The Tax Cuts and Jobs Act was signed into law on December 22, 2017, by President Trump, initiating the biggest overhaul of the U.S. tax code in almost 30 years. The bill changes many provisions of the Internal Revenue Code, some of which are of particular interest to manufacturers.
Drop in Corporate Tax Rate May Prompt a Revisit of Entity Structure
The corporate tax rate changed to 21 percent as of 2018, replacing the current graduated rate structure. The lower rate makes the United States more competitive with other countries and may encourage manufacturers to stay in the country or re-shore manufacturing operations. The corporate alternative minimum tax (AMT) has also been repealed indefinitely. In light of these changes, it may be time for some manufacturers to assess whether converting into a C corporation would be advantageous.
New Deduction for Pass-Through Entities
Manufacturers organized as pass-through entities are likely to see a significant benefit from the new deduction for qualified business income (QBI). Owners of certain pass-through businesses are now allowed to claim a deduction of up to 20 percent of QBI from a partnership, S corporation or sole proprietorship starting in 2018 and ending for years after 2025. For each qualified business, the deduction is subject to certain limitations: 50 percent of the business’ W-2 wages or 25 percent of wages plus a portion of the business’ unadjusted basis in its tangible assets.
Changes in Accounting Method for Small Businesses
Starting in 2018, the bill expands the definition of small business taxpayers from $5 million gross receipts to $25 million. This allows taxpayers whose average gross receipts are under $25 million for the three prior tax years to use the cash method of accounting, to account for inventories as materials and supplies that are not incidental, and to be exempt from the uniform capitalization rules. The bill retains the exceptions, but the expansion should broadly apply, and taxpayers may want to consider a change in their tax methods of accounting to adopt these potentially favorable methods.
Increase in Bonus Depreciation
The depreciation deduction is typically significant for manufacturers due to heavy investment in machinery and equipment. For qualified property, which now includes both new and used property placed in service after September 27, 2017, and before 2022, bonus depreciation will be increased to 100 percent. The bonus depreciation would then phase down 20 percent each year after 2022 and is set to expire after 2026.
Repeal of Deduction for Domestic Production Activities
Previously, a tax deduction was provided to manufacturers deriving income from “qualified production activities” performed in the United States, which included manufacturing of tangible property. The act repeals this key deduction starting in 2018.
Modification to Research and Development Tax Credit Still Ahead
While the act retains the research and development credit, it requires the capitalization and amortization of research and experimental expenses over five years starting in 2022.
Incentives for Maintaining Operation in the United States
With companies’ global footprints continuing to grow, changes to the United States’ international taxation system should be considered along with those outlined above. Starting in 2018, the bill moves the U.S. from a worldwide tax system to a territorial system, which exempts foreign active business income from taxation by providing a 100 percent exemption for dividends received from foreign subsidiaries. Foreign tax credits or deductions will not be allowed for any taxes paid or accrued with respect to a dividend that qualifies. This dividends received deduction (DRD) will generally be available only to C corporations.
Beginning in 2018, the bill also provides a beneficial tax rate for certain exporting corporations that leave their intellectual property onshore and a deemed repatriation of offshore intangible income exceeding certain thresholds.
Given the number of changes impacting manufacturers, we recommend companies review their structure and accounting methods this year. If you have any questions about your specific situation, please contact your advisor.
Meet the Authors
Carrie Sowders, CPA
Aldrich CPAs + Advisors LLP
Carrie leads our Manufacturing group at Aldrich and specializes in serving large and middle market companies, primarily in the consumer and industrial products sectors. Carrie has exclusively practiced in tax since beginning her career in 1998. Prior to joining Aldrich in 2009, Carrie spent a decade with Deloitte and oversaw the tax function of a…
- Certified Public Accountant
- Manufacturing tax
- Consumer business
- Multinational corporate issues
- Tax accounting and methods
- International tax
Sam Buck, CPA
Aldrich CPAs + Advisors
Sam has over five years of experience providing strategic tax planning and compliance services to his clients in the manufacturing, food processing, craft beverage industries and private closely-held businesses. Sam serves on the advisory board of the Craft Beverage Industry Group (C-BIG), a local nonprofit that focuses on supporting businesses in the craft beverage industry.…
- Certified Public Accountant
- Strategic tax planning and compliance
- Food processing
- Private closely-held businesses
- Craft beverages