By Mark E. Battersby
Given the effects of the coronavirus pandemic on the economy, keeping a specialty fabrics operation’s tax bill low shouldn’t be a problem this year. However, to keep the business’s tax bill low year after year requires planning, and what better place to start than in a troubled tax year? This may be the year for losses, substantial losses in some cases, but those losses don’t have to be a bad thing. The Coronavirus Aid, Relief and Economic Security (CARES) Act, as one example, temporarily allows net operating losses (NOLs) to be carried back to earlier tax years.
Coping with losses
The result of temporarily allowing NOLs to be carried back to earlier tax years is a refund of taxes paid in those earlier, more profitable years and an infusion of badly needed cash. Thus, businesses that incur NOLs in 2018, 2019 or 2020 can carry back those losses as far as 2013, 2014 and 2015 respectively. Since the maximum corporate tax rate for tax years prior to 2018 was 35% rather than today’s 21% corporate tax rate, the carrybacks can be rewarding.
And don’t forget that the former 30% limit on deducting business interest has been increased to 50% of the specialty fabrics operation’s income. As was the case with the old ceiling, the new 50% limit on business interest deductions doesn’t apply to small businesses.
One tricky but popular strategy for minimizing tax bills involves pushing income to next year while accelerating expenses this year. After all, why pay taxes now when you can pay later? But if your fabrication operation doesn’t appear to be profitable this year, deferring (postponing) deductions to a later, hopefully more profitable, year might be a good strategy. After all, those deferred deductions may be useful in minimizing tax bills down the road.
Other strategies include:
- Small Business Health Care Tax Credit: Businesses employing 25 or fewer full-time-equivalent employees with average annual wages no greater than $54,200 (in 2019) may qualify for a tax credit to help pay for employees’ health insurance. The tax credit is worth up to 50% of the employer’s contribution toward its employees’ premium costs (up to 35% for tax-exempt employers).
- Repairs: Whenever possible, end-of-year repairs and expenses should be deducted immediately, rather than capitalized and depreciated. Small businesses lacking applicable financial statements (AFS) are able to take advantage of de minimis safe harbor by electing to deduct smaller purchases ($500 or less per purchase or per invoice). Businesses with applicable financial statements are able to deduct $5,000. Small businesses with gross receipts of $10 million or less can also take advantage of safe harbor for repairs, maintenance and improvements to eligible buildings.
- Retirement plans: Perhaps changing your company’s retirement plan or other benefits plans makes sense. Self-employed individuals who have not yet done so should set up self-employed retirement plans before the end of 2020.
A properly designed 401(k) can be self-directed and utilized in real estate transactions, hard-money lending and investments in the business. Business owners might also consider converting their traditional IRA or 401(k) to a Roth IRA and start paying taxes at a lower rate without paying taxes on withdrawals in the future.
The old adage that you have to spend money in order to make money got a shot in the arm several years ago when lawmakers increased the tax incentives for purchasing equipment and other business property. The 100% first-year “bonus” depreciation deduction generally applies to expenditures for equipment, vehicles, computers and other business assets that are used in the specialty fabrics operation and that are depreciable over 20 years or less.
What’s more, new guidelines were recently released by the Internal Revenue Service (IRS) for businesses that want to take advantage of the current 100% write-off for equipment, fixtures and even some real estate. Now, the IRS will allow any business that failed to take advantage of these accelerated write-offs to claim them retroactively.
In addition to the 100% bonus depreciation, the Tax Cuts and Jobs Act (TCJA) increased the unique first-year write-off for so-called Code Section 179 equipment and property. Thanks to an inflation increase, the Section 179 deduction for 2020 is $1,040,000. The deduction does, however, begin to phase out on a dollar-for-dollar basis after $2,590,000 is spent.
Although the write-offs under the TCJA are helping businesses that have purchased new equipment defray out-of-pocket costs and reap refunds of previously paid taxes, taking this deduction may not always be the best strategy for every specialty fabrics business—particularly in an off-year.
Selling it off
Disposing of unneeded, unwanted, obsolete equipment or other property deserves some thought as part of year-round tax planning. There is, after all, no point in letting excess equipment take up space when it could be contributing to an operation’s bottom line.
Selling, donating or actually abandoning those unwanted assets creates cash and/or tax write-offs. Don’t forget to document each event, keep receipts and physically abandon unwanted assets; don’t merely stash them away.
Consider tax credits now
Unlike a tax deduction that merely reduces the income upon which tax is based, a “credit” directly reduces the operation’s tax bill. Taking advantage of tax credits may appear to be wasted in a year with a low or no tax bill, but those credits can be carried over to more profitable years—or contribute to the operation’s net operating loss to generate a refund of previously paid taxes.
Included among the most popular tax credits—and the ones most likely applicable to a specialty fabrics business—are both a number of virus-related tax credits and other long-standing credits such as:
- Paid family and medical leave: Subject to certain limitations, the CARES Act includes a payroll tax credit equal to 100% of the family leave wages paid by an employer.
- Payroll tax credit for required paid family leave: Similar to the paid family and medical leave credit, this credit equals 100% of the qualified sick leave wages paid by the employer.
- Self-employed individuals: Self-employed individuals are eligible for qualified family leave equivalent amounts and qualified sick leave equivalent amounts.
- Employee Retention Credit: Employers can claim this credit only if they have not received a Paycheck Protection Program (PPP) loan. This fully refundable tax credit is equal to 50% of qualified wages paid to employees. While both the Employee Retention Credit and the tax credits associated with paid leave can be claimed, they can’t be claimed on the same wages.
- Going green: Businesses, as well as homeowners, can benefit from a 26% energy investment tax credit on renewable energy systems. The federal solar tax credit permits a deduction for 26% of the cost of installing a solar energy system. A tax deduction for energy-efficient commercial buildings has been extended through December 31, 2020.
The first step in year-end tax planning should involve your record-keeping system—or lack of one. After all, good records can help every business generate an accurate tax bill and ward off zealous IRS auditors. But, that’s not all.
Those dreaded basic records
Good records are also invaluable for monitoring the recovery of a troubled operation, when preparing financial statements required by lenders and investors, and when selling the business and they are particularly helpful for securing financing.
It should come as no surprise that more deductions are disallowed by the IRS for lack of substantiation than for being nondeductible. But, while the IRS doesn’t require receipts for expenditures of less than $75, most tax rules do require many expenses be documented—a chore in anyone’s book.
The IRS doesn’t require a business to keep records in a particular manner. So long as it produces an accurate accounting of income and expenses, the method best suited to the business can be used. However, since every business will benefit from more rigorous and accurate record-keeping, that can mean investing in the most effective—and affordable—record-keeping system.
Find a pro
Now might be a good time to shop around for a tax pro. While most specialty fabrics business owners and managers know their operations inside and out, there are highly technical matters of law, accounting, management and marketing that are usually best handled by outside experts.
The first step to finding the right tax professional requires an inventory of what you and your business actually need in the way of services and advice and, most importantly, how much you can afford to pay for that advice or services. And the best way to find someone to render needed advice or guidance is via a referral from business associates, your banker or your attorney.
While 2021 is knocking on the door, there is still time to make changes that could save your business—and you—money. With or without professional assistance, you can realize maximum tax savings for 2020 and, hopefully, many years to come, with thoughtful year-end tax planning.
Mark E. Battersby writes extensively on business, financial and tax-related topics.
SIDEBAR: Tax help
To find a capable, qualified tax professional, ask your business accountant or bookkeeper. Referrals from trusted business associates can provide excellent sources. You can also find certified business tax advisors near you by visiting the Association of International Certified Public Accountants (AICPA) website at www.aicpa.org or the National Association of Enrolled Agents at www.naea.org.