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Tax planning for year-end 2008 presents unique opportunities
and challenges for small business taxpayers to reduce or defer
federal income tax liability. While traditional planning techniques
remain fundamentally important considerations this year, new
opportunities and pitfalls born from recent legislation and
changes in the tax laws in response to our current financial
crisis provide planning variables unique to this year end.
Here we discusses important year-end tax planning strategies
-- from the tried and true techniques to new considerations
for our economic situation -- that can operate to reduce the
tax burden for your small business.
BUSINESS STRUCTURE
The structure of your business determines how business income
will be taxed. While C corporations are subject to two levels
of tax, income, losses, deductions, and credits of S-corps,
partnerships and limited liability companies (LLCs) are passed
through to the owners and reported on their individual income
tax returns. Plain-vanilla sole proprietorships, too, have
their place in tax planning, with a traditional Schedule C
attached to Individual Form 1040 for a business enterprise
engaged in either full or part time sometimes the best choice.
Not only is the structure of the business important, but
with sole-proprietorships and pass through entities, the individual
tax situation of their owners is a particularly significant
factor in year-end tax planning. In regular C corporations,
year-end planning can mean deferring some of the profits by
deferring dividends into the next year.
ACCOUNTING METHODS
The accounting method used by your business is a factor that
impacts year-end tax planning strategies. Your accounting
method is important to tax planning because it affects your
ability to time and shift income and deductions between 2008
and 2009. Whether your business operates on a cash or accrual
basis will determine when income must be recognized for tax
purposes and when expenses are deductible.
Cash-basis business that anticipate being in the same or
lower tax bracket in 2009 than 2008 because of the economy
can smooth out their taxable income by deferring income to
2009 and accelerating deductions this year. To push income
into 2009, cash-basis businesses can delay billing clients
or customers (for example, wait until mid-January) for services
and products so that payment is not received until 2009. Alternatively,
if you anticipate your business's taxable income to be lower
in 2008, you may want to accelerate income in 2008 and defer
deductions until next year.
For accrual basis taxpayers, the right to receive income,
rather than actual receipt, determines the year of inclusion
in income. Expenses are deductible in the year in which all
events have occurred to establish the liability of an amount
certain. Accrual method businesses might consider deferring
income by delaying the shipment of products or provision of
services until the beginning of the 2009 tax year.
DEDUCTIONS
Deduction planning is an integral aspect of year-end business
tax planning. There are many important deductions beyond the
Code Sec. 162 deduction for ordinary and necessary business
expenses that may benefit many small businesses by lowering
their tax liability.
Bonus depreciation. The Economic Stimulus Act of 2008 provided
50 percent bonus depreciation of the adjusted basis of qualifying
property. This accelerates an additional 50 percent of depreciation
that would be allowed on business property into the first
year in which it is acquired. However, the property generally
must be purchased and placed in service during calendar year
2008 to qualify. In 2009, the tax law reverts to its regular
depreciation allowances.
Enhanced expensing. Most small businesses are eligible for
the Code Section 179 deduction, a generous and lucrative tax
break that enables businesses (especially those that are capital
intensive) to immediately deduct equipment purchases that
otherwise would have to be depreciated over a number of years.
There are limits to this deduction, however. Looking at the
tax law as it now exists, the limits for 2008 are far more
generous than for 2009.
The Economic Stimulus Act of 2008 almost doubled the amount
of deductible Code Sec. 179 expensing for tax years beginning
in 2008 to $250,000 and increased the threshold for reducing
the deduction to $800,000. After 2008, the expensing limits
revert to prior inflation-adjusted caps, anticipated for 2009
to be $133,000 for the deduction limit and $530,000 for the
start of the phase-out. Of course, another economic stimulus
package may be passed in 2009 to keep these amounts higher,
but businesses likely to make purchases of qualifying property
soon should consider at least maximizing amounts for 2008.
Domestic production deduction. The Code Sec. 199 deduction
for qualifying domestic production activities benefits a broad
array of businesses, including construction, engineering,
architecture, and farming. For 2008 and again for 2009, the
deduction generally equals six percent of the lesser of (1)
qualified production activities income for the tax year, or
(2) taxable income that does not take the deduction into account
for the tax year. However, the deduction cannot exceed 50
percent of W-2 wages allocable to domestic gross receipts.
The deduction applies for both regular and alternative minimum
tax (AMT) liability. Starting in 2010, the deduction jumps
to nine percent. Maximizing this deduction over all three
years of the 2008-2010 period first requires a run-through
on various computations and allocations.
Compensation and bonus deductions. If your business operates
a qualified retirement plan, consider maximizing 2008 contributions
to qualified retirement plans since the contributions are
tax deductible in the year that they are made to plan participants.
For employees with 401(k) balances especially hard hit by
the recent downturn in the markets, these contributions will
take on an added luster this year.
Year-end bonuses also require care. Paying year-end bonuses
in December or January can create a significant compensation-based
business deduction. For example, businesses can deduct in
2008 a bonus paid in 2009, as long as the obligation is paid
within two and one-half months of the close of 2008. Accrual
businesses can take a deduction in 2008 for bonuses not actually
paid to employees until 2009 as long as (1) the employee does
not own more than 50 percent in value of the business's stock,
(2) the bonus is properly accrued on the company's books before
the end of 2008, and the bonus is paid within two and one-half
months of 2009.
LOSS DEDUCTIONS
Business losses sustained during the tax year generally can
be deducted. For pass through entities such as S corps, LLCs
and partnerships, losses will be passed through and deducted
on the owners' personal income tax returns. Loss deductions
can be taken for:
* Bad debts;
* Casualty and theft losses;
* Capital losses;
* Losses on the sale of business assets; and
* Net operating losses.
Net operating losses, in particular, will be something that
many more businesses unfortunately will need to become familiar
with during the present economic downturn. A trade or business
has a net operating loss (NOL) when its allowable deductions
exceed its gross income for the tax year. Generally, an NOL
can be carried back 2 years and carried forward 20 years--the
carryover period (businesses in specially designated disaster
zones may be entitled to a 5 year carryback).
The first year of the carryover period is the year after
the NOL arises; thus, it becomes important to determine the
correct year in which gross income is recognized and deductions
are taken. The carryback period is especially valuable since
the carryback can immediately reduce any taxable income for
those prior two years, entitling the business to an immediate
cash tax refund upon filing an amended return.
EXTENDED INCENTIVES
Thanks to the Emergency Economic Rehabilitation Act of 2008,
businesses no longer need to guess whether certain tax breaks
would be extended to apply for 2008 and beyond. They were
extended, leaving businesses with the pleasant decision --in
connection with these incentives-- of how to plan to maximize
their use over 2008 and 2009.
Among the most significant changes made by the new law are
a revised research tax credit, extension of accelerated depreciation
for leasehold and restaurant improvements, and enhanced deductions
for certain charitable contributions of food, books and computer
equipment. Especially notable for small businesses, an "alternative
simplified credit" has not only been extended but raised
to a level at which smaller businesses have a greater tax
incentive to spend money on research. Also good for both the
environment and a lower bottom line tax, the new law has extended
the energy deduction for energy efficient commercial buildings
through 2013. Planning to take full advantage of these changes
should start now.
AMT PLANNING
The alternative minimum tax (AMT) is not a challenge reserved
solely for individual taxpayers; it may affect your small
business as well. While Congress again enacted another round
of temporary AMT relief for individual taxpayers, retroactive
to the start of 2008, in the Emergency Economic Stabilization
Act, more comprehensive reform must wait until 2009.
The 2008 AMT exemption amount for corporations is $40,000,
subject to an income-based phase-out starting at $150,000.
The AMT income tax rate for businesses is a flat 20 percent
rate. Small corporations that meet an annual average gross
receipts test (GRT) under Code Sec. 55(e) are exempt from
the AMT. To qualify under the GRT, a corporation's average
annual gross receipts for all three tax year periods beginning
after 1993 and ending before the current year can not exceed
$7.5 million. Computing the AMT is complicated and time-consuming,
both for the business or for the business owner.
CALL US
Most tax laws work based on the calendar year. Once December
31 passes, the opportunities to change your business's fate
as to what it must pay in income taxes for the year significantly
diminish. As you may gather from those opportunities and pitfalls
outlined in this letter, virtually every business can benefit
from a year-end tax plan. Please call our offices early enough
if you have any questions or need assistance in customizing
a plan for your business.
Reproduced with permission from CCH's Client Letter, published
and copyrighted by CCH Incorporated, 2700 Lake Cook Road,
Riverwoods, IL 60015.
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