A Baker's Dozen of Year End Planning Strategies for the Business Owner
To fully plan for tax minimization, a holistic approach of evaluating the business tax strategies along with the personal tax considerations must be fully evaluated.
December 9, 2010
The combined legislative and economic landscape for 2010 presents a challenging year-end tax planning environment for taxpayers and their CPAs. As this article went to press, the Obama Administration had announced a deal to extend the Bush tax cuts for two more years and bring back the estate tax at a 35 percent rate with a five million dollar lifetime exemption amount. Practitioners should pay close attention to that legislation.
The following are 13 general strategies (seven for businesses and six for individuals) which should offer a good starting point for business owners’ year-end planning process.
Year-End Strategies for Businesses
1) Evaluate 2010 vs. 2011 tax rates and net capital gains and losses to determine benefits of deferring vs. accelerating income and deductions. Specific areas in which the business owner has some level of flexibility in the deferral or acceleration of income or deductions include:
- Sales/shipping terms
- Installment sales
- Section 1031 transactions
- LIFO inventory increments (deferring income) or decrements (accelerating income)
- Placed-in-service date of Bonus and/or Section 179 property
- Defined Benefit Plans (see below)
2) Minimize 2010 business taxable income or maximize taxable loss by claiming all bonus depreciation and IRC Section 179 expenses (up to a break-even). The 2010 Small Business Jobs Act passed in September extended the 50 percent first-year bonus depreciation through December 31, 2010, and increased the 2010 Section 179 maximum deduction to $500,000 (from $250,000) and the maximum cost of qualifying property to $2,000,000 (from $800,000).
3) Review all accounts receivable and evaluate tax deductions associated with wholly and partially worthless bad debts (see IRC Sections 166(a)(1) and 166(a)(2), respectively). Year-end documented collection efforts and accounting entries are important in supporting such write-offs.
4) Review accounting methods and entity structure for maximum tax effectiveness in 2010 and future years. Business owners and their CPAs also need to carefully review their debt and capital structure before year-end to ensure that the owners’ tax basis in the business entity is sufficient to allow the proper treatment of operating losses and distributions.
5) Evaluate the quick refund procedures as well as loss carryback potential if 2010 is anticipated to be a loss year.
- Quick Refund Procedures
- If a business made 2010 estimated tax payments because it originally projected a profit for the year, it may obtain a refund of such amounts early in 2011 rather than waiting until it files its 2010 tax return by filing IRS Form 4466 “Corporation Application for Quick Refund of Overpayment of Estimated Tax” (PDF) before the 16th day of the 3rd month after the end of the tax year (generally March 16th).
- The taxpayer is not required to have a net operating loss in the current year; it must simply show that it has overpaid its estimated tax liability for the year by ten percent or more and the overpayment is at least $500.
- Loss Carryback
- C Corporations expecting a 2010 loss can carry back any current year NOL or capital loss to the two prior years (assuming the taxpayer had income in those years) by filing IRS Form 1139 “Corporation Application for Tentative Refund” (PDF).
- However, unlike IRS Form 4466 (see under “Quick Refund Procedures”), IRS Form 1139 may not be filed before the filing of the 2010 tax return. However, it must be filed within 12 months of the end of the tax year
6) Establish/fund qualified plans for closely held entities. Some of the largest tax deductions that business owners can claim come in the form of qualified plan deductions. These range from IRAs, SEPs, 401k’s and Defined Benefit Plans. Therefore, now is a good time to evaluate the available 2010 deductions and the funding timing.
- Increased deductions for contributions to a qualified plan can be secured with proper compensation planning prior to year-end.
- The funding of the 2010 contribution can occur as late as October 2011, but the deduction can still be taken on the 2010 tax return. This results in a potential double-up of two years’ deductions for taxpayers desiring a large 2010 write-off.
- Taxpayers wishing to defer these deductions can designate funding amounts as being applicable to 2011.
7) Evaluate all corporate tax credits, including Research & Development Credits, Hiring and Equipment Credits, etc. Under the 2010 Small Business Act, these credits are more valuable to taxpayers since they can now be used to offset AMT and can be carried back for up to five years.
Year-End Strategies for Individuals
1) Evaluate 2010 vs. 2011 tax rate structure and determine whether the business owner will be in a "regular" or AMT tax position, as well as relative marginal tax rates for 2010 and subsequent years.
2) Consider prepayment of expenses/deferral of income if you anticipate that 2010 rates will be higher than 2011. Note the 2010 elimination of the limit on itemized deductions, which will encourage non-AMT taxpayers to accelerate such deductions into 2010.
3) AMT taxpayers will generally want to accelerate income/defer certain expenses because the maximum 2010 AMT rate is 28 percent, while the maximum anticipated 2011 ordinary rate may be as high as 39.6 percent. Since Congress has thus far not extended the AMT “patch,” taxpayers at relatively low income levels will be thrown into the AMT system. While this is bad news for those impacted, this can also provide added planning opportunities if the taxpayer expects their future marginal rate to be higher than the 2010 maximum AMT rate of 28 percent.
4) Consider a Roth IRA conversion. Income on a 2010 traditional-to-Roth conversion is spread equally over tax years 2011 and 2012 unless the taxpayer elects to include it all in 2010. Note that a taxpayer has until October 2011 to revoke his/her election of when to include income attributable to the conversion. One spouse may choose 2010 and the other can choose the two year spread.
5) Evaluate capital gain strategies, including “loss harvesting” and other planning opportunities to maximize use of the current 15 percent federal capital gain rate. Watch out for the “wash sales rule” which can deny a tax loss if the same securities are re-purchased within 30 days before or after the sale date.
6) Consider estate and gift tax planning. In 2010, the estate tax is repealed (i.e., the exclusion is unlimited), and the top gift tax rate is 35 percent. In 2011, the estate tax exclusion will return with a limit of $1 million, taxed at 55 percent, which will also be the 2011 gift tax rate. Therefore, accelerating gifts into 2010 may produce long-term transfer tax savings. Note that the annual gift tax exclusion to each individual is $13,000 for 2010 and 2011 and direct education and medical funding on behalf of a beneficiary will not factor into the annual $13,000 limit.
With planning before year-end, 2010 offers some significant planning opportunities for businesses and their owners. However, legislation will need to be carefully monitored up until year-end to ensure that the numerous open issues relating to future tax rates and any 2010 technical updates, such as the AMT patch, are fully factored into the year-end planning process.
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Blake Christian, CPA, MBT is a tax partner in the Long Beach office of Holthouse Carlin & Van Trigt LLP, and is the co-founder of National Tax Credit Group, LLC. He can be reached at (562) 216-1800 or at firstname.lastname@example.org.