Q; I’ve been a sole proprietor up to now but I hear of a 20% tax break for “pass-thru entities” under the tax law that recently passed. Should I form an LLC, S Corp, or C corp to get that tax break?
A: There’s not supposed to any difference between the 20% tax deduction you’ll get under new tax act if you stay sole proprietor, become any type of corp or partnership or LLC. The term “pass-thru entity” used by Congress was misleading because it includes sole proprietor Schedule C filers who under normal tax law are not called “entities.” But in these early days after an unusually poorly drafted major tax act, there were what appear to be unintended different tax benefits for different levels of income for different forms of doing business.
In some cases, it might be worth becoming a traditional C corp. But sole proprietors and standard pass-thru entities still have a tax advantage for businesses that aren’t capital intensive and needing to retain earnings.
For the next few months, unless the IRS issues more guidance or Congress passes a “technical corrections act” I’m advising people not to change the type of “entity” because if you make the wrong change, it could be a taxable event to change back to your old form.
Q: Are my taxes going to go up or down under the new act?
A: If you’re a business with US operations that either has substantial payroll to nonowners or owns a substantial amount of fixed assets such as buildings, then you most likely will get a new hefty tax deduction. But if your business is in any service business where the reputation of the owners is crucial, unless you business is engineering or architecture, if your net income is over mid 300k, you’re probably not going to get any of the “pass-thru entity” deduction. But you might benefit from extraordinarily generous write-offs for both used and new purchases of real estate and equipment. Some of those rules are effective late September 2017.
If you’re an individual living in a high state income tax state such as CA or NY,the answer depends on your income levels.
Most people with taxable income under 100k will see at least a modest drop in their taxes because the standard deduction was doubled. But that’s offset by the elimination of the “dependent exemption.” So modest at best.
Most people over 100k will pay more because the doubling of the standard deduction won’t make up for severe new limits on deducting state income tax and property tax/sales tax, and complete elimination of “miscellaneous” deductions such as union dues, unreimbursed employee expense, tax preparation fees, etc.
Most other individual tax credits and deductions are mostly unchanged. There’s still a medical deduction and there are still deductions and credits for education.
As for that 20% deduction for business income (including rental income) much depends on the type of business generating the income. You probably won’t qualify for that deduction at if the income is from consulting businesses (and accountants, lawyers, medical). But there’s an exception that might apply if your income is below mid 300’s. (to be discussed in a future posting)
Only part of new law that affected 2017 was unlimited expensing of most new or used equipment and vehicles (and certain real estate improvements) placed in service after about Sept 28th, 2017
The R&D credit and expensing rules were changed unfavorably. Congressional Republicans favored heavy industry and real estate, and service businesses with high payrolls (as long as they were not legal, accounting, consulting or medical or dental business.)
Q: I’ll be in AMT (Alternative Minimum Tax) for 2018. What should I do?
A: AMT was eliminated only for Corporations. Often nothing you can do about AMT or even should do, depending on what triggered it. Obviously too late to do anything for 2017, but for 2018 you probably won't be in AMT if it was caused by typical high state income taxes and or local property taxes because 1. new tax act imposes a 10k max on "SALT" taxes and the AMT exemption was increased. That leaves larger employee "incentive stock option" exercises as the most common cause of AMT that might be under your control as to when to exercise etc. But if you're in AMT for 2018 and 2019, say for high capital gains or dividends, there might not be any tax benefit in doing the old standard planning. That usually consisted of holding off payment of itemized deductions that were non-deductible for AMT until a year they were deductible because most or maybe all of those deductions have either been eliminated for 2018 and forward (aka misc. itemized expenses) or severely limited (SALT). But even pre 2018 delaying say paying SALT wouldn't help if you were in AMT for two or more years in a row. The other pre 2018 AMT planning tactic should still work: if you had a little control over receipt of income, sometimes accelerating the income into the AMT year resulted in a lower tax than taking the income in a non AMT year.
Q: I need advice on the tax consequences of a sale of some Master Limited Partnerships which I inherited ten years ago.
A: You calculate the gain or loss just the way you would for sale of any partnership interest. You first need to compute the "basis" just like partnerships, but there's probably some twist for your share of liabilities. There also would be an adjustment for the value at the date of death when you inherited. In year of sale you adjust your cost basis by the net of income and expense, reduce by distributions, compare to your proceeds. How much is ordinary or capital gain you probably have to get some worksheet from the MLP.
Q: I haven’t filed tax returns in 4 years, and money was just taken out of my bank account. What should I do?
A: First rule is to open all notices no matter how painful. Then sort them by government agency, then by date. Read them. Read them. Read them.
Next call the phone number on the letter and explain to them you need a 30-day extension on collection activity to give you time to find a tax professional to start filing your back returns and getting you caught up.
Depending on the amount of money and your financial situation, for small amounts owed you might be best served by finding a competent tax preparer. For larger amounts or if the govt even hints at fraud, you need to hire a tax attorney. For situations in between, the pecking order is a tax preparer, enrolled agent, cpa. (but (the initials are less important than the person behind them.) Firms that advertise heavily often use para-professionals to do most of your work.
Do not assume that just because you know you’re overpaid for prior unfiled years, that the overpayments will be available to reduce future year’s amounts owed. If your business owes employment taxes, act quickly. IRS and CA don’t hesitate to shut down businesses for back payroll taxes if not contacted quickly and payment arrangements made.