“I would suggest that a business confer with its tax professional in the month of September, which then gives it a full quarter to implement the changes, assuming it has a December fiscal year,” Pon says.
Smart Business spoke with him about the virtues of planning for taxes early, how to maximize deductions and rules to keep in mind when making year-end purchases of depreciable assets.
How should a business go about planning for year-end taxes?
The first step is to get hold of the information regarding the prior year’s taxes to work up a rough projection of what the current year looks like. Also, some thought should be given to what the numbers might look like in the next tax year. Part of the opportunities of tax planning are to take advantage of when you may be in relatively higher or lower tax brackets and to move income and deductions in a way that you can take advantage of those differing tax brackets.
Why is it so important to start early?
The main reason is that it usually takes time to implement whatever action items are identified. For example, if you decided that you wanted to defer income into the next tax year, the sooner you start that process the more income you can defer. If you wait until the last two weeks of December to defer income, you have fairly limited options.
What are the advantages of deferring income?
First is that even if you’re in the same tax brackets both years, by deferring the income a year, you defer the payment of the tax for a year. Basically, you get an interest-free loan from the government in the form of the reduced taxes.
The second advantage is that often we’re fairly confident of the tax bracket that we’re going to be in this year, but the future is a little bit hazy. It’s conceivable that next year might not be as good as this year, and if so, deferring income into next year at least gives you the possibility that you’ll be in a lower tax bracket.
How can a business maximize deductions?
At one level, you can maximize deductions by accelerating the rate at which you incur discretionary expenses such as advertising, marketing and consulting fees. Even though the government is paying for some of these expenses in the form of reduced income taxes, you’re still bearing the bulk of the costs. So you want to make sure that you’re spending money on things that make good business sense to spend money on. You don’t want to just spend money for sake of reducing taxable income.
What are some rules to keep in mind when making year-end purchases of depreciable assets for tax purposes?
Usually, we’re looking at this in context of the Section 179 election, which allows taxpayers to expense certain types of depreciable assets.
One of the things that should be examined is the maximum amount of capital outlay that you plan on for the current year as well as the upcoming year. Also, you should bear in mind that the depreciation for what the IRS calls listed property, which includes most automobiles, is significantly restricted. Often, purchasing an automobile at the end of the tax year is not a significant tax-saving opportunity. On the other hand, technology is constantly evolving and improving, so if there is some new computer-based or telecommunications equipment that looks very appealing, you might as well get it at the end of the year.
It is important to keep in mind that to take the depreciation deduction, the asset actually has to be put into service. If you buy something and don’t even open the box until the next tax year, technically you haven’t put it into business service.
How does the Alternative Minimum Tax (AMT) affect tax planning?
The AMT adds another level of complexity to tax planning. Individuals who do a really good job of knocking down their personal income tax liability can find themselves with a reduced regular income tax, but they are now paying the AMT in its place. The rules are significantly different for the AMT. For example, some of the items that are deductible for regular tax purposes are not deductible for AMT purposes. It is a good idea to consider both the regular tax and the AMT to make sure that your taxes end up where you plan for them to be.
CARL PON is co-managing partner of Vicenti, Lloyd & Stutzman LLP. Reach him at CPon@VLSLLP.com.