Tax and Financial News - Year-End Reminders: April 2010 Can Hurt Less
The leaves are falling and winter is just around the corner - so, too, is the end of the year. With that comes the inevitable ritual of searching for ways to minimize your tax burden for 2009. With 10 months already gone, is there a lot you can do to lower this year's tax bill? Yes, there is. And that is precisely what this article is about, but you must get started soon to keep Uncle Sam from cashing in on your hard work.
Income
The starting point for your tax savings quest is with your income. How much do you project bringing in from sources such as W-2 wages, interest, dividends and other income that is already on the books? Can you defer or, in some cases, accelerate their receipt?
First, let's talk about deferring income. In most cases, it's difficult to minimize salary income that's already scheduled to be paid. However, your employer might be willing to put off payment of year-end bonuses. This is especially true when the payment has no significant effect on either the employer or the employee. For example, regular C-Corporations that report on an accrual basis can typically deduct bonuses that are owed to an employee who owns less than 50 percent of the company as long as those bonuses are paid by March 15 of the following year. If your employer usually pays bonuses on Dec. 31, it probably will not affect its bottom line to put the payment off until Jan. 1, 2010. Receiving that pay one day later can be a significant savings to you and other employees.
What's the source of your interest income? If you are not already locked into an interest-bearing vehicle that pays at the end of a month, you could reduce taxable income by investing in a certificate of deposit or something else that pays interest after Dec. 31. The same is true for dividend-paying investments. When investing during the last part of the year, one trap you should be wary of is purchasing taxable income. This happens when you buy a mutual fund or stock that is guaranteed to pay a dividend before year's end. Typically, the price you pay for the investment includes the amount that will ultimately be paid as a dividend. When the dividend is paid, the market price of the investment decreases and you are left paying unnecessary taxes.
How does your investment portfolio look? Believe it or not, there are a lot of folks with investments that are worth less than what they paid for them. The next two months is a good time to harvest a few losses to offset realized gains on other investments. However, remember that Uncle Sam will let you deduct only $3,000 in capital losses against other income, so be judicious in your sales.
Do you have other sources of income such as rents, installment sales or lease bonuses? As a cash-basis taxpayer, these sources do not become taxable to you until you receive them in cash. While care must be exercised to avoid what is called constructive receipt, it is possible to reduce income by putting payment off until 2010.
Constructive receipt is a concept that basically means you can't avoid tax on income by refusing to accept payment for that which you are legally entitled. For example, say you own a corporation and it rents a building from you. If the business has the cash to pay the monthly rent, you can't stop accepting rent payment to avoid taxable income.
Earlier, we mentioned accelerating income. Tax planning generally involves playing the rate game. Sometimes, accelerating income for years in which you expect a low marginal tax rate can enhance your overall tax savings. If 2009 is such a year, consider accelerating the income that you can in order to minimize taxes. Additionally, with looming deficits and the current administration's stated intentions, there is a good chance that capital gains taxes will increase in the future. When that will happen is anybody's guess, but the probability makes it a reasonable move to report long-term capital gains sooner rather than later.
Expenses
Expenses over which most individuals have control are itemized deductions, rental and Schedule C business expenses. With respect to itemized deductions and rental expenses, the most important thing to remember is that cash is king. If you pay the expenses before Dec. 31, you can deduct them. If you do not pay the expenses by year's end, you cannot deduct them.
The cash rule can be difficult to follow if your checking account is a little light. Fortunately, there is always the plastic rule. If you pay your deductible medical bills, taxes and contributions with a credit card before year's end, the deduction is still valid.
Don't forget to maximize your retirement plan contributions as well. If your plan allows for it and if you can afford to do so, increase your contributions in the last two months of the year to reduce your taxable income.
Conclusion
Just because most of 2009 is now behind us does not diminish all opportunities to save on your tax bill Give us a call and let's look at your tax picture now - while there is still time to help you keep more of your hard-earned money.
General Business News - Keep More of What You Earn with Careful Business Tax Planning
In this month's accounting and tax news, we touched on income tax planning for individuals. Now we want to discuss business tax planning. Businesses have far more variables to consider than typical individuals. While individual taxpayers are usually limited to one accounting method, a company's accounting methods and business processes have a significant influence on tax savings opportunities.
Before we discuss the variables involved in tax planning for a business, let's dispel one myth: not all deductions are good. Adhering to the belief that tax deductions are the only way to go sometimes causes taxpayers to spend money just to get a tax break. It makes no sense to spend $100 to reduce taxes by $40 or $50 -the taxpayer still ends up minus $50 or more. Only if there is a business reason for the expenditure and you have a choice between incurring an expense in 2009 or 2010, accelerating that outlay to 2009 might make sense.
This discussion assumes that any expenditure you consider has a business purpose.
Accounting Methods: Accounting methods fall into two major categories - cash and accrual. Cash-basis taxpayers must receive payment for their product or service in cash and make payment for their expenses in cash in order to generate taxable income or loss. Accrual-basis taxpayers need only have a legal right to receive payment for their services or products and a legal obligation to pay their expenses in order to generate taxable income or loss. While there are other nuances, this is the basic difference between the two accounting methods.
Revenue: Just as with individuals, businesses typically try to defer taxable income to the following year. If you are a cash-basis taxpayer, the best way to accomplish this is to delay billing. Delaying billing to a point that your customer will be unable to send payment until early January 2010 will, in effect, reduce your taxable income.
An accrual-basis taxpayer does not have the ability to defer billing and minimize taxable income. As long as a product is shipped or service performed and your customer has an obligation to pay you - regardless of whether the bill has been sent - the income counts. If it causes no harm from a customer relations or liability standpoint, you might consider delaying performance of services or changing shipping terms to minimize year-end income.
Expenses: Cash-basis businesses have the same opportunity as cash-basis individuals to pay expenses before year's end in order to take deductions. One important consideration is in the area of financing acquisitions. If you intend to deduct the full cost of a fixed-asset purchase, do not finance the acquisition with the dealer from whom you purchased the asset.
To illustrate this point, assume you purchase a forklift from XYZ Forklift Inc., a Best Company Forklift dealer. As part of the transaction, you can pay cash, take out a loan from your bank or the Best Forklift Financing Corp. or pay XYZ over the next three years. As a cash-basis taxpayer, the IRS will treat the purchase as a cash-basis purchase if you pay cash or borrow the money from the bank or the Best Forklift Financing Corp. On the other hand, paying XYZ Forklift Inc. over the next three years is not a cash-basis purchase.
Accrual-basis taxpayers do not have this limit. Accordingly, if you need to reduce income by increasing expenses, make your purchases before year's end. However, remember that if you are purchasing equipment, it must be placed in service before year's end to take advantage of depreciation or Section 179 expensing provisions.
Retirement plans are another avenue of tax savings for small businesses. Depending on the size of your company and the makeup of your staff, there are several ways to go. If you have a relatively young workforce with a stable and older ownership group, you might want a plan that provides a specified benefit to employees upon retirement. When you have an ownership group that is older and a fairly young and fluid employee group, you can fund the plan aggressively with most of the benefits going to the owner group. On the other hand, a defined contribution plan will work better when the reverse is true. The point is that you are not precluded from instituting a plan that will work for you this year - you just need to establish that plan now.
Don't forget that higher expensing limits are also still available for 2009 equipment purchases. For additions placed in service in 2009, you can expense up to $250,000 in equipment purchases. The amount you can expense begins to be phased out if you add more than $800,000 in qualifying expenditures in 2009. When you take the added bonus depreciation available for 2009 additions, you can realize significant tax savings if you purchase equipment and place it in service before Dec. 31, 2009.
Let's look at an example. Assume you buy an $800,000 loom and it's up and running by year's end. You will be able to immediately expense $250,000. You will get an additional bonus depreciation amount of $275,000. Finally, assuming the property has a five-year life, you get regular depreciation of $55,000. In total, you can deduct $580,000 of your purchase in year one. Even if you are limited by the mid-quarter convention in the tax code, you still get a deduction of $531,875 on your $800,000 purchase. This translates into savings of between $186,000 and $203,000 if you are in the 35 percent tax bracket. If you are interested in running the numbers, try the calculator at Section 179.org.
Conclusion: Depending on your circumstances, there could be a number of techniques available to help minimize your business taxes. If you are interested in retaining more of what you bring in, give us a call. That is our mission - to help you keep what you earn.
Tip: Do Not Overlook Tax Perks
It's not too soon to be thinking about your taxes for 2009. First, it might be time to sit down with your tax professional to see if there are some tax perks out there that would benefit your small business. Second, the Internal Revenue Service indicated at the end of October that it was starting a new initiative to focus on the nation's wealthier individuals.
Let's start with looking for savings. A review could show some obscure or frequently overlooked items at the Federal, state or local level that might save you money:
Property Taxes - You might have already taken a hard look at your residential tax assessment, but don't forget the commercial property you own. Many commercial property values have decreased, and it makes sense to have an appraisal to see if yours has decreased, too. An appeal can be filed with your local tax assessor's office.
Domestic Production Activities - Companies that produce more than half of their products domestically are eligible for either a Federal tax deduction of 6 percent of income received from the products or a 6 percent deduction from the business owner's adjusted gross income. The deduction is made on the lesser of the two totals. Some states match these deductions for state taxes; see if yours is one of them.
Structure Your Company With Tax Rates in Mind - A limited liability company is the choice for most startups because it offers business owners the option of passing through profits to a personal income tax filing where the maximum tax rate of 35 percent prevails. Within a corporate structure (C-Corporation) the business will pay taxes at corporate rates (currently 15 percent for the first $50,000, rising to a maximum of 39 percent). When the corporate business owner takes a dividend from profits, the double tax peril kicks in, wherein the dividends are assessed at the prevailing individual tax rate. However, if the business owner intends to seek venture capital, the C-Corporation is often the best choice because it allows for easy transfer of shares to investors. Make sure your business is structured to give you the best tax advantages.
Now, let's look at where the IRS might make life tougher. A new initiative, announced at the end of October, seemed at first glance to affect the nation's wealthiest individuals. However, closer examination shows that the classification could extend beyond this small subset. Here are a few key points.
Global High Wealth Industry - A new IRS unit called the Global High Wealth Industry Group will focus on the wealthiest individuals and their assets. Although the number of individuals who earn tens of millions of dollars a year are few, if assets qualify them for increased scrutiny then considerably more people could find themselves in this high wealth group. People who own real estate or perhaps those who receive a sizeable retirement package might qualify for the high wealth category.
Complicated Financial Arrangements - On the heels of the UBS tax shelter probe, the IRS is expected to pay close attention to individuals with investments in offshore hedge funds. Likewise, taxpayers with complex financial situations - trusts, private foundations, privately held companies - are more likely to receive IRS attention. The above is intended to provide an overview only. Your personal situation requires input and guidance from your legal and professional tax advisors.
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