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The Advantages of Using an LLC For Your Small Business

If you operate your small business as a sole proprietorship, you may have thought about forming a limited liability company (LLC) to protect your assets. Or maybe you’re launching a new business and want to know your options for setting it up. Here are the basics of operating as an LLC and why it might be a good choice for your business.

An LLC is a bit of a hybrid entity because it can be structured to resemble a corporation for owner liability purposes and a partnership for federal tax purposes. This duality may provide the owners with the best of both worlds.

Protecting your personal assets

Like the shareholders of a corporation, the owners of an LLC (called “members” rather than shareholders or partners) generally aren’t liable for the debts of the business except to the extent of their investment. Thus, the owners can operate the business with the security of knowing that their personal assets are protected from the entity’s creditors. This protection is much 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.

Tax issues

The owners of an LLC 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 benefits to the owners. 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 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. (However, keep in mind that the pass-through deduction is temporary. It’s available through 2025, unless Congress acts to extend it.)

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 a notable 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 corp is that LLCs aren’t subject to the restrictions the federal tax code imposes on S corps regarding the number of owners and the types of ownership interests that may be issued.

Consider all angles

In conclusion, an LLC can give you corporate-like protection from creditors while providing the benefits of taxation as a partnership. For these reasons, you may want to consider operating your business as an LLC. Contact us to discuss in more detail how an LLC might be an appropriate choice for you and the other owners.

© 2023

Advantages And Disadvantages Of Claiming Big First-Year Real Estate Depreciation Deductions

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.

Qualified improvement property

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.

Mind the limitations

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.

First-year bonus depreciation for QIP

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.

Consider depreciating QIP over time

Here are two reasons why you should think twice before claiming big first-year depreciation deductions for QIP.

1. Lower-taxed gain when property is sold

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.

2. Write-offs may be worth more in the future

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.

© 2023

 

FAQs

What are some potential tax consequences of taking large depreciation deductions in the first year of owning a property?

Taking large depreciation deductions in the first year of owning a property can have both immediate and long-term tax consequences. While it may reduce your taxable income for that year, it can also decrease your basis in the property, which may lead to higher capital gains taxes when you sell the property. Additionally, if you take a large depreciation deduction in the first year and then sell the property soon after, you may be subject to recapture taxes on the amount of depreciation claimed.

How do you determine the amount of depreciation to claim in the first year for a new property?

The amount of depreciation to claim in the first year for a new property is determined by using the Modified Accelerated Cost Recovery System (MACRS) established by the IRS. The MACRS system assigns a recovery period and depreciation method to each property based on its classification. For example, residential rental properties are typically assigned a 27.5-year recovery period and use the straight-line depreciation method. To calculate the first year’s depreciation, you would take the depreciable basis of the property (the original cost minus land value) and divide it by the assigned recovery period. The resulting amount is then multiplied by a percentage based on the chosen depreciation method and prorated for the portion of the year that the property was in service. It is recommended to consult with a tax professional or accountant for specific guidance on your individual situation.

What are some of the limitations of the first-year Section 179 depreciation deduction?

While the Section 179 depreciation deduction can provide significant tax savings for eligible businesses, there are some limitations to be aware of. Firstly, the maximum amount that can be deducted under Section 179 is subject to an annual limit ($1.16 million for qualifying assets placed in service in 2023), which is adjusted for inflation each year. Additionally, trusts and estates can’t claim Sec. 179 deductions, and noncorporate lessors face additional restrictions. Finally, there are limitations based on the total amount of qualifying property purchased during the year—if it exceeds a certain threshold in a given year, the Section 179 deduction may be reduced or eliminated entirely.

2023 Q3 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 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 

  • Report income tax withholding and FICA taxes for second quarter 2023 (Form 941) and pay any tax due. (See the exception below, under “August 10.”)
  • File a 2022 calendar-year retirement plan report (Form 5500 or Form 5500-EZ) or request an extension.

August 10 

  • Report income tax withholding and FICA taxes for second quarter 2023 (Form 941), if you deposited on time and in full all of the associated taxes due.

September 15

  • If a calendar-year C corporation, pay the third installment of 2023 estimated income taxes.
  • If a calendar-year S corporation or partnership that filed an automatic six-month extension:
    • File a 2022 income tax return (Form 1120-S, Form 1065 or Form 1065-B) and pay any tax, interest and penalties due.
    • Make contributions for 2022 to certain employer-sponsored retirement plans.

© 2023

Keep These DOs And DON’Ts In Mind When Deducting Business Meal And Vehicle Expenses

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.

Facts of the 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)

Stay on the right track

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.

© 2023

Q&As

What are some common mistakes that people make when claiming deductions for business meals or auto expenses?

Some common mistakes people make when claiming deductions for business meals or auto expenses include failing to keep accurate records of the expenses, claiming personal expenses as business expenses, and failing to meet the IRS requirements for deducting these expenses.

How do I keep accurate records of my business meals and auto expenses to comply with IRS requirements?

To help meet IRS substantiation requirements for business meal and auto expenses, include the date, amount, location, and purpose of the expense. For auto expenses, you should maintain a logbook that tracks your mileage and includes details such as the date, starting and ending locations, purpose of the trip, and total miles driven. It may also be helpful to keep receipts or other documentation to support your expenses.

Why does claiming deductions for business meals or auto expenses attract IRS attention?

Deducting business meal or auto expenses can attract IRS attention because these expenses are often over-reported or inaccurately reported. The IRS has specific rules and limitations for deducting these expenses, and if they are not properly documented or supported, it can trigger an audit. Additionally, some taxpayers may try to deduct personal expenses as business expenses, which is a red flag for the IRS. It is important to keep accurate records and follow all IRS guidelines when deducting business meal or auto expenses to avoid any potential issues with the IRS.

If You’re Hiring Independent Contractors, Make Sure They’re Properly Handled

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).

No One Definition

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.

You Can Ask The IRS But Think Twice

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.

How do I determine if someone is an employee or an independent contractor?

There is no uniform definition of the term “employee,” but 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. Various other factors, including the worker’s level of autonomy and independence and the nature of the work being performed, are also considered. The IRS provides guidance on this issue, including a set of criteria known as the “Common Law Rules,” which help employers determine whether a worker is an employee or an independent contractor.

What is the risk of asking the IRS (on Form SS-8) to rule on whether a worker is an independent contractor or employee?

Asking the IRS to rule on worker classification may trigger an audit and potential tax liabilities for the employer. The IRS may also require back payment of employment taxes, penalties, and interest. The IRS has a history of classifying workers as employees rather than independent contractors. Businesses should consult with us before filing Form SS-8 to avoid these issues.

What are some tax-related differences between employees and independent contractors?

There are several tax-related differences between employees and independent contractors. For example, businesses are obligated to withhold taxes from employees’ paychecks. For independent contractors, businesses are only required to issue form 1099-NEC (if compensation for the year was $600 or more) and are not obligated to withhold taxes.

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.

© 2023

Use The Tax Code To Make Business Losses Less Painful

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.

Qualifying for a deduction

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:

  • Business (Schedules C and F losses, or Schedule K-1 losses from partnerships or S corporations),
  • Casualty and theft losses from a federally declared disaster, or
  • Rental property (Schedule E).

The following generally aren’t allowed when determining your NOL:

  • Capital losses that exceed capital gains,
  • The exclusion for gains from the sale or exchange of qualified small business stock,
  • Nonbusiness deductions that exceed nonbusiness income,
  • The NOL deduction itself, and
  • The Section 199A qualified business income deduction.

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.

Limitations

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.

Excess business losses

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.

Planning ahead

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.

FAQS

How do I know if I qualify for a NOL deduction?

You may be eligible for the NOL deduction if your deductions for the tax year are greater than your income, as long as the deductions are related to your business, rental property, or casualty/theft losses from a federally declared disaster.

What are some limitations to the NOL deduction?

The following are a few limitations to the NOL deduction: the amount of NOL that can be deducted in a given year is limited to 80% of taxable income, NOLs can only be carried back for two years and carried forward for up to 20 years, and certain types of income—such as capital gains and dividends—may not be offset by NOLs.

What is the “excess business loss” NOL limitation?

The excess business loss limitation limits the amount of business losses that can be deducted from other sources of income, such as wages or investment income. The limitation applies to non-corporate taxpayers, such as sole proprietors and partners in partnerships. For 2023, the threshold is $289,000 ($578,000 if married filing jointly).

© 2023

Education Benefits Help Attract, Retain And Motivate Your Employees

One popular fringe benefit is an education assistance program that allows employees to continue learning and perhaps earn a degree with financial assistance from their employers. One way to attract, retain and motivate employees is to provide education fringe benefits so that team members can improve their skills and gain additional knowledge. An employee can receive, on a tax-free basis, up to $5,250 each year from his or her employer under a “qualified educational assistance program.”

For this purpose, “education” means any form of instruction or training that improves or develops an individual’s capabilities. It doesn’t matter if it’s job-related or part of a degree program. This includes employer-provided education assistance for graduate-level courses, including those normally taken by individuals pursuing programs leading to a business, medical, law or other advanced academic or professional degrees.

More requirements

The educational assistance must be provided under a separate written plan that’s publicized to your employees, and must meet a number of conditions, including nondiscrimination requirements. In other words, it can’t discriminate in favor of highly compensated employees. In addition, not more than 5% of the amounts paid or incurred by the employer for educational assistance during the year may be provided for individuals (including their spouses or dependents) who own 5% or more of the business.

No deduction or credit can be taken by the employee for any amount excluded from the employee’s income as an education assistance benefit.

Job-related education

If you pay more than $5,250 for educational benefits for an employee during the year, he or she must generally pay tax on the amount over $5,250. Your business should include the amount in income in the employee’s wages. However, in addition to, or instead of applying the $5,250 exclusion, an employer can satisfy an employee’s educational expenses on a nontaxable basis, if the educational assistance is job-related. To qualify as job-related, the educational assistance must:

  • Maintain or improve skills required for the employee’s then-current job, or
  • Comply with certain express employer-imposed conditions for continued employment.

“Job-related” employer educational assistance isn’t subject to a dollar limit. To be job-related, the education can’t qualify the employee to meet the minimum educational requirements for qualification in his or her employment or other trade or business.

Educational assistance meeting the above “job-related” rules is excludable from an employee’s income as a working condition fringe benefit.

Assistance with student loans

In addition to education assistance, some employers offer student loan repayment assistance as a recruitment and retention tool. Starting next year, employers can help more. Under the SECURE 2.0 law, an employer will be able to make matching contributions to 401(k) and certain other retirement plans with respect to “qualified student loan payments.” The result of this provision is 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. This will take effect in 2024.

Contact us to learn more about setting up an education assistance or student loan repayment plan at your business.

© 2023

4 Ways Corporate Business Owners Can Help Ensure Their Compensation Is “Reasonable”

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.

Steps to help protect yourself

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:

  1. Keep compensation in line with what similar businesses are paying their executives (and keep whatever evidence you can get of what others are paying to support what you pay).
  2. In the minutes of your corporation’s board of directors’ meetings, contemporaneously document the reasons for compensation paid. For example, if compensation is being increased in the current year to make up for earlier years in which it was low, be sure that the minutes reflect this. (Ideally, the minutes for the earlier years should reflect that the compensation paid then was at a reduced rate.) Cite any executive compensation or industry studies that back up your compensation amounts.
  3. Avoid paying compensation in direct proportion to the stock owned by the corporation’s shareholders. This looks too much like a disguised dividend and will probably be treated as such by the IRS.
  4. If the business is profitable, pay at least some dividends. This avoids giving the impression that the corporation is trying to pay out all of its profits as compensation.

You can avoid problems and challenges by planning ahead. Contact us if you have questions or concerns about your situation.

© 2023

Take Advantage Of The Rehabilitation Tax Credit When Altering Or Adding To Business Space

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:

  • Requires taxpayers to take the 20% credit ratably over five years instead of in the year they placed the building into service
  • Eliminated the 10% rehabilitation credit for pre-1936 buildings

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.

© 2023

Retirement Saving Options For Your Small Business: Keep It Simple

If you’re thinking about setting up a retirement plan for yourself and your employees, but you’re worried about the financial commitment and administrative burdens involved, there are a couple of options to consider. Let’s take a look at a “simplified employee pension” (SEP) or a “savings incentive match plan for employees” (SIMPLE).

SEPs are intended as an attractive alternative to “qualified” retirement plans, particularly for small businesses. The features that are appealing include the relative ease of administration and the discretion that you, as the employer, are permitted in deciding whether or not to make annual contributions.

SEP involves easy setup

If you don’t already have a qualified retirement plan, you can set up a SEP simply by using the IRS model SEP, Form 5305-SEP. By adopting and implementing this model SEP, which doesn’t have to be filed with the IRS, you’ll have satisfied the SEP requirements. This means that as the employer, you’ll get a current income tax deduction for contributions you make on behalf of your employees. Your employees won’t be taxed when the contributions are made but will be taxed later when distributions are made, usually at retirement. Depending on your needs, an individually-designed SEP — instead of the model SEP — may be appropriate for you.

When you set up a SEP for yourself and your employees, you’ll make deductible contributions to each employee’s IRA, called a SEP-IRA, which must be IRS-approved. The maximum amount of deductible contributions that you can make to an employee’s SEP-IRA, and that he or she can exclude from income, is the lesser of: 25% of compensation and $66,000 for 2023. The deduction for your contributions to employees’ SEP-IRAs isn’t limited by the deduction ceiling applicable to an individual’s own contribution to a regular IRA. Your employees control their individual IRAs and IRA investments, the earnings on which are tax-free.

There are other requirements you’ll have to meet to be eligible to set up a SEP. Essentially, all regular employees must elect to participate in the program, and contributions can’t discriminate in favor of the highly compensated employees. But these requirements are minor compared to the bookkeeping and other administrative burdens connected with traditional qualified pension and profit-sharing plans.

The detailed records that traditional plans must maintain to comply with the complex nondiscrimination regulations aren’t required for SEPs. And employers aren’t required to file annual reports with IRS, which, for a pension plan, could require the services of an actuary. The required recordkeeping can be done by a trustee of the SEP-IRAs — usually a bank or mutual fund.

SIMPLE Plans

Another option for a business with 100 or fewer employees is a “savings incentive match plan for employees” (SIMPLE). Under these plans, a “SIMPLE IRA” is established for each eligible employee, with the employer making matching contributions based on contributions elected by participating employees under a qualified salary reduction arrangement. The SIMPLE plan is also subject to much less stringent requirements than traditional qualified retirement plans. Or, an employer can adopt a “simple” 401(k) plan, with similar features to a SIMPLE plan, and automatic passage of the otherwise complex nondiscrimination test for 401(k) plans.

For 2023, SIMPLE deferrals are up to $15,500 plus an additional $3,500 catch-up contributions for employees ages 50 and older.

Contact us for more information or to discuss any other aspect of your retirement planning.

© 2023

The Tax Advantages Of Hiring Your Child This Summer

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.

1. Shifting business earnings

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.

2. Claiming income tax withholding exemption

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.

3. Saving Social Security tax

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.

4. Saving for retirement

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.

© 2023

2023 Q2 Tax Calendar: Key Deadlines For Businesses And Employers

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.

April 18

  • If you’re a calendar-year corporation, file a 2022 income tax return (Form 1120) or file for an automatic six-month extension (Form 7004) and pay any tax due.
  • For corporations pay the first installment of 2023 estimated income taxes.
  • For individuals, file a 2022 income tax return (Form 1040 or Form 1040-SR) or file for an automatic six-month extension (Form 4868) and pay any tax due.
  • For individuals, pay the first installment of 2023 estimated taxes, if you don’t pay income tax through withholding (Form 1040-ES).

May 1

  • Employers report income tax withholding and FICA taxes for the first quarter of 2023 (Form 941) and pay any tax due.

May 10

  • Employers report income tax withholding and FICA taxes for the first quarter of 2023 (Form 941), if they deposited on time and fully paid all of the associated taxes due.

June 15

  • Corporations pay the second installment of 2023 estimated income taxes.

© 2023

Do You Run A Business From Home? You May Be Able To Deduct Home Office Expenses

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.

How to qualify

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:

  1. You physically meet with patients, clients or customers on your premises, or
  2. You use a storage area in your home (or a separate free-standing structure, such as a garage) exclusively and regularly for business.

Expenses you can deduct

Many eligible taxpayers deduct actual expenses when they claim home office deductions. Deductible home office expenses may include:

  • Direct expenses, such as the cost of painting and carpeting a room used exclusively for business,
  • A proportionate share of indirect expenses, including mortgage interest, rent, property taxes, utilities, repairs and insurance, and
  • Depreciation.

But keeping track of actual expenses can take time and it requires organized recordkeeping.

The simpler method

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.

Changing methods 

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.

What if I sell the home?

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.

Different rules for employees

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

Protect The “Ordinary And Necessary” Advertising Expenses Of Your Business

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:

  • Reasonable advertising expenses that are directly related to the business activities.
  • An expense for the cost of institutional or goodwill advertising to keep the business name before the public if it relates to a reasonable expectation to gain business in the future. For example, the cost of advertising that encourages people to contribute to the Red Cross or to participate in similar causes is usually deductible.
  • The cost of providing meals, entertainment, or recreational facilities to the public as a means of advertising or promoting goodwill in the community.

Facts of the recent case

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)

Keep meticulous records

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.

© 2023

Buying A New Business Vehicle? A Heavy SUV Is A Tax-Smart Choice

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.

Depreciation rules

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 the calendar year 2023, the maximum depreciation and/or expensing deductions are:

  • $20,200 for the first tax year in its recovery period (2023 for calendar-year taxpayers);
  • $19,500 for the second tax year;
  • $11,700 for the third tax year; and
  • $6,960 for each succeeding tax year.

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

FAQs

How do tax depreciation rules differ for business-use vehicles versus personal-use vehicles?

The depreciation caps for business-use vehicles are lower than those for personal-use vehicles. This means it will take longer to fully depreciate a business-use vehicle than a personal-use vehicle.

What is the tax advantage of purchasing a heavy SUV rather than a lighter business vehicle?

A heavy, business-use SUV is a tax-smart choice compared to a lighter business vehicle because the annual depreciation caps that apply to lighter business vehicles do not apply to vehicles rated over 6,000 pounds. 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.

What are the requirements for a heavy SUV to qualify for the expensing election?

In order for a heavy SUV to qualify for the expensing election, it must be rated over 6,000 pounds and must be used for business-related activities more than 50% of the time.

Are there any tax expensing limits for heavy SUVs?

Yes. The inflation-adjusted limit for heavy SUVs is $28,900 for SUVs placed in service in 2023. 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.

Have Employees Who Receive Tips? Here Are The Tax Implications

Many businesses in certain industries employ individuals who receive tips as part of their compensation. These businesses include restaurants, hotels and salons.

Tip definition

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:

  1. The customer voluntarily makes the payment,
  2. The customer has the unrestricted right to determine the amount,
  3. The payment isn’t negotiated with, or dictated by, employer policy, and
  4. The customer generally has the right to determine who receives the payment.

 

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.

Daily tip records

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.

Reporting to employers

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:

  • The employee’s name, address, Social Security number and signature,
  • The employer’s name and address,
  • The month or period covered, and
  • Total tips received during the period.

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.

Employer requirements

Employers should send each employee a Form W-2 that includes reported tips. Employers also must:

  • Keep their employees’ tip reports.
  • Withhold taxes, including income taxes and the employee’s share of Social Security tax and Medicare tax, based on employees’ wages and reported tip income.
  • Pay the employer share of Social Security and Medicare taxes based on the total wages paid to tipped employees as well as reported tip income.
  • Report this information to the IRS on Form 941, Employer’s Quarterly Federal Tax Return.
  • Deposit withheld taxes in accordance with federal tax deposit requirements.

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.

What qualifies as a tip for tax purposes?

For tax purposes, a payment qualifies as a tip if the customer voluntarily makes the payment, the customer has unrestricted right to determine the amount, the payment isn’t negotiated with or dictated by employee policy, and the customer has the right to determine who receives the payment.

How should tipped workers keep track of their tips?

Tipped workers should use Form 4070A, Employee’s Daily Record of Tips, to keep track of their cash tips.

When should employees report tips to employers?

Employees must report tips to employers by the 10th of the month following the month they were received.

What is the difference between a direct tip and an indirect tip?

A direct tip is received directly from the customer (including as part of a tip pool), while an indirect tip occurs when an employee who doesn’t normally receive a tip receives one (i.e. a cook in a restaurant).

Tip tax credit

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

Many Tax Limits Affecting Businesses Have Increased For 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.

Social Security tax

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).

Deductions

  • Section 179 expensing:
    • Limit: $1.16 million (up from $1.08 million)
    • Phaseout: $2.89 million (up from $2.7 million)
  • Income-based phase-out for certain limits on the Sec. 199A qualified business income deduction begins at:
    • Married filing jointly: $364,200 (up from $340,100)
    • Other filers: $182,100 (up from $170,050)

Retirement plans

  • Employee contributions to 401(k) plans: $22,500 (up from $20,500)
  • Catch-up contributions to 401(k) plans: $7,500 (up from $6,500)
  • Employee contributions to SIMPLEs: $15,500 (up from $14,000)
  • Catch-up contributions to SIMPLEs: $3,500 (up from $3,000)
  • Combined employer/employee contributions to defined contribution plans (not including catch-ups): $66,000 (up from $61,000)
  • Maximum compensation used to determine contributions: $330,000 (up from $305,000)
  • Annual benefit for defined benefit plans: $265,000 (up from $245,000)
  • Compensation defining a highly compensated employee: $150,000 (up from $135,000)
  • Compensation defining a “key” employee: $215,000 (up from $200,000)

Other employee benefits

  • Qualified transportation fringe-benefits employee income exclusion: $300 per month (up from $280)
  • Health Savings Account contributions:
    • Individual coverage: $3,850 (up from $3,650)
    • Family coverage: $7,750 (up from $7,300)
    • Catch-up contribution: $1,000 (no change)
  • Flexible Spending Account contributions:
    • Health care: $3,050 (up from $2,850)
    • Dependent care: $5,000 (no change)

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

 

Employers Should Be Wary Of ERC Claims That Are Too Good To Be True

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.

ERC Basics

The ERC is a refundable tax credit designed for businesses that:

  • Continued paying employees while they were shut down due to the COVID-19 pandemic, or
  • Had significant declines in gross receipts from March 13, 2020, to September 30, 2021 (or December 31, 2021 for certain startup businesses).

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:

  • Sustained a full or partial suspension of operations due to orders from an appropriate governmental authority limiting commerce, travel, or group meetings due to COVID-19 during 2020 or the first three quarters of 2021,
  • Experienced a significant decline in gross receipts during 2020 or a decline in gross receipts during the first three quarters of 2021, or
  • Qualified as a recovery startup business for the third or fourth quarters of 2021.

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.

How to Proceed

If you didn’t claim the ERC, and believe you’re eligible, contact us. We can advise you on how to proceed.

© 2023

The Standard Business Mileage Rate Is Going Up In 2023

Although the national price of gas is a bit lower than it was a year ago, the optional standard mileage rate used to calculate the deductible cost of operating an automobile for business will be going up in 2023. The IRS recently announced that the 2023 cents-per-mile rate for the business use of a car, van, pickup or panel truck is 65.5 cents. These rates apply to electric and hybrid-electric automobiles, as well as gasoline and diesel-powered vehicles.

In 2022, the business cents-per-mile rate for the second half of the year (July 1 – December 31) was 62.5 cents per mile, and for the first half of the year (January 1 – June 30), it was 58.5 cents per mile.

How rate calculations are done

The 3-cent increase from the 2022 midyear rate is somewhat surprising because gas prices are currently lower than they have been. On December 29, 2022, the national average price of a gallon of regular gas was $3.15, compared with $3.52 a month earlier and $3.28 a year earlier, according to AAA Gas Prices. However, the standard mileage rate is calculated based on all the costs involved in driving a vehicle — not just the price of gas.

The business cents-per-mile rate is adjusted annually. It’s based on an annual study commissioned by the IRS about the fixed and variable costs of operating a vehicle, including gas, maintenance, repair and depreciation. Occasionally, if there’s a substantial change in average gas prices, the IRS will change the cents-per-mile rate midyear, as it did in 2022.

Standard rate versus actual expenses

Businesses can generally deduct the actual expenses attributable to business use of vehicles. This includes gas, oil, tires, insurance, repairs, licenses and vehicle registration fees. In addition, you can claim a depreciation allowance for the vehicle. However, in many cases, certain limits apply to depreciation write-offs on vehicles that don’t apply to other types of business assets.

The cents-per-mile rate is beneficial if you don’t want to keep track of actual vehicle-related expenses. With this method, you don’t have to account for all your actual expenses. However, you still must record certain information, such as the mileage for each business trip, the date and the destination.

Using the cents-per-mile rate is also popular with businesses that reimburse employees for business use of their personal vehicles. These reimbursements can help attract and retain employees who drive their personal vehicles a great deal for business purposes. Why? Under current law, employees can’t deduct unreimbursed employee business expenses, such as business mileage, on their own income tax returns.

If you do use the cents-per-mile rate, keep in mind that you must comply with various rules. If you don’t comply, the reimbursements could be considered taxable wages to the employees.

The standard rate can’t always be used

There are some cases when you can’t use the cents-per-mile rate. It partly depends on how you’ve claimed deductions for the same vehicle in the past. In other situations, it depends on if the vehicle is new to your business this year or whether you want to take advantage of certain first-year depreciation tax breaks on it.

As you can see, there are many factors to consider in deciding whether to use the standard mileage rate to deduct vehicle expenses. We can help if you have questions about tracking and claiming such expenses in 2023 — or claiming 2022 expenses on your 2022 income tax return.

© 2023

2023 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 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.

January 17 (The usual deadline of January 15 is on a Sunday and January 16 is a federal holiday)

  • Pay the final installment of 2022 estimated tax.
  • Farmers and fishermen: Pay estimated tax for 2022. If you don’t pay your estimated tax by January 17, you must file your 2022 return and pay all tax due by March 1, 2023, to avoid an estimated tax penalty.

January 31

  • File 2022 Forms W-2, “Wage and Tax Statement,” with the Social Security Administration and provide copies to your employees.
  • Provide copies of 2022 Forms 1099-NEC, “Nonemployee Compensation,” to recipients of income from your business where required.
  • File 2022 Forms 1099-MISC, “Miscellaneous Income,” reporting nonemployee compensation payments in Box 7, with the IRS.
  • File Form 940, “Employer’s Annual Federal Unemployment (FUTA) Tax Return,” for 2022. 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 10 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 2022. 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 10 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 2022 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 10 to file the return.

February 15

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:

  • All payments reported on Form 1099-B.
  • All payments reported on Form 1099-S.
  • Substitute payments reported in box 8 or gross proceeds paid to an attorney reported in box 10 of Form 1099-MISC.

February 28

  • File 2022 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 March 31.)

March 15

  • If a calendar-year partnership or S corporation, file or extend your 2022 tax return and pay any tax due. If the return isn’t extended, this is also the last day to make 2022 contributions to pension and profit-sharing plans.

© 2022

Do You Qualify For The QBI Deduction? And Can You Do Anything By Year-End To Help Qualify?

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:

  • Available to owners of sole proprietorships, single-member limited liability companies (LLCs), partnerships, and S corporations, as well as trusts and estates.
  • Intended to reduce the tax rate on QBI to a rate that’s closer to the corporate tax rate.
  • Taken “below the line.” In other words, it reduces your taxable income but not your adjusted gross income.
  • Available regardless of whether you itemize deductions or take the standard deduction.

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.

Year-end planning tip

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

Choosing A Business Entity? Here Are The Pros And Cons Of A C Corporation

If you’re launching a new business venture, you’re probably wondering which form of business is most suitable. Here is a summary of the major advantages and disadvantages of doing business as a C corporation.

A C corporation allows the business to be treated and taxed as a separate entity from you as the principal owner. A properly structured corporation can protect you from the debts of the business yet enable you to control both day-to-day operations and corporate acts such as redemptions, acquisitions and even liquidations. In addition, the corporate tax rate is currently 21%, which is lower than the highest noncorporate tax rate.

Following formalities

In order to ensure that a corporation is treated as a separate entity, it’s important to observe various formalities required by your state. These include:

  • Filing articles of incorporation,
  • Adopting bylaws,
  • Electing a board of directors,
  • Holding organizational meetings, and
  • Keeping minutes of meetings.

Complying with these requirements and maintaining an adequate capital structure will ensure that you don’t inadvertently risk personal liability for the debts of the business.

Potential disadvantages

Since the corporation is taxed as a separate entity, all items of income, credit, loss and deduction are computed at the entity level in arriving at corporate taxable income or loss. One potential disadvantage to a C corporation for a new business is that losses are trapped at the entity level and thus generally cannot be deducted by the owners. However, if you expect to generate profits in year one, this might not be a problem.

Another potential drawback to a C corporation is that its earnings can be subject to double tax — once at the corporate level and again when distributed to you. However, since most of the corporate earnings will be attributable to your efforts as an employee, the risk of double taxation is minimal since the corporation can deduct all reasonable salary that it pays to you.

Providing benefits, raising capital

A C corporation can also be used to provide fringe benefits and fund qualified pension plans on a tax-favored basis. Subject to certain limits, the corporation can deduct the cost of a variety of benefits such as health insurance and group life insurance without adverse tax consequences to you. Similarly, contributions to qualified pension plans are usually deductible but aren’t currently taxable to you.

A C corporation also gives you considerable flexibility in raising capital from outside investors. A C corporation can have multiple classes of stock — each with different rights and preferences that can be tailored to fit your needs and those of potential investors. Also, if you decide to raise capital through debt, interest paid by the corporation is deductible.

Although the C corporation form of business might seem appropriate for you at this time, you may in the future be able to change from a C corporation to an S corporation, if S status is more appropriate at that time. This change will ordinarily be tax-free, except that built-in gain on the corporate assets may be subject to tax if the assets are disposed of by the corporation within 10 years of the change.

The optimum choice

This is only a brief overview. Contact us if you have questions or would like to explore the best choice of entity for your business.

© 2022

Intangible Assets: How Must The Costs Incurred Be Capitalized

These days, most businesses have some intangible assets. The tax treatment of these assets can be complex.

What makes intangibles so complicated?

IRS regulations require the capitalization of costs to:

  • Acquire or create an intangible asset,
  • Create or enhance a separate, distinct intangible asset,
  • Create or enhance a “future benefit” identified in IRS guidance as capitalizable, or
  • “Facilitate” the acquisition or creation of an intangible asset.

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.

What’s an intangible?

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:

  • Amounts paid to obtain, renew, renegotiate or upgrade a business or professional license;
  • Amounts paid to modify certain contract rights (such as a lease agreement);
  • Amounts paid to defend or perfect title to intangible property (such as a patent); and
  • Amounts paid to terminate certain agreements, including, but not limited to, leases of the taxpayer’s tangible property, exclusive licenses to acquire or use the taxpayer’s property, and certain non-competition agreements.

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:

  • Outside counsel to draft and negotiate a lease agreement;
  • Attorneys, accountants and appraisers to establish the value of a corporation's stock in a buyout of a minority shareholder;
  • Outside consultants to investigate competitors in preparing a contract bid; and
  • Outside counsel for preparation and filing of trademark, copyright and license applications.

Are there any exceptions?

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.

Need help or have questions?

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

Is Your Business Closing? Here Are Your Final Tax Responsibilities

Businesses shut down for many reasons. Some of the reasons that businesses shutter their doors:

  • An owner retirement,
  • A lease expiration,
  • Staffing shortages,
  • Partner conflicts, and
  • Increased supply costs.

If you’ve decided to close your business, we’re here to assist you in any way we can, including taking care of the various tax obligations that must be met.

For example, a business must file a final income tax return and some other related forms for the year it closes. 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 Schedules 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. Corporate 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.

Duties involving 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.”

More tax issues to consider

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.

© 2022

Computer Software Costs: How Does Your Business Deduct Them?

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.

Software you buy

Some software costs are deemed to be costs of “purchased” software, meaning it’s either:

  • Non-customized software available to the general public under a nonexclusive license, or
  • Acquired from a contractor who is at economic risk should the software not perform.

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.

Software that’s leased

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.

Software that’s developed

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.

We can help

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.

© 2022

Inflation Enhances The 2023 Amounts For Health Savings Accounts

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.

© 2022

How Do Taxes Factor Into An M&A Transaction?

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.

© 2022

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