Davis Bellomo Blog

Get more out of your 2011 Tax Preparation

Wed, 11 Jan 2012 20:22:00 GMT

Over the last few weeks, individuals have begun to receive their tax information for the 2011 tax year. This means that it’s almost time to meet with your tax preparer or sit down at the kitchen table and prepare your own return. For many people, either is analogous to going to the proverbial dentist, but in our opinion, it doesn’t need to be: Instead, it should be an opportunity to better understand what for many people is their largest annual expense. The following are considerations for reviewing the results for getting ready to meet with your tax professional or for preparing your own return.

Be organized. For those of you who use a paid preparer, you will likely receive a tax organizer of some sort. Most of these organizers will pose questions to make sure that any major changes in life are captured (e.g. marriage or the birth of a child), that any change in your tax situation is considered (e.g. a new business) or that any deductions/credits are taken (e.g. energy credit). Finally, it will give you a roadmap of what was reported on your tax return last year.
Gather your questions for your preparer. There are many things that come to your mind when you receive your tax information or completing your tax organizer. Be sure to write these questions down or email questions to your tax preparer in advance of your meeting. Tax preparers often are great resources of general financial information, so don’t be shy about querying them about other financial matters, as they may know the answer or an appropriate alternate resource.
Review your tax return before you sign the return or the electronic filing authorization. The tax return is your responsibility, and you should understand what is on your return. If there in an item on your tax return that requires additional clarification, ask your preparer. If there is an unexpected balance due or refund, ask the reasons why, as there may be actions that can be taken to mitigate a balance due or a large refund in the future.
Give your tax situation consideration throughout the year. Throughout the year, there arise events about which you may need to discuss tax consequences with your preparer. Examples might be an inheritance, the birth of a child, attending college to further your education or deciding to begin contributing or increasing your contributions to your employer’s 401(k) plan.

Resolve to Better Run Your Business in 2011

Mon, 10 Jan 2011 21:45:00 GMT

A new year often brings optimism and a fresh outlook. Between the passage of the extension of the Bush tax cuts and the recent generally positive economic news, entrepreneurs are looking forward to 2011. In anticipation of growth, many small-business owners turn their focus toward investments. With all this in mind, it is important to remain cognizant of core business principles and to examine both growth plans and finances with the same forward-looking eye.

Budget
Too often, financial information merely records the past, offering little utility beyond recapping a company’s financial history. Resolve this year to leverage forward-looking financial information as well as recording the operations of the enterprise. First and foremost, develop a budget. A budget is commonly viewed as an "accounting" function, but it should serve as a guide to determine whether a company is performing up to the expectations set forth in the budgeting process. For a budget to be most useful, it should include both the balance sheet and income statement. To illustrate why these related components are equally important, consider the following: The income statement may show that sales have met or exceeded expectation, while the balance sheet might indicate that accounts receivables are higher than expected, thus rendering cash levels below expectation. This would reveal a high-performing sales team, but a weakness in the collection process. Whenever significant variances from the budget exist, action must be taken to determine the cause of the variance. For instance, the example above calls for a review of the collection process to identify the cause of slow collections.

Cash
The saying "cash is king" is prevalent, and with good reason, as it’s the lifeblood of any organization. Proper cash management is tantamount to running any business, and especially a small business. With a thoughtfully prepared budget as a predictive, forward-looking tool, cash management can be more effective. Along with budgeting, it's important to know when cash outlays are forthcoming, not only for regularly occurring or monthly items, but also for those that occur only annually. To understand how the budget and the cash management overlap, consider a physician whose liability insurance is due in June. In looking at last year's financial data, the premium of $24,000 might be budgeted as $2,000 per month, yet the total is due in full in June. The annual budget may be accurate, but the cash outflow of $24,000 will occur just once, in June. The budget should show the liability premium due in June, and the physician should plan for and be in a position to pay the full premium in June. Many businesses experience cash flow challenges throughout the year. With proper anticipation via the budget, action can be taken to smooth out these challenges, perhaps with a line of credit, as these challenges are very real, but short-lived. Thanks to proper planning, the small business owner can remain focused on running the business with the peace of mind that comes from an under-control cash flow situation.

Now to put this into practice when considering growth. Say a company decides to hire a salesperson. This salesperson will be charged to generate X dollars of revenue in a 12-month period. The cost of this sales person is the combination of the cash compensation, the cost of his or her benefits, and the payroll taxes paid by the company. It might be easy to update the budget to indicate that the expected sales revenue goals and the costs of the new employee will be incurred equally each month. But in reality, the salesperson may not produce as much revenue in the first few months as they acclimate to their new job, but the payroll costs will definitely be incurred and will require cash. Therefore, even if the salesperson meets or exceeds their sales goals for the year, there may be a greater need for cash in the first few months. This is important to take into account.

All companies would benefit from the use of a forward-looking budget and employing proper cash management. For those companies anticipating a more robust economy in 2011, the budget and the current cash flow provide a starting point for setting expectations for expansion plans and the financial impact of those plans. It's critical to remember that while the budget and the cash flow are important, they are both tools for measuring the company’s overall performance with respect to expectations.

Thoughts on the Recent Tax Legislation

Thu, 23 Dec 2010 16:26:00 GMT

On Friday December 17, 2010, President Obama signed the Tax Relief, Unemployment Insurance Reauthorization and Job Creation Act (New Tax Act). This act largely extended the 2001 EGTRRA and the 2003 JGTRRA tax acts, commonly referred to as the “Bush Tax Cuts,” which were scheduled to sunset on December 31, 2010. The New Tax Act provides:

Individual tax rates will be extended for 2011 and 2012 at the current levels (10%, 15%, 25%, 28%, 31% and 35%).
The preferential 15% tax rate on Qualified Dividend Income (QDI) was also extended for 2011 and 2012.
The long-term capital gain rate will remain at 15% (0% for those taxpayers in the 10% 15% brackets).
The 15% tax bracket for married couples will remain double that of single taxpayers; thus, there will be no "marriage penalty."
The child credit will remain at $1,000, and there will be no phase-out of the dependency exemptions.
The New Tax Act includes an "AMT Patch," which sets the 2010 Alternative Minimum Tax exemption for single and married taxpayers at $45,450 and $72,450, respectively.
Taxpayers who are at least 70 ½ may make charitable contributions directly from an IRA, for the 2010 and 2011 tax years.
A payroll tax holiday for wage earners in 2011 cuts the employee share of the FICA tax from 6.2% to 4.2%. Note the employer's rate is still 6.2%.

Although the New Tax Act made some small changes to the law for the 2010 tax year, there is still time for year-end planning before December 31, 2010. With this in mind, we recommend clients consider the following:

Prepaying deductible taxes (state/local income taxes or property taxes) to accelerate the deduction on the federal income tax return, assuming it does not give rise to an alternative minimum tax liability (AMT).
Making charitable contributions from IRA accounts (for taxpayers who are at least 70 ½ prior to year end).
Recognizing capital gains, particularly for those taxpayers who can take advantage of the 0% long-term capital gains rate.
Taking distributions from qualified accounts, such as IRAs, to take advantage of the rate tables (for taxpayers over the age of 59 ½).
Determining whether converting regular IRA assets to a ROTH IRA is advantageous.
Purchasing assets to be used in a trade or business to take advantage of the 100% bonus depreciation or Section 179 expense, assuming of course that purchasing the asset makes good financial sense.

The New Tax Law provides taxpayers with many tax planning opportunities for 2011 and 2012. To that end, we will continue analyzing the law and will provide ongoing commentary and examples of tax planning ideas in the coming weeks.

About us

Davis & Bellomo provides financial peace of mind to entrepreneurs, their businesses and their families. We pledge a unique experience. Our process starts with active listening, identifying our clients’ financial concerns and the underlying, root causes of those concerns. Through our ongoing, partnership-style relationships with clients, we not only solve initial needs, but build multi-faceted solutions leading to the financial futures our clients envision

Year-end S Corporation Issues

Fri, 03 Dec 2010 14:30:00 GMT

Many corporations have chosen to be taxed as S corporations. When an entity chooses to be taxed as an S corporation, there are certain tax considerations that need to be addressed. The following is a brief discussion of a few select items to consider for S corporations before year-end:

Shareholder Compensation
It’s important that an S corporation pay reasonable compensation for services that shareholders provide to the corporation. It is not uncommon that S corporation shareholders pay themselves a small salary and take large distributions to avoid paying the employment taxes (FICA and Medicare) associated with paying themselves a reasonable salary. This approach is risky because the Internal Revenue Service is aware of this avoidance and may upon exam determine that distributions are disguised salary and reclassify some or all of the distributions as salary and not only collect the payroll taxes, but any penalties and interest for failure to pay those taxes. Before year-end S corporations that have paid little salary and large distributions, should consider whether these distributions should be reclassified as wages and pay the associated payroll taxes before year end.
2% or Greater Shareholders
Fringe benefits paid to shareholders who own more than 2% shareholders are not deductible by the S corporations. Instead, fringe benefits are added to the wages of the 2% or greater shareholders and are deductible as compensation. Common fringe benefits that need to be included in a greater than 2% shareholders wages are:
• Premiums paid by the corporation for a health plan or long-term health care
• HSA payments made by the 2% or greater shareholder and/or any contributions made by the corporation to the shareholder’s HSA account
• Premiums paid in excess of the first $50,000 of company paid term life insurance,
• Personal expenses paid with corporate funds, such as life insurance premiums where the corporation is not the beneficiary of the proceeds
These items need to be communicated to the S corporation’s payroll provider in order for them to be included in W-2 of the 2% or greater shareholders. We recommend that the S corporation proactively contact their provider to ensure that the appropriate adjustments are made before year-end.

C Corporation Accumulated Earnings and Profits
For those S corporations which were previously taxed as C corporation, there may be accumulated earnings and profits (AE&P) from the years that the corporation was a C corporations. If the corporation has sufficient cash, there may be an opportunity to distribute the AE&P before year-end to take advantage of the preferential federal dividend rate of 15%. Generally, distributions from an S corporation are made from the accumulated adjustments account (AAA) which is primarily the accumulated earnings during the S corporation period. However, for those S corporations that have AE&P, an election is available to treat the distributions as having been made from AE&P before AAA thus removing the possibly adverse tax consequences of distributing the dividends in future years when they would be subject the ordinary versus the preferential 15% available to the end of 2010.

UPDATED 2010 Accelerated Depreciation Provisions

Thu, 23 Dec 2010 20:02:00 GMT

As part of the recently passed tax bills, small businesses can take advantage of bonus depreciation in 2010 and 2011 and enhancements in Section 179 expensing in 2010, 2011 and 2012. These provisions are intended to encourage small business owners to purchase and place new equipment into service.

First, let's understand the rules for each provision. For assets placed in service in 2010 or 2011, there are two periods that taxpayers need to know. For assets placed in service before September 9, 2010 the bonus depreciation is 50% of the cost of the asset and for those assets placed in service after September 8, 2010 and before January 1, 2012 the bonus depreciation is 100% for the cost of the asset. For the remainder of this article, the term "bonus depreciation" is used to refer to all assets placed in service in 2010 and 2011. Bonus depreciation generally allows a taxpayer to deduct 50%/100% of the purchase price of qualifying assets placed in service. Qualifying property is new property: The “original use” of the property must begin with the taxpayer and have a depreciable life not exceeding 20 years. Because of the depreciable life limitation, real estate is not qualifying property. The bonus depreciation deduction is available to taxpayers regardless of income from the business activity in which the property is placed in service. Taxpayers are required to deduct bonus depreciation, unless they affirmatively elect out of deducting the bonus depreciation on the tax return for the year in which the asset was placed in service.

Section 179 allows taxpayers to elect to expense the cost of qualifying property rather than treat it as a capital expenditure and depreciate the asset. Qualifying property generally consists of tangible assets purchased by a business in an active trade or business. Unlike the bonus depreciation deduction, the “original use” of the assets does not need to begin with the taxpayer taking the deduction. Accordingly, used property which is new to the taxpayer is eligible for Section 179 expensing. While Section 179 expensing has been available for years, the new legislation increased the total amount of Section 179 expense that can be claimed in 2010 or 2011 to $500,000 and increased the investment limitation to $2 million. In 2012, the dollar and investment limits will be $125,000 and $500,000, respectively. The investment limitation is the maximum amount a taxpayer can invest before the benefit is reduced dollar for dollar; therefore, the ability to take advantage of Section 179 expensing in 2010 and 2011 is eliminated if a taxpayer invests $2.5 million. Because of the increase in the amount that can be expensed and the investment limitation, the Section 179 expensing provision is effectively extended to larger businesses. Like bonus depreciation deduction, Section 179 expensing is not allowed for real estate purchases. Unlike the bonus depreciation deduction, Section 179 expense is only available to those taxpayers who have income from their business. The Section179 deduction is an elective provision; therefore a taxpayer must affirmatively elect to take the Section 179 deduction.

What factors should be considered before taking advantage of these provisions? First, is new equipment necessary? For smaller purchases that allow a small business to operate, such as a laptop computer, it is advisable to purchase the property before year-end. However, for larger purchases, for example a delivery truck or a new point of sale computer system, it is necessary to determine the return on investment (ROI) of placing the asset in service. Just because the tax code essentially provides a subsidy to purchase the equipment does not necessarily mean that it's a good investment for the business. Thus, the purchase must make sound financial sense. Second, can the business afford to purchase the new equipment? If the business does not have the cash or credit facility to purchase the equipment, it will likely need to borrow money. Given the current lending environment, obtaining a loan may be difficult. It should be noted the legislation also had provisions to increase Small Business Administration lending. Therefore, it is important to discuss financing options with your banker to find the most economical options for you. Lastly, once the non-tax factors are considered, it is appropriate to determine what tax savings can be achieved on the 2010 tax return of the business or its owners if the business activity is a flow-through entity, such as a sole proprietorship, S corporation or partnership. For example, if the business does not have income, Section179 expense will not be available because of the income limitation for Section179 expensing. However, the bonus deprecation would still be available on the purchase of qualifying property.

Because the of the complexities of determining the use of these two provisions, it is necessary to seek the counsel of a qualified tax professional in planning the purchases before year-end and the preparation of the 2010 tax return.

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HIRE Act

Tue, 25 May 2010 16:47:00 GMT

On March 18, 2010, the President signed the Hiring Incentives to Restore Employment Act of 2010 (2010 HIRE Act) into law. The 2010 HIRE Act has several business-friendly tax provisions that may benefit your business, including a payroll tax exemption and increased income tax credits for employers whose employees meet certain eligibility requirements. The legislation immediately enhances employers’ cash flow by permitting employers to retain the employer portion of the Social Security tax ordinarily remitted. Additionally, the Act benefits businesses that retain those workers.

Social Security Tax Exemption

Currently, among other payroll taxes, employers must pay 6.2% of an employee’s wages in Social Security taxes shortly following payroll. Under the HIRE Act, the 6.2% employer Social Security tax exemption applies to previously unemployed individuals hired after February 3, 2010 who have worked less than 40 hours during the 60-day period prior to employment. The exemption from the 6.2% employer’s portion of Social Security tax applies to wages up to $106,800 earned after March 18, 2010 and before January 1, 2011. Note, this exemption does not apply to the portion of Social Security tax paid by the employees.

Employers can save the 6.2% employer portion of Social Security tax regardless of the wages the new employee is paid. Employers, including nonprofit organizations, and colleges and universities, do not have to wait until 2011 to benefit from this tax relief because savings are realized each pay period.

The HIRE Act also encourages businesses to hire workers earlier in the year as the tax benefits are greater. For example, a $60,000 worker hired on April 1 saves an employer about $2,800 in taxes. Delaying the hiring until June 1 would reduce savings to about $2,200. The earlier an employee is hired, the greater the tax benefit to the employer.

This exemption has no cap or limit as to the total amount of tax benefits that can be claimed by an employer. Employers can save up to $6,622 per qualifying worker, whether they hire one new employee or many new employees.

Income Tax Credit for Retention

In addition to the Social Security tax exemption discussed above, employers will also receive an income tax credit for retaining these new employees. Unlike the Social Security tax exemption that provides tax relief as the employee is paid, this income tax provision is realized in 2011 after the employee completes the requisite 52-consecutive week employment period required by the act. The income tax credit will be either $1,000 for each qualifying worker hired after February 3, 2010, and employed for at least 52 consecutive weeks, or 6.2% of wages paid to the qualifying worker over the 52-week period, whichever is less. Qualified employees earning $16,130 in annual wages or more should qualify for the full $1,000 income tax credit. Employees earning less than $16,130 qualify for the credit but the credit is limited to 6.2% of wages paid to the employee. Please note that wages during the last 26 weeks must be at least 80 percent of wages paid for the first 26 weeks. This provision will likely effect hourly employees more than salaried employees as it requires businesses to pay qualified employees consistently in order to qualify for the credit.

Qualified Employees

To qualify for both the Social Security exemption and the retention tax credit provisions of the HIRE Act, the employee must begin work after February 2, 2010 and before January 1, 2011.

Newly hired employees must certify "by signed affidavit," under penalties of perjury, that he/she has "not been employed for more than 40 hours during the 60-day period ending on the date such individual begins such employment." A copy of the required affidavit, IRS form W-11, is attached. Please note that this does not exclude recent graduates. Any worker who was not employed more than 40 hours during the last 60 days is a qualified employee under the HIRE Act.

Neither the 6.2% Employer Social Security tax exemption nor the retention tax credit is permitted if a person is hired to replace another employee "unless such other employee is separated from employment voluntarily or for cause."

Finally, new employees must not be related to the employer. This is generally intended to prevent business owners from artificially “hiring” their relatives for tax purposes and circumventing the spirit of the act.

Qualified Employers

Any employer other than federal, state, or local government is qualified under the HIRE Act. Public higher education institutions, however, do qualify.

Election to Expense Depreciable Business Assets:

The Act further extends the higher $250,000 limit established by the American Reinvestment and Recovery Act of 2009 for small business expensing for an additional year. Under the provision, businesses can continue to double the immediate write off for capital investments and purchases of new equipment made in 2010 from $125,000 to $250,000.

Feel free to contact us to discuss how these tax law changes affect your particular circumstances or to discuss any other financial matter.

Health Care Tax Credit

Thu, 05 Aug 2010 14:34:00 GMT

With the passing of the Patient Protection and Affordable Care Act in March, many small businesses and tax-exempt organizations that provide health insurance coverage to their employees may now qualify for a special health care tax credit. The credit, available this year, is designed to encourage small employers to offer health insurance coverage for the first time or to help maintain presently offered coverage. The decision to offer health and other employee benefits is clearly a much larger consideration than what new tax incentives may be available. Offering health coverage is best evaluated when keeping in mind corporate citizenship, a company’s ability to attract and retain quality workers, as well as the financial pros and cons. Those considerations are each wildly important but too wide in scope for complete analysis here. So, this post’s discussion will be limited to the more immediate tax implications for small business as a result of the Act.

To incent companies to get new or retain existing health insurance coverage, now up to 35% of premiums paid in 2010 through 2013 by eligible small business employers and 25% of premiums paid by eligible tax-exempt employers are available as a tax credit. In 2014, the maximum credit increases to 50% for small business employers and to 35% for tax-exempt employers.

Eligible employers are those small businesses and tax-exempt organizations who have fewer than 25 full-time equivalent (FTE) employees paying wages averaging less than $50,000 per employee per year. Many businesses will qualify even if they employ more than 25 individual workers because the eligibility formula is based, in part, on the number of FTEs rather than the actual number of employees.

Employers whose work force consists of primarily low and moderate income workers benefit most from the Act’s provisions. The maximum credit goes to smaller employers, those with 10 or fewer FTEs, paying annual average wages of $25,000 or less. Those smaller employers are eligible for the full credit. Employers who employ between 11 and 25 full-time equivalent employees with average annual wages of between $25,000 and $50,000 are eligible for the credit, but at a reduced amount, based upon a sliding-scale eligibility formula. Business owners and relatives of owners are excluded from the formula’s FTE calculations allowing for more potential participants.

Besides the FTE and average wage qualifications, the credit is only available to employers that pay at least half the cost of single coverage for their employees. The single coverage stipulation means that while employees may opt for more expensive coverage plans offered by the employer, such as spousal or family coverage, the employer will qualify for the credit as long as the employer pays 50% of the premium for what would have been the single coverage for that employee. For example, if an employee’s single coverage premium totals $5,000 but the employee elects family coverage with an $8,000 annual premium, the employer will meet this stipulation as long as the employer is paying $2,500 or more of the employee’s coverage. While the employer is paying less than 50% of the total premium for the coverage the employee has elected, they’re covering half or more of the single employee’s premium option, and if they also meet the FTE and wage qualifications, they would qualify for the credit.

Bringing this altogether, a machine shop employing 10 full-time workers excluding the owner, paying $25,000 in average wages, and spending $50,000 in total employee health care costs in a plan covering 50% of the total employee premiums would qualify for a 35%, or $17,500, health care tax credit this year. The remaining $32,500 ($50,000 total expense - $17,500 credit) in health care costs is additionally tax deductible just as these expenditures have been in the past. In 2014, this same machine shop’s tax benefit will increase to a $25,000 credit.

The decision to offer health benefits is a weighty one for many business owners. Looking closely at this important tax credit may help alleviate some of that burden. This computation is seemingly simple, but can quickly become complex. As such, business owners should seek counsel to help them balance these new financial incentives with their company’s social, employment, and financial goals.