Dave Cain: Welcome to unsuitable on Rea Radio, the award-winning financial services and business advisory podcast that challenges your old school business practices and their traditional business suit culture. Our guests are industry professionals and experts who will challenge you to think beyond the suit and tie while offering you meaningful modern solutions to help enhanced your company’s growth. I’m your host, Dave Cain.
Last week on unsuitable, we reviewed some important tax reform implications for individuals with Cindy Kula with Rea & Associates. This week we’re going to shift gears and talk about some of the really big changes business owners can expect to see as a result of the recent tax reform legislation. From new corporate tax rates and significant changes to the bonus depreciation and net operating loss provisions to a variety of changes poised to hit companies in 2018 and beyond, the Tax Cuts and Jobs Act full of savings and planning opportunities for business owners.
Rea principal and tax strategy expert Chris Axene from Dublin, Ohio is joining us today to share some of the tax reform highlights business owners need to be particularly aware of in this coming year. Today’s episode which will highlight domestic tax provisions is part one of our tax reform mini-series for business owners. Next week, Chris will return to provide us with a deeper dive into what this tax reform legislation means to your choice of entity. We have a lot to cover so let’s get started.
Welcome to the first tee, Chris.
Christopher: Good afternoon, Dave, happy to be here.
Dave: So a lot going on in the tax world.
Christopher: It’s been nonstop since December 22nd.
Dave: So let’s get right into it right out of the gate. In your opinion is this new Tax Act is this tax reform or is it tax simplification?
Christopher: It’s certainly not tax simplification. I was worried that I might have to retire early. When you would read the press clippings prior to the end of the year on how you could file your taxes on a postcard and we were going to simplify everything and then after the law was passed, fortunately, it looks like I’ve probably got a good another 20, 30 years if I really want it.
Dave: There you go. You’re secure, your job is secure.
Christopher: Secured. The Accountants Full Employment Act.
Dave: So, Lisa’s pretty happy to keep you out of the house.
Christopher: Keep me here and not home.
Dave: One of the things that we spoke about in the session regarding, as part of the mini-series the session regarding individual tax brackets and rates and changes, we talked about sunset provisions on the individual side but it doesn’t appear there are sunset provisions on the business side of this tax reform.
Christopher: By and large that’s true pretty much for everything except for what I call the super bonus. That does have a phase-out to it. We have that for about five years and then afterwards at least based on what we know today that will go away but everything else on the corporate side is a permanent item.
Dave: Super bonus, is that what I’m going to see in my next payment or is that bonus depreciation?
Christopher: Bonus depreciation.
Dave: There’s been a lot of press about the corporate rate and it appears that it ended at 21%. Can you confirm that?
Christopher: That’s right. Lots of different numbers were being thrown around in the beginning and as we got to the end but as it turns out there’s been effectively a 40% cut in the corporate rate. As well, it went from a graduated tax to a flat tax. So it’s 21% flat tax across the board.
Dave: In 2017, what was the highest corporate tax rate? Let’s do a little comparison for our audience.
Christopher: So the highest corporate tax rate was 35%. The reality is most of the corporate tax world didn’t pay that rate, they paid 34% just because of when that highest break kicked ineffectively on taxable income above 15 million dollars. So for most of the world of taxpayers on the corporate side, a 34% rate was the tax rate. So it went from 34 to 21.
Dave: Let’s be clear on the corporate tax rate of 21%, we’re talking about the C corporation tax rate.
Christopher: Yeah. We’ve had some clients call and wondering that they can convert to an S corp and to get the low tax rate. And so I think there is some confusion out there. This tax rate only applies to C corporations, not S corps, not flow-throughs, etc.
Dave: Good clarification. And I believe in next week’s episode of Unsuitable we’re going to talk about the conversion of C corporation to S.
Christopher: Well, I can’t wait for that. It’s a real passionate topic for me.
Dave: That’s pretty exciting. Yeah, you’ll have to come back for that. I think we’ve got some great sponsors lined up for you on that one.
Christopher: Perfect. Do I have like a frequent flyer miles for that?
Dave: You do. A lot of times when we talk about taxes you and I have a tendency to start talking in the tax code and IRS code sections. We’re going to going to throw a couple of those out. We’ll have to just kind of identify what that means but Section 179 I think is out there. A lot of people know what that is but just give us a quick view of what Section 179 is and what’s happened to it in 2018.
Christopher: This is interesting. 179 has been around for a long time. Congress has played with it over the years. Prior to 2018, prior to the law changed, you could elect to expense up to $500,000 a year of fixed assets that otherwise would be required to be capitalized and depreciated over a period of years. So that was on an asset by asset basis and largely only applied to tangible personal property.
What happened what the law changed was a couple of things. First, they increased the amount that you could deduct from 500,000 to a million dollars And then what they also did at the same time as they increased, that’s the benefit that phases out if you put in too much property during the year. So they increased the phase-out range as well by $500,000. So now, we’re at this between 2.5 and 3.5 million is when the benefit of claiming a million dollars starts to phase out.
Dave: So do you give this a thumbs up standing ovation for all businesses regardless of side. This sounds like it’s good for all business.
Christopher: Yeah. I think it was a welcome provision and as well there was at least from my perspective a surprise in terms of, in addition to increasing the amount, they also added a couple of new items that are eligible for 179 that weren’t previously eligible.
Dave: And what would be a couple examples of those items. And we talk in some qualified real property, is that some of the things?
Christopher: Yup.
Dave: You didn’t think I knew that term, did you?
Christopher: Those are the buzzwords. Qualified real property for purposes of 179, you have things like the roof, security systems, alarm systems, HVAC, so things that prior to the law change were not eligible not only for 179 but also for bonus. Now, we’ve carved out an exception where these limited kind of four categories are eligible and can be included in that million dollars that you get now.
Dave: So this is good news as far purchases and investment to businesses, we have the section 179, quick write off, depreciation. We have the bonus depreciation, we the qualified, certain qualified real property items now qualifying for fast write off. Thumbs up?
Christopher: Yeah, sure. We’re stimulating business investment and fixed assets and as a way to stimulate revenue and jobs so it all goes into the mix.
Dave: Okay, good. So right out of the gate, we had 21% corporate rate and we’ve got some great depreciation stuff ahead of us but I think the caution in the wind is maybe not all of the states will recognize some of this depreciation, so we have to throw out a caution there.
Christopher: That’s right. This law is all federally related. So each state traditionally decides on its own how much if any of these changes in the laws that they’ll follow and as you know in Ohio, for many years we don’t get the benefit of bonus depreciation or 179 above a certain threshold and I don’t see that changing but Ohio has not decided yet on where they are on that as far as I know.
Dave: Right. When you and I were in college going through our accounting classes, all we pretty much knew was the accrual basis of accounting. We never heard of cash basis or other comprehensive basis but it appears there have been some changes in this tax law that may be beneficial to certain taxpayers that can use the cash basis method. What’s going on here?
Christopher: Well, for setting the stage, really, the best tax planning tool we still have is the ability, where we can is the ability to use cash method of accounting for taxes versus [the accruing 00:09:47] and simply what you’re doing there is you pay income when you receive your money and you get your tax deduction when you pay it out. That seems like common sense. However, in the financial statement world and under accrual method of accounting, that’s not necessarily the timing of how you recognize revenue and when you deduct things, doesn’t always coincide with when you actually have the cash in your hands.
Dave: So, previously for some taxpayers there was a threshold limit on when, how much revenue you could have before you had to convert from cash to accrual.
Christopher: That was previously at $10 million but the new law they’ve expanded that now to $25 million, so more than double.
Dave: So again, I think this sounds good on the surface but needs to be played out and advisors need to be looking at that. It’s not one of these things you’re going to run out and do tomorrow. There’s a lot of by-products and side effects of doing this, so, again, I think we all have to use some caution.
Christopher: Sure. A lot of the provisions here, all Congress did was pass laws that reflected their intent and much of it it’s now on to the IRS and Treasury to issue the guidance to implement their intent and we’re too soon into that process to really have much guidance yet but we need it and it should hopefully be forthcoming as we move through 2018.
Dave: And that’s a good point it’s worth repeating and we talked about in a previous episode, you know, the Tax Acts have been changed but we’re still waiting examples and guidance and tax forms from the IRS regarding any aspects and many of these aspects of how the new law’s to be applied. So we’re kind of still sitting on the sidelines, we think we know but it’s not 100% clear cut.
Christopher: Right.
Dave: Business interest expense. We’ve heard a lot of noise about business interest expense being limited. What’s going on here?
Christopher: We go back to what was the intent of the legislation that top passed and among the major items was corporate tax reform and international tax reform and so in cutting the tax rate, that cost the treasury dollars. And so we looked for other areas to make up for that, pay for us.
So, the business interest expense limitation provisions was one of those areas where it appears that was trying to make the dollars work, dollars and cents not balance out but better than otherwise. Again, there’s a kind of de minimis threshold $25 million and less, you don’t have to worry about these provisions. But if you’re over that in annual revenue then your ability to deduct interests could be limited depending on what your taxable income is each year and there’s a formula involved.
Dave: Sure. And some companies may just need to change their operating style if they like heavy leverage on their fixed asset purchases and things like that, they just may need to rethink that.
Christopher: The other thing they did was they threw a bone to the real estate industry. So they created a carve-out where primarily real estate holding companies that rent properties and leverage their property as a part of that, they have the ability to elect out if they’re otherwise over that $25 million, there’s a little cost of that but there at least is that provision that is available for real estate companies.
Dave: You know, here at Rea & Associates as CPAs we always like to entertain our clients, we like to certainly go out for dinner, play some golf, go to a hockey game, go to a football game, go to a concert. Can I still write those expenses off in 2018?
Christopher: Yeah, I think the Blue Jackets are bumming congress. This was a surprise to many of us quite frankly. And again it’s a pay for that they eliminated the ability to deduct so-called entertainment expenses. Now, we can talk what those are but what they aren’t that the meals, the ability to take a client to dinner, to lunch, to breakfast and deduct that, that’s still in play. What’s not in play is historically if you took them to the golf course or you took them to the hockey game and expense the cost of that, that’s what has gone away.
Dave: That is a surprise. I was not prepared for that. As I guess professionals, many of the professional corporations, that’s a big part of some of their marketing expense. But that’s not marketing dollars, those are strictly entertainment dollars, is that how that goes?
Christopher: Well, yes. But we may have to get our magnifying glass out and scrub the advertising category and marketing.
Dave: I got it. Net operating losses, I understand there may have been some changes in that area. Again, that’s a very complex area so I don’t know that we need to do a deep dive but just give us a quick overview if you can of what’s happened with these net operating losses.
Christopher: Yeah. So we had some changes both on the individual side and on the C corp side and Cindy may have touched on the individual side of that. On the corporate side, under the old rules, if a C corp generated a loss you could carry that loss back to the two prior years and then carry it forward 20. So it had a 20 year carryforward period to it and if you didn’t use it at the end of 20 years you lost it. But otherwise, there were no restrictions on the ability to use it in a subsequent year when you had income.
What they changed under the new law, that changes, so they got rid of the carryback period so longer carry back. There’s no longer a 20 year carry forward. They carry forward indefinitely and so, in other words, they don’t expire. However, because they did away with the corporate AMT I think in part they limited your ability to use An NOL carry forward in a future year and basically now you can only offset up to 80% of your income in that year.
Dave: Again, somewhat complicated but some changes there. You’d mentioned AMT or alternative minimum tax and that is completely wiped out at the C corporation level.
Christopher: That’s right. Unlike for individuals, for C corporations the alt minimum tax has been repealed.
Dave: So it’s clarification there was some understanding or misunderstanding out there that the alternative minimum tax had gone away at all levels and that’s not necessarily the case. The C corporation it has definitely gone. See you later.
Christopher: See you later for the C corp.
Dave: So one other item if you’re in the manufacturing area is this domestic production activities deduction that historically was a pretty good deduction for some of the companies. Is that still in play?
Christopher: Nope, it got repealed. And so, going forward for tax years after 2017, that’s no longer in play. Previously, that was a 9% deduction so that’s no longer around. That’s one of the pay for us for how we got to 21%. We talked earlier about previously for most C corporations the highest rate or the rate that they typically paid was 34%. The reality on that is under the old law when you had things like the domestic production activities deduction, things like R&D credits, other types of business credits, they weren’t paying 34%, they were paying some lower rate already. And so, in exchange for moving from a stated 34% rate to now a flat 21, we had to get rid of some of the other benefits that previously were there to help pay for that and the DPAD was one of them.
Dave: Again, a lot of these deductions and changes that we’re talking about are for every type of business. We’ve referred to C corp but most of what we’ve talked about today has been all businesses no matter how you do business.
Christopher: With the exception of the tax rates, that’s right.
Dave: Correct. Now again, I want to go back to sunset. Most of these that we’ve talked about appear to be permanent in nature where the individuals have sunset.
Christopher: That’s right. They’re as permanent as is until the next Congress changes it.
Dave: You know, the last area I want to cover quickly and this is very complex but I think may have some play in the market. There’s a new tax credit for wages paid to an employee on FMLA, family medical leave. Again, we’ve just started researching all of that but can you address that in a few minutes.
Christopher: Well, I think effectively what we have here is a tool, a benefit that Congress wanted employers to have and I think right now you have a lot of employers that while they may allow their employees time off, they don’t pay for it. So the employee has to use their vacation time or take it unpaid.
Dave: So this could be really, really a good thing.
Christopher: Yeah, so to incentivize companies to offer it and maybe to pay it without having to take [inaudible 00:19:30], they give them a credit.
Dave: In a few minutes we have left Chris and we’re speaking with Chris Axene, principal with Rea & Associates located in Dublin, Ohio who’s spent 23 of every 24 hours in the last two months reading about tax law. So he’s a little weary but quite an expert on these topics. Talk to me about the winners of some of these business tax cuts. Who are some of the winners?
Christopher: Yeah, so that’s a good question. So on the corporate side, C corps made out in my opinion. When you look at everything that they got versus what they had to give up to get it in terms of the low tax rate, flat tax rate. So you have that. But by and large businesses, regardless of what entity type you have, you have the super bonus depreciation, we have the changes to 179. We talked about cash method accounting but we as a part of that 25 million kind of small business line in the sand where you have the so-called unit cap requirements, the requirement to capitalize certain selling SGNA type costs.
To your inventory, that’s on hand that you haven’t sold yet and then you get to recoup them when you sell that inventory in future years and that requirement, if you’re below 25 million they did away with the requirement to have to use it. And I think that’s definitely a benefit regardless of what type of entity you are.
Dave: So the C corporations are definitely a winner but wait, don’t go out there and switch to C corporation just yet. Next week you’re going to talk to us about the benefits and not the benefits of switching between various tax entities. So definitely C’s are the winners. How about losers?
Christopher: Well, yeah. Certainly the professional service companies …
Dave: CPAs get it again.
Christopher: CPAs, lawyers, apparently we had crappy lobbyists versus the architects and the engineers when we’re talking about the past through deduction and our inability to take advantage of that. So, I would say we were losers in that regard.
Dave: Thanks again for joining us today, Chris. You’ve got a lot of information, we’re going to have you back so hang on. Next week you’re coming back full fire so hang with us but thanks again for joining us on unsuitable today, Chris.
Christopher: Thanks for having me.
Dave: There are so many pieces included in this tax reform package. Honestly, I think the only way business owners can truly determine their next course of action is to sit down with an advisor well versed in tax strategies in 2018 and beyond. Planning really is going to be a key for business owners over the next several years. Listeners, we put together a tax reform resource center. Check it out at www.reacpa.com/taxreform and you can always reach out to us if you have any questions. Simply send your questions to us via email. Our address is podcast@reacpa.com or give us a call and we’ll be more than happy to sit down with you and talk through some of these tax changes.
You can also follow us on social media or subscribe to unsuitable on iTunes to make sure you receive timely tax reform news and information. Until next time, I’m Dave Cain encouraging you to loosen up your tie and think outside the box.
Disclaimer: The views expressed on unsuitable on Rea Radio are our own and do not necessarily reflect the views of Rea & Associates. The podcast is for informational and educational purposes only and is not intended to replace a professional advice you would receive elsewhere. Consult with a trusted adviser about your unique situation so they can expertly guide you to the best solution for your specific circumstance.