Small Business Tax briefs
Selling your business? Defer — and possibly reduce — tax with an installment sale
You’ve spent years building your company and now are ready to move on to something else, whether launching a new business, taking advantage of another career opportunity or retiring. Whatever your plans, you want to get the return from your business that you’ve earned from all of the time and money you’ve put into it.
That means not only getting a good price, but also minimizing the tax hit on the proceeds. One option that can help you defer tax and perhaps even reduce it is an installment sale.
With an installment sale, you don’t receive a lump sum payment when the deal closes. Instead, you receive installment payments over a period of time, spreading the gain over a number of years.
This generally defers tax, because you pay most of the tax liability as you receive the payments. Usually tax deferral is beneficial, but it could be especially beneficial if it would allow you to stay under the thresholds for triggering the 3.8% net investment income tax (NIIT) or the 20% long-term capital gains rate.
For 2018, taxpayers with modified adjusted gross income (MAGI) over $200,000 per year ($250,000 for married filing jointly and $125,000 for married filing separately) will owe NIIT on some or all of their investment income. And the 20% long-term capital gains rate kicks in when 2018 taxable income exceeds $425,800 for singles, $452,400 for heads of households and $479,000 for joint filers (half that for separate filers).
An installment sale also might help you close a deal or get a better price for your business. For instance, an installment sale might appeal to a buyer that lacks sufficient cash to pay the price you’re looking for in a lump sum.
Or a buyer might be concerned about the ongoing success of your business without you at the helm or because of changing market or other economic factors. An installment sale that includes a contingent amount based on the business’s performance might be the solution.
An installment sale isn’t without tax risk for sellers. For example, depreciation recapture must be reported as gain in the year of sale, no matter how much cash you receive. So you could owe tax that year without receiving enough cash proceeds from the sale to pay the tax. If depreciation recapture is an issue, be sure you have cash from another source to pay the tax.
It’s also important to keep in mind that, if tax rates increase, the overall tax could end up being more. With tax rates currently quite low historically, there might be a greater chance that they could rise in the future. Weigh this risk carefully against the potential benefits of an installment sale.
Pluses and minuses
As you can see, installment sales have both pluses and minuses. To determine whether one is right for you and your business — and find out about other tax-smart options — please contact us.
Following the ABCs of customer assessment
When a business is launched, its owners typically welcome every customer through the door with a sigh of relief. But after the company has established itself, those same owners might start looking at their buying constituency a little more critically.
If your business has reached this point, regularly assessing your customer base is indeed an important strategic planning activity. One way to approach it is to simply follow the ABCs.
Assign profitability levels
First, pick a time period — perhaps one, three or five years — and calculate the profitability level of each customer or group of customers based on sales numbers and both direct and indirect costs. (We can help you choose the ideal calculations and run the numbers.)
Once you’ve determined the profitability of each customer or group of customers, divide them into three groups:
- The A group consists of highly profitable customers whose business you’d like to expand.
- The B group comprises customers who aren’t extremely profitable, but still positively contribute to your bottom line.
- The C group includes those customers who are dragging down your profitability. These are the customers you can’t afford to keep.
With the A customers, your objective should be to grow your business relationship with them. Identify what motivates them to buy, so you can continue to meet their needs. Is it something specific about your products or services? Is it your customer service? Developing a good understanding of this group will help you not only build your relationship with these critical customers, but also target marketing efforts to attract other, similar ones.
Category B customers have value but, just by virtue of sitting in the middle, they can slide either way. There’s a good chance that, with the right mix of product and marketing resources, some of them can be turned into A customers. Determine which ones have the most in common with your best customers; then focus your marketing efforts on them and track the results.
When it comes to the C group, spend a nominal amount of time to see whether any of them might move up the ladder. It’s likely, though, that most of your C customers simply aren’t a good fit for your company. Fortunately, firing your least desirable customers won’t require much effort. Simply curtail your marketing and sales efforts, or stop them entirely, and most will wander off on their own.
Cut costs, bring in more
The thought of purposefully losing customers may seem like a sure recipe for disaster. But doing so can help you cut fruitless costs and bring in more revenue from engaged buyers. Our firm can help you review the pertinent financial data and develop a customer strategy that builds your bottom line.
Tax-free fringe benefits help small businesses and their employees
In today’s tightening job market, to attract and retain the best employees, small businesses need to offer not only competitive pay, but also appealing fringe benefits. Benefits that are tax-free are especially attractive to employees. Let’s take a quick look at some popular options.
Businesses can provide their employees with various types of insurance on a tax-free basis. Here are some of the most common:
Health insurance. If you maintain a health care plan for employees, coverage under the plan isn’t taxable to them. Employee contributions are excluded from income if pretax coverage is elected under a cafeteria plan. Otherwise, such amounts are included in their wages, but may be deductible on a limited basis as an itemized deduction.
Disability insurance. Your premium payments aren’t included in employees’ income, nor are your contributions to a trust providing disability benefits. Employees’ premium payments (or other contributions to the plan) generally aren’t deductible by them or excludable from their income. However, they can make pretax contributions to a cafeteria plan for disability benefits, which are excludable from their income.
Long-term care insurance. Your premium payments aren’t taxable to employees. However, long-term care insurance can’t be provided through a cafeteria plan.
Life insurance. Your employees generally can exclude from gross income premiums you pay on up to $50,000 of qualified group term life insurance coverage. Premiums you pay for qualified coverage exceeding $50,000 are taxable to the extent they exceed the employee’s coverage contributions.
Other types of tax-advantaged benefits
Insurance isn’t the only type of tax-free benefit you can provide — but the tax treatment of certain benefits has changed under the Tax Cuts and Jobs Act:
Dependent care assistance. You can provide employees with tax-free dependent care assistance up to $5,000 for 2018 though a dependent care Flexible Spending Account (FSA), also known as a Dependent Care Assistance Program (DCAP).
Adoption assistance. For employees who’re adopting children, you can offer an employee adoption assistance program. Employees can exclude from their taxable income up to $13,810 of adoption benefits in 2018.
Educational assistance. You can help employees on a tax-free basis through educational assistance plans (up to $5,250 per year), job-related educational assistance and qualified scholarships.
Moving expense reimbursement. Before the TCJA, if you reimbursed employees for qualifying job-related moving expenses, the reimbursement could be excluded from the employee’s income. The TCJA suspends this break for 2018 through 2025. However, such reimbursements may still be deductible by your business.
Transportation benefits. Qualified employee transportation fringe benefits, such as parking allowances, mass transit passes and van pooling, are tax-free to recipient employees. However, the TCJA suspends through 2025 the business deduction for providing such benefits. It also suspends the tax-free benefit of up to $20 a month for bicycle commuting.
Varying tax treatment
As you can see, the tax treatment of fringe benefits varies. Contact us for more information.
Could a cost segregation study help you accelerate depreciation deductions?
Businesses that acquire, construct or substantially improve a building — or did so in previous years — should consider a cost segregation study. It may allow you to accelerate depreciation deductions, thus reducing taxes and boosting cash flow. And the potential benefits are now even greater due to enhancements to certain depreciation-related breaks under the Tax Cuts and Jobs Act (TCJA).
Real property vs. tangible personal property
IRS rules generally allow you to depreciate commercial buildings over 39 years (27½ years for residential properties). Most times, you’ll depreciate a building’s structural components — such as walls, windows, HVAC systems, elevators, plumbing and wiring — along with the building. Personal property — such as equipment, machinery, furniture and fixtures — is eligible for accelerated depreciation, usually over five or seven years. And land improvements — fences, outdoor lighting and parking lots, for example — are depreciable over 15 years.
Too often, businesses allocate all or most of a building’s acquisition or construction costs to real property, overlooking opportunities to allocate costs to shorter-lived personal property or land improvements. In some cases — computers or furniture, for instance — the distinction between real and personal property is obvious. But often the line between the two is less clear. Items that appear to be part of a building may in fact be personal property, like removable wall and floor coverings, removable partitions, awnings and canopies, window treatments, signs and decorative lighting.
In addition, certain items that otherwise would be treated as real property may qualify as personal property if they serve more of a business function than a structural purpose. This includes reinforced flooring to support heavy manufacturing equipment, electrical or plumbing installations required to operate specialized equipment, or dedicated cooling systems for data processing rooms.
A cost segregation study combines accounting and engineering techniques to identify building costs that are properly allocable to tangible personal property rather than real property. Although the relative costs and benefits of a cost segregation study depend on your particular facts and circumstances, it can be a valuable investment.
Depreciation break enhancements
Last year’s TCJA enhances certain depreciation-related tax breaks, which may also enhance the benefits of a cost segregation study. Among other things, the act permanently increased limits on Section 179 expensing. Sec. 179 allows you to immediately deduct the entire cost of qualifying equipment or other fixed assets up to specified thresholds.
The TCJA also expanded 15-year-property treatment to apply to qualified improvement property. Previously this break was limited to qualified leasehold-improvement, retail-improvement and restaurant property. And it temporarily increased first-year bonus depreciation to 100% (from 50%).
Assess the potential savings
Cost segregation studies may yield substantial benefits, but they’re not right for every business. To find out whether a study would be worthwhile for yours, contact us for help assessing the potential tax savings.
Businesses aren’t immune to tax identity theft
Tax identity theft may seem like a problem only for individual taxpayers. But, according to the IRS, increasingly businesses are also becoming victims. And identity thieves have become more sophisticated, knowing filing practices, the tax code and the best ways to get valuable data.
How it works
In tax identity theft, a taxpayer’s identifying information (such as Social Security number) is used to fraudulently obtain a refund or commit other crimes. Business tax identity theft occurs when a criminal uses the identifying information of a business to obtain tax benefits or to enable individual tax identity theft schemes.
For example, a thief could use an Employer Identification Number (EIN) to file a fraudulent business tax return and claim a refund. Or a fraudster may report income and withholding for fake employees on false W-2 forms. Then, he or she can file fraudulent individual tax returns for these “employees” to claim refunds.
The consequences can include significant dollar amounts, lost time sorting out the mess and damage to your reputation.
There are some red flags that indicate possible tax identity theft. For example, your business’s identity may have been compromised if:
- Your business doesn’t receive expected or routine mailings from the IRS,
- You receive an IRS notice that doesn’t relate to anything your business submitted, that’s about fictitious employees or that’s related to a defunct, closed or dormant business after all account balances have been paid,
- The IRS rejects an e-filed return or an extension-to-file request, saying it already has a return with that identification number — or the IRS accepts it as an amended return,
- You receive an IRS letter stating that more than one tax return has been filed in your business’s name, or
- You receive a notice from the IRS that you have a balance due when you haven’t yet filed a return.
Keep in mind, though, that some of these could be the result of a simple error, such as an inadvertent transposition of numbers. Nevertheless, you should contact the IRS immediately if you receive any notices or letters from the agency that you believe might indicate that someone has fraudulently used your Employer Identification Number.
Businesses should take steps such as the following to protect their own information as well as that of their employees:
- Provide training to accounting, human resources and other employees to educate them on the latest tax fraud schemes and how to spot phishing emails.
- Use secure methods to send W-2 forms to employees.
- Implement risk management strategies designed to flag suspicious communications.
Of course identity theft can go beyond tax identity theft, so be sure to have a comprehensive plan in place to protect the data of your business, your employees and your customers. If you’re concerned your business has become a victim, or you have questions about prevention, please contact us.
Be sure your employee travel expense reimbursements will pass muster with the IRS
Does your business reimburse employees’ work-related travel expenses? If you do, you know that it can help you attract and retain employees. If you don’t, you might want to start, because changes under the Tax Cuts and Jobs Act (TCJA) make such reimbursements even more attractive to employees. Travel reimbursements also come with tax benefits, but only if you follow a method that passes muster with the IRS.
The TCJA’s impact
Before the TCJA, unreimbursed work-related travel expenses generally were deductible on an employee’s individual tax return (subject to a 50% limit for meals and entertainment) as a miscellaneous itemized deduction. However, many employees weren’t able to benefit from the deduction because either they didn’t itemize deductions or they didn’t have enough miscellaneous itemized expenses to exceed the 2% of adjusted gross income (AGI) floor that applied.
For 2018 through 2025, the TCJA suspends miscellaneous itemized deductions subject to the 2% of AGI floor. That means even employees who itemize deductions and have enough expenses that they would exceed the floor won’t be able to enjoy a tax deduction for business travel. Therefore, business travel expense reimbursements are now more important to employees.
The potential tax benefits
Your business can deduct qualifying reimbursements, and they’re excluded from the employee’s taxable income. The deduction is subject to a 50% limit for meals. But, under the TCJA, entertainment expenses are no longer deductible.
To be deductible and excludable, travel expenses must be legitimate business expenses and the reimbursements must comply with IRS rules. You can use either an accountable plan or the per diem method to ensure compliance.
Reimbursing actual expenses
An accountable plan is a formal arrangement to advance, reimburse or provide allowances for business expenses. To qualify as “accountable,” your plan must meet the following criteria:
- Payments must be for “ordinary and necessary” business expenses.
- Employees must substantiate these expenses — including amounts, times and places — ideally at least monthly.
- Employees must return any advances or allowances they can’t substantiate within a reasonable time, typically 120 days.
The IRS will treat plans that fail to meet these conditions as nonaccountable, transforming all reimbursements into wages taxable to the employee, subject to income taxes (employee) and employment taxes (employer and employee).
Keeping it simple
With the per diem method, instead of tracking actual expenses, you use IRS tables to determine reimbursements for lodging, meals and incidental expenses, or just for meals and incidental expenses, based on location. (If you don’t go with the per diem method for lodging, you’ll need receipts to substantiate those expenses.)
Be sure you don’t pay employees more than the appropriate per diem amount. The IRS imposes heavy penalties on businesses that routinely overpay per diems.
What’s right for your business?
To learn more about business travel expense deductions and reimbursements post-TCJA, contact us. We can help you determine whether you should reimburse such expenses and which reimbursement option is better for you.
2018 Q4 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 fourth quarter of 2018. 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.
- If a calendar-year C corporation that filed an automatic six-month extension:
- File a 2017 income tax return (Form 1120) and pay any tax, interest and penalties due.
- Make contributions for 2017 to certain employer-sponsored retirement plans.
- Report income tax withholding and FICA taxes for third quarter 2018 (Form 941) and pay any tax due. (See exception below under “November 13.”)
- Report income tax withholding and FICA taxes for third quarter 2018 (Form 941), if you deposited on time and in full all of the associated taxes due.
- If a calendar-year C corporation, pay the fourth installment of 2018 estimated income taxes.
How to reduce the tax risk of using independent contractors
Classifying a worker as an independent contractor frees a business from payroll tax liability and allows it to forgo providing overtime pay, unemployment compensation and other employee benefits. It also frees the business from responsibility for withholding income taxes and the worker’s share of payroll taxes.
For these reasons, the federal government views misclassifying a bona fide employee as an independent contractor unfavorably. If the IRS reclassifies a worker as an employee, your business could be hit with back taxes, interest and penalties.
When assessing worker classification, the IRS typically looks at the:
Level of behavioral control. This means the extent to which the company instructs a worker on when and where to do the work, what tools or equipment to use, whom to hire, where to purchase supplies and so on. Also, control typically involves providing training and evaluating the worker’s performance. The more control the company exercises, the more likely the worker is an employee.
Level of financial control. Independent contractors are more likely to invest in their own equipment or facilities, incur unreimbursed business expenses, and market their services to other customers. Employees are more likely to be paid by the hour or week or some other time period; independent contractors are more likely to receive a flat fee.
Relationship of the parties. Independent contractors are often engaged for a discrete project, while employees are typically hired permanently (or at least for an indefinite period). Also, workers who serve a key business function are more likely to be classified as employees.
The IRS examines a variety of factors within each category. You need to consider all of the facts and circumstances surrounding each worker relationship.
Once you’ve completed your review, there are several strategies you can use to minimize your exposure. When in doubt, reclassify questionable independent contractors as employees. This may increase your tax and benefit costs, but it will eliminate reclassification risk.
From there, modify your relationships with independent contractors to better ensure compliance. For example, you might exercise less behavioral control by reducing your level of supervision or allowing workers to set their own hours or work from home.
Also, consider using an employee-leasing company. Workers leased from these firms are employees of the leasing company, which is responsible for taxes, benefits and other employer obligations.
Handle with care
Keep in mind that taxes, interest and penalties aren’t the only possible negative consequences of a worker being reclassified as an employee. In addition, your business could be liable for employee benefits that should have been provided but weren’t. Fortunately, careful handling of contractors can help ensure that independent contractor status will pass IRS scrutiny. Contact us if you have questions about worker classification.