New Legislation – BusinessesJan 29, 2018
After months of intense negotiations, the President signed the “Tax Cuts And Jobs Act Of 2017” (the “New Law”) on December 22, 2017 – the most significant tax reform since 1986! It is no overstatement to say that this mammoth tax bill will have a significant impact on virtually every business and individual. Generally starting in 2018, the New Law: Reduces income tax rates for the vast majority of individual taxpayers; Substantially increases the standard deduction; Reduces or eliminates altogether certain itemized deductions; Expands or modifies certain child and dependent tax incentives; Modifies certain tax incentives for education costs; Restricts or eliminates certain employee tax-free fringe benefits; Eliminates the alternative minimum tax for corporations; Doubles the estate tax exemption; Significantly reduces the corporate tax rate; Provides for more rapid business write-offs for capital expenditures; Reduces the tax burden on owners of pass-through business entities (e.g., proprietorships, partnerships, LLCs, S corporations); and much more.
This letter highlights tax changes in the New Law we believe will have the greatest impact on our individual and business clients. The New Law’s legislative text exceeds 400 pages. Consequently, this letter highlights only selected changes. If you have questions concerning other provisions in the New Law not discussed in this letter, please call our office for details. Also, we suggest you call our firm before implementing any tax planning technique discussed in this letter. You cannot properly evaluate a particular planning strategy without calculating your overall tax liability with and without that strategy. This letter contains ideas for Federal income tax planning only. State income tax issues are not addressed.
SELECTED TAX REFORM PROVISIONS PRIMARILY IMPACTING BUSINESSES
(Please note, unless we indicate otherwise, each of the changes below has no scheduled sunset date)
Reduction In Corporate Tax Rate. For tax years beginning after 2017, the New Law provides for a flat tax rate of 21% (down from a top 35% rate) for regular “C” corporations. “Personal Service Corporations” (PSCs) are also subject to the flat 21% tax rate (down from a 35% flat tax rate). A PSC is generally a “C” corporation that is primarily in the business of providing services in the areas of health, law, accounting, engineering, architecture, actuarial sciences, performing arts, or consulting.
Repeal Of Corporate Alternative Minimum Tax (AMT). The New Law repeals the corporate AMT for tax years beginning after 2017. A corporation will be allowed a refundable credit for each of the tax years beginning in 2018, 2019, and 2020 equal to 50% of unused AMT credit carryovers to those respective years in excess of the regular tax for those years. Any AMT credit carryover amount that remains unused after applying it to the 2021 regular tax is 100% refundable.
NEW 20% DEDUCTION FOR QUALIFYING INCOME
Background. Effective for tax years beginning after 2017, the New Law creates a new 20% deduction that is generally provided to noncorporate taxpayers receiving certain qualifying income. Planning Alert! Although not discussed in detail in this letter, a similar 20% deduction is allowed to certain agricultural and horticultural cooperatives that satisfy specific criteria. Caution! While most new tax provisions primarily impacting businesses under the New Law do not have an expiration date, this 20% deduction does expire after 2025!
Income Qualifying For The 20% Deduction. The following types of income generated by partnerships, S corporations, sole proprietorships, trusts, and estates may qualify for the 20% deduction: “Qualified Business Income,” “Qualified Cooperative Dividends,” “Qualified REIT Dividends,” and “Qualified Publically-Traded Partnership Income.” Please note that, of these four types of qualifying income, the most common will, in all likelihood, be “Qualified Business Income”(QBI). Consequently, the remainder of this discussion focuses only on QBI.
“Qualified Business Income.” “Qualified Business Income”(QBI) is generally defined as the net amount of qualified items of income, gain, deduction, and loss with respect to “any” trade or business other than 1) Certain personal service businesses are known as “Specified Service Trade Or Businesses”(described in more detail below), and 2) The trade or business of performing services “as an employee.” QBI does not include: 1) Dividends, investment interest income, short-term capital gains, long-term capital gains, income from annuities, commodities gains, foreign currency gains, etc., 2) Reasonable compensation paid by a qualified trade of business for services rendered to the taxpayer claiming the 20% deduction, 3) Any “guaranteed payment”paid to a partner for services actually rendered to or on behalf of the partnership, or 4) To the extent provided in regulations, any amount allocated or distributed by a partnership to a partner who is acting other than in his or her capacity as a partner for services rendered to a partnership.
The Amount Of The 20% Deduction. The amount of the 20% deduction with respect to Qualified Business Income is generally the lesser of: 1) 20% of the owner’s share of “Qualified Business Income”(QBI) from the owner’s interest in each “Qualified Trade or Business,”or 2) The owner’s share of the W-2 Wage and Capital Limitation (if applicable) for each such trade or business interest. The aggregate 20% deduction for QBI also cannot exceed 20% of the excess of the taxpayer’s “taxable income”over the taxpayer’s “net capital gains.”Caution! Although we do not discuss the detailed workings of the “W-2 Wage and Capital Limitation” in this letter, this limitation is generally designed to ensure that the maximum 20% deduction is available only to qualified businesses that have sufficient W-2 wages, sufficient tangible depreciable business property, or both. Also, otherwise qualifying owners of pass-through entities are entirely exempt from the W-2 Wage And Capital Limitation if the owner’s “taxable income” (computed without regard to the 20%deduction) does not exceed $157,500 or $315,000 (if filing jointly). However, the Wage and Capital Limitation phases in as an owner’s taxable income go from more than $157,500 to $207,500 or from more than$315,000 to $415,000 (if filing jointly).
“Specified Service Trade Or Businesses” Generally Do Not Qualify For The 20% Deduction Unless Owner’s Taxable Income Less Than $415,000/$207,500. A “Specified Service Trade or Business” (SSTB) generally does not qualify for the 20% deduction. An SSTB is any trade or business activity involving the performance of services in the fields of health, law, accounting, actuarial science, performing arts, consulting, athletics, financial services, brokerage services, 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, or any trade or business involving the services of investing and investment management, trading, or dealing in securities, partnership interests, or commodities. Note! An “SSTB” does not include the performance of architectural or engineering services. Planning Alert! The 20% deduction is allowed for an owner of an SSTB if the owner’s “taxable income” (computed without regard to the 20% deduction) does not exceed $157,500 or $315,000 (if filing jointly). The deduction is phased-out as an owner’s taxable income goes from more than $157,500 to $207,500 or from more than $315,000 to $415,000 (if filing jointly).
Other Rules. The 20% deduction: 1) Does not reduce the owner’s “self-employment” income for purposes of determining S/E Tax, 2) Does not reduce the owner’s “adjusted gross income”(AGI), although it does reduce the owner’s “taxable income,” and 3) Is available to taxpayers using the standard deduction.
EXPANDED WRITE-OFFS FOR CERTAIN CAPITAL EXPENDITURES
100% First-Year 168(k) Bonus Depreciation Deduction. For the past several years, one of the most popular tax-favored deductions has been the 168(k) Bonus Depreciation deduction. Under prior law, the 168(k) deduction was equal to 50% of the cost of qualifying “new” depreciable assets placed-in-service during 2017 and was scheduled to drop to 40% for 2018. However, the New Law increases the 168(k) Bonus Depreciation deduction to 100% for qualifying new and “used” property acquired and placed-in-service after September 27, 2017, and before January 1, 2023. Therefore, under the New Law, property that generally qualifies for the 168(k) Bonus Depreciation includes “new”or “used”business property that has a depreciable life for tax purposes of 20 years or less (e.g., machinery and equipment, furniture and fixtures, sidewalks, roads,
landscaping, computers, computer software, farm buildings, and qualified motor fuels facilities).
- Business Vehicles. Vehicles used primarily in business generally qualify for the 168(k) Bonus Depreciation. However, there is a dollar cap imposed on business cars and trucks that have a loaded vehicle weight of 6,000 lbs or less. More specifically, vehicles acquired and placed-in-service in 2017 and used 100% for business are generally allowed maximum depreciation (including the Section 179 deduction as discussed below) of $3,160 ($3,560 for trucks and vans) for However, these caps are increased by $8,000 (i.e., to $11,160 and $11,560 for trucks and vans) for qualifying vehicles. For qualifying vehicles acquired and placed-in-service after September 27, 2017, the New Law retains this $8,000 increase through 2022. Moreover, for qualifying vehicles placed-in-service after 2017, the New Law increases the annual depreciation caps (without regard to the $8,000 increase) as follows: 1st year
- $10,000 (up from $3,160 if placed-in-service in 2017); 2nd year – $16,000 (up from $5,100); 3rd year
- $9,600 (up from $3,050); fourth and subsequent years – $5,760 (up from $1,875)
Expansion Of The 179 Deduction. Effective for property placed-in-service in tax years beginning after 2017, the New Law increases the 179 Deduction limitation to $1,000,000 (up from $510,000 for 2017) and increases the phase-out threshold to $2,500,000 (up from $2,030,000 for 2017). These caps are to be indexed for inflation after 2018. Also, the $25,000 cap for SUVs remains, but will be indexed for inflation beginning in 2019. In addition, the prior law did not allow the 179 deductions for property used in connection with lodging (other than hotels, motels, etc.). Effective for property placed-in-service in tax years beginning after 2017, the New Law removes this restriction, so the 179 Deduction is now allowed for otherwise qualifying property used in connection with lodging. Moreover, effective for property placed-in-service in tax years beginning after 2017, the New Law allows the 179 Deduction for: 1) “Qualified Improvement Property”(which is generally an improvement to the interior portion of a commercial building [provided the improvement is not attributable to an enlargement of the building, elevators or escalators, or the internal structural framework of the building], if the improvement is placed-in-service after the building was first placed-in-service), and 2) “Specified Improvements To Commercial Real Property” (which generally include any of the following improvements to nonresidential real property placed-in-service after the date such property was first placed-in-service: Roofs; Heating, ventilation, and air-conditioning property; Fire protection and alarm systems; and Security systems).
OTHER SELECTED MISCELLANEOUS BUSINESS CHANGES
Simplified Accounting For Certain Small Businesses. Generally effective for tax years beginning after 2017, the New Law provides the following accounting method relief for qualifying businesses: 1) Increases the average gross receipts (for the past three years) safe harbor for “C” corporations to use the cash method of accounting from $5 million to $25 million, 2) Generally allows businesses with average gross receipts (AVGRs) for the preceding three tax years of $25 million or less to use the cash method even if the business has inventories, 3) Generally allows simplified methods for accounting for inventories for businesses with AVGRs for the preceding three tax years of $25 million or less, 4) Generally exempts businesses with AVGRs for the preceding three tax years of $25 million or less from applying UNICAP, and 5) Liberalizes the availability of the completed contract method for certain businesses with AVGRs for the preceding three tax years of $25 million or less.
New Limits On Business Interest. Effective for tax years beginning after 2017, the New Law generally provides that businesses may not deduct interest expense for a taxable year in excess of 1) Interest income, plus 2) 30% of the business’s adjusted taxable income, plus 3) Floor plan financing interest. Any excess is carried over to subsequent years for an unlimited number of years. The New Law also generally exempts businesses with Average Gross receipts for the preceding three tax years of $25 million or less from this new interest expense deduction limitation.
Modifications To The NOL Deduction. The New Law generally makes the following changes to the NOL deduction: 1) For net operating losses (NOLs) arising in tax years beginning after 2017, repeals the prior law 20-year limitation on the number of years to which an NOL could be carried forward; 2) Net operating losses (NOLs) arising in tax years beginning after 2017 and carried to future years will not be allowed to offset more than 80% of taxable income before the NOL deduction; and 3) For net operating losses (NOLs) arising in tax years beginning after 2017, repeals the ability to carry back an NOL to previous years, except the New Law allows NOLs attributable to certain farming businesses and certain property and casualty insurance companies to be carried back to the 2 prior tax years.
Changes To §1031 Like-Kind Exchanges. Generally, effective for exchanges completed after 2017, the New Law allows Section 1031 like-kind exchanges only with respect to real property that is held in a trade or business or for investment.
Repeal Of Section 199 Deduction For Income Attributable To Domestic Production Activities. The New Law generally repeals the deduction for domestic production activities effective for tax years beginning after December 31, 2017.
Repeal Of Deductions For Certain Entertainment, Amusement, Recreation Activities, Membership Dues, Etc. Effective for amounts paid or incurred after 2017, the New Law repeals all deductions with respect to: 1) An activity generally considered to be entertainment, amusement or recreation, 2) Membership dues with respect to any club organized for business, pleasure, recreation or other social purposes, or 3) A facility or portion of a facility used in connection with any of the above. Planning Alert! The New Law did not repeal the deduction for 50% of food and beverage expenses associated with operating a trade or business (e.g., meals consumed by employees during away from home travel).
Changes For Meals Provided To Employees On Employer’s Premises. Under prior law, an employer could generally deduct 100% of the cost of business meals that were excludable from the income of employees because they were provided at an employer-operated eating facility for the convenience of the employer. Effective for amounts incurred and paid after 2017 and before 2026, the employer may deduct only 50% (down from 100%) of these employer-provided meals at an employer-operated eating facility (after 2025 the New Law repeals this deduction altogether).
The Tax Cuts And Jobs Act Of 2017 are mammoth in its scope and reach, and we have attempted to discuss only selected provisions that we believe will have the greatest impact on the largest number of our clients. If you have heard of a provision in the New Law that we did not address in this letter (or if you want additional information on a topic we did discuss), please contact us. In addition, please call us before implementing any planning ideas discussed in this letter, or if you need additional information. Note! The information contained in this material represents a general overview of selected provisions in the Tax Cuts And Jobs Act Of 2017 and should not be relied upon without an independent, professional analysis of how any of the items discussed may apply to a specific situation.
Any tax advice contained in the body of this material was not intended or written to be used, and cannot be used, by the recipient for the purpose of promoting, marketing, or recommending to another party any transaction or matter addressed herein. The preceding information is intended as a general discussion of the subject addressed and is not intended as a formal tax opinion. The recipient should not rely on any information contained herein without performing his or her own research verifying the conclusions reached. The conclusions reached should not be relied upon without an independent, professional analysis of the facts and law applicable to the situation.