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I have been trying to comprehend the latest Tax reform from the perspective of a business owner. I’m sharing my thoughts with a big DISCLAIMER. I’m not a CPA or lawyer and am always willing to pay my fair share of taxes. I learned early on in my career from my boss that paying taxes means you made money so think positively. I am sharing what I have learned so you can go back to your advisors and know what questions to ask.
The Tax Cuts and Jobs Act can be an opportunity for you to reevaluate the structure of your business to see if changes are needed to improve your income and for long-term strategic advantages. (Note a lot of the tax reforms expire in 2025) No one is going to come to you and tell you what you need to do. You have to utilize your advisors CPA, lawyers… and figure it out yourself Questions to ask your lawyer and CPA:
Are you a C-Corp, partnership, LLC, S-corp, sole proprietorship? Does it generate domestic income?
Your business may qualify for lower taxes if it is a pass-through entity such as a partnership, S-corporation, and sole proprietorship, or a C-Corp. If you are a C-Corp, you will be able to pay 21% flat tax rate on domestic income. Is it best to now be a C-Corp? Probably not. For pass-through entities, there is potentially a Qualified Business Income (QBI)Deduction which equals the sum of the taxpayer’s “combined QBI” amount or 20% of the taxpayer’s taxable income. (Note this is where you talk to your CPA…).
What is your QBI calculation for a potential deduction?
An entity’s deduction is limited to the lesser of 25% of QBI or the wage limit. The wage limit is the greater of
50% of the W-2 wages from the business or
25% of the W-2 wages from the business plus 2.5% of the unadjusted basis of the business’s qualified property of the trade or business. (Real estate property but not if just land)
Are you a “Specified Service Trade or Business”? Are you below the threshold?
There is a tricky exclusion for a lot of you small business owners. A taxpayer may claim the QBI, but certain specified service trade or businesses are excluded. If the principal asset of the trade or business is the reputation or skill of one or more of its employees or owners, it is excluded. A “Specified Service Trade or Business” is any trade or business includes accounting, athletics, brokerage services, consulting, financial services, investment management, health, law, or the performing arts. But the deductible amount of 20% of QBI is available for “specified service trades or businesses” if income is below $315,000(joint) (phasing out up to $415,000) and $157,500 (individual) (phasing out up to $207,500).
Do you pay yourself guaranteed payments? -They are excluded from qualifying as QBI.
Is this the best-operating structure for your business? (Please don’t just get caught up in trying to pay fewer taxes) Other major ramifications of operating structure are the impact on your liability exposure or type of retirement plan available.
What percentage of adjustable taxable income is your business interest deduction? Another big issue with the Tax Reform is the business interest deduction limitation. The income of the entity is only allowed to deduct 30% of Adjustable taxable income. A carry-forward of the disallowed interest expense is allowed indefinitely. Talk to your CPA…different elections may help you avoid the interest expense limitation.
Did you use Net Operating Losses to offset all your income last year? Use of Net Operating Losses changed. NOL’s carried forward may only offset 80% of taxable income.
Did you deduct business entertainment expenses last year? Business expense limitations is another change in the Tax Reform Act. You cannot deduct 50% of your entertainment expense for clients—for example, no Carolina basketball games, golf games, concerts…You can still deduct 50% of your meals, but you have to document carefully. Keep your receipts, identifying the business purpose and names of the guests including their business relationship with you. Also, there will be No deductions for transportation and commuting expenses. However, it still allows for the expensing of the office holiday party—which is already leading to all sorts of interpretations of what holidays you will be celebrating every month. But always be aware of whether the benefits outweigh the risks of any interpretation.
Are you using your home equity line (HELOC) to finance your business? The equity line has to be a result of home improvement, for the interest deduction to no longer allowable.
Woman Up—it’s your money and your business. Ask questions and utilize the expertise of your advisors.
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