As you prepare to file 2019 taxes in early 2020, it can be tempting to look at political uncertainty and hesitate to make certain financial decisions. However, you can still develop a sound year-end tax planning strategy by starting with what we already know.
With the 2020 presidential election less than a year away and the Democratic primaries starting in just a couple of months, political interest is currently running very high. So is political uncertainty when you consider the vast differences in the policy positions of leading Democratic candidates for president and those of President Trump.
It’s important not to let this uncertainty paralyze you when it comes to year-end tax planning. Regardless of who is elected President next November, there are opportunities for you to save on your 2019 tax bill by making smart moves between now and the end of the year.
As you plan your 2019 year-end tax strategies, remember that Aldrich offers comprehensive tax planning services for businesses and individuals. These include tax compliance and preparation services and strategic tax planning services, as well as assistance with trusts, partnerships and estates, research and development tax credits, and state and local taxes. In addition to our tax services, we offer a host of other service to help you attain your business goals. From employee benefits, technology services, corporate retirement planning and wealth management, we’ll help you find the best way to prepare for the new year.
Tax Planning for Businesses and Business Owners
The Qualified Business Income (QBI) Deduction
Although it has been two years since the Tax Cuts and Jobs Act (TCJA) was passed, many businesses and business owners are still adjusting to the new rules. One provision of tax reform that has caused confusion is the new 20% deduction for qualified business income, which is also referred to as the “QBI deduction” or the “Section 199A deduction.”
This deduction is available to many business entities, such as LLCs, partnerships, sole proprietorships and S corporations. Owners of such businesses can subtract 20% of QBI from the adjusted gross income (AGI) on their individual tax return (or IRS Form 1040). The QBI deduction effectively lowers the top tax rate for these types of businesses from 37% to 29.6%.
However, Congress placed limits on the QBI deduction to prevent high-earning professional service providers (e.g. doctors and lawyers) from claiming the deduction. The deduction phases out for these types of service providers when their AGI reaches $160,725 for single taxpayers and $321,400 for married taxpayers filing jointly in 2019. In addition, the deduction is reduced or eliminated for some types of pass-through entities once it exceeds 50% of W-2 wages paid or 25% of wages paid plus 2.5% of the business’s tangible depreciable property.
It’s also important to note that guaranteed payments are not considered to be qualified business income. As a result, guaranteed payments are not eligible for the QBI deduction. Therefore, it might makes sense to amend partnership agreements in order to limit guaranteed payments and thus maximize the potential QBI deduction.
Revisiting the Wayfair Decision
In 2018, the U.S. Supreme Court made a ruling in the case of South Dakota v. Wayfair, Inc. that allowed states to require businesses to collect sales tax on goods sold in a state even if the business doesn’t have a physical presence in the state. This decision effectively removed the physical presence requirement for sales tax nexus.
Since the Supreme Court decision last year, most states have adopted minimum thresholds defining which businesses must comply with out-of-state sales tax collection. A common threshold is $100,000 in annual sales or 200 transactions per year in a state — if a business’s sales or transaction volume doesn’t reach this level, it generally won’t have to collect sales tax in the state.
If you haven’t reassessed your business’s potential exposure to sales tax collection in light of the Wayfair decision, you shouldn’t put this off any longer. Failure to register in states where you’re required by law to collect and remit sales tax can result in costly penalties and fines, so the time to act is now.
Update on the SECURE Act
In June, the U.S. Senate took up retirement legislation known as the Setting Every Community Up for Retirement Enhancement (SECURE) Act. At the time, the legislation enjoyed strong bipartisan support as well as strong support from the retirement industry. As with any legislation, the details could change, however the current version will create the following impact.
The SECURE Act contains a number of provisions intended to expand access to retirement savings plans to more Americans while making it easier to save for a financially secure retirement. For example, the legislation would make it easier for small businesses to join together to create multiple employer plans (MEPs). This is a 401(k)-type retirement plan in which small businesses share a core plan administrator, which reduces administrative burdens and lowers costs for each business.
The legislation would also prevent businesses from excluding part-time workers from qualified retirement plans if they log at least 500 hours per year and have been with the company at least three years.
On the participant side, the SECURE Act would eliminate the age limit of 70½ for when IRA owners can no longer make contributions to their plan. It would also increase the age when IRA owners must begin making required minimum distributions (RMDs) from 70½ to 72 years of age. It would also allow new parents to make penalty-free withdrawals from traditional IRAs and 401(k)s to help pay for qualified birth and adoption expenses.
The Oregon Corporate Activities Tax
The Oregon Corporate Activities Tax (CAT), which was signed into law in May, will become effective on January 1, 2020. This tax will be imposed on all businesses with nexus in the state of Oregon, including C and S corporations, partnerships and LLCs as well as the business activity of trusts, estates and individuals.
The CAT, which will be assessed in addition to Oregon’s current income tax, will be imposed on sellers of goods and services at a minimum rate of $250 plus 0.57% of commercial activity over $1 million. A deduction will be allowed for 35% of cost or labor inputs, whichever is greater.
If a business records $750,000 annually in commercial activity in the state of Oregon, it must register with the state within 30 days. Failure to do so will result in a penalty of $100 per month until it registers.
The CAT will be assessed on a calendar-year basis with the first returns due on April 15, 2021. Quarterly estimated tax payments are required beginning in April of 2020.
Aldrich has developed a CAT calculator to help you estimate any anticipated taxable activity over the next year. Contact us to learn more.
Business Interest Limitations and Excess Business Losses
The TCJA imposed a limitation on business interest deductions under Section 163(j). This limitation disallows deductions of net business interest expense (i.e., business interest expense in excess of business interest income) in excess of 30% of adjusted taxable income. However, disallowed business interest can be carried forward to future tax years indefinitely.
For C corporations, all interest, including investment interest, is included in business interest. For partnerships and S corporations, the business interest limitation is calculated at the entity level, not the partner or shareholder level.
Note that small businesses with an average of less than $25 million in gross receipts over the past three years are exempt from the business interest limitation, and all related businesses are combined to determine if the $25 million threshold has been met.
In addition, the TCJA imposed the excess business loss limitation under Section 461(l). This limitation applies to individual taxpayers with business losses greater than $250,000 (or $500,000 for joint income tax filers). These taxpayers need to be wary of higher income than expected in large loss years.
Note that excess business losses can be carried forward to the following tax year as a net operating loss.
Tax Deductible Retirement Plan Contributions
Business owners should review their retirement plan to see if they are taking full advantage of available tax deductible contributions. Changes to existing retirement plans, or adopting a new plan before December 31 can significantly reduce taxable income.
Below are sample maximum tax-deductible contributions allowed for an owner or executive with a combined 401(k) profit sharing and cash balance pension plan arrangement:
|Age||401(k) Profit Sharing||Cash Balance||Total|
Tax Planning for Individuals
Following are a few strategies and areas to examine before the end of the year that could save you money on your 2019 individual tax return:
Defer capital gains by investing in Opportunity Zones and Qualified Opportunity Funds
The TCJA created Opportunity Zones in order to encourage long-term investments in low-income communities. Investments in Opportunity Zones are eligible for preferential tax treatment under certain conditions.
A Qualified Opportunity Fund is required to invest at least 90% of its assets in a Qualified Opportunity Zone. The fund must also make “substantial improvements” to properties within 30 months equaling at least the original price paid to purchase the property.
The tax advantages of Opportunity Zones can be significant. In the year the taxpayer contributes to the fund, they are allowed to defer any capital gain up to the dollar amount invested until the earlier of 2026 or when the investment is sold. If the investment is held for 5 years or longer, taxpayers will receive a 10% exclusion of the original deferred gain. If investments are held for at least 7 years, the exclusion increases to 15%. Additionally, if the investment is held for at least 10 years, there will be zero gain from the actual sale of the fund investment.
Shift taxable income between years
This can help lower taxes this year by deferring some income into next year and accelerating some deductible expenses into 2019. For example, if you anticipate receiving a year-end bonus, ask for the money to be paid in January instead of December. If you run a consulting or home-based business, wait until early January to send out December invoices so receipt of funds is delayed until 2020.
The reverse might also be true in that it could be more beneficial to move income into 2019 if it is known that 2020 will be a big income year. Trying to keep your taxable income about the same every year generally saves more taxes in the long-term.
Reconsider itemizing deductions
The TCJA increased the standard deduction and placed new limits on deductions for state and local taxes (SALT). As a result, many individuals who used to itemize deductions by filing Schedule A with Form 1040 may choose to take the standard deduction instead of itemizing.
The standard deduction for tax year 2019 will be $12,200 for individuals and $24,400 for married couples filing jointly. Try to determine whether or not your total 2019 deductions from SALT, charitable donations, mortgage interest and other itemized deductions will exceed the standard deduction amounts. If they don’t, you may want to think intentionally about which year a deduction should be taken to maximize the use of the standard deduction.
Make charitable donations strategically
If you decide to itemize deductions when filing your 2019 tax return, you may be able to deduct donations of cash, property or marketable securities to qualified charitable organizations during the year when they are made.
If you mail a donation check to a charity, you can take the deduction this year as long as it’s postmarked no later than December 31, 2019. If you use a credit card to make a donation before December 31, you can take the deduction this year even if you pay the bill in January of next year.
If you are not be able to itemize, bunching the donations for a couple of tax years into one year may make sense. This can be done directly by writing one large check to a charity and then skipping the next couple of years of donations or by using a Donor Advised Fund (DAF). Cash can be contributed to a DAF in one year, in order to allow you to itemize, but the funds would not be distributed to the public charity until you decided to do so which can be over multiple years.
Another tax-wise charitable giving strategy is to donate appreciated property instead of cash. For example, if you own appreciated stock that you’ve held for longer than one year, you can avoid paying capital gains taxes on the appreciation by donating the stock to charity. You can deduct the full fair market value of the stock in the year of donation.
If you have a Required Minimum Distribution (RMD) from the IRA, this also can be directly contributed to a charity. This contribution would not count as a charitable contribution on your return, but the income for the RMD is also not included on the return.
Re-examine tax withholding
Due to the changes from the TCJA, many people got smaller tax refunds than they were expecting last year — or no refunds at all. So now is a good time to take a fresh look at how much money is being withheld from your paycheck each pay period for federal income taxes.
The IRS withholding calculator can help you determine if too much or too little money is being withheld for taxes. After you crunch your numbers, talk to your human resources department about adjusting your tax withholding, if necessary. This will enable you to increase or decrease the size of your tax refund.
And remember: A big tax refund is essentially an interest-free loan to the IRS. For most people, the goal should be to have just enough money withheld to cover the amount of taxes due for the year, with perhaps a slight overpayment just to be safe.
Please contact your Aldrich advisor if you have more questions about business or individual tax planning strategies.
Meet The Author
Sara Northcutt, CPA
Aldrich CPAs + Advisors LLP
Sara Northcutt joined the firm in 2005 and has more than a decade of experience working on a wide range of clients, including financial lending, private equity, real estate, and other closely held businesses. Sara specializes in multi-state tax compliance. Sara received her Bachelor of Arts degree from Vanguard University of Southern California and did her... Read more Sara Northcutt, CPA
- Closely-held businesses
- Certified Public Accountant
- Strategic tax planning and compliance