New Regulations for Section 199A Pass-Through Deduction

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The IRS has finally released regulations for the IRC §199A deduction for qualified business income, also known as “pass-through deduction.”

What is Section 199A and Who Does it Apply To?

Section 199A allows business owners to deduct up to 20% of their Qualified Business Income (QBI) from sole proprietorships, partnerships, trusts and S corporations. Individuals, estates and trusts can also deduct 20% of their qualified REIT dividends and Qualified Income from a Publicly Traded Partnership (PTP). The deduction was one of the most high-profile pieces of the Tax Cuts and Jobs Act.

What’s included?

The Good:

  • Individuals can aggregate businesses and treat them as a single business, which can effectively increase the wage limits and capital limits on the deduction
  • A qualified business can get up to 10% of its gross receipts from services
  • A qualified business can include a related rental activity

The Bad:

  • Broadens the “service-business” category to include some non-service businesses that are incidental or related to a service business. This can limit the effectiveness of “crack and pack” strategies that try to create a qualified business by spinning off part of a service business

Mixed:

  • A rebuttable presumption that a former employee who continues to perform the same services for the employer is still an employee. I.e. the worker’s compensation is not qualified business income.

Neutral:

  • Defines terms such as:
    • “Trade or Business”
    • “Unadjusted basis immediately after acquisition”
  • Explains how to calculate the deduction
  • Detailed rules for determining the wage limits and capital limits
  • More clearly illustrates the three components of the deduction:
    • Qualified Business Income
    • REIT dividends
    • PTP income
  • Better explanations of:
    • Service business categories
    • Reporting requirements for pass-through entities (S corps and partnerships)
    • How an estate or trust can qualify for the deduction.

These changes and clarifications open up great opportunities for tax planning. Please contact us to discuss these new regulations will apply to your specific situation. Our team can review your current tax structure to ensure that you are receiving the maximum benefit of these new rules.

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Automatic Accounting Method Change Opportunities Created by the TCJA

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Summary:

Businesses can enhance their cash flow by optimizing their tax accounting methods.

The Tax Cuts and Jobs Act expanded the number of small business taxpayers eligible to use the cash method of accounting by raising the cap on gross receipts to $25 million averaged over the prior three years.

A change in accounting method can benefit any company, of any size, in any industry.

Before changing an accounting method, the IRS requires that a taxpayer obtain the IRS’s consent.

Businesses can enhance their cash flow by optimizing their tax accounting methods. This is especially important in times of tight money and inadequate revenues. More and more companies are putting their taxes under a microscope and taking a hard look at whether they can improve their cash flow by changing the accounting methods that they have elected either on past returns or during the current year. A taxpayer who is not on the optimal accounting method is effectively prepaying taxes, an undesirable and unnecessary result.

Every business must adopt a method of accounting to determine when it recognizes items of income and deduction. An accounting method determines timing (when an item is taken into account for taxes), not whether the item is taken into account. The choice of an appropriate method (or methods) is crucial because it determines the timing of overall income or loss.

The two most common overall accounting methods are the cash method, in which income and deductions are taken into account when payments are received or made, and the accrual method, in which income and deductions are taken into account when amounts are earned and expenses are incurred. Other accounting methods can apply to specific “material” items, such as the valuation of inventory or the treatment of an installment sale. For many businesses, there are scores of these “other accounting methods” to consider.

The Tax Cuts and Jobs Act expanded the number of small business taxpayers including startups eligible to use the cash method of accounting by raising the cap on gross receipts to $25 million averaged over the prior three years. Taxpayers who meet this revenue test are also eligible to use several simplified methods of accounting that exempt them from the requirements to capitalize costs in many situations, including the cash method of accounting and certain exceptions that may apply to accounting for capitalized costs, inventory, and long-term contracts. The IRS recently announced that it would automatically consent to these changes for taxpayers who meet specific eligibility requirements.

A change in accounting method can benefit any company—of any size, in any industry. Before changing an accounting method, the IRS requires that a taxpayer obtain the IRS’s consent. For some changes, the taxpayer must apply to the IRS for advance consent and pay a user fee. The application procedures are spelled out in IRS Revenue Procedure 2015-13. For these changes, the taxpayer cannot switch methods until the IRS agrees.

For other methods, the IRS has streamlined the process and will approve changes automatically. For these changes, the taxpayer can switch to another method by merely filing the proper information with the IRS, without having to wait for the IRS to grant its consent. “Automatic consent” significantly lowers the compliance costs needs to switch to a more advantageous method, enabling many more businesses to realize net savings by identifying yet unclaimed opportunities.

If you would like to know whether a change of accounting method can benefit your business and increase your cash flow, please contact us. If you have already filed a request to make one of these changes using non-automatic consent procedures, you may be able to have the user fee for that request returned if you act quickly.

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The Importance of Financial Statements for Your Small Business

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los angeles cpa

Your small business seems to be doing fine. You have plenty of customers and your employees are working hard, yet your bank account is empty and you’re having problems paying the bills. On the outside it looks like everything should be terrific, but somehow it isn’t. So, what’s wrong? How do you figure out where all your money is going when it seems you have plenty coming in? The answer may be in your financial statements. It may be time to analyze the financial side of your business, and that’s exactly where financial statements can help you.

Financial statements are more than a simple listing of business income and expenses. Appropriately prepared financial statements can show you the cash flow of your business, any outstanding debts, and the value of your assets. Basically, once you do this, you’ll see that the total in your checkbook is not necessarily the income you have earned. There is far more to income than actual deposits in the bank.

To really comprehend where your business stands, it is critical to look at certain financial statements. Financial statements are generated by first organizing and then analyzing numbers from your accounting activities. You’ll want to start with the two primary financial statements, which are your Profit and Loss Statement, also called an Income Statement, and your Balance Sheet. After which, you may want to delve deeper, and look at your Cash Flow Statement, as that will show you exactly where your cash is coming from and then where it is going.

So, what you want to have is:

  1. The Balance Sheet – this is a record of your business’s assets, liabilities, and capital, up to a specific point in time.
  2. The Profit and Loss Statement (the Income Statement) – this is the summary of your business’s earnings, expenses, and net profit (or loss) over a specific amount of time.
  3. The Cash Flow Statement – this will show the actual inflows and outflows of cash coming into and out of your business.

Depending on your specific business there are other financial statements that you may find helpful, but the above three will give you detailed information in which to begin. When you look at these financial statements, a lot of the mystery surrounding the finances of your business will disappear. In black and white, you will be able to see every penny that has come into your business and every penny that has gone back out.

Financial statements are only as good as the information that is backing them up. If you do not have complete accounting records, your financial statements will not be reliable. It is extremely important to keep accurate financial records when you run a business. This is important not only for the IRS, but for your own peace of mind, as well.

You will find that financial statements, when backed up with complete accounting records, will help you plan better. For today, for tomorrow, and for the years to come.

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Seven Topics You Should Discuss with Your Accountant Every Year

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Cloud Accountant

Small business owners often use the new year as a time to plan annual budgets and focus on sales growth and new business opportunities. It’s also a great time to make resolutions to review accounting practices and financial controls on the business.

To make the most of your annual accounting review,  here are the seven steps you should take to prepare:

  1. Review year end financial statements and compare results to company’s previous performance. What has changed? Examine financials each month, but it’s important to look at trends over the year. Ask your accountant to review the information as well. Get a second opinion on the financial health of the business.
  2. Project cash flow for the upcoming months. This provides a road map for you to plan for upcoming business expenses, and helps you forecast sales and revenue. Forward a copy of your cash flow report to your accountant for review prior to the meeting.
  3. Review pricing strategies. One way to improve profit is to increase prices for your goods or services, however it could also cause significant loss of customers. An accountant might provide valuable insight into your current strategies and other factors to improve the company’s profitability.
  4. Inquire about changes in state, local and federal tax laws that will affect the business.
  5. Review accounting software packages . During this meeting, take the time to inquire about your accounting software. Is it time to upgrade to a new version of the software? Has your company outgrown its current marketing practices? Without asking this question, you’ll never know.
  6. Consider applying for a line of credit or changing merchant accounts. As a business owner you must prepare for emergencies, especially in uncertain times. While your company might not need access to a line of credit right now, it could in the future. It is easiest to establish credit when the business is not under duress, and your accountant might have a personal relationship with a banker that you should take advantage of.
  7. Is there anything else? Ask this open-ended question to your accountant. They might be able to give some insight you would have missed otherwise.
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