The Tax Cuts and Jobs Act (TCJA): Big News on Big Business Advantages for You

In December 2017, the federal government gave portable sanitation operators a wonderful Christmas present to benefit their businesses. It is called the Tax Cuts and Jobs Act (TCJA). It has been called the most significant tax reform legislation in 30 years. The goal of the TCJA is to reduce taxes in order to create more business growth and more hiring.

The IRS recommends that small business owners learn how the TCJA will affect them. Why? For several reasons. It means you may be able to save a lot of money on your taxes. It means changes to the way you calculate your taxes. It means you can gain financial advantages when purchasing equipment or a truck. And you may be able to take advantage of other changes to deductions and credits.

According to the National Association for the Self-Employed (NASE), 83 percent of small business owners don’t fully understand the impact these changes will have on their business. You shouldn’t be one of them. The TCJA is big news, and it means big advantages for you.

The new laws that make up the TCJA are complex, so almost every PRO will benefit from professional tax and financial guidance. In reviewing the TCJA for the portable sanitation company owner, we can describe the most important aspects of the TCJA with two words – deduction and depreciation.

What’s New — The 20% 199A Deduction

For the small business owner, the single most significant change to taxes created by the Tax Cuts and Jobs Act is the creation of a 20% tax deduction of qualified business income (QBI) from certain pass-through businesses. It is called the 199A deduction.

The deduction became effective for 2018 and is scheduled to end on January 1, 2026, unless it is extended by Congress.

The immediate effect of the deduction is to lower your taxable business income. As an example, if your qualified pass-through business income is $100,000 per year, you may qualify to deduct 20%, or $20,000. So, the IRS will tax you on only $80,000. That’s going to make a substantial difference on your tax return!

Let’s say you’re in the 22% individual income tax bracket. [The Federal income tax now has 7 rates: 10%, 12%, 22%, 24%, 32%, 35%, and 37%.] If you were paying taxes on the original amount of $100,000, your taxes would be 22% of $100,000, or $22,000. But with the deduction, your taxes would be 22% of $80,000, or $17,600. The difference is $4,400 in your favor!

Three Basic Requirements

Note that 20% is the maximum possible pass-through deduction. You are eligible to take the full 20% if your taxable income is less than $315,000 (married filing jointly) or $157,500 (single). Above this threshold, the deduction is subject to limitations.

On the surface, the 20% deduction sounds very easy to compute, but there can be many variables involved, which is why it’s essential to seek professional financial guidance. In general,  though, there are three requirements that must be met in order to qualify for the deduction:

1. You must have a pass-through business
2. You must have qualified business income
3. You must have taxable income

1. Pass-through business

A pass-through business or entity is a business in which profits “pass through” the entity directly to the owners. Thus, there are no corporate income taxes to pay – the owners of a pass-through business pay taxes on their individual income returns. It is estimated that 95% of businesses in the U.S are pass-through companies.

There are different types of pass-through entities:

• Sole-Proprietorships
  • According to the SBA (Small Business Administration), a sole proprietorship is the simplest way to start a business. It is run by one person, and there is no distinction between the business and the owner. You are entitled to all profits and are responsible for all business debts, losses and liabilities. You don’t have to take any legal action to form a sole proprietorship. As long as you are the owner, you have a sole proprietorship. For taxes, because you and your business are the same, you report income and expenses with a Schedule C  and the standard Form 1040.

• Limited Liability Companies 
  • Unlike a sole proprietorship, a limited liability company is a business entity that is separate from its owners. But an LLC is also a pass-through business, so the profits and losses pass through to the owners, who report them on their personal tax returns. It is necessary to create an LLC by filing articles of organization with your state government.
• Partnerships
  • Partnerships are simply two or more persons who form a business, are co-owners and share profits. In a “general partnership,” partners don’t even need to put anything in writing. Of course, there are more complicated arrangements, such as limited liability partnerships. Usually, the IRS consider partnerships to be pass-through businesses.

What about husband-and-wife partnerships? That relationship, as they often say on social media, is “complicated.” About a third of all family businesses are run by couples. Many successful portable sanitation businesses are husband-and-wife teams.

According to the SBA, for federal tax purposes, an unincorporated business jointly owned by a married couple is classified as a partnership. The partnership assumes that each spouse has an equal share of the business affairs.

However, there is an option that allows certain qualified husband-and-wife businesses to be treated as sole proprietorships for federal tax purposes. Another popular option is for a spouse to hire his or her spouse as an employee.

• S-Corporation
  • An S-corporation is not actually a business entity, but a tax designation the IRS will give to a corporation that meets certain requirements. SCORE describes S corporations as corporations that pass through corporate income, losses, deductions and credits to their shareholders. The shareholders report the income, etc., on their personal tax returns.

2. Qualified business income

QBI is basically your net income, or profit. QBI is calculated by subtracting your regular business deductions from your total business income. If you have more than one business, you have to determine your QBI separately for each business. If your QBI is zero or less (a business loss), you can’t take the 199A deduction.

3. Taxable income

You must have positive taxable income to take the pass-through deduction. Your taxable income is income from all sources, including your business, your investments and your job income, minus deductions, including the federal standard deduction (the new standard deduction is $12,000 for singles and $24,000 for marrieds filing jointly in 2018). The pass-through deduction can’t exceed 20% of your taxable income.

A Note on C Corporations

By the way, if you have incorporated your portable sanitation business, meaning your business is classified as a C corporation, you are also a beneficiary of a generous TCJA tax change. [A “C corporation” is a legal entity that is separate from the people who own and manage it, and profits are taxed separately from its owners.] The new tax rate is a flat 21% for all corporations. Previously, the highest corporate rate was 35%.

Because of this tax cut, in some circumstances, it may be better from a financial standpoint for an S corporation to become a C corporation. That’s another issue to discuss with your financial counselor.

What’s Increased — The Section 179 Deduction (Expensing Allowance)

Portable sanitation operators rely a lot on their equipment and inventory, from pumper trucks to units. The new tax law was made for businesses like these.

In fact, TCJA was crafted in part with the goal of encouraging business owners to reinvest the money they save on taxes by buying new equipment or expanding their business. The TCJA provided a substantial boost to this plan through its latest revision to Section 179 of the IRS tax code.

In years past, when a business owner made a “capital expenditure” (buying equipment, vehicles and buildings to use in a business), the owner could take an income tax deduction for “depreciation” – deducting a percentage of the value every year over the practical life of the asset.

In 1958, the Section 179 expensing allowance was made a permanent part of the federal tax code. S 179 allowed the business owner to expense, or rapidly depreciate, the cost of capital expenditures. (The original deduction was only $2,000!) Since 2010, the S 179 deduction was set at $500,000. So, if you spent up to $500,000 on qualifying equipment for your portable sanitation company in a year, you could deduct the entire amount.

The important change to S 179 the TCJA was to increase the maximum amount the taxpayer can deduct on qualifying property to a full $1 million.

The assets must be bought, leased, or financed, and “placed in service” in the tax year in which you claim the deduction.

The assets can be new or used.

Assets that generally qualify for the deduction include:

• Equipment (machines, etc.) purchased for business use
• Business vehicles with a gross vehicle weight in excess of 6,000 lbs.
• Computers and “off-the-shelf” software
• Office furniture and equipment
• Certain improvements to existing non-residential buildings, including fire suppression, alarms and security systems, HVAC, and roofing

Because you can take the deduction for the full cost of the equipment even if you lease or finance, it may be a good strategy to lease or finance rather than purchase an asset outright. The amount of money you save in taxes can actually be more than the payments.

Spending Cap on S 179 Deduction

For the small portable sanitation owner, the $1 million deduction will almost certainly be enough to cover your asset purchases in a year.

If you spend up to $999,999 buying equipment, the deduction is equal to 100% of the cost of the purchase. For example, if you spent $25,000, the deduction is $25,000. If you spent $900,000, the deduction is $900,000.

However, for medium-sized portable sanitation businesses, you should be aware of a spending cap that reduces the amount of the deduction.

Section 179 limitations can be broken down as follows:

For qualifying equipment purchases between $1 million and $2.5 million, the deduction is a flat $1 million.

For qualifying equipment purchases between $2.5 million and $3.5 million, the deduction is reduced by the dollar amount over $2.5 million, until the deduction is reduced to zero. For example, if your equipment purchases added up to $2.6 million, the deduction is only $900,000, because $2.6 million is $100,000 more than the $2.5 million threshold. The $100,000 difference is subtracted from the $1 million maximum deduction. Should you spend $3.5 million or more on equipment, the deduction is zero.

But that’s not the end of the advantages of the TCJA!

100% First-Year Bonus Depreciation

In addition to the $1 million Section 179 deduction, the TCJA has increased the “first-year bonus depreciation” feature of the tax code. As the name implies, the depreciation credit is taken the first year in which the equipment is purchased and put into service. The equipment can be new or used. To be eligible, the asset generally must have a depreciation period of 20 years or less.

Bonus depreciation has been part of the tax code for a few years, but effective September 28, 2017, the TCJA has increased the bonus first-year depreciation from 50% to 100%.

The bonus depreciation piggybacks with the Section 179 deduction. Using the example above, if you purchased $2.6 million in equipment, the S 179 deduction is $900,000. But thanks to the 100% depreciation, you can also deduct the remaining $1,700,000.

The 100% deduction will remain in effect until December 31, 2022. Afterward, the bonus depreciation is scheduled to be reduced as follows:

• 80% for property placed in service in 2023
• 60% for property placed in service in 2024
• 40% for property placed in service in 2025
• 20% for property placed in service in 2026

As with the Section 179 deduction, the bonus depreciation may not have an impact on your small portable sanitation business because you would have to invest $1 million or more in asset purchases to take advantage of it. Medium-sized businesses will have more incentive to investigate how bonus depreciation could affect their business plans.

A Few Additional Changes

The TCJA has made changes to other business deductions that might affect your business. There are changes to meal and entertainment expenses, moving expenses, building rehabilitation, even achievement awards. There is also a new employer credit for paid family and medical leave.

Because of the many reforms, the IRS recommends that business taxpayers re-calculate their estimated tax payments.

TCJA Supports Small Business Owners

Changes to the tax code through the TCJA will very likely result in changes to your business. Be prepared, and use them to your best advantage. Many have been created with you, the small business owner, in mind.

With the 20% deduction, generous first-year expensing and bonus depreciation, it’s an excellent time to build your inventory by buying assets.

U.S. Small Business Administration Administrator Linda McMahon said, “Small businesses now have the confidence they need to hire more workers or purchase new equipment. Now is a truly great time to start or grow your business!”

 

[Disclaimer: Content provided by JohnTalk is intended solely for general information purposes. JohnTalk does not claim to offer legal, tax, investment or accounting advice. We do not accept liability for direct or indirect losses resulting from the use of information provided. For specific advice about starting or investing in a business, consult with a qualified and licensed professional.]

 

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