As we continue to contend with the pandemic and the economic consequences, the tax function plays a critical role in navigating recovery. Effective tax strategy can preserve cash flow, lower costs, and work in unison with your busines strategy. Please carefully consider how these items affect your business. Please do not hesitate to contact us for clarification or to answer questions. We are honored and grateful by the confidence you continue to place in us as we aspire to be your trusted tax advisor.
Firm Policy Note: We will be sending out engagement letters in a couple of weeks. Please review, sign, and return your engagement letter. Our firm policy does not allow us to complete your tax return until we have the signed engagement letter.
New Tax Legislation
We have highlighted select provisions that could have an impact on your business tax planning. Congress passed the COVID-related legislation in a hurried fashion, without time to address the many uncertainties that would predictably arise. Over the last several months we have experienced a stream of piecemeal guidance from the IRS and Small Business Administration (SBA). As we finish this letter, we are still waiting for guidance on many unanswered questions. We continue to monitor the development, so please call if you need additional information regarding any of the topics discussed below.
Coronavirus Aid, Relief and Economic Security Act (“CARES Act”):
- Established the PPP (Paycheck Protection Program) loans.
- Provided the “fix” for the drafting error in the Tax Cuts and Jobs Act of 2017 on the depreciation of qualified improvement property (QIP).
- QIP placed in service in 2018 or 2019 retroactively qualifies for the 100% 168(k) bonus depreciation.
- Tax Tip! This is great news for taxpayers that have previously capitalized post-2017 remodeling costs for existing restaurants, retail stores, and office buildings.
- So long as the qualifying improvements to the remodeled property was placed in service after 2017, the capitalized remodeling should now qualify for a 100% write off under 168(k).
- Planning Alert! Recently issued final 168(k) regulations confirm that a purchaser of an existing commercial building containing QIP made by a previous owner, will not be able to treat any portion of the building’s purchase price as QIP.
- Temporarily reinstates the NOL (net operating loss) carryback deduction. Losses generated in 2018, 2019, and 2020 can be carried back for five years. This is an incentive to accelerate depreciation and other deductions and create a loss in 2020, because the prohibition on NOL carrybacks will return for tax year
- Allows for deferral of employer FICA taxes. Employers can defer payment of their employer 6.2% of FICA into the future, for payroll between March 27, 2020 through December 31, 2020. The accumulated balance is half due on December 31, 2021, and the other half is due December 31, 2022. There are no other requirements here. If you are not participating and would like to, there is still time to do this. Originally, under the CARES Act, businesses could not both do this and take a PPP loan, but the PPP Flexibility Act enacted on June 5, 2020 removed that requirement.
- Provided that employer assistance payments on employee student loans can be excluded from income up to $5,250 in 2020 (the requirements here are particularly technical so be sure you understand how this works).
Paycheck Protection Program Loans (PPP Loans): This aspect of the CARES Act created an SBA loan for businesses that can be completely forgiven when the funds are used for qualifying business expenses.
- On November 18, 2020, the U.S. Treasury Department and the IRS issued guidance clarifying that expenses paid with forgiven PPP loans do not qualify for a business expense tax deduction.
- Revenue Ruling 2020-27 states that PPP recipients may not deduct certain expenses if, at the end of the taxable year, the taxpayer reasonably expects the PPP loan to be forgiven.
- The ruling also denies a deduction for expenses paid with PPP loan proceeds if the taxpayer intends to apply for loan forgiveness in the next taxable year but did not do so by the end of the 2020 taxable year.
- Revenue Procedure 2020-51 provides a safe harbor for PPP participants who received partial loan forgiveness or elected to forego forgiveness to claim the deduction. Participants who did not request loan forgiveness can claim a deduction for the taxable year in which they decided to forgo the forgiveness request.
If your business received a PPP loan, please let us know if you require assistance with the forgiveness process, or if you would like us to run a tax estimate.
Plan to Maximize Tax Depreciation
Bonus Depreciation Deduction: The Tax Cuts and Jobs Act (TCJA) provided very generous depreciation and expensing limitations. Businesses may take advantage of Section 168(k) Bonus Depreciation to 100% for first year depreciation on machinery and equipment purchased during the year. Additionally, Code Section 179 depreciation investment limitation of up to $2,590,000 for 2020, with a dollar limitation of $1,040,000.
- 168(k) Bonus Depreciation may be taken on “new” or “used” property.
- Property that generally qualifies for the 168(k) Bonus Depreciation includes business property that has a depreciable life for tax purposes of 20 years or less, for example, machinery and equipment, furniture and fixtures, sidewalks, roads, landscaping, computers and computer software.
- Tax Tip! 100% Bonus Depreciation for used property generally makes cost segregation studies more valuable. Depreciable components of a building that are properly classified as depreciable personal property under a cost segregation study are generally depreciated over 5 to 7 years.
- New or used trucks, vans, and SUVs over 6,000 pounds GVW may be eligible for 100% expensing in the year of acquisition if used 100% for business.
- For SUVs and some trucks under 6,000 pounds Gross Vehicle Weight (GVW), the first year maximum is $25,900 in 2020.
- Luxury vehicles have additional limitations.
S-Corporation Wages and Shareholder Basis
Planning Alert! If the S-Corporation expects a loss in 2020, the shareholders should ensure they have sufficient basis to deduct the losses on their individual income tax return. If you do not, you may consider increasing your basis in the entity, for example, by making a capital contribution in order to take the loss in 2020.
- For any business operating as an S-corporation, it is important to ensure that shareholders involved in running the business are paid an amount that is commensurate with their workload.
- The IRS scrutinizes S-corporations which distribute profits instead of paying wages subject to employment taxes.
- The key to establishing reasonable compensation is being able to show that the compensation paid for the type of work an owner-employee does for the S-corporation is similar to what other corporations would pay for similar work.
- If you are in this situation, we need to document the factors that support the salary you are being paid.
Deductions for Business Expenses Paid by Partners and Shareholders May Be Limited.
Historically, the IRS has ruled that a partner may deduct business expenses paid on behalf of the partnership only if there is an agreement (preferably in writing) between the partner and the partnership providing that those expenses are to be paid by the partner, and that the expenses will not be reimbursed by the partnership.
- Tax Tip. If you are a partner paying unreimbursed expenses on behalf of your partnership, to be safe, you should have a written agreement with the partnership providing that those expenses are to be paid by you, and that the expenses will not be reimbursed by the partnership.
- Planning Alert! The Courts continue to hold that a corporate shareholder may not deduct expenses the shareholder pays on behalf of the corporation unless the shareholder is employed by the corporation, the shareholder is required to incur the expenses as a part of his or her duties as an employee, and there is an agreement or understanding that the corporation will not reimburse the expenses.
- Even then, if the expenses incurred by the shareholder-employee are not reimbursed by the corporation, they would generally be classified as miscellaneous itemized deductions. Miscellaneous itemized deductions are not deductible from 2018 through 2025.
- Tax Tip. If business expenses paid by a shareholder/employee of an S-corporation or C-corporation are reimbursed to the shareholder under a qualified Accountable Reimbursement Arrangement, the corporation can generally take a deduction for the reimbursement (subject to the 50% limit on business meals), and the shareholder/employee will exclude the reimbursement from taxable income.
- Consequently, to preserve a deduction for a business expense a shareholder incurs on behalf of the corporation (whether an S-corporation or C-corporation), the corporation must reimburse the shareholder/employee under an Accountable Reimbursement Arrangement.
20% 199A Deduction for Qualified Business Income (QBI) In certain situations, the rules for determining whether you qualify for 199A Deduction can be complicated. Hence, the discussion below provides only an overview of the primary requirements a taxpayer must satisfy to be eligible to take the 199A Deduction.
- The amount of the QBI deduction is generally 20% of qualifying business income from a qualified trade or business.
- A qualified trade or business means any trade or business other than (1) a specified service trade or business, or (2) the trade or business of being an employee.
- A specified service trade or business is defined as any trade or business involving the performance of services in the fields of health, law, accounting, actuarial science, performing arts, consulting, athletics, financial services, brokerage services, trading or dealing in securities, partnership interests or commodities, and any trade or business where the principal asset of such trade or business is the reputation or skill of one or more of its employees. Engineering and architecture services are specifically excluded from the definition of a specified service trade or business.
However, a special rule allows you to take this deduction even if you have a specified service trade or business. Under that rule, the provision disqualifying such businesses from being considered a qualified trade or business for purposes of the qualified business income deduction does not apply to individuals with taxable income of less than $163,300 (single), and $326,600 (joint filers).
After an individual reaches the threshold amount, the restriction is phased in over a range of $50,000 in taxable income ($100,000 for joint filers). Thus, if your income falls within the applicable range, you are allowed a partial deduction. Once the end of the range is reached, the deduction is completely disallowed.
The QBI is complex, and tax planning strategies can directly affect the amount of deduction; i.e., increase or reduce the dollar amount. As such it is especially important to call the office before year’s end to determine the best way to maximize the deduction.
Accountable Reimbursement Arrangement
Good News! – An Employer’s Qualified Reimbursement of an employee’s business expenses are deductible by the employer and tax-free to the employee.
- Generally, employee business expenses that are reimbursed under an employer’s qualified Accountable Reimbursement Arrangement are deductible by the employer (subject to the 50% limit on business meals), and the reimbursements are not taxable to the employee.
- However, reimbursements under an arrangement that is not a qualified Accountable Reimbursement Arrangement generally must be treated as compensation and included in the employee’s W-2, and the employee would get no offsetting deduction for the business expense.
- Planning Alert! Generally, for a reimbursement arrangement to qualify as an Accountable Reimbursement Arrangement:
- The employer must maintain a reimbursement arrangement that requires the employee to substantiate covered expenses,
- The reimbursement arrangement must require the return of amounts paid to the employee that are in excess of the amounts substantiated, and
- There must be a business connection between the reimbursement (or advance) and anticipated business expenses.
Restrictions on Deducting Entertainment Expenses
Generally, business expenses related to entertainment, amusement or recreation are not deductible beginning after 2017.
- Planning Alert! The IRS announced that businesses can still deduct 50% of the cost of meals with a business associate, a current or potential business customer, client, supplier, employee, agent, partner, or professional advisor.
- In addition, the IRS stated that a taxpayer could deduct 50% of the cost of food and beverages provided during a nondeductible entertainment activity with a business associate provided the food and beverages are purchased separately from the entertainment, or the cost of the food and beverages is stated separately from the cost of the entertainment on one or more bills, invoices, or receipts.
- NOTE: If an employer reimburses an employee’s deductible business meal and beverage expense under an Accountable Reimbursement Arrangement, the employer could deduct 50% of the reimbursement.
Year-end W-2 Reminders
Year-end adjustments may be necessary before you file your W-2. Below are some helpful payroll reminders:
- If you provide a company vehicle to any employee (including company owners), the value of the personal use of the vehicle must be included in the W-2. This is income for federal and state withholding, FICA, Medicare, and federal and state unemployment tax purposes.
- For the company vehicle and similar non-cash compensation, you need to calculate this additional W-2 income before the last payroll of the year to withhold additional tax from the last payroll, if
- If you provide group term life insurance in excess of $50,000 to employees, the value of the life insurance in excess of the $50,000 must be included in the W-2.
- For S-corporations, the amount the company paid for accident and health insurance (including dental, cancer, long-term care, and other policies) must be included in the W-2 of certain shareholders (those owning more than 2% directly or indirectly of the company, including spouses, children, parents, and grandchildren). The amount paid is taxable for federal and state withholding purposes, but is not taxable for FICA, Medicare, or federal and state unemployment tax
Year-end Form 1099 Information Reporting Requirements
New for 2020: Some Form 1099 payments will now be reported on the new Form 1099-NEC, instead of Form 1099-MISC. These payments include nonemployee compensation and any non-employee payments in a trade or business that include backup withholding.
Please let us know, no later than, January 15, 2021, if you require assistance with Form 1099 filings. The 2020 Form 1099 are due by February 1, 2021.
Please call our office today at 281-406-8984 so we can set up an appointment for a year-end review. We will gladly assist you with planning and implementing any ideas in this letter. We can estimate your tax liability for the year and determine whether any estimated tax payments may be due before year end. Planning can help you minimize your tax bill and position you for greater success.
Tammy Mihail, CPA
Tamara L. Mihail CPA, LLC
These general guidelines are based on information from the Internal Revenue Service and other resources believed to be reliable; however, their accuracy or completeness cannot be guaranteed. These are only guidelines. The firm, its employees, and staff make no representation guarantee or warranty, express or implied, that this compilation is error-free orthat the use of this letter will prevent differences of opinion or disputes, and assumes no liability whatsoever in connection with its use. Please note that statements made in this letter may be subject to change depending on any revisions to the tax code or any additional changes in government policy.