Below are four tactics to consider during your mid-year review.
NET OPERATING LOSSES & CREDIT CARRYOVERS
Businesses with net operating losses (NOLs) may have some flexibility when applying losses against future or past taxable income, or both. NOLs can generally be carried back two years and forward 20 years. If your business has taxable income in the prior two years, carrying back NOLs may generate tax refunds. This may be a better alternative than carrying the losses forward as that approach depends on future income, and only reduces the requirement to pay taxes. Applying NOLs to past years can bring you refunds on previously paid taxes.
It is not always best to carry back a loss - even if refunds are available - given the increased business tax rates. If applying a NOL to prior years offsets income taxed at 15 percent, and your business expects to have higher future taxable income (pushing it into a higher tax bracket), it may be more beneficial to apply the NOL to future years.
These same considerations can be applied if your business has credit carryovers for the R&D credit, the Work Opportunity Tax Credit, and others.
Tax Reform to Watch: One item in the Trump Administration’s tax reform proposal is a reduction of the corporate tax rate to 15 percent. If this occurs, it may be more beneficial to carry back an NOL to a prior year with a higher effective tax rate.
CAPITAL INVESTMENTS AND DEPRECIATION
Bonus depreciation allows for immediate write-offs of acquisition costs of qualifying assets placed in service by December 31, 2017. The current rate is 50 percent, but it will drop to 40 percent on January 1, 2018. There is a tax benefit in purchasing qualifying assets in 2017.
Requirements of qualifying assets:
- Must be new and acquired for original use by the taxpayer
- Must be placed in service by the taxpayer before January 1, 2020
- Must be MACRS property with a recovery period of less than 20 years, examples include, depreciable computer software, water utility property, or qualified improvement property. Qualified improvement property is defined to include an interior portion of a nonresidential real property after the date the building was first placed in service. This does not include enlargements, elevators/escalators or internal structural framework.
Tax Reform to Watch: Under certain tax reform proposals, full expensing of qualifying capital investments has been suggested. If this becomes law, taxpayers should wait until 2018 to invest in capital assets. If not, placing them in service in 2017 provides a greater tax benefit.
The ability to immediately expense qualifying capital investments under Section 179 is still available in 2017. The maximum deduction for 2017 is $510,000 (subject to certain limitations). The business must have taxable income to apply the deduction, but any Section 179 expense in excess of taxable income can be carried forward and deducted in future years.
The maximum 179 expense election of $510,000 is reduced dollar-for-dollar for qualifying property placed in service during the tax year in excess of $2.03 million for 2017. Individuals who own pass-through entities should pay special attention to the 179 deduction requirements, as the shareholder or partner must be actively involved in the conduct of the trade or business. Active conduct generally means that the taxpayer meaningfully participates in the management or operations of the trade or business.
DOMESTIC PRODUCTION ACTIVITIES DEDUCTION (DPAD)
Manufacturers and businesses engaged in certain domestic production activities may be entitled to a deduction of up to nine percent of qualified production activity income. There are extensive rules and requirements for what is considered a domestic production activity, how to calculate the income from the activity, and certain limitations including a maximum of 50 percent of W-2 wages allocable to domestic production gross receipts. The definition of what qualifies as manufacturing and production was broadly defined to include, among many others, handlers of agricultural products, software companies, construction, engineering, and architectural firms.
Many different factors impact each of these tax strategies, and a careful analysis of past and future conditions is key when deciding which strategies to implement. For a greater analysis of options that best suit you, consult your tax professional.
To learn more, or to schedule a mid-year tax planning meeting, contact your Beene Garter professional at 616.235.5200.