Since the American Tax Cuts and Jobs Act was signed in December, we’ve seen a handful of large corporations eager to distribute bonuses to employees as a result of their glee for new tax rates and optimism toward economic growth. While most headlines have spotlights on large companies, many small business owners are left wondering how the new tax law will affect them.
The American Tax Cuts and Jobs Act, first introduced in November 2017, reduces taxes for both businesses and individuals while implementing several new changes for small businesses. With three main changes to the law, including lower individual tax rates, it’s reasonable to expect optimism and positive changes for small businesses in 2018. Here are a few of the major points to consider with the new tax year. With that said, it is extremely important that you speak with your tax advisor to make sure that you are able to take full advantage of the new law.
Pass-Through Entities – Am I One, and Why Should I be?
About 80 percent of small business owners file as a pass-through entity (S Corporations and limited liability companies, or LLCs), which in simple terms, means that any income their business makes passes through to their personal tax return. Under the current law, profits from a small business “pass through” to the owner and is taxed at his or her individual rate, which can be as high as 39.6 percent. When these individual rates are cut, small business owners will pay less than before.
Additionally, small business owners will benefit from an extra 20 percent deduction on taxable income that pass-through entities can claim. However, not every small business will qualify and not all businesses that do will get the full 20 percent. Some professions such as lawyers, doctors, and tax accounts are exempt from the rule – others exempt will be released by the IRS later this year. As such, it is really important to stay in constant contact with your tax professional to see how you are impacted as the new rules are rolled out.
Equipment Purchases Limit Doubles
Before the new tax law took effect, businesses could expense equipment up to $500,000 under Section 179 of the tax code. The changes to the new tax law doubled the limit from $500,000 to $1 million deduction per tax year. However, the total spending cap per year, which is expensable over multiple years, is at $2.5 million. For small offices looking to upgrade furniture or computers in the next year, this won’t make a huge difference, but for businesses who often purchase larger, specialized equipment, the new deduction limit should make a difference.
In recent years, the percentage for first-time depreciation deductions has fluctuated – complicating tax planning altogether. The new law hikes the bonus depreciation deduction from 50% to 100% for 5 years and then gradually phases out the deduction over the next 5 years. However, the deduction has been expanded to include “used” property that otherwise qualifies under this provision.
While most of the changes will help small businesses, there is the one significant change that is not so welcome to businesses of all sizes. The new law does away with the ability of business to deduct virtually any entertainment expense. While business-related meals should still be deductible at the 50% rate, taking that client out for a ballgame, or other events, generally speaking, is no longer a valid business expense. While there may be a few exceptions, and the regulations are being written as we speak, with the start of baseball’s regular season right around the corner, you need to be extra careful when trying to deduct the cost of those tickets.
With these changes to the new tax code in the American Tax Cuts and Jobs Act, small businesses and small business owners can look optimistically toward 2018 for potential economic and job growth.
If you have questions about changing your current business structure or implementing a new business structure – such as becoming an LLC or S corporation, feel free to contact me, and I can work with your tax professional to ensure that we come up with a viable plan to minimize your taxes and maximize your liability protection.