Tag Archives: tax deduction

The (potential) 20% Deduction Business Owners Should Understand

Last December, one of the biggest (real news) headlines was the drastic tax reform working its way through the legislative process. The Tax Cuts and Jobs Act (TCJA) was officially signed into law by President Trump on December 22, 2017 and it represents the most comprehensive tax reform in decades.

The more dramatic changes have been well publicized, but as with much of the Internal Revenue Code, some of the logistics are hard to comprehend. Arguably the most reformative of these changes is the Section 199A Deduction for Qualified Business Income. The Qualified Business Income Deduction (QBID) exemplifies congresses intent to organically aid in the growth of business. Staying consistent with the right’s traditional nod to trickle-down economic theories, the current administration is betting that increased liquidity via tax savings will be reinvested in capital assets and hiring.

QBID is a “below the line” deduction on Form 1040 that is available to sole proprietors and recipients of pass-through income (i.e. from S-Corporations and Partnerships). It is likely that part of the initiative behind QBID was to even the playing field for businesses not operating as C-Corporations. Under the TCJA, C-Corporations now enjoy a flat 21% tax rate; with individual rates being as high as 37%, a business operating as a C-Corp could otherwise have advantages over S-Corps or Partnerships whose owner(s) reside in the top tax bracket. It seems to this author that the extension of the corporate tax break to small business owners not only fit the republican economic agenda, but it also is likely to have helped proponents of the bill increase public support amongst business owners.

To narrow the gap in tax rates between large corporations and small businesses, congress decided to allow individuals a deduction on their personal tax returns equivalent to 20% of QBI (qualified business income). Assume for purposes of an illustration that the only item on a single filer’s tax return is $150,000 of business income and that they take the standard deduction. In 2018 this nets to $138,000 of taxable income and $27,410 of tax. Now consider all things the same, except the $150,000 of business income is qualified within the confines of QBID. In the later scenario, the taxpayer’s taxable income nets to $110,400, with tax of $20,786 and a net tax savings of $6,624 because of the new deduction.

As with most tax breaks in the Internal Revenue Code, there are however caveats, and they are complicated. There is an income threshold for example: single filers with taxable income above $157,500 (or $315,000 for joint filers) will need to consider their employees’wages and the company’s depreciable assets into their QBID calculation, as their deduction will be limited by one of these two factors.

Further, a taxpayer is subject to a complete phase-out of the deduction if he or she works in one of the few service industries specified by congress “where the principal asset is the reputation or skill of one or more of its employees.” Services in the fields of health, law, accounting and consulting are a few that fall into this category. If the AGI of a professional in one of these fields exceeds $207,500 (or $415,000 if they file joint) then the QBID escapes them entirely.

There was in fact a bit of “fake news” surrounding the legislation in regards to how the Tax Cuts and Jobs Act was going to “simplify” the tax code. For some taxpayers, it probably did, the increased standard deduction will mean that many taxpayers will no longer need to itemize deductions. For other taxpayers however, specifically those who own a business, the tax environment got more complicated. The word “potential” is the best way to describe the QBID. Taxpayers whose income typically falls near the thresholds are going to have to be meticulous in how they structure things both at the entity level and on their personal returns to maximize the potential QBID. Diligent tax preparers are working with their clients to navigate the regulations and some interesting strategies are being passed around the CPA community. In the end it is going to come down to effective tax planning. Far too often taxpayers inadvertently omit deductions they would otherwise be entitled to had they planned properly. The QBID has potential to save a lot of people a lot of money, they just need to do their homework.

John Massey is a Senior Accountant at Perry, Fitts, Boulette & Fitton CPAs. He helps individuals and businesses with tax planning preparation and works on compiled and reviewed financial statements for businesses. He can be reached at 207-873-1603.

Mortgage Interest Tax Deduction: It’s not what it used to be.

Per the US Census Bureau, over half of U.S. homes are occupied by the owner. Of those homeowners, over half have a mortgage that they pay interest on. For most, having a mortgage is part of owning a home and people often spend a significant portion of their life making payments on their mortgage. Before the recent change the US Tax Code section 163 specifically provided for a deduction for mortgage interest and home equity interest as an itemized deduction. This deduction has allowed taxpayers that can itemize to save tax dollars while they pay down their debt.

With the recent passing of the Tax Cuts and Jobs Act, the deduction for mortgage interest has undergone two significant changes that will impact many.

Here is what will change in 2018:

Under the prior law, taxpayers have been allowed to deduct interest on home equity indebtedness up to $100,000. In 2018, this deduction is eliminated and there will no longer be a tax benefit for interest paid on an equity loan.

The second significant change is that taxpayers were allowed to deduct mortgage interest on mortgages up to $1,000,000. The Tax Cuts and Jobs Act now allows taxpayers to deduct interest on mortgages up to $750,000 for all mortgages originated after December 14, 2017.

What happens if your refinance? Taxpayers will be allowed to keep their higher threshold of $1,000,000 if they refinance a loan that was established before December 14, 2017 as long as the new debt doesn’t exceed the amount refinanced. In other words, you will fall under the new rules if you refinance your mortgage and increase the loan amount.

While there are only a small percentage of taxpayers that have a mortgage over $750,000 in the State of Maine, there are a lot of taxpayers that have been deducting the interest on their home equity loans. If these taxpayers still itemize deductions in 2018, they will no longer be able to take advantage of the equity interest deduction.

It is important to understand that the law continues to allow the mortgage interest on a second home. This law has not changed from previous years and taxpayers may benefit from a deduction of mortgage interest on their first and second home, provided that the total indebtedness does not exceed the $750,000 threshold.

I encourage everyone to take some time and read or speak to a tax advisor about the changes under the new tax law and how it will impact you specifically.

“An investment in knowledge pays the best interest.” -Benjamin Franklin

Alison Royall, CPA is a Director at Perry, Fitts, Boulette& Fitton CPAs. She works with people and businesses to prepare tax returns and help them plan their short and long-term goals. She is a multi-state tax specialist, with clients in many other states including international clients. She works with the audit department and prepares compiled and reviewed financial statements for businesses, as well as personal financial statements for high net worth individuals. She can be reached at alison@pfbf.com or 873-1603.

IT’S BETTER TO GIVE THAN TO RECEIVE

Since moving to the Mid-Coast area a few years ago, my wife and I have been called upon many times to help a number of local charities. We are very strong believers that it is our obligation to make our community stronger during our brief stay in this wonderful world so we choose to help where we can. We ask all readers to support their favorite local charities as they are the heartbeat of society, making a difference in all of our lives.

Two of our favorites include the Bath YMCA and Big Brothers Big Sisters. For over 150 years, the Bath YMCA has promoted healthy living and provided youth with a safe place to grow. BBBS has been creating nurturing relationships for children facing adversity since 1904. Clearly both organizations make a positive impact on the lives of youth in our area. What they also have in common is that they are both qualified charitable organizations defined under the IRS Code.

As most already know, donations to nonprofit groups like the YMCA and BBBS are tax deductible if you itemize deductions. By definition, a donation is voluntary and is made without getting, or expecting to get, anything in return. To be deductible, a donation must also meet other strict criteria as outlined in IRS Publication 526.

Most of you reading this column have a good handle on what is deductible. Donations to the annual appeal at church, the building fund at the hospital and expenses paid when you volunteer at the museum are all examples. What you cannot deduct are the cost of raffle tickets bought to benefit a charity, the value of your volunteer time, the value of your blood given at the local blood drive, political contributions or the cost of your girl scout cookies. (…sigh)

Donations can get a little sticky when goods or services are received as a result of the contribution. Take for example, the local fundraising silent auction that you pay $1,000 to stay a beach house. If the fair value of that stay is $1,000, you have not made a contribution and no deduction is allowed. If, however, you pay $1,500 for the same stay you could be entitled to a $500 deduction.

For those who think that there is a safe amount that can be deducted be warned, the IRS has many strict rules for deducting charitable contributions. The rule that impacts most people is the requirement that individual contributions of $250 or more be backed with a written acknowledgement from the qualified organization. The acknowledgement must be in your possession before you file your return, include a description of the gift and a statement as to whether you received any goods or services as a result of the contribution.

My wife and I firmly believe that we all have an obligation to give back. Giving back is the life blood for local charities, and the tax deduction feels good too. The next time you attend a charity auction, bid high and bid often.