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Member of Russell Bedford International, a global network of independent professional service firms.
By now, you are familiar with the Tax Cuts and Jobs Act (TCJA) passed a few years ago and likely recall that it lowered regular corporate taxes to 21%. In response to the lower corporate tax rate, there was a provision to lower overall taxes on the individual level using the Qualified Business Income. This allowed S-corporations (flow-through entities) to benefit from lower business taxes without converting to a C-corporation.
However, there might be other considerations to converting your S-Corporation to a C-Corporation. You can voluntarily convert your S-Corporation to a C-Corporation almost any time, but once you do, there is a five-year hold where you cannot convert back.
There are a few scenarios in which it would make sense to convert from an S-Corporation to a C-Corporation:
Once most shareholders who own the business agree to conversion and sign the Statement of Consent, the process with the IRS is quite simple. Any CPA can prepare the proper forms for the IRS so that the Company can convert to a C-Corporation. However, you must note that the process must be done by March 15th of the year you want to convert. Otherwise, the conversion will occur during the tax year, which will cause you to have to prepare and file two short-period tax returns. You can elect to convert to a C-Corporation beginning January 1st of the following year, which would allow you to submit the application any time during the year before conversion.
The biggest downside of a C-Corporation is double taxation. The corporation pays the federal income tax on its profit, usually at 21%. Any qualified dividends paid to investors are taxed again at the individual level at rates between 15% – 23.8%. For S-Corporations, the flow-through income is taxed once at the individual owner’s level, ranging anywhere from 10% – 37%. Assuming there is sufficient undistributed corporate income, the S-corporation distribution to owners would not be taxed again.
The other point to consider is that once you apply to convert to a C Corporation, you have a limited time to distribute the undistributed S-corporation earnings to the shareholders (which is tax-free) before it’s considered a dividend (and taxed between 15% – 23.8% on the shareholders’ personal return).
Converting from an S-Corp to a C-Corp has its benefits, but there are also long-term implications that you need to be aware of. Therefore, before you start the process of changing your tax status, speak with a CPA to review any pitfalls that might occur based on your unique situation.
If you have questions about the conversion and if it’s a good fit for your business, please call Cray Kaiser at 630-953-4900.
In Cray Kaiser’s Employee Spotlight series, we highlight a member of the CK team. We couldn’t be prouder of the team we’ve grown and we’re excited for you to get to know them. This month we’re shining our spotlight on Sarah Gutierrez.
No day is the same for Sarah as one of CK’s Accounting and Tax Specialists. Her duties range from assisting with individual and business tax returns to helping the accounting department with monthly and quarterly compilations.
Prior to CK, Sarah graduated from Aurora University, located in the same area where she grew up. During her college career, Sarah interned at CK and found her love for public accounting.
When asked what piece of advice she would pass along to someone just getting started in the industry, Sarah answered, “Be patient, be kind, and be open to suggestions and feedback. The first two years are a learning experience but it will pay off in the end. Just trust the process!”
After interning at CK and gaining some experience in the industry, Sarah decided to return and join CK full time in August of 2022. The CK team and culture were a deciding factor in Sarah’s return. She feels most at home in the environment and surrounded by the CK team.
CK’s core values were also important in Sarah’s decision. “CK’s core value of ‘Education’ means the most to me because I believe in empowering myself, my team, and clients with the knowledge that I have and can pass along,” said Sarah.
I love to spend time with my family. Life is too short; I like to enjoy it with my loved ones. After tax season, I am looking forward to taking a vacation and being outside most afternoons.
You only live once.
I have a wonderful husband, Dominick. I have a 9-year-old daughter, Ellaina and a 3-year-old son, Emmett. I have two dogs, Petra and Petunia, and 2 guinea pigs, Mocha and Camila. Our life is chaotic, but I wouldn’t have it any other way.
St. Lucia and Spain are on my bucket list. My favorite vacation spot is Cancun, as it is where I got married and we try to go every year!
My favorite show is Schitt’s Creek. I identify with Mora. I have rewatched it 4 times!
Bad Bunny, Shakira, Taylor Swift, Adele… my music taste depends on how I am vibing that day, to be honest.
Following the Covid pandemic, the government implemented many programs to provide much needed relief to employers. One of these included the Employer Retention Credit (ERC). This is a fully refundable tax credit that is available to both small and mid-sized businesses, even if you received the Paycheck Protection Program (PPP) Loan.
Businesses who are eligible can claim up to $5,000 in fully refundable tax credits for each employee in 2020 and up to a $7,000 credit PER quarter for each employee in 2021. Please note that the ERC is only applicable in quarters 1, 2 and 3 for 2021.
Although we are in 2023, it’s NOT too late to qualify and claim ERC retroactively! Businesses have up to three years to conduct a lookback to determine if they qualify and if wages paid March 13, 2020 through September 30, 2021 are eligible.
For 2020, businesses with 100 or less employees can qualify if they pass one of the two tests below:
OR
For 2021, businesses with 500 or less employees can qualify if they pass one of the two tests below:
OR
Per IRS Aggregation Rules under section 448(c)(2) and 52(a)(b) and provisions of section 2301(d) of the CARES Act, All members of an aggregated group are treated as a single employer. In other words, if multiple businesses are controlled by common ownership, all entities are deemed single employers for ERC eligibility purposes.
Once a business determines that they qualify, the next step is to calculate the ERC tax credits. Find CK’s helpful template to assist you in calculating your credits here.
Businesses that received the PPP, will need to run additional analysis to make sure that they have enough eligible wages to benefit from both the PPP loan forgiveness while maximizing the ERC. Any eligible wages used for PPP cannot be used to calculate ERC. No double dipping!
To claim the ERC, a business will need to amend its federal payroll tax form 941 for the quarter in which they are looking to claim the refundable credit. The IRS is only accepting paper filings and refunds are taking around 200 days to come in the mail via paper check, as the IRS is not funding any other way. This amendment does not impact previously filed W-2s.
Important to note, unlike PPP, the ERC income is taxable in the year that the credit is claimed and not received. We do highly recommend speaking with your CPA to determine tax implications and net benefits. For any additional information or assistance with ERC, please contact Cray Kaiser, your ERC specialists at (630) 953-4900.
In late December 2022, while most practitioners and their clients were busy with other things, Congress passed a giant omnibus budget bill. Buried within it was the Setting Every Community Up for Retirement Enhancement 2.0 Act of 2022 (“SECURE 2.0”), which contains many retirement changes and some other changes that practitioners and their clients need to be aware of. It provides new incentives for employers to offer their employees retirement plans and participate in and improve their retirement security. SECURE 2.0 helps employees and their beneficiaries, owner-employees, small businesses, and retirees and eases costs, administrative burdens, and penalties for inadvertent mistakes. It will also require most plans to be amended to comply with some of its provisions. The 2023 omnibus bill containing the following key provisions that benefit individuals was signed into law by President Biden on December 29, 2022.
Tax-free rollovers from 529 accounts to Roth IRAs. After 2023, SECURE 2.0 permits beneficiaries of 529 college savings accounts to make up to $35,000 of direct trustee-to-trustee rollovers from a 529 account to their Roth IRA without tax or penalty. The 529 account must have been open for more than 15 years, and the rollover is limited to the amount contributed to the 529 account (and its earnings) more than five years earlier. Rollovers are subject to the Roth IRA annual contribution limits but are not limited based on the taxpayer’s AGI.
Age increased for required distributions. Under SECURE 2.0, the age used to determine required distribution beginning dates for IRA owners, retired employer plan members, and active-employee 5%-owners increases in two stages from the current age of 72 to age 73 for those who turn age 72 after 2022, and to age 75 for those who will turn 74 in 2032.
Bigger catch-up contributions permitted. Starting in 2025, SECURE 2.0 increases the current elective deferral catch-up contribution limit for older employees from $7,500 for 2023 ($3,500 for SIMPLE plans) to the greater of $10,000 ($5,000 for SIMPLE plans), or 50% more than the regular catch-up amount in 2024 (2025 for SIMPLE plans) for individuals who attain ages 60-63. The dollar amounts are inflation-indexed after 2025.
More penalty-free withdrawals permitted. SECURE 2.0 adds an exception after 2023 to the 10% pre age-59 1/2 penalty tax for one distribution per year of up to $1,000 used for emergency expenses to meet unforeseeable or immediate financial needs relating to personal or family emergencies. The taxpayer has the option to repay the distribution within three years. No other emergency distributions are permissible during the three-year period unless repayment occurs.
Similarly, plans may permit participants that self-certify as having experienced domestic abuse to withdraw the lesser of $10,000 indexed for inflation, or 50% of their account free from the 10% tax on early distributions. The participant has the opportunity to repay the withdrawn money from the retirement plan over three years and get a refund of income taxes on money that is repaid. Also, the additional 10% early distribution tax no longer applies to distributions to terminally ill individuals.
Beginning December 29, 2025, retirement plans may make penalty-free distributions of up to $2,500 per year for payment of premiums for high quality coverage under certain long term care insurance contracts.
Also, retroactive for disasters after January 25, 2021, penalty free distributions of up to $22,000 may be made from employer retirement plans or IRAs for affected individuals. Regular tax on the distributions is considered gross income over three years. Distributions can be repaid to a tax preferred retirement account. Additionally, amounts distributed prior to the disaster to purchase a home can be recontributed and an employer may provide for a larger amount to be borrowed from a plan by affected individuals and for additional time for repayment of plan loans owed by affected individuals.
SECURE 2.0 also contains an emergency savings provision that allows employers to offer non-highly compensated employees emergency savings accounts linked to individual account plans that automatically opt employees into these accounts at no more than 3% of their salary, capped at a maximum of $2,500. Employees can withdraw up to $1,000 once per year for personal or family emergencies without certain tax consequences.
Reduced penalty tax on failure to take RMDs. For tax years beginning after December 29, 2022, SECURE 2.0 reduces the penalty for failure to take required minimum distributions from qualified retirement plans, including IRAs or deferred compensation plans under Code Sec. 457(b) from the current 50% to 25% of the amount by which the distribution falls short of the required amount. It reduces the penalty to 10% if the failure to take the RMD is corrected in a timely manner.
Favorable surviving spouse election. For plan years after 2023, the surviving sole spousal designated beneficiary of an employee who dies before RMDs have begun under an employer qualified retirement plan may elect to be treated as if the surviving spouse were the employee for purposes of the required minimum distribution rules. If the election is made distributions need not begin until the employee would have had to start them.
This provision allows a designated spousal beneficiary to receive a similar distribution period for lifetime distributions under an employer plan as is permitted if the surviving spouse rolled the amount into an IRA.
The IRS will prescribe the time and manner of the election, which once made may not be revoked without the IRS’ consent.
Employer match for student loan payments. To assist employees who may not be able to save for retirement because they are overwhelmed with student debt and are missing out on available matching contributions for retirement plans, SECURE allows them to receive matching contributions by reason of their student loan repayments. For plan years after 2023, it allows employers to make matching contributions under a 401(k) plan, 403(b) plan, or SIMPLE IRA for “qualified student loan payments.”
Return of excess contributions. SECURE 2.0 specifies that earnings attributable to excess IRA contributions that are returned by the taxpayer’s tax return due date (including extensions) are exempt from the 10% early withdrawal tax. The taxpayer must not claim a deduction for the distributed excess contribution. This applies to any determination of or affecting liability for taxes, interest, or penalties made on or after December 29, 2022.
We know that this amount of information is overwhelming, but there is much here that may affect you or your business and induce or require you to change your retirement plan or how you handle your account and distributions. It’s a lot to consider. Be assured that we can help you with all of this. Please don’t hesitate to call Cray Kaiser at (630) 953-4900 if you would like to discuss how SECURE 2.0 may impact you or your business.
In Cray Kaiser’s Employee Spotlight series, we highlight a member of the CK team. We couldn’t be prouder of the team we’ve grown and we’re excited for you to get to know them. This month we’re shining our spotlight on Matt Richardson.
Matt is one of CK’s In-Charge Accountants, with much of his day revolving around the many steps of tax preparation with both business and personal taxes. For businesses, Matt is often involved in reviewing clients’ accounting records and closing books in addition to executing the return itself. He also will occasionally jump in to assist with the review and audit teams to help with tax-related issues. Matt is currently a generalist but over time plans to grow into a more specialized role.
Prior to joining CK, Matt’s career looked a bit different. He studied trombone and music history at Cleveland’s Oberlin Conservatory and went on to complete a PhD in music history at Northwestern. After teaching for a few years at Northwestern and at Wisconsin, he decided to change career paths and use his social and critical thinking skills in accounting.
Matt joined the CK team in November of 2022 and was immediately drawn to the firm’s focus on people. When asked what about CK made him excited to work at the firm, he said, “Whether it’s co-workers or clients, I’ve always personally believed it’s important to remember that it all comes down to how you treat people, so the values at CK really resonated with me.” He enjoys the environment at CK and feels it’s one conducive to growth and learning.
When asked which of CK’s core values mean the most to him and why, Matt answered, “I think people and integrity resonate with me the most. To me, integrity means we take pride in the accuracy and quality of our work as trusted advisors to our clients. And ultimately, it all comes down to People. Nothing else we do can happen without strong relationships with the people we work with.”
I love trying new restaurants whenever I have a chance. Some of my favorites are Italian and Japanese. After tax season (besides catching up on sleep), I’m looking forward to a vacation. This year I’m hoping to make it out to L.A. for a weekend to catch an Angels game and a Dodgers game.
My favorite place I’ve been to is Tokyo. There are so many fantastic restaurants and cafés, and I always manage to meet so many people and discover interesting new things when I’m there. The #1 place I’d like to visit is Vienna. I love opera and symphonic music so I’d love to hear the Vienna Philharmonic and the Vienna State Opera.
I think my favorite movie has to be The Empire Strikes Back. I loved watching the Star Wars movies with my dad growing up, and I never get tired of re-watching them.
I’ve been working my way through some funk and soul – a lot of things like James Brown, Stevie Wonder, Billy Ocean, and Lionel Richie. And I’m always cycling in some classic 80’s Japanese pop, like Akina Nakamori, Seiko Matsuda, and Yu Hayami.
The Illinois Department of Revenue has issued an informational bulletin on the enforcement of the Illinois Secure Choice Savings Program Act (Secure Choice Program).
Under the Illinois Secure Choice Savings Program Act, the following Illinois employers must either begin offering a qualified plan or automatically enroll their employees into the Illinois Secure Choice Savings Program (“Secure Choice”):
Secure Choice is a program administered by the Illinois Secure Choice Savings Board to provide a retirement savings option to private-sector employees in Illinois who lack access to an employer-sponsored plan. Employers who do not meet their required enrollment deadlines or report an exemption from Secure Choice may be subject to financial penalties. Employers who do not comply will receive a Tier I penalty of $250 per employee, calculated for the first calendar year of noncompliance or a Tier II penalty of $500 per employee for each subsequent calendar year the employer is non-compliant.
The Department of Revenue is responsible for enforcing penalty provisions for non-compliant employers. The Department will begin issuing IDOR-2P-NT (Notice of Proposed Assessment) and IDOR-2-BILL-NT (Notice of Assessment) in February 2023. Employers can avoid proposed assessments by complying within 120 days of the notice date.
Employers who receive a notice should take one of the following actions:
For more information about the Illinois Secure Choice rules, visit here or contact Cray Kaiser at 630-953-4900.
On December 16, 2022, section 197.3181, Florida Statutes (F.S.) was signed into law providing a prorated refund of ad valorem taxes for residential improvements rendered uninhabitable by Hurricanes Ian or Nicole.
The following information from the Florida Department of Revenue will help homeowners understand the new statute.
If a residential improvement was rendered uninhabitable for at least 30 days due to Hurricanes Ian or Nicole, a homeowner may be eligible for a partial refund of 2022 property taxes for the time the property was uninhabitable. Under section 197.3181 F.S., “’uninhabitable” means the loss of use and occupancy of a residential improvement for the purpose for which it was constructed resulting from damage to or destruction of, or from a condition that compromises the structural integrity of, the residential improvement which was caused by Hurricane Ian or Hurricane Nicole during the 2022 calendar year.”
Homeowners should contact the county property appraiser for the county in which the property is located to start the application process. The property appraiser will provide the Application for Hurricane Ian or Hurricane Nicole Tax Refund form. Homeowners must provide supporting documentation to determine uninhabitability. The maximum number of days that can be claimed in 2022 is 95 days for Hurricane Ian, and 52 days for Hurricane Nicole.
The application and supporting documentation must be submitted to the property appraiser by April 3, 2023. A homeowner who fails to file the application by this date waives their claim for a tax refund under the new law.
The refund amount is calculated by applying the percent change in value to the number of days the residential improvement was uninhabitable. The percent change in value is found by subtracting the January 1, 2022 just value of the residential improvement from the January 1, 2022 just value of the entire parcel to establish the post-disaster value and then calculating the percent change in value. The example below depicts these calculations.
Step One:
Find the percent change in value by subtracting the parcel’s post-disaster just value from the pre-disaster just value using the following calculations:
Change in value: $300,000 less $225,000 = $75,000
Percent change in value: $225,000 divided by $300,000 = .75 or 75%
Step Two:
Find the percent of days the residence was uninhabitable by dividing the number of days in 2022 the residential improvement was uninhabitable by the number of days in the year using the following calculations:
Percent of uninhabitable days: 95 days divided by 365 days = .26 or 26%
Step Three:
Find the damage differential by applying the percent change in value to the percent of uninhabitable days using the following calculation:
Damage differential calculation: .75 multiplied by .26 = .195
Step Four:
The refund amount is calculated by applying the damage differential to the total of 2022 property taxes paid using the following calculation:
Refund calculation: $2,250 multiplied by .195 = $438.75 refund due
The property appraiser will approve or deny a homeowner’s eligibility for a refund based on the Application for Hurricane Ian or Hurricane Nicole Tax Refund form (Form DR-5001). Homeowners will be notified no later than June 1, 2023 of eligibility status. If the homeowner is eligible, the property appraiser is also responsible for notifying the tax collector.
If the homeowner is found ineligible, a petition may be filed with the value adjustment board requesting that the refund be granted. A final petition must be filed on or before the 30th day following the issuance of the notice by the property appraiser.
Understanding the ins and outs of a new statute can be complex unless
What makes Roth IRAs so appealing? Primarily, it’s the ability to withdraw money from them tax-free. But to enjoy this benefit, there are a few rules you must follow, including the widely misunderstood five-year rule.
To understand the five-year rule, you first need to understand the three types of funds that may be withdrawn from a Roth IRA:
Contributed principal. This is your after-tax contributions to the account.
Converted principal. This consists of funds that had been in a traditional IRA but that you converted to a Roth IRA (paying tax on the conversion).
Earnings. This includes the (untaxed) returns generated from the contributed or converted principal.
Generally, you can withdraw contributed principal at any time without taxes or early withdrawal penalties, regardless of your age or how long the funds have been held in the Roth IRA. But to avoid taxes and penalties on withdrawals of earnings, you must meet two requirements:
Withdrawals of converted principal aren’t taxable because you were taxed at the time of the conversion. But they’re subject to early withdrawal penalties if you fail to satisfy the five-year rule.
As the name suggests, the five-year rule requires you to satisfy a five-year holding period before you can withdraw Roth IRA earnings tax-free or converted principal penalty-free. But the rule works differently depending on the type of funds you’re withdrawing.
If you’re withdrawing earnings, the five-year period begins on January 1 of the tax year in which you made your first contribution to any Roth IRA. For example, if you opened your first Roth IRA on April 1, 2018, and treated your initial contribution as one for the 2017 tax year, then the five-year period started on January 1, 2017. That means you were able to withdraw earnings from any Roth IRA tax and penalty-free beginning on January 1, 2022 (assuming you were at least 59½ or otherwise exempt from early withdrawal penalties).
If you’re withdrawing converted principal, the five-year holding period begins on January 1 of the tax year in which you do the conversion. For instance, if you converted a traditional IRA into a Roth IRA at any time during 2017, the five-year period began on January 1, 2017, and ended on December 31, 2021.
Unlike earnings, however, each Roth IRA conversion is subject to a separate five-year holding period. If you do several conversions over the years, you’ll need to track each five-year period carefully to avoid triggering unexpected penalties.
Keep in mind that the five-year rule only comes into play if you’re otherwise subject to early withdrawal penalties. If you’ve reached age 59½, or a penalty exception applies, then you can withdraw converted principal penalty-free even if the five-year period hasn’t expired, but you would still pay taxes on your earnings.
You may be wondering why the five-year rule applies to withdrawals of funds that have already been taxed. The reason is that the tax benefits of Roth and traditional IRAs are intended to promote long-term saving for retirement. Without the five-year rule, a traditional IRA owner could circumvent the penalty for early withdrawals simply by converting it to a Roth IRA, paying the tax, and immediately withdrawing it penalty-free.
Generally, one who inherits a Roth IRA may withdraw the funds immediately without fear of taxes or penalties, with one exception: The five-year rule may still apply to withdrawals of earnings if the original owner of the Roth IRA hadn’t satisfied the five-year rule at the time of his or her death.
For instance, suppose you inherited a Roth IRA from your grandfather on July 1, 2021. If he made his first Roth IRA contribution on December 1, 2018, you’ll have to wait until January 1, 2023, before you can withdraw earnings tax-free.
The consequences of violating the five-year rule can be costly, but fortunately, there are ordering rules that help you avoid inadvertent mistakes. Under these rules, withdrawals from a Roth IRA are presumed to come from after-tax contributions first, converted principal second and earnings third.
So, if contributions are large enough to cover the amount you wish to withdraw, you will avoid taxes and penalties even if the five-year rule hasn’t been satisfied for converted principal or earnings.
Many people are accustomed to withdrawing retirement savings freely once they reach age 59½. But care must be taken when withdrawing funds from a Roth IRA to avoid running afoul of the five-year rule and inadvertently triggering unexpected taxes or penalties. The rules are complex — so when in doubt call us at Cray Kaiser at (630) 953-4900 before making a withdrawal.
In Cray Kaiser’s Employee Spotlight series, we highlight a member of the CK team. We couldn’t be prouder of the team we’ve grown and we’re excited for you to get to know them. This month we’re shining our spotlight on Natalie McHugh.
As Cray Kaiser’s newest Principal, Natalie helps manage the workflow and people in the tax department. Her days typically consist of reviewing returns and spending time consulting, whether projecting tax costs for clients, researching complex tax situations or assisting clients through a sale transaction. Her niche is estates, gifts and trusts, high-net wealth individuals and partnerships.
Natalie is a DePaul University graduate and interned at KPMG in their personal financial planning department during her college career. After graduation, she joined the firm full-time and it was there that she found her passion for taxes, specifically personal, trust, estate and gift tax returns.
Natalie joined CK in December of 2013. She was instantly drawn to the CK culture, the variety of clients and having female partners at the firm. Knowing this, Natalie could see herself progressing at CK. When asked why she has stayed at CK, Natalie says, “Our clients. I enjoy helping our clients navigate through their tax situations and helping educate them along the way. I also love the variety of client work we have here. Every day there is something new and I’m constantly learning.”
To Natalie, CK’s core values of Care and People are her two favorites. She is passionate about the amount of care that takes place at CK. She says, “We value a solid work product and want to make sure our clients are taken care of.” When it comes to People, Natalie says, “Each person on the CK team has unique talents that contribute to our solid work product.”
Soak it up! Learn from those around you and learn what you enjoy the most. There are many different lanes in accounting, from audit to tax to industry. Also, ask lots of questions! Your colleagues are there to help.
I spend a lot of time with family – I love to plan activities like bowling, dinners, and game nights. My daughter plays travel softball and a lot of time is spent over the summer at tournaments watching games and socializing with the families of the team. I work out regularly to balance my sitting at the office. I also love to read and listen to books during my commute.
I live with my husband, Matt and 13-year-old daughter, Eleanor and 2 dogs, Pepper and Stitch. My 26-year-old daughter has her masters in School Counseling and works at a magnet school. She just moved to Wrigleyville, and we enjoy visiting her and going to Cubs games, taking walks with her 2 dogs and visiting different restaurants and bars.
I’ve become the unofficial Mexico all-inclusive travel agent for friends and colleagues. I will find them good prices and give them resort suggestions and then send them over to my travel agent who will deal with the hard work.
Mexico all-inclusives are a favorite after a tax season as there is minimal planning ahead of time. I can enjoy relaxation, socialization, reading, exercise and some Vitamin D! However, I’d like to jump across the pond and expand into Europe in the next couple of years.
Everything! My Spotify starts with the 1940s and contains every decade through current. I warn colleagues that I usually have Spotify on shuffle and you never know what you are going to get – some jazz, classical, hair bands, hip hop, 80’s hits, etc.
Many companies are eligible for tax write-offs for certain equipment purchases and building improvements. These write-offs can do wonders for a business’s cash flow, but whether to claim them isn’t always an easy decision. In some cases, there are advantages to following the regular depreciation rules. So, looking at the big picture and developing a strategy that aligns with your company’s overall tax-planning objectives is critical.
Taxpayers can elect to claim 100% bonus depreciation or Section 179 expensing to deduct the full cost of eligible property up front in the year it’s placed in service. Alternatively, depending on how the tax code classifies the property, they may spread depreciation deductions over several years or decades.
Under the Tax Cuts and Jobs Act (TCJA), 100% bonus depreciation is available for property placed in service through 2022. Without further legislation, bonus depreciation will be phased down to 80% for property placed in service in 2023, 60% in 2024, 40% in 2025, and 20% in 2026; then, after 2026, bonus depreciation will no longer be available. (For certain properties with longer production periods, these reductions are delayed by one year. For example, 80% bonus depreciation will apply to long-production-period property placed in service in 2024.)
In March 2020, a technical correction made by the CARES Act expanded the availability of bonus depreciation. Under the correction, qualified improvement property (QIP), which includes many interior improvements to commercial buildings, is eligible for 100% bonus depreciation following the phaseout schedule through 2026 and retroactively to 2018. If bonus depreciation isn’t claimed, QIP is generally depreciable on a straight-line basis over 15 years.
Sec. 179 also allows taxpayers to fully deduct the cost of eligible property. Still, the maximum deduction in a given year is $1 million (adjusted for inflation to $1.08 million for 2022), and the deduction is gradually phased out once a taxpayer’s qualifying expenditures exceed $2.5 million (adjusted for inflation to $2.7 million for 2022).
While 100% first-year bonus depreciation or Sec. 179 expensing can significantly lower your company’s taxable income, it’s not always a smart move. Here are three examples of situations where it may be preferable to forgo bonus depreciation or Sec. 179 expensing:
The above rules apply to federal income tax. However, many states have decoupled with either or both bonus depreciation and Section 179 provisions. For example, Illinois no longer allows the bonus depreciation deduction but does follow federal law with respect to Section 179 deductions. So, if you are projecting an overall federal loss, you will want to also project state taxable income to account for the federal to state tax differences.
Keep in mind that forgoing bonus depreciation or Sec. 179 deductions only affect the timing of those deductions. You’ll still have an opportunity to write off the full cost of eligible assets; it will just be over a longer time period. Cray Kaiser can analyze how these write-offs interact with other tax benefits and help you determine the optimal strategy for your situation. You can contact us today at 630-953-4900.
