Blog

Monthly Archives: November 2019

Business year-end tax planning in a TCJA world

The first tax-filing season under the Tax Cuts and Jobs Act (TCJA) was a time of uncertainty for many businesses as they struggled with the implications of the law’s sweeping changes for their bottom lines. With the next filing season on the horizon, you can incorporate the lessons learned into your Tax return preparation. Several areas in particular are ripe with opportunities to reduce your 2019 federal tax liability.

Entity choice

The creation of the qualified business income (QBI) deduction for pass-through entities, paired with the reduction of the corporate tax rate to a flat 21% rate from a top rate of 35%, make it worthwhile to re-evaluate whether your current entity type is the most tax-favorable.

Pass-through entities, including sole proprietorships, partnerships and S corporations, traditionally have been seen as a way to avoid the double taxation C corporations are subject to at the entity and dividend levels. Pass-through entities are taxed only once, at an individual tax rate, but that rate can be as high as 37%. If they qualify for the full 20% QBI deduction — not always a sure thing (see below) — their effective tax rate is about 30%.

The deduction for state and local taxes also plays a role in the entity choice. The TCJA limits the amount of the deduction for individual pass-through entity owners, but not for corporations.

Bear in mind, too, that the reduced corporate tax rate is permanent (or as permanent as any tax cut can be), while the QBI deduction is slated to end after 2025. Ultimately, your business’s individual circumstances will determine the optimal structure.

The QBI deduction

Pass-through entities can take several steps before December 31 to maximize their QBI deduction. The deduction is subject to phased-in limitations based on W-2 wages paid (including many employee benefits), the unadjusted basis of qualified property and taxable income. You could boost your deduction, therefore, by increasing wages (for example, by hiring new employees, giving raises or making independent contractors employees). To increase your adjusted basis, you can invest in qualified property by year end.

If the W-2 wages limitation doesn’t limit the QBI deduction, S corporation owners can increase their QBI deductions by reducing the amount of wages the business pays them. (This tactic won’t work for sole proprietorships or partnerships, because they don’t pay their owners salaries.) On the other hand, if the W-2 wages limitation limits the deduction, they might be able to take a greater deduction by increasing their wages.

Tax credits

Some of the most popular tax credits for businesses survived the tax overhaul, including the Work Opportunity Tax Credit (WOTC), the Small Business Health Care tax credit, the New Markets Tax Credit (NMTC) and the research credit (also referred to as the “research and development,” “R&D” or “research and experimentation” credit). Smaller businesses may qualify for a credit for starting new retirement plans.

The WOTC, generally worth a maximum of $2,400 per employee (although for certain employees that can increase to $9,600), is currently scheduled to expire on December 31, so make those qualified hires before year end. The NMTC — 39% over seven years — also is set to expire at year end.

Capital asset investments

Purchasing equipment and other qualified capital assets has been a valuable tool for reducing taxable income for years, but the TCJA further greased the wheels by expanding bonus depreciation and Section 179 expensing (that is, deducting the entire cost in the current tax year).

For qualified property purchased after September 27, 2017, and before January 1, 2023, you can deduct the entire cost of new and used (subject to certain conditions) qualified property in the year the property is placed in service. Special rules apply to property with a longer production period.

Eligible property includes computer systems, computer software, vehicles, machinery, equipment and office furniture. Starting in 2023, the amount of the deduction will drop 20% each year going forward, disappearing altogether in 2027, absent congressional action.

Congress has thus far failed to take action to correct a drafting error in the TCJA that leaves qualified improvement property (generally interior improvements to nonresidential real property) ineligible for bonus deprecation.

Qualified improvement property is, however, eligible for Sec. 179 expensing. The TCJA makes this expensing available to several improvements to nonresidential real property, including roofs, HVAC, fire protection systems, alarm systems and security systems. It also increases the maximum deduction for qualifying property: For 2019, the limit is $1.02 million. (The maximum deduction is limited to the amount of income from business activity.) The expensing deduction begins phasing out on a dollar-for-dollar basis when qualifying property placed in service this year exceeds $2.55 million.

Deferring income / accelerating expenses

This technique has long been employed by businesses that don’t expect to be in a higher tax bracket the following year. If you use cash-basis accounting, for example, you might defer income into 2020 by sending your December invoices toward the end of the month. (Note that the TCJA now allows businesses with three-year average annual gross receipts of $25 million or less to use cash-basis accounting.) If your accounting is done on an accrual basis, you could delay delivery of goods and services until January.

Any business can accelerate deductible expenses into 2019 by putting them on a credit card in late December and paying it off in 2020 (subject to limitations). And cash-basis businesses can prepay bills due in January, as well as certain other expenses. Some caveats now apply to this approach. First, it could affect the amount of the QBI deduction for pass-through entities. It might make more sense to maximize the deduction while it’s still around — the deduction currently is scheduled to sunset after 2025 and, depending on the results of the 2020 elections, could be eliminated before then. Moreover, this tactic isn’t advisable if you’re likely to face higher tax rates in the future.

Act now

You still have time to make a significant dent in your business’s federal tax liability for 2019. We can help you chart the best course forward to minimize your tax bill and put you on solid ground for upcoming tax years.

© 2019

It’s not too late to trim your 2019 tax bill

Fall is in the air and that means it’s time to turn your attention to year-end tax planning. While several clear strategies and tactics emerged during the first tax filing season under the Tax Cuts and Jobs Act (TCJA), 2019 and subsequent years bring potential twists that must be considered, too. Let’s take a closer look at year-end tax planning strategies that can reduce your 2019 income tax liability.

Deferring income and accelerating expenses

Deferring income into the next tax year and accelerating expenses into the current tax year is a time-tested technique for taxpayers who don’t expect to be in a higher tax bracket the following year. Independent contractors and other self-employed individuals can, for example, hold off on sending invoices until late December to push the associated income into 2020. And all taxpayers, regardless of employment status, can defer income by taking capital gains after January 1. Be careful, though, because by waiting to sell you also risk the possibility that your investment might become less valuable.

Bear in mind, also, that there may be other reasons that taking the income this year can be more beneficial. For starters, future tax rates can go up. It’s possible that income tax rates might increase substantially by 2021, especially for those with higher incomes, depending on 2020 election results. In any event, in 2026, the higher tax rates that were in place for 2017 are scheduled to return.

Moreover, taxpayers who qualify for the qualified business income (QBI) deduction for pass-through entities (that is, sole proprietors, partnerships, limited liability companies and S corporations) could end up reducing the size of that deduction if they reduce their income. It might make more sense to maximize the QBI deduction — which is scheduled to end after 2025 — while it’s available.

Timing itemized deductions

The TCJA substantially boosted the standard deduction. For 2019, it’s $24,400 for married couples and $12,200 for single filers. With many of the previously popular itemized deductions eliminated or limited, some taxpayers can find it challenging to claim more in itemized deductions than the standard deduction. Timing, or “bunching,” those deductions may make it easier.

Bunching basically means delaying or accelerating deductions into a tax year to exceed the standard deduction and claim itemized deductions. You could, for example, bunch your charitable contributions if it means you can get a tax break for one tax year. If you normally make your donations at the end of the year, you can bunch donations in alternative years — say, donate in January and December of 2020 and January and December of 2022.

If you have a donor-advised fund (DAF), you can make multiple contributions to it in a single year, accelerating the deduction. You then decide when the funds are distributed to the charity. If, for instance, your objective is to give annually in equal increments, doing so will allow your chosen charities to receive a reliable stream of yearly donations (something that’s critical to their financial stability), and you can deduct the total amount in a single tax year.

If you donate appreciated assets that you’ve held for more than one year to a DAF or a nonprofit, you’ll avoid long-term capital gains taxes that you’d have to pay if you sold the property and (subject to certain restrictions) also obtain a deduction for the assets’ fair market value. This tactic pays off even more if you’re subject to the 3.8% net investment income tax or the top long-term capital gains tax rate (20% for 2019).

What if you’re looking to divest yourself of assets on which you have a loss? Rather than donate the asset, the better move from a tax perspective is more likely going to be to sell it to take advantage of the loss and then donate the proceeds.

Timing also comes into play with medical expenses. The TCJA lowered the threshold for deducting unreimbursed medical expenses to 7.5% of adjusted gross income (AGI) for 2017 and 2018, but it bounces back to 10% of AGI for 2019. Bunching qualified medical expenses into one year could make you eligible for the deduction.

You also could bunch property tax payments (assuming local law permits you to pay in advance). This approach might, however, bring your total state and local tax deduction over the $10,000 limit, which means that you’d effectively forfeit the deduction on the excess.

As with income deferral and expense acceleration, you need to consider your tax bracket status when timing deductions. Itemized deductions are worth more when you’re in a higher tax bracket. If you expect to land in a higher bracket in 2020, you’ll save more by timing your deductions for that year.

Loss harvesting against capital gains

2019 has been a turbulent year for some investments. Thus, your portfolio may be ripe for loss harvesting — that is, selling underperforming investments before year end to realize losses you can use to offset taxable gains you also realized this year, on a dollar-for-dollar basis. If your losses exceed your gains, you generally can apply up to $3,000 of the excess to offset ordinary income. Any unused losses, however, may be carried forward indefinitely throughout your lifetime, providing the opportunity for you to use the losses in a subsequent year.

Maximizing your retirement contributions

As always, individual taxpayers should consider making their maximum allowable contributions for the year to their IRAs, 401(k) plans, deferred annuities and other tax-advantaged retirement accounts. For 2019, you can contribute up to $19,000 to 401(k)s and $6,000 for IRAs. Those age 50 or older are eligible to make an additional catch-up contribution of $1,000 to an IRA and, so long as the plan allows, $6,000 for 401(k)s and other employer-sponsored plans.

Accounting for 2019 TCJA changes

Most — but not all — provisions of the TCJA took effect in 2018. The repeal of the individual mandate penalty for those without qualified health insurance, for example, isn’t effective until this year. In addition, the TCJA eliminates the deduction for alimony payments for couples divorced in 2019 or later, and alimony recipients are no longer required to include the payments in their taxable income.

Act now

The future of tax planning is uncertain — even without dramatic change in Washington, D.C., many of the most significant TCJA provisions are set to expire within six years. Contact us for help with your year-end tax planning.

© 2019