Shoeboxes filled with receipts, lost documents, and wild-eyed business owners who forgot to send out a 1099 or file a W3 all pepper tax accountants with questions. This year, with the passing of the new tax law, those questions got a lot harder to answer and they started much earlier.
Pundits like to talk about April 15th, but March is when the real excitement usually hits.
In honor of that , we’ve spent a lot of time looking at the different tax breaks that are available to businesses and in this issue, we’ve decided to make our own list of the ones that may have the biggest benefit to business owners for 2017. The way we see it, anyone who was feeling optimistic about getting a return would have filed as soon as possible so if you’re just now getting around to filing, you need all the help you can get. Think extension?
Here’s a few ways that business owners and entrepreneurs can still keep more money in their pockets – and, of course – if you have questions about how these can work in your favor, NOW is the time to ask them! With all the talk about how the Tax Bill affects everyone, we’re concentrating on the fact that so many of our clients fall into the middle class when it comes right down to it – and these are virtually guaranteed to give you a hand when you get ready to file this year.
Retirement Savings – Anyone with earned income (meaning income from work rather than investments) can contribute to a traditional IRA, but not everyone who contributes can claim a tax deduction. That’s a no-no for the rich if they’re covered by a retirement plan at work.
Here’s how the deduction rules operate for traditional IRAs: First, there’s a limit on how much you can contribute each year—$5,500 ($6,500 if you’ll be at least 50 years old by the end of the year) or 100% of your earned income, whichever is less. If you’re not enrolled in a 401(k) or some other workplace retirement plan, you can deduct your IRA deposits no matter how high your income. But if you’re enrolled in such a plan, the right to the IRA deduction is phased out as 2017 income rises between $62,000 and $72,000 on a single return or between $99,000 and $119,000 if you’re married and file jointly with your spouse. The limits only apply if one spouse participates in an employer plan. If neither does, there are no income limits for taking a deduction.
One bit of really good news that is often neglected – Spouses with little or no earned income can also make an IRA contribution of up to $5,500 ($6,500 if 50 or older) as long as the other spouse has sufficient earned income to cover both contributions. For 2017, the contribution is tax-deductible as long as income doesn’t exceed $186,000 on a joint return. You can take a partial tax deduction if your combined income is between $184,000 and $194,000.
Capital Gains – For most people, long-term capital gains (and qualified dividends) are taxed at 15% or 20%—a bargain by historical standards.
That’s why some people get so exercised about a rule that allows hedge-fund managers to pay tax at the capital-gains rate rather than at rates for ordinary income, which top out at 39.6% (for 2017) and 37% (for 2018).
But investors in the two lowest income tax brackets pay no tax at all on their capital gains and dividends. That could be a boon to retirees, who have a higher standard deduction than younger taxpayers and who are not taxed on some or all of their Social Security benefits, and the unemployed, who may have had to tap their investments to make ends meet.
To take advantage of the 0% capital-gains rate for 2017, your taxable income can’t exceed $37,950 if you are single; or $75,900 if you are married filing jointly. Note that this is taxable income. That’s what’s left after you subtract personal exemptions—worth $4,050 each in 2017 for you, your spouse and your dependents—and your itemized deductions or standard deduction from your adjusted gross income.
For 2018, the 0% rate for long-term gains and qualified dividends will apply for taxpayers with taxable income under about $38,600 on individual returns and about $77,200 on joint returns.
The “American Opportunity” Tax Credit – For a lot of our clients that own their own business, they’ve got older children who are enrolled in college. This tax credit is available for up to $2,500 of college tuition and related expenses (but not room and board) paid during the year. The full credit is available to individuals whose modified adjusted gross income is $80,000 or less ($160,000 or less for married couples filing a joint return). Single taxpayers with MAGI above $90,000 and married couples with MAGI above $180,000 are ineligible for the credit.
The American Opportunity Credit covers all four years of college. And if the credit exceeds your tax liability (whether derived from the regular income tax or the alternative minimum tax), up to 40% of it is refundable. For example, suppose you owe $1,900 in federal taxes and qualify for the full credit. The nonrefundable portion of the credit will reduce your tax bill to $400, and the first $400 of the refundable portion will lower your bill to zero. You’ll receive the remaining $600 as a tax refund.
…And here some other ones!
The Lifetime Learning Credit – This is another tidy little bit for business owners and entrepreneurs who are going back to school to “keep the saw sharp”. If you want to get additional education—for virtually any reason and at virtually any school—you can tap the Lifetime Learning Credit. The credit is calculated as 20% of up to $10,000 of qualified expenses, so you can get back $2,000 per year.
The income limits for the Lifetime Learning Credit are $65,000 if single and $130,000 if married, and you can’t claim both this credit and the American Opportunity Credit for the same student in the same year. Also, no double dipping allowed: Expenses paid with funds from other tax-favored tuition programs, such as a Coverdell ESA, don’t count when figuring either credit.
Just In Case – If neither the American Opportunity Credit nor the Lifetime Learning Credit works for you, there are still other ways the government offers favorable tax treatment for learning—and limits the breaks to the middle class and below.
1) Got a student loan around your neck? You can deduct up to $2,500 of interest paid on the loan each year, so long as your modified adjusted gross income (MAGI) is less than $80,000 ($160,000 if filing a joint return). The former student can deduct this even if it’s actually Mom and Dad who are paying the bill.
2) Interest on savings bonds is usually subject to federal income tax. However, interest on Series EE and I bonds issued after 1989 can be tax-free when used to pay for qualified education expenses, if you meet certain requirements. This benefit phases out gradually as your 2017 MAGI rises between $117,250 and $147,250 for those filing jointly, and between $78,150 and $93,150 for singlefilers. Important note: If you’re using savings bonds to pay for a child’s education, the bonds must be in your name to qualify for the exclusion. Savings bonds in the child’s name aren’t eligible.
Expensing At Home – Business owners—including those who run businesses out of their homes—have to stay on their toes to capture tax breaks for buying new equipment. The rules seem to be constantly shifting as Congress writes incentives into the law and then allows them to expire or to be cut back to save money. Take “bonus depreciation” as an example. Back in 2011, rather than write off the cost of new equipment over many years, a business could use 100% bonus depreciation to deduct the full cost in the year the equipment was put into service. For 2013, the bonus depreciation rate was 50%. The break expired at the end of 2013 and stayed expired until the end of 2014 … when Congress reinstated it
retroactively to cover 2014 purchases. Then, the provision expired again … but near the end of 2015, Congress revived the break. The 50% bonus applies for property purchased in 2017, too.
Perhaps even more valuable, though, is another break: supercharged “expensing,” which basically lets you write off the full cost of qualifying assets in the year you put them into service. This break, too, has a habit of coming and going. But as part of the 2015 tax law, Congress made the expansion of expensing permanent. For 2017, businesses can expense up to $500,000 worth of assets. The half-million-dollar cap phases out dollar for dollar for firms that put more than $2 million worth of assets into service in a single year.
Business Owners and Social Security Taxes – This doesn’t work for employees. You can’t deduct the 7.65% of pay that’s siphoned off for Social Security and Medicare. But if you’re self-employed and have to pay the full 15.3% tax yourself (instead of splitting it 50-50 with an employer), you do get to write off half of what you pay. That deduction comes on the face of Form 1040, so you don’t have to itemize to take advantage of it.
Retiring? Check these out…
Waiver of Penalty for the Newly Retired – This isn’t a deduction, but it can save you money if it protects you from a penalty. Because our tax system operates on a pay-as-you earn basis, taxpayers typically must pay 90% of what they owe during the year via withholding or estimated tax payments. If you don’t, and you owe more than $1,000 when you file your return, you can be hit with a penalty for underpayment of taxes. The penalty works like interest on a loan—as though you borrowed from the IRS the money you didn’t pay. The current rate is 3%.
There are several exceptions to the penalty, including a little-known one that can protect taxpayers age 62 and older in the year they retire and the following year. You can request a waiver of the penalty—using Form 2210—if you have reasonable cause, such as not realizing you had to shift to estimated tax payments after a lifetime of meeting your obligation via withholding from your paychecks.
Amortizing Bond Premiums – If you purchased a taxable bond for more than its face value—as you might have to capture a yield higher than current market rates deliver—Uncle Sam will effectively help you pay that premium. That’s only fair, since the IRS is also going to get to tax the extra interest that the higher yield produces.
You have two choices about how to handle the premium.
You can amortize it over the life of the bond by taking each year’s share of the premium and subtracting it from the amount of taxable interest from the bond you report on your tax return. Each year you also reduce your tax basis for the bond by the amount of that year’s amortization.
Or, you can ignore the premium until you sell or redeem the bond. At that time, the full premium will be included in your tax basis so it will reduce the taxable gain or increase the taxable loss dollar for dollar.
The amortization route can be a pain, since it’s up to you to both figure how each year’s share and keep track of the declining basis. But it could be more valuable, since the interest you don’t report will avoid being taxed in your top tax bracket for the year—as high as 43.4%, while the capital gain you reduce by waiting until you sell or redeem the bond would only be taxed at 0%, 15% or 20%.
If you buy a tax-free municipal bond at a premium, you must use the amortization method and reduce your basis each year . . . but you don’t get to deduct the amount amortized. After all, the IRS doesn’t get to tax the interest.
Remember New Life Tax Resolution is here to help you resolve the confusion and bring peace bachk into your life so you can get on with your business and personal life. Call me Patrick LeClaire Enrolled Agent at 407-287-6638 for a review of your tax case.