives is to minimize the tax bill from a sale. That can usually be achieved by selling their ownership interests in a business (corporate stock or partnership or LLC interests) as opposed to selling business assets.
With a sale of stock or other ownership interest, liabilities generally transfer to the buyer, and any gain on sale is generally treated as lower-taxed long-term capital gain (assuming the ownership interest has been held for more than one year).
Keep in mind that other issues, such as employee benefits, can also cause unexpected tax issues when merging with, or acquiring, a business.
Get professional advice
Buying or selling a business may be the most important transaction you make during your lifetime, so it’s important to seek professional tax advice as you negotiate. After a deal is done, it may be too late to get the best tax results. Contact us for the best way to proceed in your situation.
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Here are some of the key tax-related deadlines affecting businesses and other employers during the third quarter of 2022. Keep in mind that this list isn’t all-inclusive, so there may be additional deadlines that apply to you. Contact us to ensure you’re meeting all applicable deadlines and to learn more about the filing requirements.
August 1
August 10
September 15
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Unless you specialize in tax law, you’re probably not an accounting expert, but understanding accounting basics can help lawyers ensure their legal practice complies with ethics rules and accounting regulations.
Unlike other business owners, lawyers need to be familiar with two types of accounting: business and legal. While there is overlap between the two, there are differences, especially when handling client funds.
Differences between business and legal accounting
Business accounting is what law firms have in common with other businesses and includes expenses of running the law practice such as overhead, payroll, office rent, assets, liabilities, and equity.
Legal accounting is specific to law firms. It encompasses matter cost and income accounting — client costs, reimbursements, and fee income — as well as fee advances and retainer accounting.
Properly tracking the posting and reimbursement of matter costs is essential to ensure the firm’s accounting records are compliant. Law firms typically have two types of matter costs:
In accounting terms, any retainers received are liabilities — funds that haven’t yet been earned and still belong to someone else (the client).
Trust accounts are bank accounts set up specifically to hold client retainers.
General tips for accurate legal accounting
Consult with an Expert
Well-prepared and organized financial data not only helps with compliance but also offers critical insights into the operations of a law firm. Accountants can help law firms lay the foundation and establish best practices allowing firm leaders to focus on growing the firm.
Give our team a call if you need help ensuring you meet all of the regulatory requirements for your firm’s financial situation, including:
After the U.S. Supreme Court’s 2017 decision in South Dakota vs. Wayfair, many states quickly enacted laws resembling South Dakota’s to collect sales tax on remote purchases.
While physical nexus remains the first consideration in whether businesses are legally bound to collect and remit sales taxes on online sales, most states have adopted “economic nexus” rules, stating a business’ tax obligations kick in after it crosses a set level of sales in terms of quantity, dollar amounts, or both.
Receiving an audit notice from a state tax authority is one of the worst feelings a small business can have. Unfortunately, as states pursue tax collection, sales and use tax audits have become a standard part of doing business.
If your business is undergoing a sales tax audit or is worried about dealing with one in the future, here are four tips to navigate, prepare for, and avoid a sales tax audit.
How to reduce the risk of a sales tax audit
Several factors can trigger a sales tax audit. Many states use systematic methods and data analytics to identify businesses at risk for underreporting or underpaying their sales taxes. According to Thomson Reuters, some of the most common triggers for a sales tax audit include:
Your business also might be randomly selected for audit, so there’s no sure-fire way to avoid facing a sales tax audit. However, familiarizing yourself with the sales and use tax laws in the states where you do business, analyzing your nexus exposure, and registering and paying taxes in the proper jurisdictions is a good first step.
How to prepare for a sales tax audit
Time is of the essence once you receive notice you’ve been selected for an audit. Gathering and preparing the appropriate records takes time, so you want to start the process immediately.
Documents requested in the IDR typically include:
If any requested items aren’t available or you don’t believe they apply to the audit, be prepared to explain your reasons for not providing them.
In addition to looking for potential underpayments, look for overpayments, such as using a higher sales tax rate or charging tax on non-taxable items. These can potentially offset any underpayments uncovered during the audit.
Being under the microscope of a sales tax audit is stressful and can take up a lot of time. A professional who is well versed in sales and use taxes and knows how to deal with auditors can be an invaluable member of your team. By crafting a game plan for the audit and managing auditor expectations, they can potentially save your business thousands of dollars in taxes and penalties.
These professionals typically know how to answer the auditor’s questions truthfully without volunteering extra information that can invite additional scrutiny.
Have you received notice that you’re a target for a sale tax audit, or are you worried you may be on the radar? Contact us today to help you prepare for and navigate the process!
There’s a valuable tax deduction available to a C corporation when it receives dividends. The “dividends-received deduction” is designed to reduce or eliminate an extra level of tax on dividends received by a corporation. As a result, a corporation will typically be taxed at a lower rate on dividends than on capital gains.
Ordinarily, the deduction is 50% of the dividend, with the result that only 50% of the dividend received is effectively subject to tax. For example, if your corporation receives a $1,000 dividend, it includes $1,000 in income, but after the $500 dividends-received deduction, its taxable income from the dividend is only $500.
The deductible percentage of a dividend will increase to 65% of the dividend if your corporation owns 20% or more (by vote and value) of the payor’s stock. If the payor is a member of an affiliated group (based on an 80% ownership test), dividends from another group member are 100% deductible. (If one or more members of the group is subject to foreign taxes, a special rule requiring consistency of the treatment of foreign taxes applies.) In applying the 20% and 80% ownership percentages, preferred stock isn’t counted if it’s limited and preferred as to dividends, doesn’t participate in corporate growth to a significant extent, isn’t convertible, and has limited redemption and liquidation rights.
If a dividend on stock that hasn’t been held for more than two years is an “extraordinary dividend,” the basis of the stock on which the dividend is paid is reduced by the amount that effectively goes untaxed because of the dividends-received deduction. If the reduction exceeds the basis of the stock, gain is recognized. (A dividend paid on common stock will be an extraordinary dividend if it exceeds 10% of the stock’s basis, treating dividends with ex-dividend dates within the same 85-day period as one.)
Holding period requirement
The dividends-received deduction is only available if the recipient satisfies a minimum holding period requirement. In general, this requires the recipient to own the stock for at least 46 days during the 91-day period beginning 45 days before the ex-dividend date. For dividends on preferred stock attributable to a period of more than 366 days, the required holding period is extended to 91 days during the 181-day period beginning 90 days before the ex-dividend date. Under certain circumstances, periods during which the taxpayer has hedged its risk of loss on the stock are not counted.
Taxable income limitation
The dividends-received deduction is limited to a certain percentage of income. If your corporation owns less than 20% of the paying corporation, the deduction is limited to 50% of your corporation’s taxable income (modified to exclude certain items). However, if allowing the full (50%) dividends-received deduction without the taxable income limitation would result in (or increase) a net operating loss deduction for the year, the limitation doesn’t apply.
Illustrative example
Let’s say your corporation receives $50,000 in dividends from a less-than-20% owned corporation and has a $10,000 loss from its regular operations. If there were no loss, the dividends-received deduction would be $25,000 (50% of $50,000). However, since taxable income used in computing the dividends-received deduction is $40,000, the deduction is limited to $20,000 (50% of $40,000).
Other rules apply if the dividend payor is a foreign corporation. Contact us if you’d like to discuss how to take advantage of this deduction.
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The Internal Revenue Service will raise the optional standard mileage rate for the final six months of 2022 to help offset the rise in gas prices nationwide.
The new rates to calculate the deductible costs of operating an automobile for business and certain other purposes become effective July 1, 2022, and will remain in place through January 1, 2023. Those revised rates are:
Taxpayers should use the following rates for any miles traveled between January 1, 2022, and June 30, 2022:
The 14 cents per mile rate for charitable organizations remains unchanged as it is set by statute.
The IRS, which last made such an increase in 2011, noted it considered depreciation, insurance, and other fixed and variable costs in addition to the rising gas prices when raising the rates mid-year.
Businesses can use the standard mileage rate to calculate the deductible costs of operating qualified automobiles for business, charitable, medical, or moving purposes.
Important reminders and considerations
When reimbursing employees for miles driven, keep in mind the following reminders and considerations:
To review your organization’s mileage reimbursement policy and any alternate methods for calculating appropriate reimbursement amounts, reach out to our team of knowledgeable professionals today.
Here’s an interesting option if your small company or start-up business is planning to claim the research tax credit. Subject to limits, you can elect to apply all or some of any research tax credits that you earn against your payroll taxes instead of your income tax. This payroll tax election may influence some businesses to undertake or increase their research activities. On the other hand, if you’re engaged in or are planning to engage in research activities without regard to tax consequences, be aware that some tax relief could be in your future.
Here are some answers to questions about the option.
Why is the election important?
Many new businesses, even if they have some cash flow, or even net positive cash flow and/or a book profit, pay no income taxes and won’t for some time. Therefore, there’s no amount against which business credits, including the research credit, can be applied. On the other hand, a wage-paying business, even a new one, has payroll tax liabilities. The payroll tax election is thus an opportunity to get immediate use out of the research credits that a business earns. Because every dollar of credit-eligible expenditure can result in as much as a 10-cent tax credit, that’s a big help in the start-up phase of a business — the time when help is most needed.
Which businesses are eligible?
To qualify for the election a taxpayer:
In making these determinations, the only gross receipts that an individual taxpayer takes into account are from his or her businesses. An individual’s salary, investment income or other income aren’t taken into account. Also, note that neither an entity nor an individual can make the election for more than six years in a row.
Are there limits on the election?
Research credits for which a taxpayer makes the payroll tax election can be applied only against the employer’s old-age, survivors, and disability liability — the OASDI or Social Security portion of FICA taxes. So the election can’t be used to lower 1) the employer’s liability for the Medicare portion of FICA taxes or 2) any FICA taxes that the employer withholds and remits to the government on behalf of employees.
The amount of research credit for which the election can be made can’t annually exceed $250,000. Note too that an individual or C corporation can make the election only for those research credits which, in the absence of an election, would have to be carried forward. In other words, a C corporation can’t make the election for research credits that the taxpayer can use to reduce current or past income tax liabilities.
The above Q&As just cover the basics about the payroll tax election. And, as you may have already experienced, identifying and substantiating expenses eligible for the research credit itself is a complex area. Contact us for more information about the payroll tax election and the research credit.
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Attorney trust accounts serve an essential purpose: protecting clients’ funds by segregating them from the law firm’s operating accounts. Keeping client funds separate will help ensure they aren’t used for the attorney’s personal or business expenses — either inadvertently or intentionally.
Attorneys have a professional responsibility to manage these trust accounts in good faith, also known as Interest Only Lawyers Trust Accounts (IOLTA). Failing to do so can have consequences, including disbarment. Since a firm doesn’t own the money in an IOLTA, misusing it is tantamount to theft. Considering the stakes involved, stay abreast of best practices for handling and accounting for client trust accounts.
Client Trust Fund Accounting Options
According to the National Law Review, client trust funds typically are used in three situations:
There are generally two ways to maintain IOLTA funds:
Either way, it’s crucial to keep track of the sources and uses for all funds.
Best Practices for Client Trust Fund Accounting
Following these best practices demonstrates you’re using the money legally and ethically and can help build trust with clients.
Each state has legal requirements for managing client funds and billing, so familiarize yourself with the laws in your state. At a minimum, every transaction in or out of your trust accounts should be accounted for — no matter how small—and you should be able to provide accurate and timely records for all trust accounts to the state bar upon request.
Business travel is back.
COVID restrictions have eased, and in-person conferences are back on the calendar. And as more people return to offices, companies are warming to sending their employees on work trips.
For many businesses, it’s been a minute since they’ve had to account for employee travel expenses. So it might be time for a refresher on which expenses are tax-deductible, which aren’t, and what pandemic-related tax incentives are available.
When is it business travel?
A trip is considered business travel when you travel outside what’s known as your “tax home.” The location of your tax home is the city or area of your primary place of business, regardless of where you live. For expenses to count as deductible travel costs, they have to be incurred away from your tax home for longer than a typical workday — but no longer than one year. Anything considered an “ordinary and necessary expense” of doing business would qualify.
As long as the expenses are business-related, most, if not all, expenses from a typical work trip can receive a tax deduction. So what is deductible?
Business Meals, Beverages
Perhaps the most significant change for business travel is a temporary tax incentive to encourage restaurant spending during the pandemic. Through the end of 2022, food and beverages from restaurants are 100% tax-deductible versus the usual 50% deduction for businesses. The 100% deduction applies to any restaurant meals and drinks purchased after December 31, 2020, and before January 1, 2023.
The IRS defines a restaurant as “a business that prepares and sells food or beverages to retail customers for immediate consumption, regardless of whether the food or beverages are consumed on the business’s premises.” The deduction includes:
Non-restaurant meals are still eligible for a 50% deduction, but the 100% deduction excludes prepackaged food and drinks from:
That means if you want to purchase a salad to go, buying it from a restaurant would get you a 100% deduction while buying it from a grocery store is only eligible for a 50% deduction.
Other rules for food and beverage deductions include:
Travel and Transportation
You can deduct 100% of the cost of any travel by airplane, train, bus, or car between your home and business destination. That includes car rental expenses. Also deductible is parking fees, tolls, and fares for taxis, shuttles, ferry rides, and other modes of transportation.
Hotels and Lodging
Hotel stays are tax-deductible, as are tips and fees for hotel staff and baggage carriers. Depending on how you schedule your trip, you may even be able to deduct lodging costs for non-workdays.
Shipping
You can write off costs for shipping baggage or any materials related to business operations.
Business Calls, Communication
Fees for calls, texts, or Wi-Fi usage during business travel are deductible.
Dry Cleaning, Laundry
Costs to launder work clothes on a business trip get a tax break.
Tips
Tips for services related to any of these expenses also qualify.
Gifts of up to $25
Gifts for clients or other business associates are included, although you can deduct no more than $25 per gift recipient. So if two clients each receive a $60 fruit basket, for a total of $120 spent on gifts, the company can write off $50 of the expense.
What Isn’t Deductible?
Tracking Expenses
To make the most of your tax deductions, collect receipts and keep detailed records of all travel expenses. Set a standard meal allowance for traveling employees and write off that amount to make meal tracking easier.
Managing business travel expenses and calculating deductions requires attention to detail, and businesses may be out of practice after two years with little to no travel. If you need help figuring out business travel deductions, our team of professionals can assist your business in getting back on track — and ready for takeoff.
The next quarterly estimated tax payment deadline is June 15 for individuals and businesses so it’s a good time to review the rules for computing corporate federal estimated payments. You want your business to pay the minimum amount of estimated taxes without triggering the penalty for underpayment of estimated tax.
Four methods
The required installment of estimated tax that a corporation must pay to avoid a penalty is the lowest amount determined under each of the following four methods:
Under the current year method, a corporation can avoid the estimated tax underpayment penalty by paying 25% of the tax shown on the current tax year’s return (or, if no return is filed, 25% of the tax for the current year) by each of four installment due dates. The due dates are generally April 15, June 15, September 15, and January 15 of the following year.
Under the preceding year method, a corporation can avoid the estimated tax underpayment penalty by paying 25% of the tax shown on the return for the preceding tax year by each of four installment due dates. (Note, however, that for 2022, certain corporations can only use the preceding year method to determine their first required installment payment. This restriction is placed on a corporation with taxable income of $1 million or more in any of the last three tax years.) In addition, this method isn’t available to corporations with a tax return that was for less than 12 months or a corporation that didn’t file a preceding tax year return that showed some tax liability.
Under the annualized income method, a corporation can avoid the estimated tax underpayment penalty if it pays its “annualized tax” in quarterly installments. The annualized tax is computed on the basis of the corporation’s taxable income for the months in the tax year ending before the due date of the installment and assuming income will be received at the same rate over the full year.
Under the seasonal income method, corporations with recurring seasonal patterns of taxable income can annualize income by assuming income earned in the current year is earned in the same pattern as in preceding years. There’s a somewhat complicated mathematical test that corporations must pass in order to establish that their income is earned seasonally and that they therefore qualify to use this method. If you think your corporation might qualify for this method, don’t hesitate to ask for our assistance in determining if it does.
Also, note that a corporation can switch among the four methods during a given tax year.
We can examine whether your corporation’s estimated tax bill can be reduced. Contact us if you’d like to discuss this matter further.
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Are you a partner in a business? You may have come across a situation that’s puzzling. In a given year, you may be taxed on more partnership income than was distributed to you from the partnership in which you’re a partner.
Why does this happen? It’s due to the way partnerships and partners are taxed. Unlike C corporations, partnerships aren’t subject to income tax. Instead, each partner is taxed on the partnership’s earnings — whether or not they’re distributed. Similarly, if a partnership has a loss, the loss is passed through to the partners. (However, various rules may prevent a partner from currently using his or her share of a partnership’s loss to offset other income.)
Pass through your share
While a partnership isn’t subject to income tax, it’s treated as a separate entity for purposes of determining its income, gains, losses, deductions, and credits. This makes it possible to pass through to partners their share of these items.
An information return must be filed by a partnership. On Schedule K of Form 1065, the partnership separately identifies income, deductions, credits, and other items. This is so that each partner can properly treat items that are subject to limits or other rules that could affect their correct treatment at the partner’s level. Examples of such items include capital gains and losses, interest expense on investment debts, and charitable contributions. Each partner gets a Schedule K-1 showing his or her share of partnership items.
Basis and distribution rules ensure that partners aren’t taxed twice. A partner’s initial basis in his or her partnership interest (the determination of which varies depending on how the interest was acquired) is increased by his or her share of partnership taxable income. When that income is paid out to partners in cash, they aren’t taxed on the cash if they have sufficient basis. Instead, partners just reduce their basis by the amount of the distribution. If a cash distribution exceeds a partner’s basis, then the excess is taxed to the partner as a gain, which often is a capital gain.
Illustrative example
Two people each contribute $10,000 to form a partnership. The partnership has $80,000 of taxable income in the first year, during which it makes no cash distributions to the two partners. Each of them reports $40,000 of taxable income from the partnership as shown on their K-1s. Each has a starting basis of $10,000, which is increased by $40,000 to $50,000. In the second year, the partnership breaks even (has zero taxable income) and distributes $40,000 to each of the two partners. The cash distributed to them is received tax-free. Each of them, however, must reduce the basis in his or her partnership interest from $50,000 to $10,000.
More rules and limits
The example and details above are an overview and, therefore, don’t cover all the rules. For example, many other events require basis adjustments and there are a host of special rules covering noncash distributions, distributions of securities, liquidating distributions, and other matters. Contact us if you’d like to discuss how a partner is taxed.
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The State of California now requires businesses with five or more employees to either offer an employee retirement plan or participate in the CalSavers Retirement Savings Program by June 30, 2022. CalSavers is a state-based payroll withholding savings program using Roth (post-tax) individual retirement accounts. All employers with five or more employees must either register with CalSavers or offer a qualifying retirement plan.
The CalSavers program has been rolled out in phases, and the state is already issuing penalty notices to businesses that missed the earlier deadlines or failed to allow eligible employees to participate in the retirement savings program. The penalties are significant:
Eligible employers must register with the program via the program website (employer.CalSavers.com) or by calling 855-650-6916.
Employers have the following options:
We can work with you to determine the best retirement solutions to fit your needs. Please contact us at 858.481.7702 for further assistance.
California enacted Assembly Bill 150 (“AB 150”) in late 2021 as a method for deducting state and local taxes in excess of federal deduction limitations. AB 150 allowed passthrough entities (“PTEs”) to have the tax imposed and paid at the entity level rather than at the individual level, which permitted PTE owners to bypass the deduction limitation. For those owners who have elected to participate in this program, PTEs pay the tax on the qualified net income and their owners receive a corresponding credit against the state income tax liability related to their PTE income. Any unused credit at the owner level may be carried forward for up to five years.
Governor Newsom signed Senate Bill 113 (“SB 113”) on February 9, 2022, which modified and expanded the passthrough entity elective tax benefits previously established under AB 150. The goal of SB 113 was to add clarity and conformity to the state’s original objectives for establishing the PTE credit.
The PTE election is made annually on the original filed return, including extensions. For tax years 2022 through 2025, the first PTE installment payment is due June 15th of each year, and is equal to the greater of:
The second PTE elective tax installment is due by the entity’s tax return due date (without extensions), which for most partnerships, LLCs, and S corps will be March 15, 2023.
If a payment is not made by June 15th, the election may not be made and the pass-through entity and owners may not participate in the program for that corresponding tax year.
There are many unanswered questions surrounding the PTE program. For example, since many 2021 returns will not be filed by June 15th, taxpayers may not know what 50% of the 2021 tax will actually be. If a good faith estimate is paid on June 15 but ends up being short of the 50% when the 2021 return is filed, the 2022 PTE election is invalid.
Hamilton Tharp is recommending that taxpayers add more funds to ensure that they do not underpay the tax. If the PTE did not participate in the program for 2021, but the owners of the PTE are fairly certain they will want to participate in the PTE program for 2022, we are recommending the payment be made with all available financial information or the $1,000.
If you have any questions, please contact us. In most cases, if you or your firm qualify to participate in this program, we have already reached out and discussed the payments.
The IRS recently released guidance providing the 2023 inflation-adjusted amounts for Health Savings Accounts (HSAs). High inflation rates will result in next year’s amounts being increased more than they have been in recent years.
HSA basics
An HSA is a trust created or organized exclusively for the purpose of paying the “qualified medical expenses” of an “account beneficiary.” An HSA can only be established for the benefit of an “eligible individual” who is covered under a “high deductible health plan.” In addition, a participant can’t be enrolled in Medicare or have other health coverage (exceptions include dental, vision, long-term care, accident, and specific disease insurance).
A high deductible health plan (HDHP) is generally a plan with an annual deductible that isn’t less than $1,000 for self-only coverage and $2,000 for family coverage. In addition, the sum of the annual deductible and other annual out-of-pocket expenses required to be paid under the plan for covered benefits (but not for premiums) can’t exceed $5,000 for self-only coverage and $10,000 for family coverage.
Within specified dollar limits, an above-the-line tax deduction is allowed for an individual’s contribution to an HSA. This annual contribution limitation and the annual deductible and out-of-pocket expenses under the tax code are adjusted annually for inflation.
Inflation adjustments for next year
In Revenue Procedure 2022-24, the IRS released the 2023 inflation-adjusted figures for contributions to HSAs, which are as follows:
Annual contribution limitation. For calendar year 2023, the annual contribution limitation for an individual with self-only coverage under an HDHP will be $3,850. For an individual with family coverage, the amount will be $7,750. This is up from $3,650 and $7,300, respectively, for 2022.
In addition, for both 2022 and 2023, there’s a $1,000 catch-up contribution amount for those who are age 55 and older at the end of the tax year.
High deductible health plan defined. For calendar year 2023, an HDHP will be a health plan with an annual deductible that isn’t less than $1,500 for self-only coverage or $3,000 for family coverage (these amounts are $1,400 and $2,800 for 2022). In addition, annual out-of-pocket expenses (deductibles, co-payments, and other amounts, but not premiums) won’t be able to exceed $7,500 for self-only coverage or $15,000 for family coverage (up from $7,050 and $14,100, respectively, for 2022).
Reap the rewards
There are a variety of benefits to HSAs. Contributions to the accounts are made on a pre-tax basis. The money can accumulate tax free year after year and can be withdrawn tax free to pay for a variety of medical expenses such as doctor visits, prescriptions, chiropractic care, and premiums for long-term care insurance. In addition, an HSA is “portable.” It stays with an account holder if he or she changes employers or leaves the workforce. If you have questions about HSAs at your business, contact your employee benefits and tax advisors.
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As a business owner, your company’s financial statements play a significant role in monitoring your company’s performance and financial standing. However, the information presented in financial statements is susceptible to distortion when certain economic factors come into play — notably inflation.
The cumulative impact of a global pandemic, labor shortages, and supply chain disruptions have merged to create the highest inflation rates the United States has seen this century. In fact, the Consumer Price Index (CPI) rose 7.9% between February 2021 and February 2022, representing the most significant annualized growth in CPI inflation since 1982.
While the tangible effects of inflation vary by company and industry, the national and global implications are widespread and generally impact at least some aspects of every business. Even if the obvious effects feel minimal, it’s essential to understand inflation often trickles down to affect the most basic accounting and financial reporting information.
Here are some common ways inflation can affect financial statements and paint a misleading picture of your business.
Reported Profits
Inflation can most heavily affect companies’ reported profits with considerable inventories when it comes to financial reporting. Imagine, for example; a widget company reported $100,000 in sales last year with $75,000 in cost of goods sold and a gross profit of $25,000. Since widgets do not expire, the company keeps and sells unsold inventory year after year.
The company sells the same number of widgets the following year, but because of a rising inflation rate, it decides to raise its prices by 5% to offset a 5% increase in its costs of goods. Half of its sales this year were taken from the prior year’s inventory, and the other half comprised the new inventory carrying the 5% production increase.
Because of its 5% increase in both cost of goods sold and widget sales price, the company reports $105,000 in sales and $76,875 in cost of goods sold, totaling $3,750 in gross profits. When you factor in half of the previous year’s inventory, the company still reports an increase of $1,875 in gross profits (because of selling last year’s inventory) even though it sold the same number of widgets as the previous year.
This is called “inflation profit,” meaning the increased profit results from inflation rather than an actual improvement in business performance.
For businesses looking to impress investors or potential purchasers, this is just one example of how inflation could distort financial planning efforts if not properly recognized and considered.
Supply Chain Disruptions
Many businesses rely on a complex network of supply chains to manufacture and deliver goods. These systems become particularly volatile when one or more parts of that supply chain begin raising prices because of factors such as labor shortages, freight costs, increased employee wages, and material costs.
When companies have existing long-term revenue contracts with customers, it may be difficult (or even impossible) to break those contracts and raise prices enough to offset any increase in production costs.
Therefore, companies should consider the monthly implications caused by reduced or negative profitability and the period in which to record the loss, if applicable. Business owners should also be conscientious of the repercussions lost contracts and unstable profits may have on monthly planning and forecasting.
Accounting Procedures
Despite its increased prevalence this past year, inflation always impacts reporting and accounting. Although generally accepted accounting principles (GAAP) largely combat the most glaring discrepancies among financial statements, some variations may still occur based on how your particular business accounts for inflation.
Contact our team today if you need help accommodating inflation into your financial statement preparation, reporting, and analysis.
As U.S. companies struggle to recruit, hire, and retain talent, more businesses are turning to independent contractors instead of full-time employees. But understanding the difference between an employee and an independent contractor can be complex.
Getting it right is critical because misclassifying workers – intentionally or not – can result in penalties including, but not limited to, fines and back taxes. If the IRS believes a misclassification was intentional, there’s also the possibility of criminal and civil penalties.
There’s no single test at the federal level to determine a worker’s classification. Studies show that 10% to 20% of employers misclassify at least one employee. At its most basic level, the question boils down to this: Is the worker an employee or an independent contractor?
What the IRS Says
The IRS defines an independent contractor as someone who performs work for someone else while controlling how the work is done. The Internal Revenue Code defines an employee for employment tax purposes as “any individual who, under the usual common-law rules, applicable in determining the employer-employee relationship, has the status of an employee.”
Under this test, an individual is classified in one of the two buckets after examining relevant facts and circumstances and an application of common law principles. The IRS analyzes the evidence of the degree of control and independence through three overarching categories:
No one factor stands alone in making this determination and the relevant factors will vary depending on the facts and circumstances.
If it is still unclear whether a worker is an employee or an independent contractor after reviewing the three categories of evidence, file Form SS-8, Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding, with the IRS. The form may be filed by either the business or the worker, and the IRS will review the facts and circumstances and officially determine the worker’s status.
The IRS cautions it can take at least six months to get a determination.
Penalties for Misclassifying
If the misclassification was unintentional, the employer faces, at a minimum, the following penalties:
If the IRS suspects fraud or intentional misconduct, it can impose additional fines and penalties. The employer could be subject to criminal penalties of up to $10,000 per misclassified worker and one year in prison. In addition, the person responsible for withholding taxes could also be held personally liable for any uncollected tax.
Tips for Employers
Take pre-emptive steps to avoid worker misclassification issues by:
Remember, a worker’s classification may be different under the Fair Labor Standards Act than under various state laws, the National Labor Relations Act, and/or the Internal Revenue Code. Workers who are properly classified as independent contractors under one state’s test may not be properly classified under another’s.
Employers should ensure proper classification of their workers and remain cognizant of and comply with applicable state and local laws, which may be different from federal law.
Does your organization need help classifying or ensuring your workers are classified correctly? Contact our team today!
From Super Bowl commercials to teenage NFT millionaires — and even Elon Musk’s support of the dog meme-inspired currency Dogecoin — cryptoassets have been making a play for mainstream acceptance.
By the end of 2021, the global cryptocurrency market was worth more than $3 trillion, up from $14 billion just five years earlier. About 16% of U.S. adults — approximately 40 million people — have invested in, traded, or used cryptocurrency, according to a White House analysis of findings by The Pew Research Center. And more than 100 countries are exploring or piloting Central Bank Digital Currencies (CBDCs), a digital form of a country’s sovereign currency.
Cryptoassets have been taking off so quickly that President Biden signed an executive order in March outlining a government approach to address the risks and harness the benefits of cryptocurrency while urging the research and development of a U.S. Central Digital Bank Currency.
Yet, for all the attention cryptoassets are receiving, many business leaders are still trying to understand what they are, how they work, and the pros and cons of using them.
What Are Cryptoassets?
Cryptocurrency is any digital or virtual currency that uses encryption to secure and verify transactions. What sets cryptocurrencies apart from traditional forms of currency is that they rely on a decentralized, unregulated system to issue them and record transactions.
Because a central issuing authority such as a bank or regulatory authority like the federal government doesn’t control these currencies, cryptoassets can avoid government manipulation or intervention.
Types of cryptoassets include:
How Do Cryptoassets Work?
Instead of relying on banks, cryptoassets leverage decentralized networks based on blockchain technology for distribution. Blockchain is a distributed public ledger that records all digital and virtual transactions.
Since cryptoassets are not tangible, people who possess them instead own a key — a secret, randomly generated number with hundreds of digits — that allows them to move cryptoassets from one entity to another without the intervention of a financial institution.
What Are the Pros, Cons of Cryptoassets?
Decentralization is one of the key selling points of cryptoassets. Because developers control who uses them, they aren’t beholden to regulatory and government controls and interventions. That means there isn’t one entity that can dictate the currency’s value and distribution.
Other benefits include:
There are also some drawbacks, the least of which is a shortfall of protection. Although cryptoassets proponents prefer the currency because of its lack of government control, that same lack of regulation puts cryptoassets owners at risk of tremendous losses. There is no FDIC protection for cryptocurrency, nor is there a way to safeguard digital assets if a tech issue wipes out your transaction records. Insurance policies are available, but ultimately, it’s up to a business to protect itself against losses.
Other concerns include:
Cryptoassets are still in their infancy, and business leaders who may want to use them are learning as they go. If you’re trying to wrap your head around cryptoassets, our team of professionals can help your business navigate this new form of currency.
Operating as an S corporation may help reduce federal employment taxes for small businesses in the right circumstances. Although S corporations may provide tax advantages over C corporations, there are some potentially costly tax issues that you should assess before making a decision to switch.
Here’s a quick rundown of the most important issues to consider when converting from a C corporation to an S corporation:
Built-in gains tax
Although S corporations generally aren’t subject to tax, those that were formerly C corporations are taxed on built-in gains (such as appreciated property) that the C corporation has when the S election becomes effective if those gains are recognized within 5 years after the corporation becomes an S corporation. This is generally unfavorable, although there are situations where the S election still can produce a better tax result despite the built-in gains tax.
Passive income
S corporations that were formerly C corporations are subject to a special tax if their passive investment income (such as dividends, interest, rents, royalties, and stock sale gains) exceeds 25% of their gross receipts, and the S corporation has accumulated earnings and profits carried over from its C corporation years. If that tax is owed for three consecutive years, the corporation’s election to be an S corporation terminates. You can avoid the tax by distributing the accumulated earnings and profits, which would be taxable to shareholders. Or you might want to avoid the tax by limiting the amount of passive income.
LIFO inventories
C corporations that use LIFO inventories have to pay tax on the benefits they derived by using LIFO if they convert to S corporations. The tax can be spread over four years. This cost must be weighed against the potential tax gains from converting to S status.
Unused losses
If your C corporation has unused net operating losses, the losses can’t be used to offset its income as an S corporation and can’t be passed through to shareholders. If the losses can’t be carried back to an earlier C corporation year, it will be necessary to weigh the cost of giving up the losses against the tax savings expected to be generated by the switch to S status.
There are other factors to consider in switching from C to S status. Shareholder-employees of S corporations can’t get the full range of tax-free fringe benefits that are available with a C corporation. And there may be complications for shareholders who have outstanding loans from their qualified plans. All of these factors have to be considered to understand the full effect of converting from C to S status.
There are strategies for eliminating or minimizing some of these tax problems and for avoiding unnecessary pitfalls related to them. But a lot depends upon your company’s particular circumstances. Contact us to discuss the effect of these and other potential problems, along with possible strategies for dealing with them.
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Typically, businesses want to delay recognition of taxable income into future years and accelerate deductions into the current year. But when is it prudent to do the opposite? And why would you want to?
One reason might be tax law changes that raise tax rates. There have been discussions in Washington about raising the corporate federal income tax rate from its current flat 21%. Another reason may be because you expect your non-corporate pass-through entity business to pay taxes at higher rates in the future because the pass-through income will be taxed on your personal return. There have also been discussions in Washington about raising individual federal income tax rates.
If you believe your business income could be subject to tax rate increases, you might want to accelerate income recognition into the current tax year to benefit from the current lower tax rates. At the same time, you may want to postpone deductions into a later tax year, when rates are higher, and when the deductions will do more tax-saving good.
To accelerate income
Consider these options if you want to accelerate revenue recognition into the current tax year:
To defer deductions
Consider the following actions to postpone deductions into a higher-rate tax year, which will maximize their value:
Contact us to discuss the best tax planning actions in light of your business’s unique tax situation.
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The federal government is helping to pick up the tab for certain business meals. Under a provision that’s part of one of the COVID-19 relief laws, the usual deduction for 50% of the cost of business meals is doubled to 100% for food and beverages provided by restaurants in 2022 (and 2021).
So, you can take a customer out for a business meal or order take-out for your team and temporarily write off the entire cost — including the tip, sales tax and any delivery charges.
Basic rules
Despite eliminating deductions for business entertainment expenses in the Tax Cuts and Jobs Act (TCJA), a business taxpayer could still deduct 50% of the cost of qualified business meals, including meals incurred while traveling away from home on business. (The TCJA generally eliminated the 50% deduction for business entertainment expenses incurred after 2017 on a permanent basis.)
To help struggling restaurants during the pandemic, the Consolidated Appropriations Act doubled the business meal deduction temporarily for 2021 and 2022. Unless Congress acts to extend this tax break, it will expire on December 31, 2022.
Currently, the deduction for business meals is allowed if the following requirements are met:
In the event that food and beverages are provided during an entertainment activity, the food and beverages must be purchased separately from the entertainment. Alternatively, the cost can be stated separately from the cost of the entertainment on one or more bills.
So, if you treat a client to a meal and the expense is properly substantiated, you may qualify for a business meal deduction as long as there’s a business purpose to the meal or a reasonable expectation that a benefit to the business will result.
Provided by a restaurant
IRS Notice 2021-25 explains the main rules for qualifying for the 100% deduction for food and beverages provided by a restaurant. Under this guidance, the deduction is available if the restaurant prepares and sells food or beverages to retail customers for immediate consumption on or off the premises. As a result, it applies to both on-site dining and take-out and delivery meals.
However, a “restaurant” doesn’t include a business that mainly sells pre-packaged goods not intended for immediate consumption. So, food and beverage sales are excluded from businesses including:
The restriction also applies to an eating facility located on the employer’s business premises that provides meals excluded from an employee’s taxable income. Business meals purchased from such facilities are limited to a 50% deduction. It doesn’t matter if a third party is operating the facility under a contract with the business.
Keep good records
It’s important to keep track of expenses to maximize tax benefits for business meal expenses.
You should record the:
In addition, ask establishments to divvy up the tab between any entertainment costs and food/ beverages. For additional information, contact your tax advisor.
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Here are some of the key tax-related deadlines that apply to businesses and other employers during the second quarter of 2022. Keep in mind that this list isn’t all-inclusive, so there may be additional deadlines that apply to you. Contact us to ensure you’re meeting all applicable deadlines and to learn more about the filing requirements.
April 18
May 2
May 10
June 15
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The start of a new tax filing season often brings with it longer hold times with the IRS, as taxpayers and their tax preparers inundate phone lines with questions and concerns. But the 2022 filing season promises to be particularly challenging.
The IRS continues to work through a backlog of millions of paper-filed returns and correspondence from the 2021 tax filing season. Add staffing challenges and congressional underfunding to the issue and trying to track down a missing refund or deal with an unexpected tax notice is bound to be frustrating.
Roots, Results of the IRS Backlog
As of December 2021, the IRS had a backlog of 6 million unprocessed individual income tax returns, 2.3 million amended returns, and more than 2 million quarterly payroll tax returns, according to a statement from the Taxpayer Advocate Service (TAS).
That backlog stems from a combination of COVID-related shutdowns at many of the agency’s processing centers, budget cuts that forced reduced staff sizes, and the IRS overseeing new initiatives, such as stimulus payments and the expanded Child Tax Credit.
Reaching the IRS via phone hasn’t been easy in recent years, and the problem likely will worsen. According to the TAS report, there was a record 282 million taxpayer calls to the IRS in 2021, but the agency answered just 11% of those calls and those who did get through endured long wait times and frequent disconnects.
Understanding what’s going on behind the scenes isn’t much help when you’re facing missing tax refunds, incorrect notices, and other tax troubles. The following tips can help you navigate the IRS backlog and get the answers you need.
Send a complete copy of the correspondence and any other essential documents to your advisor as soon as you receive the notice. Tax professionals have access to a unique IRS customer service line reserved for practitioners, but delays are common there as well, so don’t wait until the last minute to loop them in.
Finally, have patience. The good news is the IRS is working to catch up by fast-tracking hiring, reassigning workers, and scrapping plans to close a tax processing center in Austin, Texas. In the meantime, stay in touch with your tax advisor to be as proactive as possible.
If your business doesn’t already have a retirement plan, now might be a good time to take the plunge. Current retirement plan rules allow for significant tax-deductible contributions.
For example, if you’re self-employed and set up a SEP-IRA, you can contribute up to 20% of your self-employment earnings, with a maximum contribution of $61,000 for 2022. If you’re employed by your own corporation, up to 25% of your salary can be contributed to your account, with a maximum contribution of $61,000. If you’re in the 32% federal income tax bracket, making a maximum contribution could cut what you owe Uncle Sam for 2022 by a whopping $19,520 (32% times $61,000).
More options
Other small business retirement plan options include:
Depending on your circumstances, these other types of plans may allow bigger deductible contributions.
Deadlines to establish and contribute
Thanks to a change made by the 2019 SECURE Act, tax-favored qualified employee retirement plans, except for SIMPLE-IRA plans, can now be adopted by the due date (including any extension) of the employer’s federal income tax return for the adoption year. The plan can then receive deductible employer contributions that are made by the due date (including any extension), and the employer can deduct those contributions on the return for the adoption year.
Important: The SECURE Act provision didn’t change the deadline to establish a SIMPLE-IRA plan. It remains October 1 of the year for which the plan is to take effect. Also, the SECURE Act change doesn’t override rules that require certain plan provisions to be in effect during the plan year, such as the provisions that cover employee elective deferral contributions (salary-reduction contributions) under a 401(k) plan. The plan must be in existence before such employee elective deferral contributions can be made.
For example, the deadline for the 2021 tax year for setting up a SEP-IRA for a sole proprietorship business that uses the calendar year for tax purposes is October 17, 2022, if you extend your 2021 tax return. The deadline for making the contribution for the 2021 tax year is also October 17, 2022. However, to make a SIMPLE-IRA contribution for the 2021 tax year, you must have set up the plan by October 1, 2021. So, it’s too late to set up a plan for last year.
While you can delay until next year establishing a tax-favored retirement plan for this year (except for a SIMPLE-IRA plan), why wait? Get it done this year as part of your tax planning and start saving for retirement. We can provide more information on small business retirement plan alternatives. Be aware that, if your business has employees, you may have to make contributions for them, too.
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