Five Key Ways Tax Reform May Affect Your Business Taxes This Year
Last Updated: Mar 6, 2019
The new tax laws resulting from the Tax Cuts and Jobs Act could affect your 2018 business taxes. Here are five areas you need to know about before filing your taxes this year.
Now that the Tax Cuts and Jobs Act (TCJA) is active legislation, you are likely to see its impact on your tax obligations. As you get ready to file your business taxes this year, remember to be cognizant of the changes that tax reform brings. The summary below is a good starting point:
There is the potential for business owners to net a 20 percent qualified business income deduction if they operate a partnership, S-corporation, or sole proprietorship. This deduction is available if your income is less than $157,500 ($315,000 for married filing jointly). If your income is more than this, you may still qualify as long as your business is not considered a non-qualified business. Non-qualified businesses include those in the fields of health, law, accounting, actuarial science, performing arts, consulting, athletics, financial services, and investing and investment management.
The pass-through deduction is one of the most anticipated provisions of the Tax Cuts and Jobs Act, so let’s take a closer look at the potential savings—keeping in mind that the new pass-through deduction applies to sole proprietorships, S-corporations partnerships and LLCs (that did not elect to be taxed as a corporation).
If you are a self-employed business owner operating one of these types of entities, this deduction may apply to you. Some other important considerations:
Let’s look at each of these rules to see how they may affect your business:
You should first determine if your business is an SSTB as mentioned above because you would not be eligible for the deduction. However, assuming that you are, the following examples show how you would calculate the Qualified Business Income (QBI) from your business. This is simply the net income of your business excluding any salary, wages or payments made to you, the owner. If you have a sole proprietorship, this would be your Schedule C income.
You will need to determine the ratio of the income you may have over the threshold limitation of $157,500 for single taxpayers and $315,000 for Married Filing Jointly taxpayers.
Keep in mind also that if your taxable income reaches $207,500 (single filer) or $415,000 (married joint filer), the QBI deduction is limited to 50 percent of your W-2 wages from that business or the sum of 25 percent of W-2 wages from the business, plus 2.5 percent of any qualified property. Then, using the income threshold stated above and the phase-outmount of $207,500/$415,000 to calculate the limitation on a prorated basis.
Here is an example of how to do it assuming:
Given this hypothetical situation, your maximum pass-through deduction is 20 percent of your $300,000 QBI, which equals $60,000. With your taxable income being over $415,000, any pass-through deduction you claim is limited to the greater of (i) 50 percent of the W-2 wages paid to your employees, or (ii) 25 percent of W-2 wages plus 2.5% of your office building’s $250,000 basis. (i) is $100,000 (50% x $100,000) = $50,000; (ii) is (2.5% x $250,000) + (25% x $100,000) = $31,250. Since (i) is greater than (ii) you would have to take the greater amount of $50,000 as the pass-through deduction.
This new pass-through deduction may save you 20 percent on your tax bill, depending on how the specific rules of this deduction apply to your situation.
If you operate a C-corporation, you won’t qualify for the pass-through tax deduction explained above. However, you may have a lower tax rate under the TCJA anyway. The new tax rate for C-corps is generally a flat 21 percent.
If you are a self-employed business owner, there is no longer a tax penalty for not having health insurance beginning with your 2019 return. These fines were originally were imposed under the Affordable Care Act’s individual mandate. The elimination of the $695 per person or 2.5 percent of income levy will reduce your tax bill.
If you are used to writing off dinners and other meal expenses for your business at 100 percent of the cost, you will no longer be able to do that on this year’s return (with the exception of office parties which are still fully deductible). The TCJA changed tax deductions for meal expenses for businesses. The TCJA expands the 50 percent limitation of meal expenses that is applied to individual taxpayer’s business-related meals to employers. This means that expenses associated with providing food and beverages to employees through an eating facility that meets requirements for de minimis fringe benefits and for meals provided at the convenience of the employer can only be deducted at 50% of their cost. In addition, these amounts incurred and paid after Dec. 31, 2025, will not be deductible at any rate.
This change may be a little painful, depending on how much entertaining you do for clients and employees. Under the TCJA, you can no longer deduct 50 percent of the cost of entertainment directly related to or associated with the active conduct of a business. Unfortunately, this means that if you treat clients or employees to tickets to any type of entertainment be it a show, sporting event, concert or the like, you will be paying for it out-of-pocket with no deduction on your tax return.
The TCJA is the most significant tax reform that our country has seen in decades. If you haven’t already, now is the time to check in with a tax professional to ensure that you know which tax reform provisions apply to you—before the due date for your business tax return is here!
Jonathan Medows is a New York City-based CPA who specializes in taxes and business issues for freelancers and self-employed individuals across the country. His website, www.cpaforfreelancers.com features a blog, how-to articles, and a comprehensive freelance tax guide.
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