Business Year-End Planning
The end of the year provides many challenges and opportunities for business owners to make decisions that could impact current and future business and personal taxes. As business owners, it is very important to evaluate year-to-date operations, as well as future operations, and to implement effective tax planning around these expectations. While there have not been significant changes between 2016 and 2017, year-end tax planning for 2017 is especially complicated by the uncertainty of tax reform proposals, which may or may not impact 2017. Therefore, business owners and their tax advisors must remain vigilant and up-to-date.
Businesses should consider the following tax planning tips and tax provisions currently in effect for 2017:
- The Section 179 deduction is permanent and indexed for inflation. For tax years beginning in 2017, the maximum deduction limit for qualified property is $510,000, with a dollar-for-dollar reduction of the limit once the cost of qualified property exceeds $2,030,000. Under Section 179, eligible taxpayers may elect to deduct as an expense, rather than depreciate, the cost of new or used qualified tangible personal property placed in service during the year.
- The first-year bonus depreciation deduction remains at 50% for new qualified property acquired and placed in service through 2017. The rate is set to be reduced to 40% for 2018 and 30% for 2019. Under first-year bonus depreciation, eligible taxpayers are able to deduct as an expense, rather than depreciate, 50% of the cost of new qualified property placed in service during the year.
- Qualified leasehold improvement property, qualified restaurant property, and qualified retail improvement property are permanently classified under the 15-year MACRS class, being eligible for depreciation over 15 years, instead of 39 years.
- The de minimis safe harbor repair threshold remains at $2,500 for most taxpayers and $5,000 for taxpayers with applicable (e.g., audited) financial statements. Under this safe harbor, eligible taxpayers may deduct, as an expense, rather than depreciate, the cost of qualified property acquired or repaired.
- The Research and Development Tax Credit is permanent and allows businesses engaging in certain research activities and with qualified research expenses to receive a tax credit to offset federal business tax liability, and in the case of a pass-through entity, to offset personal tax liability. Eligible small businesses or owners are also allowed to use the credit against alternative minimum tax liability, while qualified small businesses may elect to utilize the credit against FICA payroll taxes.
- The Work Opportunity Tax Credit (WOTC) is in effect through 2019 and allows employers that hire individuals from certain targeted groups to receive a tax credit based on the employee’s wages and qualifications. This credit can offset both business tax liability, and in the case of a pass-through entity, personal tax liability.
- The Domestic Production Activities Deduction (DPAD) generally allows businesses with income from the sale of certain products or services manufactured, produced, grown, or extracted primarily in the United States to receive a deduction of 9% of the total net income from these activities. The deduction cannot exceed the lesser of income or 50% of Form W-2 wages paid to employees engaged in domestic production.
- Cash basis taxpayers may accelerate deductions by prepaying certain expenses before year-end. Also, credit card charges incurred before year-end may be deducted in 2017 and paid off in 2018.
- Cash basis taxpayers may consider deferring income to 2018, as long as the income is not actually or constructively received in 2017.
- Accrual basis taxpayers may generally deduct cash payments made within 2 1/2 months after year-end for compensation, bonus, and long-term incentive plans.
- Individual owners of pass- through entities should review and determine if there is sufficient tax basis to deduct 2017 business losses at the individual level. Also, it is important to review if there are any tax implications of distributions taken by owners of pass-through entities in 2017. Action should be taken before year-end if additional tax basis is necessary for losses or distributions.
- Taxpayers selling various qualified property may consider various tax deferral techniques including like-kind exchanges and installment sales. Also, certain taxpayers are entitled to an exclusion of 50% or more on any gain from the sale or exchange of qualified small business stock.
- Taxpayers should review tax attribute carryovers such as net operating losses, capital losses, tax credits, and charitable contributions to determine if there are any expiring carryovers and to what extent carryovers can or should be used in 2017.
- Individual taxpayers who use a portion of their homes for business purposes should consider deducting expenses incurred for that portion of the home. The deduction is limited to business income; however, disallowed expenses may carry forward to future years.
- Shareholders of businesses operating as S corporations should review year-end compensation to distribute business profits, as well as meet 2017 estimated tax requirements through final income tax withholdings. Consideration must be given to determine reasonable shareholder compensation, so the IRS does not allege avoidance of employment tax, as S corporation pass-through income is generally not subject to employment tax.
In September 2017, President Trump released his tax proposal plan (“Unified Framework”). Therefore, businesses should keep in mind the following tax reform proposals which may, or may not, impact 2017:
- Maximum tax rates for business income would be reduced under the currently proposed framework. The maximum tax rate for C corporations would be reduced to 20%, while the corporate alternative minimum tax (AMT) would be eliminated. The maximum tax rate for image business income from certain sole proprietorships and pass- through entities would be reduced to 25% while also eliminating individual AMT.
- Businesses would be allowed to immediately expense, rather than depreciate, the cost of |new investments in depreciable assets, other than structures established after September 27, 2017, for at least five years.
- Businesses may be limited in deducting net interest expense to compensate for the immediate deduction of depreciable assets. Under the currently proposed framework, the deduction of net interest expense by C corporations will be partially limited. Additional consideration will be given to determine the treatment of interest by non- corporate taxpayers.
- Various deductions, credits, and exclusions would be eliminated to compensate for the reduction of business income tax rates. The framework does not provide complete information but specifically eliminates the Domestic Production Activities Deduction and retains the Research and Development Tax Credit. The framework also eliminates the deduction for state and local income taxes.
- Businesses with foreign operations would benefit from certain provisions including a 100% dividend-received deduction from foreign subsidiaries owned at least 10% by a U.S. parent, as well as a one-time reduced rate on accumulated foreign profits that are repatriated into the U.S.
- There are also a variety of tax reform proposals for individuals, trusts, and estates, which may be necessary to consider for current and future business planning.
As year-end approaches, it is important for business owners to be in touch with their tax advisors. Tax reform proposals could be passed anytime before or after year-end and be retroactive to tax year 2017. Last minute decisions may need to be made to mitigate the impact of any significant tax changes.