Fundamental Tax Truths for C-Corporations

The flat 21% federal income tax rate for C corporations under the Tax Cuts and Jobs Act (TCJA) has been great news for these entities and their owners. But some fundamental tax truths for C corporations largely remain the same:

C corporations are subject to double taxation.

Double taxation occurs when corporate income is taxed once at the corporate level and again at the shareholder level as dividends are paid out. The cost of double taxation, however, is now generally less because of the 21% corporate rate.

And double taxation isn’t a problem when a C corporation needs to retain all its earnings to finance growth and capital investments. Because all the earnings stay “inside” the corporation, no dividends are paid to shareholders, and, therefore, there’s no double taxation.

Double taxation also isn’t an issue when a C corporation’s taxable income levels are low. This can often be achieved by paying reasonable salaries and bonuses to shareholder-employees and providing them with tax-favored fringe benefits (deductible by the corporation and tax-free to the recipient shareholder-employees).

C corporation status isn’t generally advisable for ventures with appreciating assets or certain depreciable assets.

If assets such as real estate are eventually sold for substantial gains, it may be impossible to extract the profits from the corporation without being subject to double taxation. In contrast, if appreciating assets are held by a pass-through entity (such as an S corporation, partnership or limited liability company treated as a partnership for tax purposes), gains on such sales will be taxed only once, at the owner level.

But assets held by a C corporation don’t necessarily have to appreciate in value for double taxation to occur. Depreciation lowers the tax basis of the property, so a taxable gain results whenever the sale price exceeds the depreciated basis. In effect, appreciation can be caused by depreciation when depreciable assets hold their value.

To avoid this double-taxation issue, you might consider using a pass-through entity to lease to your C corporation appreciating assets or depreciable assets that will hold their value.

C corporation status isn’t generally advisable for ventures that will incur ongoing tax losses.

When a venture is set up as a C corporation, losses aren’t passed through to the owners (the shareholders) like they would be in a pass-through entity. Instead, they create corporate net operating losses (NOLs) that can be carried over to future tax years and then used to offset any corporate taxable income.

This was already a potential downside of C corporations, because it can take many years for a start-up to be profitable. Now, under the TCJA, NOLs that arise in tax years beginning after 2017 can’t offset more than 80% of taxable income in the NOL carryover year. So it may take even longer to fully absorb tax losses.

Do you have questions about C corporation tax issues post-TCJA? Contact us.

© 2019

Depreciation-Related Breaks on Business Real Estate: What You Need to Know When You File Your 2018 Return

Commercial buildings and improvements generally are depreciated over 39 years, which essentially means you can deduct a portion of the cost every year over the depreciation period. (Land isn’t depreciable.) But special tax breaks that allow deductions to be taken more quickly are available for certain real estate investments.

Some of these were enhanced by the Tax Cuts and Jobs Act (TCJA) and may provide a bigger benefit when you file your 2018 tax return. But there’s one break you might not be able to enjoy due to a drafting error in the TCJA.

Section 179 expensing

This allows you to deduct (rather than depreciate over a number of years) qualified improvement property — a definition expanded by the TCJA from qualified leasehold-improvement, restaurant and retail-improvement property. The TCJA also allows Sec. 179 expensing for certain depreciable tangible personal property used predominantly to furnish lodging and for the following improvements to nonresidential real property: roofs, HVAC equipment, fire protection and alarm systems, and security systems.

Under the TCJA, for qualifying property placed in service in tax years starting in 2018, the expensing limit increases to $1 million (from $510,000 for 2017), subject to a phaseout if your qualified asset purchases for the year exceed $2.5 million (compared to $2.03 million for 2017). These amounts will be adjusted annually for inflation, and for 2019 they’re $1.02 million and $2.55 million, respectively.

Accelerated depreciation

This break allows a shortened recovery period of 15 years for qualified improvement property. Before the TCJA, the break was available only for qualified leasehold-improvement, restaurant and retail-improvement property.

Bonus depreciation

This additional first-year depreciation allowance is available for qualified assets, which before the TCJA included qualified improvement property. But due to a drafting error in the new law, qualified improvement property will be eligible for bonus depreciation only if a technical correction is issued.

When available, bonus depreciation is increased to 100% (up from 50%) for qualified property placed in service after Sept. 27, 2017, but before Jan. 1, 2023. For 2023 through 2026, bonus depreciation is scheduled to be gradually reduced. Warning: Under the TCJA, real estate businesses that elect to deduct 100% of their business interest will be ineligible for bonus depreciation starting in 2018.

Can you benefit?

Although the enhanced depreciation-related breaks may offer substantial savings on your 2018 tax bill, it’s possible they won’t prove beneficial over the long term. Taking these deductions now means forgoing deductions that could otherwise be taken later, over a period of years under normal depreciation schedules. In some situations — such as if in the future your business could be in a higher tax bracket or tax rates go up — the normal depreciation deductions could be more valuable long-term.

For more information on these breaks or advice on whether you should take advantage of them, please contact us.

© 2019

Business Owners: An Exit Strategy Should Be Part of Your Tax Planning

Tax planning is a juggling act for business owners. You have to keep your eye on your company’s income and expenses and applicable tax breaks (especially if you own a pass-through entity). But you also must look out for your own financial future.

For example, you need to develop an exit strategy so that taxes don’t trip you up when you retire or leave the business for some other reason. An exit strategy is a plan for passing on responsibility for running the company, transferring ownership and extracting your money from the business.

Buy-sell agreement

When a business has more than one owner, a buy-sell agreement can be a powerful tool. The agreement controls what happens to the business when a specified event occurs, such as an owner’s retirement, disability or death. Among other benefits, a well-drafted agreement:

  • Provides a ready market for the departing owner’s shares,
  • Prescribes a method for setting a price for the shares, and
  • Allows business continuity by preventing disagreements caused by new owners.

A key issue with any buy-sell agreement is providing the buyer(s) with a means of funding the purchase. Life or disability insurance often helps fulfill this need and can give rise to several tax issues and opportunities. One of the biggest advantages of life insurance as a funding method is that proceeds generally are excluded from the beneficiary’s taxable income.

Succession within the family

You can pass your business on to family members by giving them interests, selling them interests or doing some of each. Be sure to consider your income needs, the tax consequences, and how family members will feel about your choice.

Under the annual gift tax exclusion, you can gift up to $15,000 of ownership interests without using up any of your lifetime gift and estate tax exemption. Valuation discounts may further reduce the taxable value of the gift.

With the gift and estate tax exemption approximately doubled through 2025 ($11.4 million for 2019), gift and estate taxes may be less of a concern for some business owners. But others may want to make substantial transfers now to take maximum advantage of the high exemption. What’s right for you will depend on the value of your business and your timeline for transferring ownership.

Plan ahead

If you don’t have co-owners or want to pass the business to family members, other options include a management buyout, an employee stock ownership plan (ESOP) or a sale to an outsider. Each involves a variety of tax and nontax considerations.

Please contact us to discuss your exit strategy. To be successful, your strategy will require planning well in advance of the transition.

© 2018

2019 Q1 Tax Calendar: Key Deadlines for Businesses and Other Employers

Here are some of the key tax-related deadlines affecting businesses and other employers during the first quarter of 2019. 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.

January 31

  • File 2018 Forms W-2, “Wage and Tax Statement,” with the Social Security Administration and provide copies to your employees.
  • Provide copies of 2018 Forms 1099-MISC, “Miscellaneous Income,” to recipients of income from your business where required.
  • File 2018 Forms 1099-MISC reporting nonemployee compensation payments in Box 7 with the IRS.
  • File Form 940, “Employer’s Annual Federal Unemployment (FUTA) Tax Return,” for 2018. If your undeposited tax is $500 or less, you can either pay it with your return or deposit it. If it’s more than $500, you must deposit it. However, if you deposited the tax for the year in full and on time, you have until February 11 to file the return.
  • File Form 941, “Employer’s Quarterly Federal Tax Return,” to report Medicare, Social Security and income taxes withheld in the fourth quarter of 2018. If your tax liability is less than $2,500, you can pay it in full with a timely filed return. If you deposited the tax for the quarter in full and on time, you have until February 11 to file the return. (Employers that have an estimated annual employment tax liability of $1,000 or less may be eligible to file Form 944,“Employer’s Annual Federal Tax Return.”)
  • File Form 945, “Annual Return of Withheld Federal Income Tax,” for 2018 to report income tax withheld on all nonpayroll items, including backup withholding and withholding on accounts such as pensions, annuities and IRAs. If your tax liability is less than $2,500, you can pay it in full with a timely filed return. If you deposited the tax for the year in full and on time, you have until February 11 to file the return.

February 28

  • File 2018 Forms 1099-MISC with the IRS if 1) they’re not required to be filed earlier and 2) you’re filing paper copies. (Otherwise, the filing deadline is April 1.)

March 15

  • If a calendar-year partnership or S corporation, file or extend your 2018 tax return and pay any tax due. If the return isn’t extended, this is also the last day to make 2018 contributions to pension and profit-sharing plans.

© 2018

It’s Not Too Late: You Can Still Set Up a Retirement Plan for 2018

If most of your money is tied up in your business, retirement can be a challenge. So if you haven’t already set up a tax-advantaged retirement plan, consider doing so this year. There’s still time to set one up and make contributions that will be deductible on your 2018 tax return!

More benefits

Not only are contributions tax deductible, but retirement plan funds can grow tax-deferred. If you might be subject to the 3.8% net investment income tax (NIIT), setting up and contributing to a retirement plan may be particularly beneficial because retirement plan contributions can reduce your modified adjusted gross income and thus help you reduce or avoid the NIIT.

If you have employees, they generally must be allowed to participate in the plan, provided they meet the qualification requirements. But this can help you attract and retain good employees.

And if you have 100 or fewer employees, you may be eligible for a credit for setting up a plan. The credit is for 50% of start-up costs, up to $500. Remember, credits reduce your tax liability dollar-for-dollar, unlike deductions, which only reduce the amount of income subject to tax.

3 options to consider

Many types of retirement plans are available, but here are three of the most attractive to business owners trying to build up their own retirement savings:

1. Profit-sharing plan. This is a defined contribution plan that allows discretionary employer contributions and flexibility in plan design. You can make deductible 2018 contributions as late as the due date of your 2018 tax return, including extensions — provided your plan exists on Dec. 31, 2018. For 2018, the maximum contribution is $55,000, or $61,000 if you are age 50 or older and your plan includes a 401(k) arrangement.

2. Simplified Employee Pension (SEP). This is also a defined contribution plan, and it provides benefits similar to those of a profit-sharing plan. But you can establish a SEP in 2019 and still make deductible 2018 contributions as late as the due date of your 2018 income tax return, including extensions. In addition, a SEP is easy to administer. For 2018, the maximum SEP contribution is $55,000.

3. Defined benefit plan. This plan sets a future pension benefit and then actuarially calculates the contributions needed to attain that benefit. The maximum annual benefit for 2018 is generally $220,000 or 100% of average earned income for the highest three consecutive years, if less. Because it’s actuarially driven, the contribution needed to attain the projected future annual benefit may exceed the maximum contributions allowed by other plans, depending on your age and the desired benefit.

You can make deductible 2018 defined benefit plan contributions until your tax return due date, including extensions, provided your plan exists on Dec. 31, 2018. Be aware that employer contributions generally are required.

Sound good?

If the benefits of setting up a retirement plan sound good, contact us. We can provide more information and help you choose the best retirement plan for your particular situation.

© 2018