All Things Financial Planning Blog


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Year End Tax Planning – Part Two – Business


Year-end tax considerations for businesses are not quite as up in the air as is the individual tax situation so let’s take a look at a few of them.

Will the 3.8% Net Investment Income Tax Come Into Play?
With respect to that 3.8% net investment income tax coming in 2013, don’t worry, the tax doesn’t apply to income from trades or businesses conducted by a sole proprietor, partnership, or S corporation. But income, gain, or loss on working capital isn’t treated as derived from a trade or business and thus is subject to the tax.  Additionally, gain or loss from a disposition of an interest in a partnership or S corporation is taken into account by the partner or shareholder as net investment income and, therefore, could cause the 3.8% tax to apply.

Considering Buying Equipment?
Current law allows you to ‘write-off’ (expense), up to $139,000 of qualifying property placed in service in the tax year. If you have already placed in service $560,000 of qualifying property this strategy will not work because for every dollar of qualifying assets that you place in service above this level you lose a dollar of ‘expensing’ benefit. If you haven’t exceeded the maximum yet, and you need the machine but do not have the cash, put the purchase on your credit card that will qualify it as having been purchased this year. You can also get substantial write-offs in 2012 from a purchase of a more than 6,000 pound vehicle that may be used in a trade or business.

Do you need to ‘shelter’ income or want to save for the future?
Setting up a retirement plan is fairly easy. The costs of a plan can be very minimal or they can get very expensive if you want ‘tailored or targeted’ plan design or a, so-called defined benefit plan, which has annual actuarial costs and other expense factors. Without going into details regarding selection or design factors let’s look at some of the basic choices for retirement plans other than an individual retirement account …

Plan Type:   Simple
Establish Date:  October 1st  
Fund By Date:  Due date return + Extension
Max. if <50 yrs. old:  $11,500 + 3% or 2%

Plan Type: 401 (K)
Establish Date:  December 31st
Fund By Date:  Due date return + Extension
Max. if <50 yrs. old:  $16,500 + 25%*

Plan Type: Defined Benefit
Establish Date: December 31st
Fund By Date: Due date return + Extension
Max. if <50 yrs. old:  Actuarially Determined

Plan Type: SEP
Establish Date:  Due date of return + Extension
Fund By Date: Due date of return + Extension
Max. if <50 yrs. old: $49,000 (25%* of comp)

[*Note that 25% is actually 20% because it is 25% of income ‘in respect of’ (after) the deduction so $100,000 of income minus $20,000 =’s $80,000.   $20/$80 is 25%]

Need Employees?
If you are thinking of hiring, consider hiring a veteran before year-end to qualify for a work opportunity credit. The credit, a dollar for dollar reduction in tax liability, can range from $2,400 to $9,600 depending on a variety of factors.

Are you a Corporation?
If you are incorporated, you may want to consider a stock redemption (buy-back) which may, depending on a multitude of factors, create a long-term capital gain or a dividend which will receive the favorable 15% tax rate if done this year. Remember, unless Congress acts, capital gains rates will be going up and that 3.8% net investment income tax could apply if you make more than $250,000 married, $125,000 married filing separately and $200,000 individually.

Are you a Partnerships or a S-Corporation?
When our ‘amount at risk’ in an activity is not sufficient to allow us to, possibly, take a loss from an activity, our loss will be ‘suspended’ until such time as we have sufficient amounts ‘at-risk’. If you might not be able to utilize a loss currently because you didn’t have sufficient amounts ‘at-risk’, consider adding capital, or, alternatively, if possible, add debt that you are ‘personally responsible for’ to the activity which, by definition, will increase your at-risk. That will allow you, then, to take the loss currently. Remember, though, if this is a passive activity, there are other hurdles to overcome in order to take a ‘passive loss’ currently.

Closing Thoughts
These are but a few of the year end considerations. For 2013 ‘larger’ small businesses who offer health care to their employees, or even those that do not offer health care to employees currently, will need to review provisions of the Patient Protection and Affordable Care Act to determine the tax impact of the Act on their benefit plans and what course of action might be most prudent to pursue with respect to benefit plan(s) design for the business.

I hope that your 2012 tax year was a good one for you, your family and your employees, and I hope that 2013 is even better for ALL!

David Bergmann, CFP®, EA, CLU, ChFC
Managing Principal
The David Bergmann Group
Marina Del Ray, CA


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Considerations in Starting a Business


When considering starting a business there are a lot of factors you will need to look at. The considerations I am providing herein should not be considered as exhaustive and you should know that seeking good counsel on what is right for your specific endeavor and personal circumstances is extremely important. That being said, let’s look at some of the considerations.

TYPE OF BUSINESS AND LIABILITY CONSIDERATIONS.

In looking at your start up business you will want to consider what additional liabilities that operating that business might bring to your personal affairs and assets. Even if it is a simple web-design business that you operate out of your spare room you will want to know if your apartment or homeowner’s insurance will cover the value of all of your electronic gear or whether you need additional insurance or riders to cover those ‘business items’. If your business involves ‘client traffic’ like a retail store, or you provide professional services you will want to consider personal or professional liability coverage for your specific business activities. Needless to say, speak with your risk management professional to assess what is right for you now that you have a business activity.

To a degree there is said to be liability protection from entities that are operated as a Corporation, S-Corporation or LLC and LLP’s. Having said that you should be aware that legally ‘you can never create an entity to shield yourself from personal liability’. Additionally, there is a legal concept called ‘pierce the Corporate veil’ that can circumvent the liability protection you may have thought you had. Clearly you should seek legal counsel on what liability protection you will actually get from a specific entity choice for the type of business you would be operating, and the State(s) it would be operating in, before making a final entity choice decision.

TAX ISSUES AND CONSIDERATIONS.

The type of business you establish determines which tax forms you will need to file. The most common types of businesses are sole proprietorship, partnership, corporation, S corporation, and Limited Liability Company. The type of business you operate also determines what types of taxes you will pay and how you will pay them. The four general types of business taxes are income tax, self-employment tax, employment tax and excise tax. A business typically needs to get an Employer Identification Number to use as an identifier for tax purposes. Check with the IRS to find out whether you will need this number, and, if so, you can apply for an EIN online.

Every business taxpayer must figure taxable income on an annual basis called a tax year. Your tax year can be either a calendar year or a fiscal year but may be restricted by the entity choice you chose. Each taxpayer must also use a consistent accounting method, which is a set of rules for determining when to report income and expenses. The most commonly used accounting methods are the cash method and accrual method. Under the cash method, you generally report income in the tax year you receive it and deduct expenses in the tax year you pay them. Under an accrual method, you generally report income in the tax year you earn it and deduct expenses in the tax year you incur them. With respect to profits and losses, your entity choice will control how those profits and losses are reported and, maybe more importantly, when you might be able to take them to get ‘tax benefit’. For example, if you chose a “C” Corporation (separately taxed entity) in the first year and have losses, you will not get any tax benefit because there are no tax years to carry back that loss to. If you had a “S” Corp (a so-called flow-through, or conduit, entity), whose income is reported to you on a K-1 and then taken on your personal return, that loss could be taken against other income and/or it might be able to be ‘carried back’ to prior years so that you could get some immediate ‘tax benefit’ and some money back.

Good records will help you keep track of deductible expenses, prepare your tax returns and support items that you report on your tax returns. Good records will also help you monitor the progress of your business and prepare your financial statements. You may choose any recordkeeping system that clearly shows your income and expenses.

FRINGE BENEFITS.

Retirement plans and fringe benefits can be provided through the business on a more favorable tax basis than having to fund the costs of those benefits through personal deductions or saving for the future on an after tax basis. Some of the benefits may have to be limited because of your ‘day job’ if this business is moonlighting, so to speak. For example, you can’t have a full 401(k) plan employee contribution for your moonlighting consulting business and a full 401(k) contribution at your day job. You can’t decide that you don’t like the spousal coverage available at your wife’s workplace and then take a self-employed health insurance deduction for your self- employment activity. It won’t work, if you ‘could have been’ a participant in your spouse’s plan but opted out, you are considered an eligible active participant in that plan and cannot, therefore, take the self-employed health insurance deduction. Lots of details that come into play so get good employee plan benefit design advice. Your hard earned business dollars should be optimally deployed.

I hope this gives you some starting points to review before you launch your business. I know it’s hard to not want to jump right into something that is as exciting as starting your own business but please heed the warning to take a moment to make sure your launch sequence is well grounded not only from your management and operations perspective but with the considerations provided herein taken under advisement. It will be so much easier focusing on what counts, making your start up a business a success! Wishing you well with your endeavor!

David Bergmann, CFP®, EA, CLU, ChFC
Managing Principal
The David Bergmann Group
Marina Del Ray, CA