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Current Topics
Potential Tax Hike for Owners of Small Personal Service S Corporations
By Tiff Hanson
Congress is currently considering legislation that will increase the amount of tax paid by owners of small personal service S corporations. The bill reinstates a set of expired tax breaks, and the tax increase for owners of small personal service S corporations is meant to offset these tax breaks. Businesses where the skill and knowledge of three or fewer employees comprise the organization’s primary assets and overall reputation would be affected starting January 1, 2011.
The bill proposes that each shareholder of a small personal service S corporation become subject to the 15.3% self-employment tax in addition to ordinary tax on the net earnings of the corporation. Businesses likely to be affected include small accounting, law, engineering, architectural, and brokerage firms. Physician’s offices, consulting businesses such as lobbyists, investment managers, and sports managers, and those in the performing arts could also be affected. As of August 2010 this bill is stalled in Congress, and it appears the tax hike may not occur right away. However, this may be a short-lived reprieve as it’s believed this provision may come up again early next year when Congress begins work on other changes in the income tax system.
An Unlikely Pair: Health Care Reform and 1099 Reporting
By Linda Teachout
You’ve read the entire 2,409-page health care reform bill, right? Right. And like many other people, you’re wondering how these dramatic changes in the nation’s health care system will be paid for. Strange as it may sound, lawmakers are looking to the humble 1099 form to help foot the bill for health care reform.
Beginning January 1, 2012, all businesses will be required to provide a 1099 form to every vendor with whom they do more than $600 worth of business over the course of a year. This includes inventory purchases, office supplies, gas for business vehicles, rent, etc. The idea seems to be that using 1099 forms that must be filed with the Internal Revenue Service will capture unreported income. This in turn will generate more tax revenue and help offset the costs of the health care bill. Understandably, this section of the bill has met a great deal of opposition. Legislation has already been introduced to repeal this section of the law, but as of now it will become effective January 1, 2012. Stay tuned!
2010 Year-End Reminders for S Corporations and Partnerships
By Tiff Hanson
It’s not too early to start thinking about year-end compliance items for partnerships or LLCs (with 2 or more members) and S corporations. These items often apply to smaller businesses where the owners are heavily involved and the business itself is a professional service or consulting business.
S Corporations:
- Health insurance premiums. For health insurance premiums paid by the business for a greater than 2% owner of the S corporation to be deductible by the business, there are several rules that must be followed.
- The health insurance plan needs to be established in the name of the corporation, even if shareholders pay the premiums personally and are then reimbursed by the corporation.
- The amount of premiums paid by the corporation for greater than 2% owners must be reported on the shareholder’s W-2 in the federal and state wage boxes only.
- Health insurance premiums for greater than 2% shareholders may not be run through the S corporation’s cafeteria plan.
- No business deduction is allowed for premiums paid for a greater than 2% shareholder if the shareholder is not being paid wages.
- Personal use of company vehicles. Corporate officers (who usually are also shareholders of S corporations) need to report on their W-2s any personal use of company owned vehicles. The amount to add to all wage boxes on the W-2 is calculated using a formula prepared by the IRS.
- Wages of shareholders. Keep in mind that the IRS is focusing more and more on the wages shareholders take home compared to the amount of tax-free distributions they take out of the S corporation. There’s no official guidance on what the ratio of wages to distributions should be, but it’s a topic to consider if you are taking more distributions than wages.
Partnerships/LLCs:
- Unreimbursed partnership expenses. Partners are often required to pay business expenses personally but are not reimbursed by the partnership or LLC. The required payments must be specified in the partnership agreement for the partners to be able to personally use these expenses as deductions on their personal tax returns. The expenses must be reported on Schedule E with the notation “UPE” (Unreimbursed Partnership Expenses) on the description line, unless the expenses qualify as itemized deductions. Itemized deductions must be reported on Schedule A.
In General:
- Self rents. Many times in a consulting or personal service business, the owners of the business personally own the building and rent it to the business, which creates a situation of “self rent.” Self rents have different and slightly more complicated rules to follow than other passive rents when reporting this activity on your personal income tax return. The bottom line is to understand that depending on the combination of self rents vs. other rents, the amount of loss allowed on the tax return may be limited.
- Accrual to cash adjustments at year-end. Businesses often operate on an accrual basis. This means that accounts receivable, accounts payable, some prepaid expenses and work in process may be recorded on the books. If accrual basis businesses file their tax returns on the cash basis, adjustments need to be made to the books. Tax adjustments can be confusing, and there are times when a book loss can turn into a taxable income situation after the accrual to cash adjustments are made for purposes of tax return preparation. Here are some things to keep in mind when reviewing your year-end books:
- Year-end accounts receivable, accounts payable, and other accrued balances are reversed against prior year-end accrued balances for cash basis reporting. If one of these current year balances is significantly higher or lower than the prior year, the accrual to cash adjustments may cause large swings between the book and tax income or loss.
- Rent paid to the owner of a company is always on a cash basis. Even if the company files its tax return on the accrual basis, any accrued or prepaid rent to an owner is adjusted to cash basis for reporting purposes.
- Wages must be paid to owners by year-end to qualify for retirement plan contributions. Even if the business is on the accrual basis, contribution calculations to retirement plans are based on cash actually paid to the employee and cannot be calculated on amounts accrued at year-end.
- Retirement plans. Keep in mind that if you wish to start a new retirement plan, different types of plans have different initiation dates. Retirement plans are strictly governed and have many rules. If you are interested in setting up a new plan, here are some dates to keep in mind:
- SEP plans – the due date for setting up a SEP plan is the due date, including extensions, of the business tax return.
- SIMPLE IRA plans – these plans must be established between January 1 and October 1 of the year for which the plan is being established.
- Qualified plans – these plans must be adopted (set up) by the last day of the business’s fiscal year.
- Depreciation. As of June 2010 it appears that the Section 179 deduction limit will remain at $250,000 for 2010 (with an $800,000 cap on qualified assets purchased), according to I.R.B. 2010-25. Unfortunately, a bill extending bonus depreciation for 2010 is currently stalled in the Senate.
To access previously published articles, please make a selection from the following dates:
June 2010:
- Privacy Standards for Business Associates
- An Unlikely Pair: Health Care Reform and 1099 Reporting
- Selling Your Medical Practice
July 2010:
- Simple Options for a Down Year
- Deducting Prepaid Farm Expenses
- Deducting Soil and Water Conservation Costs
