With April 15th around the corner again, it is time to talk about taxes and changes to the tax laws that, as a small business owner, you should be aware of. The Tax Code probably changes more than any other federal or state regulation. It is more than 60,000 pages in length, nearly double the length of the entire Encyclopedia Britannica (32,640 pages) and is so complex that not even the people whose job it is to oversee the tax law fully understand it.
Tax Audits: A Great Reason
to Study the Tax Changes
Even if the folks in Washington don’t understand the tax law, you should be familiar with them. At least know enough to be able to ask your accountant intelligent questions. That way, you will have an idea of the things you might be able to take advantage of, but more importantly, you will be able to keep an eye on what is happening with your taxes. The IRS is increasing its auditing activities against small and medium-sized businesses, and you are on the hook whether you used an accountant or did the taxes yourself. This may be the biggest real change from the IRS that small businesses face, and it has been ramping up for a couple of years now.
According to a recent study from the Transactional Records Access Clearinghouse at Syracuse University, the smallest companies were audited 41 percent more in 2007 than they were in 2005. Companies with assets ranging from $10 million to $50 million were 29 percent more likely to be audited. While this was going on, companies with more than $250 million in assets were almost 40 percent less likely to be audited than in previous years. This demonstrates a major shift in attention from big business to small ones that makes little sense to analysts like Susan Long, co-director of the Syracuse center. “There are a variety of angles I looked at to see if there was an underlying reason for the IRS to do this,” said Long. “I came up empty of any rational explanation.”
Since this arbitrary interest in small business does not seem to be abating (see the sidebar for information on what triggers an audit), it is time to have a look at how things are changing.
Tax Changes From 2008
and Into the Future
The year 2008 saw a number of tax changes that will be in force this year, as well as quite a few new changes that will either take effect this year or will be phased in over the next several years, especially tax-relief provisions. The following is an overview from our friends at Kiplinger, describing the tax changes that have recently taken effect, are currently slated to take effect or are part of current legislation and will take effect within the next eight years.
2008 Changes
Section 179 Expense Deduction. The maximum amount of equipment placed in service in 2008 that businesses can expense increases to $250,000. (Expensing lets a business deduct right away costs that would otherwise be depreciated and gradually deducted over several years.) This is a $122,000 increase over the limit that was supposed to apply for 2008. Congress mandated the increase in an attempt to help the economy by stimulating investments by businesses. The annual investment limit increases to $800,000 for 2008, up from $510,000 the year before. Thus, you won’t lose the benefit of expensing until you place more than $800,000 of assets in service in 2008.
Bonus First-year Depreciation. Businesses can take a 50 percent bonus first-year depreciation on new assets put in use in 2008. In other words, they can write off one-half of the assets cost up front. The balance of the cost is recovered by depreciation. Smaller firms can first claim expensing and then use the 50 percent bonus. If used assets are bought, no 50 percent write-off is allowed. Assets depreciated over 20 years or less are eligible, including machinery, equipment, land improvements and farm buildings, even leasehold improvements made to the interior of commercial realty. But this special write-off is not available for other buildings. Autos and light trucks also benefit if they are used for business. The maximum first-year write-off for them is increased to $10,960. However, this is only for vehicles that are put in service during 2008.
Self-Employment Tax Contribution Base Increased. The maximum amount of self-employment income subject to Social Security taxes increases from $97,500 to $102,000. The self-employment tax rate remains 15.3 percent.
Self-Employment Tax Relief for Some Farmers. Beginning in 2008, retired or disabled farmers will not owe self-employment tax on conservation reserve payments.
Social Security Tax Contribution Base Increased. The maximum amount of wages subject to Social Security tax increases from $97,500 to $102,000. The tax rate remains 7.65 percent on employers and employees.
Business Standard Mileage Rate Increased. For miles driven for business in the first six months of 2008, the standard business mileage rate increased to 50.5 cents per mile from 48.5 cents per mile. For business driving in the final six months of the year, the standard business mileage rate increased to 58.5 cents per mile to reflect the increased cost of gasoline. Remember that you can deduct the cost of parking and tolls in addition to the mileage allowance.
Tax-free Parking for Employees. Starting in 2008, firms can pay for $220 a month of parking tax-free for employees, up $5 per month from 2007. The cap on tax-free transit passes rises to $115 a month for 2008, up from $110 in 2007.
Capital Gains on Timber Sales. For 2008 and 2009, capital gains corporations receive for selling trees owned for more than 15 years will be taxed at no more than 15 percent for regular tax purposes and the Alternative Minimum Tax.
2009 Changes
Self-Employment Tax Contribution Base Increased. The maximum amount of self-employment income subject to Social Security taxes increases to $106,800 in 2009, up from $102,000 in 2008. The self-employment tax rate remains 15.3 percent.
Social Security Tax Contribution Base Increased. The maximum amount of wages subject to Social Security tax increases to $106,800 in 2009, up from $102,000 in 2008. The tax rate remains 7.65 percent on employers and employees.
Business Standard Mileage Rate Rises. The standard business mileage rate is likely to fall from the 58.5 cents per mile level that applied for business driving in the last six months of 2008. The IRS had not announced the new 2009 rate when this story was updated. Remember that you can deduct the cost of parking and tolls in addition to the mileage allowance.
Tax-free Parking for Employees. Starting in 2009, firms can pay for $230 a month of parking tax-free for employees, up $10 per month from 2008. The cap on tax-free transit passes rises to $120 a month, up $5 a month from 2008.
Increased Section 179 Expense Deduction. The maximum amount of equipment placed in service in 2009 that businesses can expense falls to $133,000, a $117,000 decrease from 2008, when a temporary $250,000 ceiling was in effect. The annual investment limit drops to $530,000 for 2009. In 2008, the limit had been temporarily increased to $800,000. Thus, you won’t begin to lose the benefit of expensing until you place more than $530,000 of assets in service in 2009.
Bonus First-year Depreciation. Businesses can no longer claim a 50 percent bonus first-year depreciation on assets placed in service in 2009.
Depreciation of Restaurants and Retail Stores. The current 15-year depreciation period for tenant and restaurant improvements is expanded to include buildings housing restaurants, and improvements made to retail stores that are placed in service in 2009.
Faster Depreciation of Farming Assets. New farm machinery and equipment put in use in 2009 can be depreciated as five-year property instead of seven-year property. This doesn’t apply to grain bins, cotton ginning assets or land improvements, such as fences.
2010 Changes
Domestic Production Activities Deduction. Starting in 2010, this deduction increases to 9 percent of qualifying business net income from domestic production activities. This deduction applies to businesses engaged in construction, engineering or architectural services; film production; or the lease, rental or sale of equipment manufactured in the United States. However, the rate remains 6 percent for oil and gas companies.
The R&D Tax Credit. The credit for increasing spending on research and development is set to expire after 2009. We expect Congress will ensure that this popular tax credit remains on the books.
Depreciation of Restaurants and Retail Stores. The shorter 15-year depreciation period for tenant, restaurant and retail store improvements and buildings housing restaurants no longer applies after 2009.
Tax Credit for Energy-Efficient Homes. The special tax credit for builders selling energy-efficient homes expires after 2009.
Capital Gains on Timber Sales. After 2009, capital gains corporations receive for selling trees owned for more than 15 years will be taxed as regular income. The special rate of no more than 15 percent no longer applies.
Limits on Deducting Farm Losses. Beginning in 2010, the amount of farm losses you can use to offset nonfarm income is capped at the greater of $300,000 or your net farm income over the past five years. But this limit will apply only if you get federal farm payments or CCC loans. You can take suspended losses in later years. The caps will also apply to partners and S corporation owners.
2011 Changes
Decreased Section 179 Expense Deduction. The maximum amount of newly purchased assets that a business is allowed to expense decreases to $25,000, and the annual investment limit drops to $100,000.
Withholding on Government Contracts. Starting in 2011, amounts paid out under government contracts will be subject to 3% tax withholding. This will affect contracts with the federal government, state governments and any municipality that pays out $100 million or more on contracts a year. Interest and payments for real estate are exempted.
2014 Changes
Energy-saving Improvements to Commercial Real Estate. The special expensing allowed for the cost of energy-saving improvements to commercial buildings is not available after 2013.
2017 Changes
Solar Heating Credit. The 30 percent tax credit for businesses on the cost of solar heating units and fuel cells falls to 10 percent for those that are placed in service after 2016.
While software and online products are often good, they cannot give you the kind of advice or direction that a good tax professional who knows you and your business can give you. Building a good professional relationship with a knowledgeable tax professional, if you have not already done so, could be the best move you can make, but it would be even better if you made yourself an educated client.
