Business owners are trying to determine how the Tax Cuts and Jobs Act will affect them and their companies. But while Congress set an outline, the IRS hasn’t written the rules yet that will determine which businesses qualify for things like the 20 percent deduction for pass-through income, says Jim Komos, CPA, partner-in-charge of tax at Ciuni & Panichi, Inc.
“The uncertainty will probably remain going into the summer,” he says. “Plus, they’re already talking about a corrections bill to fix loopholes that resulted from rushing it through.”
Smart Business spoke with Komos about what’s clear so far about the tax law changes.
The U.S. corporate rate is going from 35 to 21 percent. Are there any downsides to that?
Some small C corporations could be hurt. Before, the first $50,000 of taxable income was taxed at 15 percent; now it all will be taxed at 21 percent. However, C-corps are generally the biggest benefactors of this law.
What changes do business owners need to be concerned about most?
The big concerns are the business interest limitation and the 20 percent deduction for pass-through entities.
Business interest deductions previously had no limit. Now, the government will only let you deduct business interest expense to the extent you have income before that interest expense and depreciation. The change came because of some abuses and the government wanted less risk by business owners who are over-leveraged. For instance, real estate owners with a large mortgage may only be able to deduct two-thirds of that interest expense because they don’t have enough income to justify the full amount. Almost any large business with marginal profits and high debt could be hit by this, such as those with a lot of equipment or inventory.
The other area to watch is whether your S corporation, or flow-through entity, can take a new 20 percent deduction. Previously, 100 percent of income was subject to tax; now with a non-service business or income below a certain threshold, you can take the 20 percent deduction. This could really impact personal tax returns, but there will be complex rules as far as how to compute that deduction and who qualifies for it.
Even if your company will qualify, you’ll want to look closely at the rules. For instance, you may need enough payroll to at least equal the 20 percent deduction. Each case will require individual analysis.
Does that mean business owners may switch from C-corp to S-corp or vice versa?
A lot entities are looking at their structure to see if they should go one way or the other. Some flow-through entities, especially those that wouldn’t qualify for the 20 percent as a service business, for example, are re-examining if should they be a C-corp. However, if you terminate a S selection, you generally can’t make it again for five years.
Remember, though, that mid-March is the deadline for changes, if you’re a calendar-year taxpayer and you want to convert to S-corp for 2018 and make it effective for the whole year. You also need to look into any state and local tax ramifications.
These conversations about ownership structure are always going on, but it has added emphasis with the tax reform bill.
What else should owners look at?
Analyze your improvement plan. You may want to accelerate or change how you deal with your improvements in light of the 100 percent bonus depreciation. (It was previously 50 percent.)
Also, sketch out what 2018 will look like. For instance, you might be in a lower bracket, so you could take more bonus depreciation or be more aggressive in your 2017 accounting. Even though the year is over, you can still do some things with regards to accruals or depreciation methods.
Other changes could affect employees. Employee business expenses are no longer deductible, for instance, and your employees may want to get reimbursed for those expenses or re-structure compensation so the company pays those expenses.
How should business owners handle their personal investments?
The biggest change on investment income is that fees will no longer be allowed as a miscellaneous itemized deduction. Also in general, it’s not as advantageous to itemize. Start planning now for things like charitable contributions.
Insights Accounting is brought to you by Ciuni & Panichi, Inc.