The 2018 tax year will mark the first year subject to the changes in effect from the Tax Cuts and Jobs Act (TCJA). We have compiled a list of potential planning strategies that may benefit your business. We have placed a special emphasis on strategies connected to changes from the TCJA. We encourage you to take a moment and consider whether there are any beneficial last moment actions you can take.
Year End Tips for Businesses
1. S-Corps Evaluate Your Salary Level
The S-Corp allows you to minimize this dreaded self-employment tax. When using an S-Corp, your share of the company’s net income will not be subject to self-employment (SE) tax. SE tax is a combination of Social Security and Medicare taxes also referred to as FICA. In 2018, the tax is 15.3 percent on the first $128,500 of net income (this amount is adjusted for inflation annually), then 2.9 percent on everything above that. Moreover, at $200,000 single and $250,000 married filing jointly (adjusted gross income or AGI), the Affordable Care Act (ACA) kicks it up another 1.9 percent, for a whopping total of 4.8% for high income earners. However, the S-Corp allows owners to take reasonable payroll wages through a W-2 that escapes the SE and ACA taxes on the net. Additionally, the taxability of the net income is potentially decreased by another 20% if it meets the requirements of Qualified Business Income (QBI). The new tax law allows QBI to receive special tax treatment that wages do not.
In regards to payroll and net income planning, we encourage our S Corporations to allocate some of their net income to “wage earnings,” and the remaining amount can flow out as “net income” not subject to SE tax. However, please know this is a starting point and every taxpayer is different. It’s important to maintain this procedure through proper payroll planning.
2. Convert your LLC to an S Corp with a retroactive Election – You still have time in 2018
Most small-business owners and even some tax preparers don’t realize that you can make a retroactive election to be an S-Corp for 2018 if you already have been operating as an LLC all year long. Your CPA can help you with the procedure and make reference to the proper revenue procedures to include with your Form 2553. Many believe there is a hard and fast 75-day rule at the beginning of the year to make this election for all of 2018. This is certainly not the case. Talk to your CPA to follow the correct procedure to get a retroactive election accepted.
3. Consider Using the Expanded Section 179 Deduction
The Section 179 deduction allows business owners to deduct purchases of new or used depreciable assets up to a specified amount. Section 179 includes items like furniture, equipment, and vehicles, but does not include real property like land and buildings. Previously, the maximum deduction allowed was $500,000, and the deduction began phasing out if the business purchased more than $2,000,000 of section 179 property in a tax year.
Beginning in 2018, the maximum deduction doubled to $1 million, and the deduction does not phase out until a business purchases more than $2.5 million of section 179 property in a tax year. The deduction is still limited to your income from the business, so you cannot use section 179 to create a loss. Section 179 can be taken on an asset that is purchased at any point during the year, so you can take the full allowable deduction even if the asset is purchased in December.
4. Consider Using the Expanded Bonus Depreciation Deduction
Bonus depreciation is another method of deducting the cost of assets in the year of purchase. Previously, bonus depreciation allowed business owners to deduct up to 50 percent of the cost of purchases of new depreciable assets.
Beginning with property placed in service after September 28, 2017, you can take 100 percent first-year bonus depreciation on qualified property. The new rules also allow you to take bonus depreciation on purchases of used property. Like section 179, the full deduction is available regardless of when the asset was purchased during the year.
Some taxpayers may wonder why section 179 depreciation is still useful when they can deduct the entire cost of an asset using bonus depreciation. There are several differences between the two methods. For example, section 179 can be selected for individual assets, but bonus depreciation must be used for all assets in a “class”; if you use bonus on one purchase of 7-year property, you must use it for all 7-year property. Section 179 is also available for certain improvement property, such as HVAC systems, that are not allowed under bonus depreciation. You should consult your tax advisor to determine which deduction is a better fit for your situation.
5. Expense Small Purchases Using the De Minimis Safe Harbor
By taking advantage of this safe harbor election, you do not need to capitalize and depreciate smaller purchases for your business. If you buy materials, equipment, or supplies for under $2,500 per item, the cost can likely be expensed for tax purposes. The major exception to this rule is equipment that must be capitalized because of uniform capitalization rules.
If your business has an Applicable Financial Statement, the threshold for the safe harbor increases to $5,000 per item.
6. Determine Whether You Qualify to Use the Cash Method
The definition of a “small business” was expanded in 2018. Previously, to be a “small business” eligible to use the cash method of accounting for tax purposes, an organization had to have average annual gross receipts of $5 million or less during a three-year period. For tax years beginning January 1, 2018, average annual gross receipts of $25 million or less over a three-year period allow a business to qualify for the cash method.
The cash method allows additional flexibility in terms of accelerating deductions and deferring income for tax planning purposes.
7. Plan for Estimated Taxes
The following tip applies to small businesses that are on track to generate a small loss during 2018. For the purposes of this issue, a small business is one that had taxable income under $1 million for each of the three prior tax years.
The IRS requires small businesses to make quarterly payments if owners expect to owe $1,000 or more in taxes. Business owners are expected to pay either 100 to 110 percent of the previous year’s tax (depending on prior year AGI), or 90 percent of what is owed in the current year.
If your business generates a small loss in 2018, you will not be able to use the 100 to 110 percent safe harbor on your 2019 taxes. Since there would be no 2018 tax liability, you could not use the 100 to 110 percent rule. Instead, you would have to pay estimated taxes based on 90 percent of your expected 2019 income.
However, if you can accelerate income to create a small positive amount in 2018, then you can base 2019 estimated payments on the small 2018 tax liability. This method would allow you to make smaller estimated payments throughout 2019 without incurring an underpayment penalty.
These are just a few potential steps you can take to save on your taxes in 2018 and beyond. By speaking with your advisor or contacting us, we can answer more specific questions and create a plan that is tailored to your needs. Please do not hesitate to reach out to us at Isler CPA with any questions you may have.