Would you be willing to change the approach you take when building a new facility, starting a pension plan for employees or researching a new product? If so, these efforts may be rewarded come tax time through tax credits direct dollar-for-dollar reductions in tax liability.
“Tax credits are especially important to small and mid-sized businesses,” says Mark Anderson, director, Tax Strategies Group for Kreischer Miller in Horsham, Pa. Some credits are promoted by special interest groups, others are created by the government to address a perceived need, and cover a spectrum of expenses.
Most importantly, these credits can impact a company’s effective tax rate. Business owners may choose to make certain businesses decisions where to build or what type of vehicle to purchase knowing that they will win back some of their investment at year’s end, Anderson says.
Smart Business discussed tax credits with Anderson and how business owners can take advantage of credits designed to pay them back at tax time.
Who can take advantage of tax credits?
There are tax credits that cover most every arena, and as a business owner, you likely do not have time to research this information in detail. What’s more, these credits tend to change over time. Some credits have been allowed to expire by Congress, whereas others have been created or amended to apply to broader or narrower audiences. For example, more business owners can take advantage of today’s research credit since it isn’t strictly reserved for laboratory research. Tax law is complex, and the first step to take advantage of tax credits is to partner with an accountant who knows your business so he or she can suggest appropriate tax credits and determine whether you qualify. There are limitations and business planning issues you’ll want to discuss with your accountant as you explore potential tax credits.
What types of tax credits are most common, and what are some recent credits available to business owners?
Tax credits may be industry specific, or they may apply to a general population of business owners. There are tax credits designed to promote the hiring of targeted employment groups, credits that reward companies for conducting research to create new processes, and credits that encourage small businesses to start pension plans for their employees.
The tax credit most business owners are familiar with is the Research Credit, which is designed to help companies fund the type of long-term development that contributes to a competitive market. Also recently modified is the Empowerment Zone and Renewal Community Employment Credit that promotes development in distressed areas. If your business is profitable and located in an Empowerment Zone, you may be eligible for the tax credit. And if you expand in one of these targeted areas, your employment efforts may be rewarded with a dollar-for-dollar tax credit. Also common are employment tax credits, such as the Work Opportunity Credit and the Welfare to Work Credit. If you hire workers in certain targeted groups, you may earn a credit for a portion of the wages you pay them.
On the small-business front, the government hopes that a Small Employers Pension Plan Startup Costs Credit will inspire owners to provide retirement plans for employees. Meanwhile, to encourage companies to adopt energy efficient practices, there are credits that address non-conventional fuels, efficient energy homes and appliances, alternative motor vehicles and others. The list is quite extensive, and your accountant can provide greater detail if these credits apply to your company. This brings to light the importance of sharing day-to-day business with your accountant.
How should business owners prepare their records to take advantage of tax credits?
Most of the records required for these credits may be compiled at the year’s end. There are instances when tax credits may require certification prior to employment. In most cases, information necessary for supporting eligibility for a tax credit can be ascertained at year’s end when you are preparing your tax return.
Are there limitations to the tax reduction a business owner can realize from tax credits?
First, most tax credits are predicated upon having taxable income and paying income tax. Therefore, if your business experienced a loss and you are not paying tax, you are still eligible for the credit, but you will have to wait until a year when you have taxable income to utilize that credit. That said, you must be sure to retain all documentation and discuss planning avenues with your accountant so you can take advantage of the credit when the time is right (and you’re paying taxes).
Another limitation is the percentage by which you can reduce your tax. You can reduce taxes up to 25 percent of your regular tax in excess of $25,000. So if your taxes are $125,000 and you have $25,000 in credits, you can reduce your net tax to $100,000. For more detailed information, consult your tax professional.
How can a business owner study more about tax credits?
Helpful information is as close by as the Internal Revenue Service (IRS) Web site at www.irs.gov. Search for ‘tax credits,’ and you can order publications on particular credits to learn more.
MARK ANDERSON is director of the Tax Strategies Group for Kreischer Miller in Horsham, Pa. Reach him at (215) 441-4600 or email@example.com.