From gathering the necessary paperwork to consulting with tax and financial professionals, tax season is a hectic time for most businesses. However, taking the time to identify all available tax savings opportunities is an essential way for businesses to improve their financial well-being through a reduced tax burden.
For tax year 2018, changes to federal law have made it particularly crucial for businesses to review the various incentives available to them. Most notably, the Tax Cuts and Jobs Act—the sweeping tax reform law enacted in December 2017—made significant changes to individual and business taxation and expanded savings opportunities for both. The following strategies will help businesses take advantage of incentives under the Tax Cuts and Jobs Act and other laws in order to minimize their tax burdens.
Verify that the business is properly classified for maximum tax savings.
The Tax Cuts and Jobs Act provides a deduction of up to 20 percent for pass-through entities, such as S-corporations, partnerships, and sole proprietorships. However, this deduction is not available to certain service-based businesses, including law firms, medical practices, and accounting firms, that have taxable income over $315,000. The new law also lowered the corporate tax rate from 35 to 21 percent. In light of these changes, businesses of all sizes should review their classifications and determine whether they would reap maximum tax savings as pass-through entities or C-corporations.
Claim the §179D deduction for qualifying energy efficiency projects.
Section 179D of the tax code offers commercial building owners a deduction of up to $1.80 per square foot for installing qualifying energy efficiency measures. Specifically, the deduction is worth up to $0.60 per square foot for improvements made to a building’s lighting systems, $0.60 for improvements to HVAC systems, and $0.60 for the building envelope. In addition, governmental entities may allocate their deductions to the primary designers—including architects and engineers—of energy efficiency measures in public buildings. Given the typically large size of commercial and public buildings, the §179D deduction may yield hundreds of thousands of dollars in tax savings.
Unfortunately, the §179D deduction expired on December 31, 2016, but the Bipartisan Budget Act of 2018 retroactively renewed it for projects completed in 2017 only. Therefore, commercial building owners and primary designers should act swiftly to determine whether they may be able to claim the deduction for qualifying projects completed in 2017. Additionally, taxpayers should stay tuned for future renewals of the §179D deduction; due to the widespread popularity of this incentive, there is a chance that it will be retroactively renewed for projects completed in 2018 and subsequent tax years.
Determine eligibility for the Research and Development (R&D) Tax Credit.
The R&D Credit is one of the most lucrative incentives in the tax code, yet it remains underutilized by many eligible businesses that mistakenly assume that it is only available for high-tech or scientific research. In reality, the R&D Credit rewards a wide range of activities routinely performed by businesses in a variety of industries, including architecture, engineering, manufacturing, and construction. This important incentive was formerly a “tax extender” like the §179D deduction, expiring at the end of each year and being renewed based on the approval of Congress. However, the Protecting Americans from Tax Hikes (PATH) Act of 2015 permanently added the R&D Credit to the tax code and made it more applicable to newer and smaller businesses. Specifically, the PATH Act allowed businesses that have been in operation for fewer than six years, have no more than $5 million in gross receipts for the current tax year, and had no gross receipts in the previous five years to apply up to $250,000 of R&D Credits per year toward their payroll tax liabilities. In addition, recent changes have alleviated alternative minimum tax (AMT) limitations that businesses faced when trying to maximize tax savings with the R&D Credit and other incentives.
Given the expansion of the R&D Credit, businesses in various industries should review their project records and consult a tax expert to determine whether they may be eligible. To claim the credit, businesses must present substantial documentation of qualified research activities, including payroll records and project lists, so they are advised to begin preparing records as early as possible. For many businesses, however, the effort involved in claiming the R&D Credit is amply rewarded with hundreds of thousands of dollars in tax savings that may be used in the current year, or carried back or forward for use in other tax years as needed.
Ensure compliance with state sales tax laws.
With over 10,000 sales tax jurisdictions across the country, businesses—particularly those that sell goods out of state—have always faced a confusing patchwork of differing rates and exemptions. However, complying with other states’ sales tax laws has become increasingly important since June 2018, when the U.S. Supreme Court issued a pivotal decision in South Dakota v. Wayfair. In Wayfair, the Court held that states may require retailers to collect sales tax on online purchases—even if the retailer does not have any physical presence, such as a store, office, or factory, within the state. Several states have already responded by enacting legislation requiring out-of-state retailers that meet certain criteria to collect sales tax, and many of these states are beginning to aggressively seek out any remote sellers that fail to comply. As a result, numerous businesses now need to keep track of the varying sales tax rules and rates across the country. Businesses should therefore adopt systems to monitor out-of-state sales transactions, and consult their tax advisors to ensure compliance with the sales tax laws of all states in which they have customers.
Take advantage of bonus depreciation.
Traditionally, the concept of bonus depreciation has permitted taxpayers to depreciate a certain percentage of the cost of business property during the year it is placed into service, and then depreciate the remainder of the cost over the course of the property’s useful life. By depreciating a greater percentage upfront—rather than in equal proportions over the property’s life—bonus depreciation allows businesses to claim more substantial and immediate tax savings. However, the Tax Cuts and Jobs Act expanded bonus depreciation, allowing businesses to deduct the following amounts of the cost of eligible property during the year it is placed into service: 100 percent from now through the year 2022, 80 percent in 2023, 60 percent in 2024, 40 percent in 2025, and 20 percent in 2026. Additionally, the new law allows businesses to claim bonus depreciation for used, as well as new, property. By taking advantage of these changes to bonus depreciation, businesses can maximize tax savings with more valuable deductions.
Invest in Opportunity Zones.
Another way in which the Tax Cuts and Jobs Act changed the tax code was with the addition of Opportunity Zones, which are economically disadvantaged communities in urban and rural areas. With a goal of stimulating economic growth and job creation, the new tax law allows certain investments in these communities to qualify for favorable tax treatment. Specifically, investors may defer tax on any prior gains invested in a Qualified Opportunity Fund (“O-Fund”) until either the date on which the investment is sold or exchanged, or December 31, 2026—whichever is earlier. O-Funds are partnerships or corporations that serve as vehicles for investing in eligible property located in Opportunity Zones. If the investment in an O-Fund is held for more than five years, there will be a ten percent exclusion of the deferred gain, increasing to fifteen percent if the investment is held for more than seven years. If the investment is held for at least ten years, the investor will qualify for an increase in basis equal to the investment’s fair market value on the date when it is sold or exchanged.
Determine eligibility for the new employer credit for paid family and medical leave.
Under §45S of the tax code, the Tax Cuts and Jobs Act offered employers a new tax credit for providing paid family and medical leave for qualifying employees. The credit is equal to a percentage of wages paid while employees are on leave. To claim the credit, employers must have a written workplace policy that provides at least two weeks of paid family and medical leave each year to all qualifying full-time employees; wages paid during leave cannot be less than half of the employee’s regular wages. Qualifying employees are those who have worked for the organization for at least a year and who, in the preceding year, did not earn more than $72,000. (This salary threshold may change in future tax years.) According to the IRS, “family and medical leave” encompasses a variety of circumstances, including the birth of an employee’s child, the placement of a child with the employee for foster care or adoption, and an employee’s own serious health condition or that of his or her spouse, child, or parent.
Employers that provide paid family and medical leave in accordance with IRS guidelines will receive a tax credit of at least 12.5 percent of the wages paid to a qualifying employee while he or she is on leave for up to twelve weeks per year. The credit amount increases by 0.25 percent for each percentage point that paid leave wages exceed 50 percent of the employee’s regular wages. Therefore, employers may claim the maximum credit of 25 percent of wages paid by continuing to pay employees at their regular salaries while they are taking family and medical leave. At this time, the new paid family and medical leave credit will not be available after December 31, 2019. Until then, however, all businesses with employees should review their workplace policies to determine whether they may be eligible for this generous tax credit.
Perform a cost segregation study.
The IRS-approved strategy of cost segregation offers a powerful way for commercial building owners to reduce their tax burdens through accelerated depreciation deductions. Most real property is depreciated over a period of 39 years, while tangible personal property is depreciated over five, seven, or fifteen years. Typically, therefore, taxpayers may claim more substantial and immediate depreciation deductions for personal property assets. However, cost segregation studies—which are performed by third-parties with tax and engineering expertise—identify assets within a building that may be reclassified as personal property. These assets may include wall coverings, carpeting, plumbing or electrical fixtures, and more. By reclassifying these real property assets as personal property, commercial building owners can minimize their taxes and increase cash flow through accelerated depreciation deductions.
Consider whether recent hires qualify for the Work Opportunity Tax Credit (WOTC).
Created with a goal of helping certain categories of job applicants overcome barriers to employment, WOTC offers employers a tax credit of up to $9,600 for each new employee hired from a target group. These target groups include veterans, ex-felons, and recipients of some forms of government assistance. To claim WOTC, employers must file the initial paperwork with their state workforce agency within 28 days of the new worker’s start date, so it is important for businesses to have systems in place for identifying WOTC-eligible job candidates and new hires. WOTC is one of the tax extenders, but was renewed by the PATH Act through December 31, 2019.
Consider tax incentives at the state and local levels.
In addition to the many tax savings opportunities found in federal law, numerous cities and states across the country offer their own tax incentives for businesses. For example, many states have R&D tax credits—which may be even more generous than the federal version.
It is also particularly important for businesses that are expanding and/or adding new employees to explore the incentives available at the state and local levels. These expansion incentives may include tax credits, exemptions, rebates, and training grants. However, many such incentives must be negotiated in advance of any final decision to expand or relocate.
In light of the Tax Cuts and Jobs Act and other changes to state and federal tax law, now is the time for businesses in all industries to work with their tax professionals to claim the savings opportunities available to them. With proper planning, a comprehensive tax strategy can be a powerful way for businesses to boost their bottom lines, freeing up cash to fuel future growth and success.
(Sources: https://www.irs.gov/newsroom/opportunity-zones-frequently-asked-questions, https://www.irs.gov/newsroom/section-45s-employer-credit-for-paid-family-and-medical-leave-faqs
Jordan Taylor, CPA, CEO/Tax Director, of Capital Review Group, https://www.capitalreviewgroup.com/).