C Corporation Tax Rate
Under TCJA, the tax rate for C corporations is reduced from 35% to 21% and AMT has been eliminated. This change has led some small business owners to wonder if they should become a C Corporation. In most cases, the answer is no, because C Corporations are still subject to double taxation, first on corporate income and then at the individual level on dividends received. Dividends for higher income individuals are also subject to the 3.8% Net Investment Income Tax. Although corporations can reduce taxes by not paying dividends, if there is no business purpose, this can subject them to the Accumulated Earnings Tax of 15%. There are other restrictions and costs to conversion that make this option most viable for higher income corporations with low W-2 wages and few assets.
Qualified Business Income
One of the most confusing changes under the TCJA is the 20% Qualified Business Income (QBI) deduction and its application. Additional clarification is expected from the IRS, but at this point the deduction is available for qualified trade or business income from flow through entities. This includes S Corporations, Partnerships, LLC’s and sole proprietorships. Some analysts feel this deduction will also apply to rental income, farm income, REIT income, trusts and estates and income from publicly traded partnerships. The QBI deduction will not affect taxpayers Adjusted Gross Income but will reduce Taxable Income, much like itemized deductions. The QBI deduction will not reduce self-employment tax or alternative minimum tax.
The 20% tax break on Qualified Business Income is subject to certain restrictions and limitations based on income level, type of business, amount of wages paid and depreciable assets held by a company. Once a business owner’s income exceeds $157,500 ($315,000 for joint filers) the 20% deduction is subject to wage, capital and occupation tests that may phase out the deduction.
Specified Service Business owners with income above $207,500 Single ($415,000 MFJ) lose any deduction. These are businesses that perform services in the fields of health, law, accounting, actuarial science, performing arts, consulting, financial services, and brokerage services. Architect and engineers were specifically excluded from this statute. High income individuals in these fields would benefit greatly from tax planning prior to year-end to reduce income below the threshold and maintain the deduction.
Beginning January 1, 2018, there will be major changes for businesses in the following areas:
Net Operating Losses (NOLs)
NOL’s can only be used to offset 80% of taxable income instead of the previous 100%. Prior year NOL’s can now only be carried forward (not back), but can be carried forward indefinitely.
Meals & Entertainment
The deduction for entertainment expenses has been eliminated. Business meals are still 50% deductible, but meals provided to employees for the convenience of the employer are no longer 100% deductible, the 50% limitation applies here too.
Employee Fringe Benefits
Transportation fringe benefits (parking allowances, bus/rail passes and van pooling) are no longer deductible for employers, but are still tax-free to the recipient. Businesses can no longer deduct the cost of moving expenses paid for employees or reimbursed to employees (exception for active duty military). Employees must report reimbursed moving expenses as compensation.
Limits for Section 179 and Bonus depreciation increased and Bonus now applies to used equipment.
Domestic Production Activities Deduction
Going away for pass through entities 1/1/8 and C Corporation after 12/31/18.
Like Kind Exchanges
Limited to real property. Like kind exchanges of personal property assets will no longer be allowed.
Research & Development
Must be capitalized and amortized over 5 years beginning after December 31, 2021.
Will be limited to 30% of adjusted taxable income and applied at the business not individual level for higher income companies.
This information is provided for general information only and should not be construed as specific tax advice as your situation may vary.
Contact a CPA in Denver Today for Small Business Tax Planning
Karen Schwimmer, CPA works with small business owners to reduce taxes, improve profits and manage cash flow. Contact Karen Schwimmer, CPA today or give her a call at 303-642-0628.