It’s the time of the year where we resolve to work out more, eat better and up our game at the office. For the small business owner, you’ll be exercising the brain a lot more as you wrap your mind around the largest tax reform bill in recent memory. In short, there is some good news, bad news and ugly news regarding the Tax Cuts and Jobs Act.
The good news: There are plenty of opportunities for small business owners to benefit from the Tax Cuts and Jobs Act and reinvest in their business. The bad and ugly news: Some of the most enjoyable and useful business tax deductions are going away.
Here are the six biggest tax changes that will affect small businesses.
1. Lower Tax Rates = Lower Taxes
Your goal should always be to grow sales and revenue but some business owners limit their sales efforts to avoid paying higher taxes. The Tax Cuts and Jobs Act dropped the highest individual tax rate from 39.6% to 37%. For example, if you had $1,000,000 of taxable income, you would have paid $396,000 of federal income taxes vs. $370,000 you would pay under the new tax reform.
The Good: The difference of $26,000 could be used for employee bonuses, marketing or equipment for your business.
2. Pass-through Businesses Get Some Relief
Many small businesses are pass-through entities for tax purposes. Pass-through businesses include S-corporations, limited liability companies, partnerships and sole proprietors. The Tax Cuts and Jobs Act gives pass-through businesses an additional 20% deduction from their income. There are some limitations for professional services businesses and income limit phase-outs so be sure to speak with your tax advisor for more information.
The Good: Small business owners may be eligible for an additional 20% deduction on their personal tax returns if their business is categorized as a pass-through entity.
3. Cash Basis vs. Accrual Basis of Accounting
Per Internal Revenue Code section 448, small businesses that have average gross receipts of $5 million or less were allowed to use the cash method of accounting. Tax reform changed that limit to average annual gross receipts of $25 million or less.
The Good: Cash basis of accounting allows small business owners to pay taxes on income they receive and take deductions on expenses that were paid, which is advantageous for cash management purposes.
4. Credit for Compensation Paid to Employees on Family and Medical Leave
The tax reform bill also provides a credit for employers that offer employees paid family and medical leave for 2018 and 2019 only. Businesses must have a written policy in effect which gives full-time employees not less than two weeks of annual family and medical leave under FMLA of 1993.
The Good: The general business credit is 12.5% of the compensation paid – subject to limitations.
5. No More Special Deductions for Manufacturing
Tax reform repealed Section 199. Section 199, also known as the domestic manufacturing deduction, was a tax break for businesses that perform domestic manufacturing and certain production activities like real estate construction and production of oil, electricity, natural gas, water and computer software.
The Bad: The 2017 tax return year will be the last year you can claim the manufacturing deduction if you’re eligible. Speak with your tax advisor to discuss your unique facts and circumstances.
6. No More Deduction for Client Entertainment and Other Fringe Benefits
The tax reform bill eliminates employer tax deductions for expenses including:
- - Membership dues for employees for clubs and groups.
- - Transportation fringe benefits such as parking, transit passes, vanpool and bicycle commuting expenses.
- - Business entertainment, amusement and recreation expenses.
The Ugly: The days of receiving a 50% deduction on business entertainment are over. Business meals will still receive the 50% deduction but small business owners will no longer be able to deduct the cost of taking a business prospect or client to a sporting event, concert or even golf.
For a detailed analysis of the new tax legislation—and some insights on what it might mean for you—download the latest Tax Bulletin from Merrill Lynch.
Related Article: The Top Four Tax Breaks for Veteran-Owned Small Businesses
Ebong Eka is no stranger to the world of personal finance. As a certified public accountant and former professional basketball player he offers a fresh perspective to small business planning and executing. With over fifteen years of accounting, tax & small business experience with firms like PricewaterhouseCoopers, Deloitte & Touche and CohnReznick, Ebong provides practical money solutions tailored to the everyday person, the aspiring entrepreneur or the small business owner.
Ebong is the founder of EKAnomics, a sales, pricing and leadership firm. He is also the founder of Ericorp Consulting, Inc., a tax and management consulting firm. Ebong is the author of “Start Me Up! The-No-Business-Plan, Business Plan.”
Ebong is also the founder of The $250 Tax Pro, which provides tax preparation and consulting services in the Washington, DC area.
Bank of America, N.A. engages with Ebong Eka to provide informational materials for your discussion or review purposes only. Ebong Eka is a registered trademark, used pursuant to license. The third parties within articles are used under license from Ebong Eka. Consult your financial, legal and accounting advisors, as neither Bank of America, its affiliates, nor their employees provide legal, accounting and tax advice.
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