Tax Cuts and Jobs Act: What the Tax Reform Bill Means for You & Your Business
Congress has passed tax reform that will take effect in 2018, ushering in some of the most significant tax changes in three decades. There are substantial changes in the new bill. You can use this memo as a high-level overview of some of the most significant items in the new bill. Because major tax reform like this happens so seldom, it may be worthwhile for you to schedule a tax-planning consultation early in the year to ensure you reap the most tax savings possible during 2018.
Key changes for small businesses:
Here are some of these key items in the tax reform bill that affect businesses:
- Cuts the corporate tax rate: Corporate tax gets cut and simplified to a flat 21 percent rate, changed from a multi-bracket structure with a 35 percent top rate.
- Reduces pass-through taxes: Most owners of pass-through entities such as S corporations, partnerships and sole proprietorships will see their income tax lowered with a new 20 percent income reduction calculation. Note that there are limitations for personal service businesses if taxable income exceeds $157,500 for single/head of household taxpayers and $315,000 for married filing joint taxpayers.
- Beefs up capital expensing: Through 2022, short-lived capital investments in such items as machinery and equipment may be fully expensed as soon as they are placed in service, using bonus depreciation. This now also applies to used items instead of only new ones; they just need to be placed in service for the first time in your business. After 2022, allowable bonus depreciation is then lowered incrementally over the next four years. Note: most states do not conform with the increased bonus depreciation provisions.
- Strengthens Section 179 deduction: Section 179 deduction limits get raised to enable expensing of up to $1 million, and the phaseout threshold increases to $2.5 million. Section 179 may now also be used on expenses related to improvements to nonresidential real estate.
- Nixes the corporate alternative minimum tax (AMT): The 20 percent corporate AMT applied to businesses goes away entirely.
- Expands use of cash-method accounting: Businesses with less than $25 million in gross receipts over the last three years may adopt the cash method of accounting.
- Like kind exchanges only apply to real property: Taxpayers will no longer be able to defer gains on automobiles or equipment by trading for a replacement. Under the new law, taxpayers will be required to recognize any gain on a traded asset, which will increase the basis in the new asset. In many cases, this may not be an issue due to the increased ability to expense asset purchased, but it may also be a trap for the unwary.
- Reforms international taxation: Treatment of international income moves to the territorial system standard, in which foreign investments are generally only taxed in the place in which they operate. The new laws allow tax deductions for certain foreign-sourced dividends, reduced tax rates for foreign intangible income and reduced tax rates for repatriation of deferred foreign income.
- Repeals business entertainment deduction: Businesses will no longer be able to deduct 50 percent of the cost of entertainment, amusement or recreation directly related to their trade or business. The 50 percent deduction for business-related meals remains in place, however.
- Modifies several business credits: Several business credits are maintained but modified, including the orphan drug credit, the rehabilitation credit, the employer credit for paid family or medical leave and the research and experimentation credit.
- Boosts luxury automobile depreciation: Luxury automobiles placed in service after 2017 will have allowable depreciation of $10,000 for the first year, $16,000 the second, $9,600 the third and $5,760 for subsequent years.
The Tax Reform Act changes take effect during 2018 so there are a few things you should consider this year:
- Review your business structure and consider if a change may better your position to capitalize on the change in tax rates and/or the 20% deduction. The main factors to consider are as follows:
- The taxable income of partners, members, or shareholders
- Whether the business is a specified service business. Note: review NAICS codes used on the tax return to make sure they correctly describe your business activities.
- W-2 wages paid by the company and/or assets used in the business.
- Consider establishing an accountable plan to reimburse employees if you do not already have one. Any funds paid to the employees as a reimbursement of business expenses can be used to reduce salary. These funds are tax free to the employee and are not subject to payroll taxes.
This brief summary of the tax reform bill is provided for your information and is general in nature and may not apply to all taxpayers. Any major financial decisions or tax-planning activities in light of this new legislation should be considered with the advice of a tax professional. Call if you have questions regarding your particular situation. Feel free to share this memo with those you think may benefit from it.