Posted on Oct 8, 2019

The U.S. Department of Labor (DOL) has issued the long-anticipated final version of its overtime eligibility rules. The changes will take effect on January 1, 2020. As a result, the DOL estimates that 1.3 million workers will be newly eligible for overtime pay. Are any of them on your payroll? Read on to find out.

What’s Changing?

The basic change that takes effect next year is that employees, even if their jobs can be properly classified as executive, administrative or professional, are still eligible for overtime pay unless they earn at least $684 per week. That’s the equivalent of a $35,568 annual salary. The previous “white-collar” employee threshold, set in 2004, was $455 per week or $23,660 per year.

According to the DOL, the updated amount will “set an appropriate dividing line between nonexempt and potentially exempt employees by screening out from exemption only those employees who, based on their compensation, are unlikely to be bona fide executive, administrative or professional employees.”

In addition, the annual income threshold for overtime pay eligibility for “highly compensated employees” (HCEs) has increased from $100,000 to $107,432. Employees whose jobs don’t come under the executive, administrative or professional classifications must earn at least that amount to lose eligibility for overtime pay.

The new HCE threshold was set at the 80th percentile of weekly earnings of salaried workers nationwide. That’s down from the 90th percentile in the earlier proposed version of the new rule.

How Will Bonuses Factor into the Overtime Equation?

Some earnings that aren’t part of the employee’s regular pay can be added to their base pay when calculating where they are in relationship to the exempt threshold. Specifically, a formula-based extra pay component that’s not discretionary — such as a bonus based on productivity, corporate profits or sales commission — can be added to base pay for overtime pay eligibility calculation purposes.

However, the variable pay component can’t represent more than 10% of that employee’s total pay. Also, it must be given no less often than annually to qualify.

On a positive note, the new rule gives employers the opportunity to make last-minute payments to push an employee into nonexempt status. According to the DOL, “If an employee does not earn enough in nondiscretionary bonuses and incentive payments (including commissions) in a  given 52-week period to retain his or her exempt status, the Department permits a ‘catch-up’ payment at the end of the 52-week period.” The rules give an employer one pay period to make up for a shortfall of up to 10% of the standard salary level for the preceding 52-week period.

Does the “Duties Test” Still Apply?

The new rule doesn’t change the “duties test” that is the basis for determining exempt status. As a reminder, it’s not enough to give an employee an administrative, executive or professional job title and deem the employee exempt. If an employee sues, asserting entitlement to overtime pay, the focus will continue to be his or her actual job function.

This means, beginning next year, any employee that you’ve classified as exempt based on having an administrative, executive or professional job, who earns from $35,568 to $107,432, could challenge that status if the job doesn’t meet the applicable duties test.

For example, the DOL considers a job eligible for exempt status under the “administrative” classification if the employee’s primary duty is “the performance of office or non-manual work directly related to the management or general business operations of the employer or the employer’s customers, and the employee’s primary duty includes the exercise of discretion and independent judgment with respect to matters of significance.”

How Should Employers Prepare for the Changes?

To prepare for the 2020 effective date of the new regulations, employers should review their payroll records for workers in the following pay ranges:

Employees earning from $23,660 to $35,567. For workers in this pay range who are treated as exempt and are properly classified based on the duties test, you have two options: 1) Treat them as eligible for overtime pay and set up your hours-worked tracking and payroll systems accordingly, or 2) increase their annual salary to at least $35,568.

Employees earning from $35,568 to $107,432. Workers in this pay range who are treated as exempt based on one of the administrative, executive or professional job categories could be eligible for overtime pay if they fail the duties test. You have two choices for these workers: 1) Reclassify them as nonexempt, or 2) adjust their job duties to make them legitimately exempt.

Important: Just because a formerly exempt employee gains nonexempt status doesn’t make overtime pay inevitable. You can minimize overtime pay by carefully tracking workhours and requiring manager authorization for employees to work beyond 40 hours in a given week.

Need Help?

When the DOL issued its final overtime rules, the agency acknowledged that 15 years is a long time to wait to adjust the overtime pay thresholds. The DOL “intends to update the standard salary and HCEs total annual compensation levels more regularly in the future through notice-and-comment rulemaking.” Contact your tax and payroll professional for more information on the new rules and assistance on implementing the changes.

Posted on Oct 3, 2019

Job applicants look at more than just wages when evaluating potential employers. They consider the whole compensation package, including fringe benefits and perks. These add-ons enable employers to cast a wider net in the job market, helping them attract and retain top-quality workers.

Unfortunately, tax breaks for some fringe benefits were eliminated or suspended by the Tax Cuts and Jobs Act (TCJA). (See “Some TCJA Provisions Could Cost You” at right.) However, some other fringe benefits are still deductible by employers and tax-free to employees.

Some TCJA Provisions Could Cost You

The Tax Cuts and Jobs Act (TCJA) includes tax breaks for both individuals and businesses. But some breaks were limited or eliminated. Notably, the rules for some employer-provided fringe benefits are less taxpayer friendly than before.

For example, tax-favored treatment for certain transportation fringe benefits has been cut by the TCJA. Employers can no longer deduct the cost of providing commuting transportation to an employee (such as hiring a car service), unless the transportation is necessary for the employee’s safety. Employers also can’t deduct qualified employee transportation fringe benefits, such as parking allowances, mass transit passes and van pooling. These benefits are still tax-free to recipient employees. But the tax-free amount can’t exceed a maximum monthly dollar limit, adjusted for inflation, which is $265 for 2019.

The TCJA also temporarily eliminates tax-free employer reimbursements for job-related moving expenses (except for certain military personnel). Any employer reimbursements must be reported as taxable income on a nonmilitary employee’s W-2. This provision is effective for 2018 through 2025.

In addition, under the TCJA, employers can deduct only 50% of the cost of meals provided via an on-premises cafeteria or otherwise on the employer’s premises for the convenience of the employer. (Under the pre-TCJA rules, these meals were 100% deductible by the employers and tax-free to the recipient employee.)

After 2025, the cost of meals provided through an on-premises cafeteria or otherwise on the employer’s premises won’t be deductible at all. Nevertheless, the meals will continue to be tax-free to employees as a de minimis benefit.

Other benefits that remain taxable to employees and nondeductible by employers under current law include:

  • Excessive mileage reimbursements,
  • Excessive education benefits,
  • Work clothing suitable for regular wear,
  • Cash awards and prizes, and
  • Personal use of a company vehicles.

For more information about the tax rules for fringe benefits, contact your tax advisor.

Here are 14 popular benefits that remain on the books after the TCJA.

1. Achievement awards. The tax law defines “achievement award” as an item of tangible personal property granted to an employee for either length of service or promoting safety. Examples include gold watches and smartphones. For a written qualified plan, the maximum tax-free award is $1,600, while the maximum for a nonqualified plan is $400.

2. Athletic facilities. Employees can benefit from tax-free use of an onsite athletic or health club facility if the employer operates it. Such a facility is available to the employee, his or her spouse and any dependents. Furthermore, it may be used by retired employees and shareholder-employees. This category of benefits includes gyms, tennis courts and pools.

3. Company vehicles. As a general rule, the use of a company-provided vehicle for business is tax-free to the employee. However, the value of personal use (other than “de minimis” use) must be included in the employee’s taxable income, based on special IRS computations.

4. De minimis benefits. These tax-free perks can range from free use of the company’s copying machine for personal reasons to free coffee, soft drinks and donuts. It also includes most birthday gifts from the company and holiday hams or turkeys.

5. Dependent care assistance. The first $5,000 of dependent care assistance paid by an employer under a written plan is tax-free to employees. To qualify, the dependent must be:

A child under age 13,
A child who is physically or mentally unable to care for himself or herself, or
A spouse who is physically or mentally incapable of self-care.
However, the amount of the exclusion can’t exceed the earned income of a single employee or the earned income of the lower-paid spouse if the employee is married.

6. Educational assistance plans. A company can provide tax-free payments of up to $5,250 for college or graduate school tuition, books, fees and supplies under an educational assistance plan. The courses covered under the plan do not have to be related to the job. But any payments for courses involving sports, games or hobbies are covered only if the course is job-related or required as part of a degree program.

7. Employee discounts. A company can provide tax-free discounts to employees on its products or services. For products, the discount percentage can’t exceed the gross profit percentage of the price at which the product is offered to regular customers. For services, the discount percentage can’t be more than 20% off the price at which the service is offered to regular customers.

8. Group-term life insurance. This is usually a prized perk for highly-paid executives, even though there’s a tax price attached to “excess” coverage. Only the first $50,000 of coverage under a group-term life insurance plan is tax-free. For instance, if an executive earning $150,000 is covered at three times salary, he or she owes tax on $400,000 of coverage ($450,000 – $50,000). The tax hit, which is computed under an IRS table based on the employee’s age, is generally reasonable.

9. Health insurance. Premiums paid by an employer under a health insurance plan are tax-free to the employees and deductible by the employer as long as the plan is open to rank-and-file workers. Additionally, employees can take advantage of tax-favored flexible spending accounts (FSAs) for qualified healthcare expenses and Health Savings Accounts (HSAs) funded by employers.

10. Mobile phones. The value of the business use of an employer-provided mobile phone provided primarily for noncompensatory business reasons is excluded from taxable income. Generally, this covers employer-provided devices that are to be used for business purposes.

11. Professional and civic organization dues. Dues paid by an employer on behalf of employees to professional and civic organizations are tax-free. But there must be a business purpose to having membership in the organization. It can’t just be a social club.

12. Qualified retirement plans. Generally, contributions provided under 401(k), pension, profit-sharing or other qualified retirement plans are exempt from tax and these amounts can grow without any current tax erosion until employees make withdrawals. Also, contributions are subject to generous annual limits, including potential matching contributions to a 401(k) by an employer, but strict nondiscrimination requirements must be met.

13. Supper money. This is tax-free to employees if it’s 1) provided only on an occasional basis and 2) due to special circumstances. In the case of meals or meal money, the benefit must be provided to enable the employee to work overtime, even if the need to work overtime was foreseeable. The employer can deduct 50% of the cost.

14. Working condition fringe benefit. This includes property or services provided to employees so they can do their jobs. Examples include job-related education and business-related travel costs.

As you can see, there are still plenty of opportunities for employers to reward employees with tax-free benefits even after the TCJA changes. Contact your tax advisor to discuss the best options for your situation.

Posted on Oct 1, 2019

Reducing your current-year adjusted gross income (AGI) is usually a tax-smart idea. Here are ten ways to reduce your AGI (and modified AGI) over the short and long run.

Closeup on AGI

AGI equals all taxable income items minus selected deductions for such items as deductible IRA and retirement plan contributions and alimony payments required by pre-2019 divorce agreements.

Lowering your AGI reduces your taxable income for the year and your exposure to unfavorable AGI-based provisions. For example, lowering AGI can increase the amount of Social Security benefits that you can receive federal-income-tax-free and increase your allowable higher education tax credits.

5 Ideas for 2019

It’s not too late to reduce your AGI for the current tax year. Consider these last-minute tax planning strategies:

1. Sell loser securities held in taxable brokerage firm accounts. The losses can offset earlier gains in such accounts. This will also help higher-income taxpayers reduce their exposure to the 3.8% net investment income tax (NIIT). Note: Without gains to offset, losses aren’t that helpful because they’re limited to $3,000 per year. If your net capital loss is more than this limit, you can carry the loss forward to later years.

2. Gift soon-to-be-sold appreciated securities to family members. Assuming the recipient is in a lower tax bracket, this strategy also can help reduce tax owed on the gain. But beware of the kiddie tax, which can potentially apply until the year your gift recipient turns 24.

3. Donate appreciated securities, rather than cash, to IRS-approved charities. The charity won’t owe tax on the gain — and you’ll get a deduction for the full fair market value of the donated securities if you’ve held them for more than a year. This strategy can also help higher-income taxpayers reduce their exposure to the 3.8% NIIT.

4. Maximize deductible contributions to tax-favored retirement accounts. Contribute as much as is allowed (and you can afford) to 401(k) accounts, self-employed SEP accounts, self-employed SIMPLE IRAs and other tax-favored retirement accounts. As a bonus, you’ll have a bigger nest egg when you retire.

5. Defer revenue from small businesses and accelerate business expenses. If you’re a cash-basis self-employed individual, you can take steps to postpone collections until 2020 or, conversely, accelerate deductions taken in 2019. For example, you might delay billing a customer until January for work completed near year end, or you might prepay deductible business expenses using a credit card.

5 Long-Term Strategies for Future Years

Sometimes taxpayers need to consider the long-term view — even if they might have to pay extra taxes in the short run. The following moves could help significantly over the long run, especially if tax rates are higher in future years:

1. Convert traditional retirement account balances to Roth accounts. The deemed taxable  distributions that result from Roth conversions will increase AGI and potentially your exposure to the 3.8% NIIT in the conversion year. However, income and gains that build up in a Roth IRA won’t be included in your AGI in future years. That’s because qualified Roth distributions are federal-income-tax-free. Qualified Roth distributions are also free of the 3.8% NIIT.

In contrast, the taxable portion of distributions from other types of tax-favored retirement accounts and plans will be included in your future-year AGI. Plus, they’ll increase your future-year exposure to the 3.8% NIIT.

2. Invest taxable brokerage firm account money in growth stocks. Gains aren’t taxed until the stocks are sold. At that time, the negative tax impact of gains often can be offset by selling other securities that will incur losses for tax purposes. In contrast, stock dividends are taxed currently, and it may not be as easy to offset them.

3. Invest more taxable brokerage firm money in tax-exempt bonds. This would reduce your future AGI and your future exposure to the 3.8% NIIT. You can use tax-favored retirement accounts to invest in securities that are expected to generate otherwise-taxable gains, dividends and interest.

4. Invest in rental real estate and oil and gas properties. Rental real estate income can be offset by depreciation deductions; oil and gas income can be offset by deductions for intangible drilling costs and depletion. These deductions will reduce AGI.

5. Invest in life insurance products and tax-deferred annuity products. Life insurance death benefits are generally exempt from both federal income tax and the 3.8% NIIT. Earnings from life insurance contracts and tax-deferred annuities aren’t taxed until they’re withdrawn.

Multiple Levels of Tax Savings

Some of these strategies can reduce both your regular federal income tax (FIT) bill and, if applicable, your NIIT bill. If you’re self-employed, some may also lower your self-employment tax bill. Finally, these strategies can also reduce your state income tax bill, if you live in a state that assesses a personal income tax.

Some strategies may take some time to implement, however. There’s no time like the present to identify AGI-reduction strategies that can help your situation. Contact your tax advisor for more information.

Posted on Sep 9, 2019

For most small businesses, having a website is a necessity. But what’s the proper tax treatment of the costs to develop a website?

Unfortunately, the IRS hasn’t yet released any official guidance on these costs. Therefore, you must extend the existing guidance on other subjects to the issue of website development costs.

Depreciable Fixed Assets

The cost of hardware needed to operate a website falls under the standard rules for depreciable equipment. Similar rules apply to purchased off-the-shelf software.

Specifically, once these assets are up and running, you can deduct 100% of the cost in the first year they’re placed in service, as long as that year is before 2023. This favorable treatment is allowed under the 100% first-year bonus depreciation break established by the Tax Cuts and Jobs Act (TCJA).

In later years, you can probably deduct 100% of these costs in the year the assets are placed in service under the Section 179 first-year depreciation deduction privilege. However, Sec. 179 deductions are subject to several limitations.

For tax years beginning in 2019, the maximum Sec. 179 deduction is $1.02 million, subject to a phaseout rule. Under the rule, the deduction is phased out if more than a specified amount of qualifying property is placed in service during the tax year. The threshold amount is $2.55 million for tax years beginning in 2019.

There’s also a taxable income limit. Under that limit, your Sec. 179 deduction cannot exceed your business taxable income. In other words, Sec. 179 deductions can’t create or increase an overall tax loss. However, any Sec. 179 deduction amount that you can’t immediately deduct is carried forward and can be deducted in later years (to the extent permitted by the applicable dollar limit, the phaseout rule and the taxable income limit).

Important: Software license fees are treated differently from purchased software costs for tax purposes. Payments for leased or licensed software used for your website are currently deductible as ordinary and necessary business expenses under Sec. 162.

Internally Developed Software

If you take the position that your website is primarily for advertising, you can currently deduct internal website software development costs as an ordinary and necessary business expense.

An alternative position is that your software development costs represent currently deductible research and development costs under Sec. 174. To qualify for this treatment, the costs must be paid or incurred by December 31, 2022.

A more conservative approach would be to capitalize the costs of internally developed software. Then you would depreciate them over 36 months under Sec. 167(f).

Payments to Third Parties

Some companies take the easy way out. They hire third parties to set up and run their websites. Payments to such third parties should be currently deductible as ordinary and necessary business expenses.

Expenses Incurred before Business Commences

Up to $5,000 of otherwise deductible expenses that are incurred before your business commences can generally be deducted in the year business commences. These so-called “start-up expenses” are covered by Sec. 195.

However, if your start-up expenses exceed $50,000, the $5,000 currently deductible limit starts to be chipped away. Above this amount, you must capitalize some or all of your start-up expenses and amortize them over 60 months, starting with the month that business commences.

Important: Start-up expenses can include website development costs. But they don’t include costs that you treat as deductible research and development costs under Sec. 174. You can deduct those costs when they are paid or incurred, even if your business hasn’t yet commenced.

Need Help?

Until the IRS issues specific guidance on deducting vs. capitalizing website development costs, you can apply existing guidance for other subjects. Your tax advisor will determine the appropriate treatment for these costs for federal income tax purposes. Contact your advisor if you have questions or want more information.

Posted on Sep 3, 2019

Even before passage of the Tax Cuts and Jobs Act (TCJA), construction companies and other types of businesses were eligible for several generous depreciation-based tax breaks. Now it’s a veritable tax bonanza! If you take advantage of one or a combination of the following four provisions, you may be able to depreciate all or most of the cost of business property the first year it’s placed in service.

1. Section 179 Expensing

Under Section 179 of the Internal Revenue Code, a business can elect to “expense” (currently deduct) the cost of qualified property placed in service, up to an annual limit. However, the deduction can’t exceed the amount of income from the business activity and it’s subject to a phaseout above a specified threshold.

Before recent tax reform, the maximum Sec. 179 deduction only gradually increased to $500,000, and the phaseout threshold peaked at $2 million. The TCJA has effectively doubled the maximum deduction to $1 million and increased the phaseout threshold to $2.5 million, with inflation indexing.

So, if your construction business has 2019 earnings of $5 million and it buys $1 million of equipment, it can write off the entire cost this year. It’s important to note, however, that some businesses will be affected by the taxable income limit.

2. Bonus Depreciation

Thanks to another TCJA provision, the 50% bonus depreciation deduction has doubled to 100%. It’s effective for qualified property placed in service after September 27, 2017.

For bonus depreciation purposes, qualified property includes tangible property depreciable under the Modified Accelerated Cost Recovery System (MACRS) with a recovery period of 20 years or less. Significantly, the TCJA has also expanded the definition of qualified property to include used property. Previously, only new property was eligible.

By combining Sec. 179 deduction and bonus depreciation, you may be able to write off the full cost of depreciable business property the first year you place it in service. But be aware that the bonus depreciation deduction will be phased out after five years as follows:

  • 80% for property placed in service in 2023,
  • 60% for property placed in service in 2024,
  • 40% for property placed in service in 2025, and
  • 20% for property placed in service in 2026.

After 2026, bonus depreciation will no longer be allowed (unless, of course, new tax legislation extends it).

3. MACRS Deductions

MACRS is the method most often associated with standard depreciation deductions. Under this method, the cost of qualified property placed in service is recovered over a period of years. The system is designed to provide bigger write-offs in the early years of ownership.

Annual deductions are based on the useful life of the property. For example, computers have a five-year write-off period, while most other equipment is depreciated over seven or 15 years. Typically, a construction business may use Sec. 179 and bonus depreciation deductions with MACRS deductions for any remainder.

4. Business Vehicle Write-offs

The TCJA has also enhanced write-offs for business vehicles. According to the special rules for “luxury automobiles,” depreciation deductions are subject to annual limits. Previously, these limits kicked in at relatively low levels. But vehicles placed in service after 2018 can benefit from increased dollar limits that are indexed for inflation. Now, the annual deduction limits for a passenger car or light duty truck or van are:

  • $10,000 for the first year placed in service,
  • $16,000 for the second year,
  • $9,600 for the third year, and
  • $5,760 for each succeeding year.

The TCJA retained the $8,000 additional first-year depreciation break for passenger vehicles. Therefore, you should be able to deduct up to $18,000 the first year you place a vehicle in service.

Watch Out for the Last-Quarter Tax Tap

Despite enhancements to Section 179 and bonus depreciation, you may decide to use the Modified Accelerated Cost Recovery System (MACRS) to recover the cost of business property over time. If so, beware of a little-known tax trap.

Typically, MACRS deductions are calculated under a “mid-year convention.” This means that you benefit from a half-year’s deduction, regardless of when during the year you placed the property in service. However, if property placed in service in the year’s last quarter — October 1 through December 31 — exceeds 40% of the cost of all assets placed in service during the year, depreciation deductions for all property are figured under the “mid-quarter convention.” This generally reduces depreciation deductions for the year.

Boon for Business

TCJA’s depreciation-related breaks are widely recognized as a boon for businesses. As you contemplate making year-end purchases, be sure to factor in potential tax advantages.

Posted on Aug 13, 2019

Does your son or daughter work during the summer or school year? A part-time job can be a great way for your child to learn about financial responsibility. It can also teach a valuable lesson about owing taxes. In addition to explaining why the government takes money from kids’ paychecks, parents may need to help their children file their taxes by April 15.

Here are answers to common questions about the tax rules that may apply to kids.

Does My Child Need to File a Tax Return?

For 2019, your dependent child must file a federal income tax return in the following situations:

  • The child has unearned income of more than $1,100. If your child has more than $2,200 of unearned income, he or she may be subject to the so-called “kiddie tax.”
  • The child’s gross income exceeds the greater of 1) $1,100, or 2) earned income up to $11,850 plus $350.
  • The child’s earned income exceeds $12,200.
  • The child owes other taxes, such as the self-employment tax or the alternative minimum tax (AMT).

Even if your child isn’t required to file a tax return, one should be filed if federal income tax was withheld for any reason and would be refunded if a return is filed. It’s also necessary to take advantage of certain beneficial tax elections, such as the election to currently report accrued U.S. Savings Bond income that would be sheltered by your child’s standard deduction.

Who’s Responsible for Filing My Child’s Return?

A child is generally responsible for filing his or her own tax return and for paying any tax, penalties and interest. If a child can’t file his or her own return for any reason, the child’s parent, guardian or other legally responsible person must file it on the child’s behalf.

If the child can’t sign the return, a parent or guardian must sign the child’s name followed by the words “By (signature), parent or guardian for minor child.” If you sign a child’s tax return, you can deal with the IRS on all matters related to the return.

In general, a parent or guardian who doesn’t sign can only provide information concerning the return and pay the child’s tax bill. The parent or guardian isn’t entitled to receive information from the IRS and can’t legally bind the child to a tax liability arising from the return.

Can I Report My Child’s Income on  My Tax Return?

For a given tax year, parents can choose to report their children’s income on their tax return if:

  • The child will be under age 19 (or under age 24 if a full-time student) as of December 31, and
  • All of the child’s income is from interest and dividends, including mutual fund capital gains distributions and Alaska Permanent Fund dividends.

So, kids with income from working part-time jobs don’t qualify. Your tax professional can tell you if this option is allowable and advisable in your specific family situation.

What’s the Kiddie Tax?

For 2018 through 2025, the Tax Cuts and Jobs Act (TCJA) revamped the kiddie tax rules. Under the TCJA, a portion of the kid’s (or young adult’s) unearned income is taxed at the higher rates paid by trusts and estates. Those rates can be as high as 37% and as high as 20% for long-term capital gains and dividends.

Under prior law, the kiddie tax rate equaled the parent’s marginal rate. For 2017, a parent’s marginal rate could have been as high as 39.6% or 20% for long-term capital gains and dividends.

Follow these steps to calculate your child’s taxable income:

  • Add the child’s net earned income and net unearned income.
  • Subtract the child’s standard deduction.

The portion of taxable income that consists of net earned income is taxed at the regular rates for a single taxpayer. The portion of taxable income that consists of net unearned income and that exceeds the unearned income threshold ($2,200 for 2019) is subject to the kiddie tax. This amount is taxed at the higher rates that apply to trusts and estates.

Unearned income for purposes of the kiddie tax means income other than wages, salaries, professional fees, and other amounts received as compensation for personal services. Some examples of unearned income are capital gains, dividends and interest. Earned income from a job or self-employment is never subject to the kiddie tax.

Important: For a given tax year, any child (or young adult) who meets the following conditions must file Form 8615,  “Tax for Certain Children Who Have Unearned Income”:

The child has more than $2,200 of unearned income (for 2019).
He or she is required to file Form 1040.
He or she is 1) under age 18 as of December 31, 2) age 18 as of December 31 and didn’t have earned income in excess of half of his or her support, or 3) between ages 19 and 23 as of December 31 and a full-time student and didn’t have earned income in excess of half of his or her support.
He or she has at least one living parent as of December 31.
He or she doesn’t file a joint return for the year.

Child-Related Tax Breaks

It can be expensive to raise a child. Fortunately, parents may be eligible for several child-related federal income tax breaks, including:

Child credit. For 2018 through 2025, the Tax Cuts and Jobs Act (TCJA) increases the maximum child credit from $1,000 to $2,000 per qualifying child. The hitch? Only kids under age 17 qualify.

Up to $1,400 of this credit can be refundable, meaning you can collect it even if you don’t owe any federal income tax. Under the TCJA, the income levels at which the child credit is phased out have significantly increased, so many more families now qualify for it.

Tax credit for over-age-16 dependents. For 2018 through 2025, the TCJA establishes a new $500 tax credit that can be claimed for a dependent child who isn’t under age 17.

The term “dependent” means you pay over half the child’s support. However, a child in this category also must pass an income test to be classified as your dependent for purposes of the $500 credit. For 2019, your over-age-16 dependent child passes the income test if his or her gross income doesn’t exceed $4,200.

Higher education tax credits. Paying college costs could qualify parents for one of two federal tax credits. First, the American Opportunity credit can be worth up to $2,500 during the first four years of a child’s college education. Second, the Lifetime Learning credit can be worth up to $2,000 annually, and it can cover just about any higher education tuition costs.

Both higher education credits are phased out at higher income levels. But the Lifetime Learning credit is phased out at much lower income levels than the American Opportunity credit. Also, you can’t claim both credits for the same student in the same year.

Deduction for student loan interest. This deduction can be up to $2,500 for qualified student loan interest expense paid by a parent. However, for 2019, the deduction begins to phase out when modified adjusted gross income is above $70,000 for single taxpayers and $140,000 for married couples filing jointly.

In addition to these tax breaks, single parents may be able to file their taxes using head of household (HOH) filing status. This is preferable to single filing status, because the tax brackets are wider and the standard exemption is bigger (if you don’t itemize deductions). HOH status is available if:

Your home was for more than half the year the principal home of a qualifying child for whom a personal exemption deduction would be allowed under prior law, and
You paid more than half the cost of maintaining the home.

Where Can I Find More Information?

The rules for kids can be complicated in certain situations, especially when the kiddie tax comes into play. Contact your tax advisor if you have additional questions about the tax consequences of working a part-time job or reporting unearned income from investments, as well as potential tax-saving opportunities that come with parenthood.

 

Posted on Aug 9, 2019

Most private sector employers, for better or worse, put you in the driver’s seat when it comes to saving for retirement. If you’re a genuinely savvy and diligent investor, you might prefer the flexibility of rolling over your accumulated retirement savings into an IRA. This choice assumes, however, that your next employer’s 401(k) plan allows you to move money into it from another 401(k) plan. Most, but not all, do.

Keep in mind, there are some important distinctions between IRAs and 401(k)s that matter to retirement investing sophisticates and novices alike:

  • One bit of flexibility 401(k) plans typically offer is that you can borrow against your plan account balance penalty-free. (You’ll need to pay your account interest on the loan.) Loans aren’t possible with an IRA. And it might take you a while to accumulate enough money in a new 401(k) that you’re starting without a rollover to make a loan worthwhile.
  • Another plus for rolling over to your new employer’s 401(k) is that assets held in qualified retirement plans — which don’t include IRAs — are generally off-limits from debt collectors. There are exceptions, such as qualified domestic relations orders, money you owe the IRS and federal criminal cases. IRA assets can enjoy some protection from creditors, but the extent varies according to state law.

“Rule of 55”

Also, under some circumstances, you can take funds out of a 401(k) plan earlier than you can from an IRA without paying the 10% early withdrawal penalty that usually applies to withdrawals prior to age 59 1/2. The “rule of 55,” as it’s known, lets you start taking money out of your current 401(k) plan the year you turn 55 if you leave that job (whether it was your decision or your employer’s). However, it only applies to dollars you put into the plan during your stint with your most recent employer. So, you wouldn’t be penalized for having rolled over 401(k) dollars from a prior employer to an IRA, but it’s still useful to know about.

If none of those considerations matters a great deal to you, you can move to the next level of comparisons — investment options and costs. Suppose you’re relatively close to retirement and want to be very conservative with your investments. “Stable value” funds are a popular option for conservative investors. These are essentially bond portfolios that provided a fixed return over a set period, backed by an insurance company guarantee. They’re available only in 401(k) plans, not IRAs.

In theory, though, you can get just about any other kind of investment in an IRA. However, your  IRA investment options will vary based on the financial institution you choose as your custodian. Also, some financial services companies give you incentives to invest in their own financial products, and penalize you if you opt for outside funds. That’s fine if you’re content with the firm’s own investments, but no one wants to feel trapped.

Focus on Fees

A broader potential hazard associated with IRAs is being stuck with “retail” class shares of mutual funds. Such shares carry higher fees than “institutional” shares generally (but not always) available to 401(k) investors. But you also need to consider differences in total expenses charged against your retirement assets, including 401(k) plan administrative costs. Often smaller employers pay higher administrative fees than larger plans, and those fees are typically borne by employees.

Even relatively small differences in combined fees can have a big impact on your retirement savings accumulation over time. For example, paying a half a percent more in annual fees on $12,000 in annual retirement savings over a 25-year period would reduce those savings by $65,000.

The quality and independence of the investment advice you’d receive in either scenario could also be an important consideration for your rollover decision. Employers generally use 401(k) advisors who are held to a “fiduciary” standard of care. The person or people within a company in charge of a 401(k) plan are also considered fiduciaries. This means they’re legally bound to act in your best interest — and vulnerable to being sued if they don’t. If you work with a traditional broker with your IRA, he or she might not be held to such a high standard.

That distinction doesn’t guarantee that one advisor will be better than the other, but it’s an important factor to take into consideration. Also, a relatively new player on the investment management scene — the “robo-advisor” — is an investment platform for IRA (and other) investors that can guide your choices with computer-generated recommendations.

Given the high stakes, don’t rush your decision on what to do with your 401(k) funds from a former employer. Chances are that your employer won’t try to force you to move your funds out of their plan — especially if you have at least $5,000 in your account. If that’s the case, you can take as long as you want to decide — including the choice of leaving the money right where it is.

 

Posted on Aug 5, 2019

The Tax Cuts and Jobs Act (TCJA) imposes a new limitation on deductions for business interest expense. The IRS recently issued guidance in the form of proposed regulations. The business interest expense limitation is a permanent change for tax years that began in 2018. Thankfully, many businesses are unaffected. Here’s what you need to know.

Prior Law

 

Before the TCJA, some corporations were subject to the so-called “earnings stripping” rules. Those rules attempted to limit deductions by U.S. corporations for interest paid to related foreign entities that weren’t subject to U.S. income tax. Other taxpayers could generally fully deduct business interest expense (subject to restrictions, such as the passive loss rules and the at-risk rules).

TCJA Change

The TCJA shifts the business interest deduction playing field. For tax years beginning in 2018, a taxpayer’s deduction for business interest expense for the year is limited to the sum of: 1) business interest income, plus 2) 30% of adjusted taxable income (as defined later), plus 3) floor plan financing interest paid by certain vehicle dealers. This new interest expense deduction limitation can potentially affect all types of businesses — corporate and noncorporate.

Business interest expense is defined as interest on debt that’s properly allocable to a trade or business. However, the term trade or business doesn’t include the following excepted activities:

  • Performing services as an employee,
  • Electing real property businesses,
  • Electing farming businesses, and
  • Businesses that sell electrical energy, water, sewage disposal services, gas or steam through a local distribution system, or transportation of gas or steam by pipeline, if the rates are established by a specified governing body.

Interest expense that’s disallowed under the limitation rules is carried forward to future tax years indefinitely and treated as business interest expense incurred in the carry-forward year.

Proposed Regulations

The IRS has issued proposed regulations on how to apply the business interest expense limitation. The proposed regulations are organized into these sections:

1. Definitions used throughout the proposed regulations.

2. General rules on how to calculate the business interest expense limitation.

3. Ordering rules and rules coordinating the limitation with other tax code provisions, such as the passive activity loss rules.

4. Rules for C corporations and tax-exempt corporations.

5. Rules on the treatment of C corporation disallowed business interest expense carry-forwards.

6. Special rules for applying the limitation to partnerships and S corporations and their owners.

7. Rules for foreign corporations and their shareholders.

8. Rules for foreign persons with effectively connected income.

9. Rules for elections by eligible real property businesses and farming businesses to be exempted from the business interest expense limitation.

10. Rules for allocating income and expenses between nonexcepted and excepted trades and businesses. Excepted trades and businesses are electing real property businesses, electing farming businesses and regulated utilities.

11. Transition rules for the limitation.

Unless otherwise stated, the proposed regs would be effective for tax years ending after the date they’re published in the form of final regulations. However, taxpayers can choose to follow the proposed rules for tax years beginning in 2018 — if they apply the proposed rules consistently.

Small Business Exception

The good news is that many businesses are exempt from the interest expense limitation rules under what we’ll call the small business exception. With this exception, a taxpayer (other than a tax shelter) is exempt from the limitation if the taxpayer’s average annual gross receipts are $25 million or less for the three-tax-year period ending with the preceding tax year.

Businesses that have fluctuating annual gross receipts may qualify for the small business exception for some years but not for others — depending on the average annual receipts amount for the preceding three-tax-year period. For example, if your business has three good years, it may be subject to the interest expense limitation rules for the following year. But if it’s been a bad year, it may qualify for the small business exception for the following year. If average annual receipts are typically over the $25 million threshold, but not by much, judicious planning may allow you to qualify for the small business exception for at least some years. Your tax advisor can help with that.

Interaction with Other Limitations

The rules in the proposed regs generally apply only to interest expense that could otherwise be deducted without regard to the business interest expense limitation. So interest expense that has been disallowed, deferred or capitalized in the current tax year, or that hasn’t been accrued yet, shouldn’t be taken into account when considering the limitation. However, the limitation should be applied before applying the passive activity loss rules, the at-risk rules and the new excess business loss disallowance rule.

Calculating the Deduction Limitation

Assuming your business doesn’t qualify for an exception, the business interest expense deduction for the tax year can’t exceed the sum of: 1) business interest income, plus 2) 30% of adjusted taxable income, plus 3) any floor plan financing interest expense.

Adjusted taxable income means taxable income calculated by making adjustments to factor out the following:

1. Items of income, gain, deduction or loss that aren’t allocable to a business,

2. Any business interest income or business interest expense,

3. Any net operating loss deduction,

4. The deduction for up to 20% of qualified business income from a pass-through business entity,

5. Any allowable depreciation, amortization or depletion deductions for tax years beginning before 2022, and

6. Other adjustments listed in the proposed regulations.

Deductions for depreciation, amortization, and depletion are added back when calculating adjusted taxable income for tax years beginning before 2022. For tax years beginning in 2022 and beyond, these deductions won’t be added back, which may greatly increase the taxpayer’s adjusted taxable income amount and result in a lower interest expense limitation amount.

Example

For 2019, BB Co. has $20,000 of business interest income, $250,000 of business interest expense and $1 million of adjusted taxable income. Assume the small business exception doesn’t apply. The company can deduct all $250,000 of its business interest expense because that amount is less than the deductible limit of $320,000 [$20,000 of business interest income + $300,000 (30% of the $1 million of adjusted taxable income)].

For 2020, BB Co. has $20,000 of business interest income, $120,000 of business interest expense and only $100,000 of adjusted taxable income. The company can only deduct $50,000 of its business interest expense in 2020 [$20,000 of business interest income + $30,000 (30% of the $100,000 of adjusted taxable income)]. The $70,000 of disallowed interest expense ($120,000 – $50,000) is carried forward to future years.

This example illustrates that the business interest expense limitation is more likely to affect a business when it’s having a subpar year. The only good news is that the disallowed interest is carried forward to future years, so it can potentially be deducted when things get better.

Important: For tax years beginning before 2022, taking advantage of generous depreciation tax breaks (such as 100% first-year bonus depreciation and Section 179 deductions) will not reduce adjusted taxable income. For later years, taking advantage of such breaks will reduce adjusted taxable income, which will make the interest expense limitation more likely to come into play.

The interest expense deduction limitation rules get more complicated for businesses operating as partnerships, limited liability companies (LLCs) treated as partnerships for tax purposes and  S corporations.

Electing Out of the Limitation

Eligible real property and farming businesses can elect out of the new business interest expense limitation. However, electing to be exempt has a tax cost.

Real Property Businesses

Real property businesses can elect out of the rules if they use the Alternative Depreciation System (ADS) to depreciate their nonresidential real property, residential rental property and qualified improvement property. Using the ADS results in lower annual depreciation deductions because its depreciation periods are longer than the depreciation periods under the regular MACRS (Modified Accelerated Cost Recovery System) rules that usually apply. Real property businesses include developing, redeveloping, constructing, reconstructing, acquiring, converting, renting, operating, managing, leasing and brokering real property.

Affected real estate businesses should evaluate the tax benefit of gaining bigger interest expense deductions by electing out of the interest expense limitation rules vs. the tax detriment of lower depreciation deductions under the ADS. If the election out is made, first-year bonus depreciation that would otherwise be allowed for real property assets won’t be allowed under the ADS.

Farming Businesses

Eligible farming businesses can also elect out of the interest expense limitation rules. Farming businesses include nurseries; sod farms; raising or harvesting of tree crops, other crops, or ornamental trees; and certain agricultural and horticultural cooperatives. These businesses can elect out of the rules if they use the ADS to depreciate assets used in the farming business that have MACRS depreciation  periods of 10 years or more.

Special Partnership and S Corporation Rules

Basically, the limitation is calculated at both the entity level and at the owner level. Special rules prevent double counting of income when calculating an owner’s adjusted taxable income for purposes of applying the limitation at the owner level.

The proposed regs set forth the special rules for applying the business interest expense limitation to partnerships and S corporations and their owners. The provisions are complex and present significant compliance challenges for affected taxpayers.

Minimize the Effects

As you can see, the business interest expense limitation rules are complicated. Fortunately, many businesses are exempt from the limitation. According to one estimate, about 98% of U.S.  businesses are covered by the small business exception.

If your business is among the 98%, it’s important to properly document that fact in case the IRS comes calling. Your tax advisor can help.

On the other hand, if your business is affected by the limitation, your tax advisor may be able to suggest planning moves to minimize the ill effects.

 

Posted on Jul 9, 2019

If you pay for services from independent contractors, your legal obligations to those individuals are far more limited than those involving statutory employees. But the growing importance of so-called “gig” workers in today’s labor force is changing the legal landscape for some businesses.

Evolving Marketplace

The term “gig workers” refers to people who an employer would contract with directly, through agencies, or using a professional employer organization. The growth of the gig economy is fueled by variable demand for manpower and new enabling technology for some categories of work. But employment attorneys warn that aggressive plaintiffs’ lawyers are chipping away barriers to employer liability for gig workers in the areas of accidents and injuries.

Meanwhile, the Occupational Health and Safety Administration (OSHA) is also paying more attention to contract workers. On its website, OSHA has outlined employer duties to protect temporary workers. It states, “OSHA has concerns that some employers may use temporary workers as a way to avoid meeting all of their compliance obligations.” Employers “should consider the hazards it is in a position to prevent and correct.”

OSHA’s website also asserts that “Host employers must treat temporary workers like any other workers in terms of training and safety and health protections.”

Warning Shot

OSHA’s policy statement is focused on employers’ use of temp agencies in “joint employment” arrangements, rather than the standard gig worker/independent contractor relationship. But it appears that a warning shot has been shot across employers’ collective bow.

A study recently published by the Journal of Occupational and Environmental Medicine notes “increased rates of fatal and non-fatal injuries” among “traditional contingent workers,” and explores potential causes. Differences in training was a potential culprit.

As a result, one employment law firm warns that “safety, training, culture, practices, supervision and enforcement must be adapted to meet the new economy.” Even without the threat of litigation, only the rare employer would be indifferent to potential hazards facing anybody performing work for them. Besides, accidents caused by independent contractors at your worksite can also hurt regular employees and your customers.

Naturally, hazards faced by gig workers vary according to the nature of the work they perform. “On-demand jobs are among the most dangerous in the country,” asserts the worker legal advocacy group National Employment Law Project. This organization wants states to mandate workers compensation coverage for all “on-demand workers.” It lists the three most common job categories — transportation, delivery and home services — as “among the most hazardous in the country.”

Vulnerability to Injury

Outside of the transportation, delivery and home services sectors, attention generally focuses on gig workers who spend a lot of time on your company’s premises, where they might be vulnerable to accidents or injuries. Worksite injuries don’t always involve hazardous equipment or materials.

Experts calling attention to the safety issue point to the demographics of gig workers, particularly the fact that they tend to be young. “Younger age is a well-known independent risk factor for occupational injury,” according to a recent study by the Journal of Occupational and Environmental Medicine.

In addition to their relative youth, gig workers often work for a relatively short time periods for one company or in one industry sector. That inexperience also can put them at greater risk for accidents.

Protecting Workers

Meanwhile, OSHA has recently focused on worksite risks for younger workers. It’s identified the following steps to employers should take to protect full-time and temporary workers under age 30:

  • Ensure that young workers receive training to recognize hazards and are competent in safe work practices.
  • Implement a mentoring or buddy system.
  • Encourage young workers to ask questions about tasks or procedures that are unclear.
  • Explain to young workers what they need to do if they’re hurt on the job.

In addition, OSHA has informed employers of their duties to try to protect workers from workplace violence. The agency highlighted a case in which a social services contractor was held responsible for ignoring safety concerns expressed by a worker who traveled outside the workplace to visit clients and, while conducting a visit, was killed by a client.

The worker was an employee of the contractor. However, the case highlights employers’ obligations to provide for the safety of individuals who provide services in a gig-like environment.

Toeing a Fine Line

In attending to the safety needs of independent contractors, employers should avoid tipping the scales toward establishing an employer-employee relationship with individuals who it classifies as independent contractors.

The law in this evolving area of employment law involves subjective assessments, and the nature of gig work arrangements varies widely. So, the advice of an employment attorney could prove invaluable as you weigh your workplace safety maintenance obligations.

Posted on Jul 8, 2019

Does your business need to add one or more vehicles? If so, the purchases may qualify for tax breaks under current tax law. Here are the details.

First-Year Depreciation Breaks

The Tax Cuts and Jobs Act (TCJA) allows unlimited 100% first-year bonus depreciation for qualifying new and used assets (including eligible vehicles) that are acquired and placed in service between September 28, 2017, and December 31, 2022. However, for a used asset to be eligible for 100% first-year bonus depreciation, it must be new to the taxpayer (you or your business entity).

Spotlight on Leased Vehicles

Business use of a leased vehicle may be   tax deductible. If a leased vehicle is used 100% for business purposes, the full cost of the lease is deductible as an ordinary business expense. However, lessees of more expensive vehicles must include a certain amount in income for each year of the lease to partially offset the lease deduction.

The income inclusion amount varies based on the leased vehicle’s initial fair market value and the year of the lease. The IRS recently published a table to help taxpayers determine the inflation-adjusted lease inclusion amounts for vehicles with lease terms starting in 2019.

For example, suppose your business leases a light truck with a fair market value of $66,500 on January 1, 2019, for three years. It’s used for business purposes only. According to the IRS table, your income inclusion amounts for each year of the lease would be as follows:

  • $72 in 2019,
  • $160 in 2020, and
  • $236 in 2021.

The lease inclusion table is designed to help balance out the tax benefits of leasing a luxury car compared to purchasing it and taking the expanded first-year depreciation tax breaks.

Contact your tax advisor to discuss the pros and cons of leasing vs. buying a business vehicle. Taxes are just one consideration in this critical decision.
The TCJA also permanently increased the Section 179 expensing limit for qualifying asset purchases from $500,000 in 2017 to $1 million for tax years beginning in 2018 and beyond. However, this break is phased out for qualifying purchases over $2.5 million in 2018 (up from $2 million in 2017).

For tax years after 2018, these amounts will be adjusted annually for inflation. The inflation-adjusted figures for 2019 are $1.02 million and $2.55 million, respectively.

Sec. 179 expensing for qualifying asset purchases is phased out on a dollar-for-dollar basis for purchases that exceed the threshold amount. So, no Sec. 179 deduction is available if your total investment in qualifying property is above $3.57 million for 2019.

Heavy Vehicles

Heavy SUVs, pickups and vans are treated for  tax purposes as transportation equipment. So, they qualify for 100% first-year bonus depreciation and Sec. 179 expensing if used over 50% for business. This can provide a huge tax break for buying new and used heavy vehicles.

However, if a heavy vehicle is used 50% or less for business purposes, you must depreciate the business-use percentage of the vehicle’s cost over a six-year period.

To illustrate the potential savings from these first-year tax breaks, suppose you buy a new $65,000 heavy SUV and use it 100% in your business in 2019. You can deduct the entire $65,000 in 2019 thanks to the 100% first-year bonus depreciation privilege. If you use the vehicle only 60% for business, your first-year deduction would be $39,000 (60% x $65,000).

To qualify as a “heavy” vehicle, an SUV, pickup or van must have a manufacturer’s gross vehicle weight rating (GVWR) above 6,000 pounds. You can verify the GVWR of a vehicle by looking at the manufacturer’s label, which is usually found on the inside edge of the driver’s side door where the door hinges meet the frame. Examples of suitably heavy vehicles include the Audi Q7, Buick Enclave, Chevy Tahoe, Ford Explorer, Jeep Grand Cherokee, Toyota Sequoia and lots of full-size pickups.

Garden-Variety Passenger Vehicles

The tax breaks for passenger automobiles (defined to include light SUVs, pickups, and vans) are less generous than for heavy vehicles. The inflation-adjusted depreciation limits for passenger vehicles that were acquired before September 28, 2017, and placed in service during 2019 are:

  •  $10,100 for the first year ($14,900 with bonus depreciation),
  • $16,100 for the second year,
  •  $9,700 for the third year, and
  •  $5,760 for each succeeding year.

The depreciation limits for passenger autos acquired after September 27, 2017, and placed in service during 2019 are:

  •  $10,100 for the first year ($18,100 with bonus depreciation),
  • $16,100 for the second year,
  •  $9,700 for the third year, and
  •  $5,760 for each succeeding year.

If the vehicle is used less than 100% for business, these allowances are cut back proportionately.

Important: For a vehicle to be eligible for these tax breaks, it must be used more than 50% for business purposes, and the taxpayer can’t elect out of the deductions for the class of property that includes passenger automobiles (five-year property).

Limited-Time Offer

The Sec. 179 limits were permanently expanded by the TCJA. But the first-year bonus depreciation program will gradually start phasing out 20% per year, beginning with tax years starting in 2023. And the bonus depreciation program will expire after 2026, unless Congress extends it. If you have questions about depreciation deductions on vehicles, contact your tax advisor.