Updated accounting rules for long-term leases took effect in 2019 for public companies. Now, after several deferrals by the Financial Accounting Standards Board (FASB), private companies and private not-for-profit entities must follow suit, starting in fiscal year 2022. The updated guidance requires these organizations to report — for the first time — the full magnitude of their long-term lease obligations on the balance sheet. Here are the details.
In 2019, the FASB deferred Accounting Standards Update (ASU) No. 2016-02, Leases (Topic 842), to 2021 for private entities. Then, in 2020, the FASB granted another extension to the effective date of the updated leases standard for private firms, because of disruptions to normal business operations during the COVID-19 pandemic.
Currently, the changes for private entities will apply to annual reporting periods beginning after December 15, 2021, and to interim periods within fiscal years beginning after December 15, 2022. Early adoption is also permitted.
Most private organizations have welcomed these deferrals. Implementing the requisite changes to your organization’s accounting practices and systems can be time-consuming and costly, depending on its size, as well as the nature and volume of its leasing arrangements.
The accounting rules that currently apply to private entities require them to record lease obligations on their balance sheets only if the arrangements are considered financing transactions. Few arrangements are recorded, because accounting rules give lessees leeway to arrange the agreements in a way that they can be treated as simple rentals for financial reporting purposes. If an obligation isn’t recorded on a balance sheet, it makes a business look like it is less leveraged than it really is.
The updated guidance calls for major changes to current accounting practices for leases with terms of a year or longer. In a nutshell, ASU 2016-02 requires lessees to recognize on their balance sheets the assets and liabilities associated with all long-term rentals of machines, equipment, vehicles and real estate. The updated guidance also requires additional disclosures about the amount, timing and uncertainty of cash flows related to leases.
Most existing arrangements that currently are reported as leases will continue to be reported as leases under the updated guidance. In addition, the new definition is expected to encompass many more types of arrangements that aren’t reported as leases under current practice. Some of these arrangements may not be readily apparent, for example, if they’re embedded in service contracts or contracts with third-party manufacturers.
You can’t afford to wait until year end to adopt the updated guidance for long-term leases. Many public companies found that the implementation process took significantly more time and effort than they initially expected. Contact us to help evaluate which of your contracts must be reported as lease obligations under the new rules.
Here are some of the key tax-related deadlines affecting businesses and other employers during the fourth quarter of 2021. Keep in mind that this list isn’t all-inclusive, so there may be additional deadlines that apply to you. Contact us to ensure you’re meeting all applicable deadlines and to learn more about the filing requirements.
Note: Certain tax-filing and tax-payment deadlines may be postponed for taxpayers who reside in or have a business in federally declared disaster areas.
Friday, October 15
Monday, November 1
Wednesday, November 10
Wednesday, December 15
Friday, December 31
Contact us if you’d like more information about the filing requirements and to ensure you’re meeting all applicable deadlines.
Businesses rely on internal controls to help ensure the accuracy and integrity of their financial statements, as well as prevent fraud, waste and abuse. Given their importance, internal controls are a key area of focus for internal and external auditors.
Many auditors use detailed internal control questionnaires to help evaluate the internal control environment — and ensure a comprehensive assessment. Although some audit teams still use paper-based questionnaires, many now prefer an electronic format. Here’s an overview of the types of questions that may be included and how the questionnaire may be used during an audit.
The contents of internal control questionnaires vary from one audit firm to the next. They also may be customized for a particular industry or business. Most include general questions pertaining to the company’s mission, control environment and compliance situation. There also may be sections dedicated to mission-critical or fraud-prone elements of the company’s operations, such as:
Questionnaires usually don’t take long to complete, because most questions are closed-ended, requiring only yes-or-no answers. For example, a question might ask: Is a physical inventory count conducted annually? However, there also may be space for open-ended responses. For instance, a question might ask for a list of controls that limit physical access to the company’s inventory.
Internal control questionnaires are generally administered using one the following three approaches:
1. Completion by company personnel. Here, management completes the questionnaire independently. The audit team might request the company’s organization chart to ensure that the appropriate individuals are selected to participate. Auditors also might conduct preliminary interviews to confirm their selections before assigning the questionnaire.
2. Completion by the auditor based on inquiry. Under this approach, the auditor meets with company personnel to discuss a particular element of the internal control environment. Then the auditor completes the relevant section of the questionnaire and asks the people who were interviewed to review and validate the responses.
3. Completion by the auditor after testing. Here, the auditor completes the questionnaire after observing and testing the internal control environment. Once auditors complete the questionnaire, they typically ask management to review and validate the responses.
The purpose of the internal control questionnaire is to help the audit team assess your company’s internal control system. Coupled with the audit team’s training, expertise and analysis, the questionnaire can help produce accurate, insightful audit reports. The insight gained from the questionnaire also can add value to your business by revealing holes in the control system that may need to be patched to prevent fraud, waste and abuse. Contact us for more information.
Do you play a major role in a closely held corporation and sometimes spend money on corporate expenses personally? These costs may wind up being nondeductible both by an officer and the corporation unless proper steps are taken. This issue is more likely to arise in connection with a financially troubled corporation.
Deductible vs. nondeductible expenses
In general, you can’t deduct an expense you incur on behalf of your corporation, even if it’s a legitimate “trade or business” expense and even if the corporation is financially troubled. This is because a taxpayer can only deduct expenses that are his own. And since your corporation’s legal existence as a separate entity must be respected, the corporation’s costs aren’t yours and thus can’t be deducted even if you pay them.
What’s more, the corporation won’t generally be able to deduct them either because it didn’t pay them itself. Accordingly, be advised that it shouldn’t be a practice of your corporation’s officers or major shareholders to cover corporate costs.
When expenses may be deductible
On the other hand, if a corporate executive incurs costs that relate to an essential part of his or her duties as an executive, they may be deductible as ordinary and necessary expenses related to his or her “trade or business” of being an executive. If you wish to set up an arrangement providing for payments to you and safeguarding their deductibility, a provision should be included in your employment contract with the corporation stating the types of expenses which are part of your duties and authorizing you to incur them. For example, you may be authorized to attend out-of-town business conferences on the corporation’s behalf at your personal expense.
Alternatively, to avoid the complete loss of any deductions by both yourself and the corporation, an arrangement should be in place under which the corporation reimburses you for the expenses you incur. Turn the receipts over to the corporation and use an expense reimbursement claim form or system. This will at least allow the corporation to deduct the amount of the reimbursement.
Contact us if you’d like assistance or would like to discuss these issues further.
Despite the COVID-19 pandemic, government officials are seeing a large increase in the number of new businesses being launched. From June 2020 through June 2021, the U.S. Census Bureau reports that business applications are up 18.6%. The Bureau measures this by the number of businesses applying for an Employer Identification Number.
Entrepreneurs often don’t know that many of the expenses incurred by start-ups can’t be currently deducted. You should be aware that the way you handle some of your initial expenses can make a large difference in your federal tax bill.
How to treat expenses for tax purposes
If you’re starting or planning to launch a new business, keep these three rules in mind:
In general, start-up expenses are those you make to:
To qualify for the election, an expense also must be one that would be deductible if it were incurred after a business began. One example is money you spend analyzing potential markets for a new product or service.
To be eligible as an “organization expense,” an expense must be related to establishing a corporation or partnership. Some examples of organization expenses are legal and accounting fees for services related to organizing a new business and filing fees paid to the state of incorporation.
If you have start-up expenses that you’d like to deduct this year, you need to decide whether to take the election described above. Recordkeeping is critical. Contact us about your start-up plans. We can help with the tax and other aspects of your new business.
There’s a harsh tax penalty that you could be at risk for paying personally if you own or manage a business with employees. It’s called the “Trust Fund Recovery Penalty” and it applies to the Social Security and income taxes required to be withheld by a business from its employees’ wages.
Because taxes are considered property of the government, the employer holds them in “trust” on the government’s behalf until they’re paid over. The penalty is also sometimes called the “100% penalty” because the person liable and responsible for the taxes will be penalized 100% of the taxes due. Accordingly, the amounts IRS seeks when the penalty is applied are usually substantial, and IRS is aggressive in enforcing the penalty.
The Trust Fund Recovery Penalty is among the more dangerous tax penalties because it applies to a broad range of actions and to a wide range of people involved in a business.
Here are some answers to questions about the penalty so you can safely avoid it.
What actions are penalized? The Trust Fund Recovery Penalty applies to any willful failure to collect, or truthfully account for, and pay over Social Security and income taxes required to be withheld from employees’ wages.
Who is at risk? The penalty can be imposed on anyone “responsible” for collection and payment of the tax. This has been broadly defined to include a corporation’s officers, directors and shareholders under a duty to collect and pay the tax as well as a partnership’s partners, or any employee of the business with such a duty. Even voluntary board members of tax-exempt organizations, who are generally exempt from responsibility, can be subject to this penalty under some circumstances. In some cases, responsibility has even been extended to family members close to the business, and to attorneys and accountants.
According to the IRS, responsibility is a matter of status, duty and authority. Anyone with the power to see that the taxes are (or aren’t) paid may be responsible. There’s often more than one responsible person in a business, but each is at risk for the entire penalty. You may not be directly involved with the payroll tax withholding process in your business. But if you learn of a failure to pay over withheld taxes and have the power to pay them but instead make payments to creditors and others, you become a responsible person.
Although a taxpayer held liable can sue other responsible people for contribution, this action must be taken entirely on his or her own after the penalty is paid. It isn’t part of the IRS collection process.
What’s considered “willful?” For actions to be willful, they don’t have to include an overt intent to evade taxes. Simply bending to business pressures and paying bills or obtaining supplies instead of paying over withheld taxes that are due the government is willful behavior. And just because you delegate responsibilities to someone else doesn’t necessarily mean you’re off the hook. Your failure to take care of the job yourself can be treated as the willful element.
Never borrow from taxes
Under no circumstances should you fail to withhold taxes or “borrow” from withheld amounts. All funds withheld should be paid over to the government on time. Contact us with any questions about making tax payments.
Are you eligible to take the deduction for qualified business income (QBI)? Here are 10 facts about this valuable tax break, referred to as the pass-through deduction, QBI deduction or Section 199A deduction.
As you can see, this substantial deduction is complex, especially if your taxable income exceeds the thresholds discussed above. Other rules apply. Contact us if you have questions about your situation.
The Employee Retention Tax Credit (ERTC) is a valuable tax break that was extended and modified by the American Rescue Plan Act (ARPA), enacted in March of 2021. Here’s a rundown of the rules.
Back in March of 2020, Congress originally enacted the ERTC in the CARES Act to encourage employers to hire and retain employees during the pandemic. At that time, the ERTC applied to wages paid after March 12, 2020, and before January 1, 2021. However, Congress later modified and extended the ERTC to apply to wages paid before July 1, 2021.
The ARPA again extended and modified the ERTC to apply to wages paid after June 30, 2021, and before January 1, 2022. Thus, an eligible employer can claim the refundable ERTC against “applicable employment taxes” equal to 70% of the qualified wages it pays to employees in the third and fourth quarters of 2021. Except as discussed below, qualified wages are generally limited to $10,000 per employee per 2021 calendar quarter. Thus, the maximum ERTC amount available is generally $7,000 per employee per calendar quarter or $28,000 per employee in 2021.
For purposes of the ERTC, a qualified employer is eligible if it experiences a significant decline in gross receipts or a full or partial suspension of business due to a government order. Employers with up to 500 full-time employees can claim the credit without regard to whether the employees for whom the credit is claimed actually perform services. But, except as explained below, employers with more than 500 full-time employees can only claim the ERTC with respect to employees that don’t perform services.
Employers who got a Payroll Protection Program loan in 2020 can still claim the ERTC. But the same wages can’t be used both for seeking loan forgiveness or satisfying conditions of other COVID relief programs (such as the Restaurant Revitalization Fund program) in calculating the ERTC.
Beginning in the third quarter of 2021, the following modifications apply to the ERTC:
Contact us if you have any questions related to your business claiming the ERTC.
Businesses need financial information that’s accurate, relevant and timely. The Securities and Exchange Commission requires publicly traded companies to follow U.S. Generally Accepted Accounting Principles (GAAP), often considered the “gold standard” in financial reporting in the United States. But privately held companies can use simplified alternative accounting methods. What’s right for your business depends on its size, regulatory and contractual requirements, management’s future plans and the needs of its stakeholders.
Menu of accounting methods
Here’s an overview of the accounting methods available for small and medium-sized entities (SMEs):
GAAP. This framework follows rules set forth by the Financial Accounting Standards Board (FASB). It’s based on the accrual method of accounting, where revenues and expenses are matched to the reporting period in which they’re earned and incurred, respectively. Under this method, companies report receivables for revenue that’s earned but not yet collected and payables for expenses that are incurred but not yet paid. Prepaid (and accrued) expenses are also reported on an accrual-basis balance sheet.
Financial Reporting Framework for SMEs. This framework is rooted in GAAP, but it’s adjusted to accommodate the needs of private businesses. Developed by the American Institute of Certified Public Accountants (AICPA), this simplified framework blends traditional accounting principles with accrual-basis income tax accounting methods.
This non-GAAP framework is based on historic cost, steering away from complex, fair-value-based standards that have been implemented in recent years. For example, it retains the familiar accounting for revenue recognition and leases. It also includes targeted disclosure requirements and provides a degree of optionality, enabling SMEs to customize their financial statements to meet the needs of stakeholders.
Tax-basis method. Under this method, companies use the same accounting principles for book and federal income tax purposes. The U.S. tax code provides the rules that apply under this method.
Cash-basis method. This is the simplest reporting method. Revenues are recognized when received from customers and expenses when the company pays them. But there’s a potential downside: Revenues for the period aren’t necessarily matched to the related expenses for the period. This can lead to fluctuations in profits and financial ratios when comparing performance over time.
Discuss the following questions with your accounting professional to help select the right method for your business:
For example, the cash- or tax-basis method may be appropriate for a single-owner business without any debt that uses its financial statements for internal purposes only. But larger private firms may decide it’s advantageous to comply with GAAP to attract outside investors, obtain loans, satisfy bonding and regulatory requirements, and evaluate strategic business decisions.
What’s right for you?
As your business grows in size, sophistication and complexity, it may be time to upgrade to a more complicated and consistent method of accounting. Contact us to help select a reporting framework that suits your current needs.
Working capital equals the difference between current assets and current liabilities. Organizations need a certain amount of working capital to run their operations smoothly. The optimal (or “target”) amount of working capital depends on the nature of operations and the industry. Inefficient working capital management can hinder growth and performance.
The term “liquidity” refers to how quickly an item can be converted to cash. In general, receivables are considered more liquid than inventory. Working capital is often evaluated using the following liquidity metrics:
Current ratio. This is computed by dividing current assets by current liabilities. A current ratio of at least 1.0 means that the company has enough current assets on hand to cover liabilities that are due within 12 months.
Quick (or acid-test) ratio. This is a more conservative liquidity benchmark. It typically excludes prepaid assets and inventory from the calculation.
An alternative perspective on working capital is to compare it to total assets and annual revenues. From this angle, working capital becomes a measure of operating efficiency. Excessive amounts of cash tied up in working capital detract from other spending options, such as expanding to new markets, buying equipment and paying down debt.
High liquidity generally equates with low financial risk. However, you can have too much of a good thing. If working capital is trending upward from year to year — or it’s significantly higher than your competitors — it may be time to take proactive measures to speed up cash inflows and delay cash outflows.
Lean operations require taking a closer look at each component of working capital and implementing these best practices:
1. Put cash to good use. Excessive cash balances encourage management to become complacent about working capital. If your organization has plenty of money in its checkbook, you might be less hungry to collect receivables and less disciplined when ordering inventory.
2. Expedite collections. Organizations that sell on credit effectively finance their customers’ operations. Stale receivables — typically any balance over 45 or 60 days outstanding, depending on the industry — are a red flag of inefficient working capital management.
Getting a handle on receivables starts by evaluating which items should be written off as bad debts. Then viable balances need to be “talked in the door” as soon as possible. Enhanced collections efforts might include early bird discounts, electronic invoices and collections-based sales compensation programs.
3. Carry less inventory. Inventory represents a huge investment for manufacturers, distributors, retailers and contractors. It’s also difficult to track and value. Enhanced forecasting and data sharing with suppliers can reduce the need for safety stock and result in smarter ordering practices. Computerized technology — such as barcodes, radio frequency identification and enterprise resource planning tools — also improve inventory tracking and ordering practices.
4. Postpone payments. Credit terms should be extended as long as possible — without losing out on early bird discounts. If you can stretch your organization’s average days in payables from, say, 45 to 60 days, it trains vendors and suppliers to accept the new terms, particularly if you’re a predictable, reliable payor.
Prioritize working capital
Some organizations are so focused on the income statement, including revenue and profits, that they lose sight of the strategic significance of the balance sheet — especially working capital accounts. We can benchmark your organization’s liquidity and asset efficiency over time and against competitors. If necessary, we also can help implement strategies to improve your performance, without exposing you to unnecessary risk.
Internal controls are a system of policies and procedures organizations put in place to protect assets and improve operating efficiency. Effective internal controls are critical to accurate financial reporting. A solid system of controls can help prevent, detect and correct financial misstatements due to errors and fraud.
Internal and external risk factors evolve over time. So, upon completion of the year-end financial statements, managers and internal auditors should reassess whether internal controls are up to snuff and brainstorm ways to solidify controls. Start your annual assessment with the following three basic controls:
1. Physical restrictions
Employees only should have access to those assets necessary to perform their jobs. Locks and alarms are examples of ways to protect valuable tangible assets, including petty cash, inventory and equipment. But intangible assets — such as customer lists, lease agreements, patents and financial data — also require protection with controls including passwords, access logs and appropriate legal paperwork.
2. Account reconciliation
Management should confirm and analyze account balances on a regular basis. To illustrate, strong organizations reconcile bank statements and count inventory on a regular basis. Waiting until year-end to complete these basic procedures is a potential red flag of weak oversight.
Interim financial reports, such as weekly operating scorecards and quarterly financial statements, also keep management informed. But reports are only useful if management finds time to analyze them and investigate anomalies. Supervisory review takes on many forms, including observation, test counts, inquiry and task replication.
3. Job descriptions
Another basic control is maintaining detailed, up-to-date job descriptions. This exercise can help you better understand how financial job duties interact with one another. It can also highlight possible conflicts of interest that could lead to improper recordkeeping.
Your policies should call for job segregation, job duplication and mandatory vacations. For example, the person who receives customer payments should not also approve write-offs (job segregation). And two signatures should be required for checks above a prescribed dollar amount (job duplication).
It’s important to confirm during the annual review whether employees are aware of internal control policies and procedures — and whether they’re being strictly followed. At some organizations, certain internal controls procedures have been suspended while employees are working remotely during the COVID-19 pandemic.
No time like the present
For many businesses and not-for-profits, the pandemic has slowed operations. Unfortunately, times of financial distress may also entice some employees to exaggerate financial results or even commit fraud. Our auditors have seen the best (or worst) in internal control practices. We can help you identify potential weaknesses and — regardless of whether your organization is large or small — find cost-effective ways to reinforce your controls.
If you’re claiming deductions for business meals or auto expenses, expect the IRS to closely review them. In some cases, taxpayers have incomplete documentation or try to create records months (or years) later. In doing so, they fail to meet the strict substantiation requirements set forth under tax law. Tax auditors are adept at rooting out inconsistencies, omissions and errors in taxpayers’ records, as illustrated by one recent U.S. Tax Court case.
Facts of the case
In the case, the taxpayer ran a notary and paralegal business. She deducted business meals and vehicle expenses that she allegedly incurred in connection with her business.
The deductions were denied by the IRS and the court. Tax law “establishes higher substantiation requirements” for these and certain other expenses, the court noted. No deduction is generally allowed “unless the taxpayer substantiates the amount, time and place, business purpose, and business relationship to the taxpayer of the person receiving the benefit” for each expense with adequate records or sufficient evidence.
The taxpayer in this case didn’t provide adequate records or other sufficient evidence to prove the business purpose of her meal expenses. She gave vague testimony that she deducted expenses for meals where she “talked strategies” with people who “wanted her to do some work.” The court found this was insufficient to show the connection between the meals and her business.
When it came to the taxpayer’s vehicle expense deductions, she failed to offer credible evidence showing where she drove her vehicle, the purpose of each trip and her business relationship to the places visited. She also conceded that she used her car for both business and personal activities. (TC Memo 2021-50)
Best practices for business expenses
This case is an example of why it’s critical to maintain meticulous records to support business expenses for meals and vehicle deductions. Here’s a list of “DOs and DON'Ts” to help meet the strict IRS and tax law substantiation requirements for these items:
DO keep detailed, accurate records. For each expense, record the amount, the time and place, the business purpose, and the business relationship of any person to whom you provided a meal. If you have employees who you reimburse for meals and auto expenses, make sure they’re complying with all the rules.
DON’T reconstruct expense logs at year end or wait until you receive a notice from the IRS. Take a moment to record the details in a log or diary or on a receipt at the time of the event or soon after. Require employees to submit monthly expense reports.
DO respect the fine line between personal and business expenses. Be careful about combining business and pleasure. Your business checking account shouldn’t be used for personal expenses.
DON’T be surprised if the IRS asks you to prove your deductions. Meal and auto expenses are a magnet for attention. Be prepared for a challenge.
With organization and guidance from us, your tax records can stand up to scrutiny from the IRS. There may be ways to substantiate your deductions that you haven’t thought of, and there may be a way to estimate certain deductions (“the Cohan rule”), if your records are lost due to a fire, theft, flood or other disaster.
In recent years, the accounting rules for certain balance sheet items have transitioned from historical cost to “fair value.” Examples of assets that may currently be reported at fair value are asset retirement obligations, derivatives and intangible assets acquired in a business combination. Though fair value may better align your company’s financial statements with today’s market values, estimating fair value may require subjective judgment.
Under U.S. Generally Accepted Accounting Principles (GAAP), fair value is “the price that would be received to sell an asset in an orderly transaction between market participants at the measurement date.” Accounting Standards Codification Topic 820, Fair Value Measurements and Disclosures, explains how companies should estimate the fair value of assets and liabilities by using available, quantifiable market-based data.
Topic 820 provides the following three-tier valuation hierarchy for valuation inputs:
Fair value measurements, especially those based on the third level of inputs, may involve a high degree of subjectivity, making them susceptible to misstatement. Therefore, these estimates usually require more auditor focus.
Auditing standards generally require auditors to select one or a combination of the following approaches to substantively test fair value measurements:
Test management’s process. Auditors evaluate the reasonableness and consistency of management’s assumptions, as well as test whether the underlying data is complete, accurate and relevant.
Develop an independent estimate. Using management’s assumptions (or alternate assumptions), auditors come up with an estimate to compare to what’s reported on the internally prepared financial statements.
Review subsequent events or transactions. The reasonableness of fair value estimates can be gauged by looking at events or transactions that happen after the balance sheet date but before the date of the auditor’s report.
Measuring fair value is outside the comfort zone of most in-house accounting personnel. Fortunately, an outside valuation expert can provide objective, market-based evidence to support the fair value of assets and liabilities. Contact us for more information.
Many companies are continuing to struggle financially during the COVID-19 pandemic. If cash is tight, what can your business do to shorten its cash cycle? The answer could lie in your outstanding accounts receivable. Here are five strategies to help convert receivables into cash ASAP.
1. Apply for a line of credit. A line of credit can help bridge the “cash gap” between making a sale and getting paid. Often credit lines are collateralized by unpaid invoices, just like equipment and property are pledged for conventional term loans. Banks typically charge fees and interest for securitized receivables.
Each financial institution sets its own rates and conditions. Typically, these arrangements provide immediate loans for up to 90% of the value of an outstanding debt and are repaid as customers pay their bills.
2. Encourage early payment. Your company may be able to expedite collections if customers are given a financial incentive to pay their bills early. For example, you might give a 3% discount to customers who pay with 14 days of receiving their invoices. Online and autopayment options often work in tandem with these discounts.
3. Consider factoring. This option allows companies to monetize their unpaid — but not yet delinquent — receivables. Here, receivables are sold to a third-party factoring company for immediate cash.
Costs associated with receivables factoring can be much higher than those for collateral-based loans. And factoring companies are likely to scrutinize the creditworthiness of your customers. But selling receivables for upfront cash may be advantageous, especially for smaller businesses, because it reduces the burden on accounting staff and saves time.
4. Renegotiate with customers. Before you write off stale receivables that are more than 90 days outstanding, call the customer and ask what’s going on. Sometimes you might be able to negotiate a lower amount or installment payments — which might be better than a write-off if your customer is facing bankruptcy.
5. Focus on collections. Some small companies haven’t historically needed to dedicate specific resources to collections, because customers have generally paid in a timely matter. However, if significant collection issues have built up during the pandemic, it may be time to pick a customer service rep to be in charge of making collections calls. For more serious issues, you might prefer hiring a seasoned, in-house collections professional or reaching out to an external commission-based collection agency.
If slow-to-pay customers are adversely affecting your company’s cash flow, contact us. We’ve helped many businesses implement creative solutions to convert receivables into fast cash.
Many businesses provide education fringe benefits so their employees can improve their skills and gain additional knowledge. An employee can receive, on a tax-free basis, up to $5,250 each year from his or her employer for educational assistance under a “qualified educational assistance program.”
For this purpose, “education” means any form of instruction or training that improves or develops an individual’s capabilities. It doesn’t matter if it’s job-related or part of a degree program. This includes employer-provided education assistance for graduate-level courses, including those normally taken by an individual pursuing a program leading to a business, medical, law or other advanced academic or professional degree.
The educational assistance must be provided under a separate written plan that’s publicized to your employees, and must meet a number of conditions, including nondiscrimination requirements. In other words, it can’t discriminate in favor of highly compensated employees. In addition, not more than 5% of the amounts paid or incurred by the employer for educational assistance during the year may be provided for individuals who (including their spouses or dependents) who own 5% or more of the business.
No deduction or credit can be taken by the employee for any amount excluded from the employee’s income as an education assistance benefit.
If you pay more than $5,250 for educational benefits for an employee during the year, he or she must generally pay tax on the amount over $5,250. Your business should include the amount in income in the employee’s wages. However, in addition to, or instead of applying, the $5,250 exclusion, an employer can satisfy an employee’s educational expenses, on a nontaxable basis, if the educational assistance is job-related. To qualify as job-related, the educational assistance must:
“Job-related” employer educational assistance isn’t subject to a dollar limit. To be job-related, the education can’t qualify the employee to meet the minimum educational requirements for qualification in his or her employment or other trade or business.
Educational assistance meeting the above “job-related” rules is excludable from an employee’s income as a working condition fringe benefit.
In addition to education assistance, some employers offer student loan repayment assistance as a recruitment and retention tool. Recent COVID-19 relief laws may provide your employees with tax-free benefits. Contact us to learn more about setting up an education assistance or student loan repayment plan at your business.
Owners of incorporated businesses know that there’s a tax advantage to taking money out of a C corporation as compensation rather than as dividends. The reason: A corporation can deduct the salaries and bonuses that it pays executives, but not dividend payments. Thus, if funds are paid as dividends, they’re taxed twice, once to the corporation and once to the recipient. Money paid out as compensation is only taxed once — to the employee who receives it.
However, there are limits to how much money you can take out of the corporation this way. Under tax law, compensation can be deducted only to the extent that it’s reasonable. Any unreasonable portion isn’t deductible and, if paid to a shareholder, may be taxed as if it were a dividend. Keep in mind that the IRS is generally more interested in unreasonable compensation payments made to someone “related” to a corporation, such as a shareholder-employee or a member of a shareholder’s family.
Determining reasonable compensation
There’s no easy way to determine what’s reasonable. In an audit, the IRS examines the amount that similar companies would pay for comparable services under similar circumstances. Factors that are taken into account include the employee’s duties and the amount of time spent on those duties, as well as the employee’s skills, expertise and compensation history. Other factors that may be reviewed are the complexities of the business and its gross and net income.
There are some steps you can take to make it more likely that the compensation you earn will be considered “reasonable,” and therefore deductible by your corporation. For example, you can:
You can avoid problems and challenges by planning ahead. If you have questions or concerns about your situation, contact us.
As a business owner, you should be aware that you can save family income and payroll taxes by putting your child on the payroll.
Here are some considerations.
Shifting business earnings
You can turn some of your high-taxed income into tax-free or low-taxed income by shifting some business earnings to a child as wages for services performed. In order for your business to deduct the wages as a business expense, the work done by the child must be legitimate and the child’s salary must be reasonable.
For example, suppose you’re a sole proprietor in the 37% tax bracket. You hire your 16-year-old son to help with office work full-time in the summer and part-time in the fall. He earns $10,000 during the year (and doesn’t have other earnings). You can save $3,700 (37% of $10,000) in income taxes at no tax cost to your son, who can use his $12,550 standard deduction for 2021 to shelter his earnings.
Family taxes are cut even if your son’s earnings exceed his standard deduction. That’s because the unsheltered earnings will be taxed to him beginning at a 10% rate, instead of being taxed at your higher rate.
Income tax withholding
Your business likely will have to withhold federal income taxes on your child’s wages. Usually, an employee can claim exempt status if he or she had no federal income tax liability for last year and expects to have none this year.
However, exemption from withholding can’t be claimed if: 1) the employee’s income exceeds $1,100 for 2021 (and includes more than $350 of unearned income), and 2) the employee can be claimed as a dependent on someone else’s return.
Keep in mind that your child probably will get a refund for part or all of the withheld tax when filing a return for the year.
Social Security tax savings
If your business isn’t incorporated, you can also save some Social Security tax by shifting some of your earnings to your child. That’s because services performed by a child under age 18 while employed by a parent isn’t considered employment for FICA tax purposes.
A similar but more liberal exemption applies for FUTA (unemployment) tax, which exempts earnings paid to a child under age 21 employed by a parent. The FICA and FUTA exemptions also apply if a child is employed by a partnership consisting only of his or her parents.
Note: There’s no FICA or FUTA exemption for employing a child if your business is incorporated or is a partnership that includes non-parent partners. However, there’s no extra cost to your business if you’re paying a child for work you’d pay someone else to do.
Your business also may be able to provide your child with retirement savings, depending on your plan and how it defines qualifying employees. For example, if you have a SEP plan, a contribution can be made for the child up to 25% of his or her earnings (not to exceed $58,000 for 2021).
Contact us if you have any questions about these rules in your situation. Keep in mind that some of the rules about employing children may change from year to year and may require your income-shifting strategies to change too.
The statement of cash flows essentially tells you about cash entering and leaving a business. It’s arguably the most misunderstood and underappreciated part of a company’s annual report. After all, a business that reports positive net income on its income statements sometimes doesn’t have enough cash in the bank to pay its bills. Reviewing the statement of cash flows can provide significant insight into a company’s financial health and long-term viability.
Under Generally Accepted Accounting Principles (GAAP), the statement of cash flows is typically organized into three sections:
1. Cash flows from operations. This section focuses on cash flows from selling products and services. It customarily starts with accrual-basis net income. Then it’s adjusted for items related to normal business operations, such as:
The end result is cash-basis net income. Companies that report several successive years of negative operating cash flows may be better off closing than continuing to incur losses.
2. Cash flows from investing activities. If a company buys or sells property, equipment or marketable securities, the transaction generally shows up here. This section reveals whether a company is reinvesting in its future operations — or divesting assets for emergency funds.
3. Cash flows from financing activities. This section shows cash flows from raising, borrowing and repaying capital. It highlights the company’s ability to obtain cash from lenders and investors, including:
Capital leases and noncash transactions are reported in a separate schedule at the bottom of the statement of cash flows or in a narrative footnote disclosure. For example, if a borrower purchases equipment directly using loan proceeds, the transaction would typically appear at the bottom of the statement, rather than as a cash outflow from investing activities and an inflow from financing activities.
In addition, U.S. companies that enter into foreign currency transactions customarily report the effect of exchange rate changes as a separate item in the reconciliation of beginning and ending balances of cash and cash equivalents.
For more information
The statement of cash flows provides valuable insight about your company’s financial health. But it may not always be clear how to classify transactions. We can help you get it right.
President Biden signed the $1.9 trillion American Rescue Plan Act (ARPA) on March 11. While the new law is best known for the provisions providing relief to individuals, there are also several tax breaks and financial benefits for businesses.
Here are some of the tax highlights of the ARPA.
The Employee Retention Credit (ERC). This valuable tax credit is extended from June 30 until December 31, 2021. The ARPA continues the ERC rate of credit at 70% for this extended period of time. It also continues to allow for up to $10,000 in qualified wages for any calendar quarter. Taking into account the Consolidated Appropriations Act extension and the ARPA extension, this means an employer can potentially have up to $40,000 in qualified wages per employee through 2021.
Employer-Provided Dependent Care Assistance. In general, an eligible employee’s gross income doesn’t include amounts paid or incurred by an employer for dependent care assistance provided to the employee under a qualified dependent care assistance program (DCAP).
Previously, the amount that could be excluded from an employee’s gross income under a DCAP during a tax year wasn’t more than $5,000 ($2,500 for married individuals filing separately), subject to certain limitations. However, any contribution made by an employer to a DCAP can’t exceed the employee’s earned income or, if married, the lesser of employee’s or spouse’s earned income.
Under the ARPA, for 2021 only, the exclusion for employer-provided dependent care assistance is increased from $5,000 to $10,500 (from $2,500 to $5,250 for married individuals filing separately).
This provision is effective for tax years beginning after December 31, 2020.
Paid Sick and Family Leave Credits. Changes under the ARPA apply to amounts paid with respect to calendar quarters beginning after March 31, 2021. Among other changes, the law extends the paid sick time and paid family leave credits under the Families First Coronavirus Response Act from March 31, 2021, through September 30, 2021. It also provides that paid sick and paid family leave credits may each be increased by the employer’s share of Social Security tax (6.2%) and employer’s share of Medicare tax (1.45%) on qualified leave wages.
Grants to restaurants. Under the ARPA, eligible restaurants, food trucks, and similar businesses that provide food and drinks may receive restaurant revitalization grants from the Small Business Administration. For tax purposes, amounts received as restaurant revitalization grants aren’t included in the gross income of the person who receives the money.
These are only some of the provisions in the ARPA. There are many others that may be beneficial to your business. Contact us for more information about your situation.
Many businesses have experienced severe cash flow problems during the COVID-19 pandemic. As a result, some may have delayed or missed loan payments. Instead of filing for bankruptcy in court, delinquent debtors may reach out to lenders about restructuring their loans.
Restructuring vs. Chapter 11
Out-of-court debt restructuring is a process by which a public or private company informally renegotiates outstanding debt obligations with its creditors. The resulting agreement is legally binding, and can enable the distressed company to reduce its debt, extend maturities, alter payment terms or consolidate loans.
Debt restructuring is a far less extreme and burdensome (not to mention less expensive) alternative to filing for Chapter 11 (reorganization) bankruptcy protection. And lenders often are more receptive to a restructuring than they are with taking their chances in bankruptcy court.
Types of restructuring
There are two basic types of out-of-court debt restructuring:
1. General. This type of negotiation buys the distressed company the time needed to regain its financial footing by extending loan maturities, lowering interest rates and consolidating debt. Creditors typically prefer a general restructuring because it means they’ll receive the full amount owed, even if it’s over a longer time period.
General restructuring suits companies facing a temporary crisis — such as the sudden loss of a large customer or the departure of a key management team member — but have overall financials that are still strong. Debt structure changes can be permanent or temporary. If they’re permanent, creditors are likely to push for higher equity stakes or increased loan payments as compensation.
2. Troubled. A troubled debt restructuring requires creditors to write off a portion of the distressed company’s outstanding debt and permanently accept those losses. Typically, the creditor and debtor reach a settlement in lieu of bankruptcy.
This solution is appropriate when a company simply can’t pay its current debts at current interest rates and the only alternative is bankruptcy. Creditors may receive some compensation, however, with increased equity shares in the business or, if it’s acquired, in the merged company.
During the COVID-19 pandemic, the Financial Accounting Standards Board has received many questions about how to apply the accounting guidance on debt restructurings. So, it recently published an educational staff paper to help financially distressed borrowers work through the details.
Thinking about debt restructuring?
We are on top of the latest developments in this nuanced accounting topic. Contact us to help report restructured loans in your company’s financial statements.
A number of tax-related limits that affect businesses are annually indexed for inflation, and many have increased for 2021. Some stayed the same due to low inflation. And the deduction for business meals has doubled for this year after a new law was enacted at the end of 2020. Here’s a rundown of those that may be important to you and your business.
Social Security tax
The amount of employees’ earnings that are subject to Social Security tax is capped for 2021 at $142,800 (up from $137,700 for 2020).
Deduction for eligible business-related food and beverage expenses provided by a restaurant: 100% (up from 50%)
Other employee benefits
These are only some of the tax limits that may affect your business and additional rules may apply. If you have questions, please contact us.
Does your business need a loan? Before contacting your bank, it’s important to gather all relevant financial information to prove your business is creditworthy. By anticipating information requests, you can expedite the application process and improve your chances of approval.
Lenders love GAAP
U.S. Generally Accepted Accounting Principles (GAAP) is a collection of specific accounting rules and principles that’s regularly updated by the Financial Accounting Standards Board. Lenders generally prefer GAAP financial statements over those prepared under special purpose frameworks, such as cash- or tax-basis financial statements, because GAAP financials tend to be more transparent and consistent from one business (or reporting period) to the next.
Businesses that follow GAAP use accrual-basis reporting. That is, they record sales as earned and expenses when incurred. Under GAAP, the balance sheet also includes receivables, payables, prepaid assets and accrued expenses. These accounts generally are created only when a business uses accrual accounting.
Dig deeper with financial benchmarks
During the loan application process, lenders may also compute various financial ratios and then compare them over time or against competitors. Common benchmarks used in the underwriting process include:
Beyond the numbers
Your lenders also may want to evaluate the operations of your business. This meeting provides opportunities to perform the following due diligence procedures:
Also be prepared to explain how you intend to use the loan proceeds for future business operations. For example, you might want to expand your facilities, hire more employees or buy equipment. Or maybe you want a cushion to fund occasional working capital shortfalls.
Ready, set, apply
Need help securing a commercial loan for your business? We can be a valuable resource during the application process.
The footnotes to your company’s financial statements give investors and lenders insight into account balances, accounting practices and potential risk factors — knowledge that’s vital to making well-informed business and investment decisions. Here are four important issues that you should cover in your footnote disclosures.
1. Unreported or contingent liabilities
A company’s balance sheet might not reflect all future obligations. Detailed footnotes may reveal, for example, a potentially damaging lawsuit, an IRS inquiry or an environmental claim.
Footnotes also spell out the details of loan terms, warranties, contingent liabilities and leases. Unscrupulous managers may attempt to downplay liabilities to avoid violating loan agreements or admitting financial problems to stakeholders.
2. Related-party transactions
Companies may employ friends and relatives — or give preferential treatment to, or receive it from, related parties. It’s important that footnotes disclose all related parties with whom the company and its management team conduct business.
For example, say, a dress boutique rents retail space from the owner’s uncle at below-market rents, saving roughly $120,000 each year. If the retailer doesn’t disclose that this favorable related-party deal exists, its lenders may mistakenly believe that the business is more profitable than it really is. When the owner’s uncle unexpectedly dies — and the owner’s cousin, who inherits the real estate, raises the rent — the retailer could fall on hard times and the stakeholders could be blindsided by the undisclosed related-party risk.
3. Accounting changes
Footnotes disclose the nature and justification for a change in accounting principle, as well as how that change affects the financial statements. Valid reasons exist to change an accounting method, such as a regulatory mandate. But dishonest managers also can use accounting changes in, say, depreciation or inventory reporting methods to manipulate financial results.
4. Significant events
Disclosures may forewarn stakeholders that a company recently lost a major customer or will be subject to stricter regulatory oversight in the coming year. Footnotes disclose significant events that could materially impact future earnings or impair business value. But dishonest managers may overlook or downplay significant events to preserve the company’s credit standing.
Too much, too little or just right?
In recent years, the Financial Accounting Standards Board has been eliminating and simplifying footnote disclosures. While disclosure “overload” can be burdensome, it’s important that companies don’t cut back too much. Transparency is key to effective corporate governance.
This year, the optional standard mileage rate used to calculate the deductible costs of operating an automobile for business decreased by one-and-one-half cents, to 56 cents per mile. As a result, you might claim a lower deduction for vehicle-related expenses for 2021 than you could for 2020 or 2019. This is the second year in a row that the cents-per-mile rate has decreased.
Deducting actual expenses vs. cents-per-mile
In general, businesses can deduct the actual expenses attributable to business use of vehicles. This includes gas, oil, tires, insurance, repairs, licenses and vehicle registration fees. In addition, you can claim a depreciation allowance for the vehicle. However, in many cases, certain limits apply to depreciation write-offs on vehicles that don’t apply to other types of business assets.
The cents-per-mile rate is useful if you don’t want to keep track of actual vehicle-related expenses. With this method, you don’t have to account for all your actual expenses. However, you still must record certain information, such as the mileage for each business trip, the date and the destination.
Using the cents-per-mile rate is also popular with businesses that reimburse employees for business use of their personal vehicles. These reimbursements can help attract and retain employees who drive their personal vehicles extensively for business purposes. Why? Under current law, employees can no longer deduct unreimbursed employee business expenses, such as business mileage, on their own income tax returns.
If you do use the cents-per-mile rate, be aware that you must comply with various rules. If you don’t comply, the reimbursements could be considered taxable wages to the employees.
The 2021 rate
Beginning on January 1, 2021, the standard mileage rate for the business use of a car (van, pickup or panel truck) is 56 cents per mile. It was 57.5 cents for 2020 and 58 cents for 2019.
The business cents-per-mile rate is adjusted annually. It’s based on an annual study commissioned by the IRS about the fixed and variable costs of operating a vehicle, such as gas, maintenance, repair and depreciation. The rate partly reflects the current price of gas, which is down from a year ago. According to AAA Gas Prices, the average nationwide price of a gallon of unleaded regular gas was $2.42 recently, compared with $2.49 a year ago. Occasionally, if there’s a substantial change in average gas prices, the IRS will change the cents-per-mile rate midyear.
When this method can’t be used
There are some situations when you can’t use the cents-per-mile rate. In some cases, it partly depends on how you’ve claimed deductions for the same vehicle in the past. In other cases, it depends on if the vehicle is new to your business this year or whether you want to take advantage of certain first-year depreciation tax breaks on it.
As you can see, there are many factors to consider in deciding whether to use the mileage rate to deduct vehicle expenses. We can help if you have questions about tracking and claiming such expenses in 2021 — or claiming them on your 2020 income tax return.
Businesses and not-for-profit entities capitalize machines, furniture, buildings, and other property, plant and equipment (PPE) assets on their balance sheets. Here’s a refresher on some common questions about how to properly report these long-lived assets under U.S. Generally Accepted Accounting Principles (GAAP).
What’s included in book value?
PPE is reported on the balance sheet at historical cost. This includes the amount of cash or cash equivalents paid for an asset. Historical cost also may include costs to relocate the asset and bring it to working condition. Examples of capitalized costs include the initial purchase price, sales tax, shipping and installation costs.
Costs incurred during an asset’s construction or acquisition that can be directly traced to preparing the asset for service also should be capitalized. In addition, costs incurred to replace PPE or enhance its productivity must be capitalized. However, repairs and maintenance costs may be expensed as incurred.
GAAP doesn’t prescribe a dollar threshold for when to capitalize an asset. But, for simplicity, management may set a capitalization threshold as long as it doesn’t materially affect the financial statements. PPE below that threshold may be written off as incurred.
How long is the useful life?
Useful life is the period over which the asset is expected to contribute directly or indirectly to future cash flow. When estimating the useful life of an asset, management should consider all relevant facts and circumstances, such as:
What’s the right depreciation method?
Depreciation is meant to allocate the cost of an asset (less any salvage value) over the period it’s in use. GAAP provides the following four depreciation methods:
For simplicity, many small businesses deviate from GAAP by using the same depreciation method for tax and financial statement purposes. The IRS prescribes specific recovery periods for different categories of PPE and provides accelerated depreciation methods.
Under current tax law, instead of using the standard Modified Accelerated Cost Recovery System (MACRS) depreciation method, certain entities currently may choose to immediately deduct a qualified PPE purchase under Section 179 or the bonus depreciation program, thus minimizing taxable income in the years the asset is placed in service. The use of these accelerated depreciation methods may create a large spread between the value of PPE on the balance sheets and the assets’ fair market values.
For more information
Reporting PPE is a gray area in financial reporting that relies on subjective estimates and judgment calls by management. We can help you report these assets in a reliable, cost-effective manner.
Auditing standards require a year-end risk assessment. One potential source of risk may be a small business’s reliance on the owner and other critical members of its management team. If a so-called “key person” unexpectedly becomes incapacitated or dies, it could disrupt day-to-day operations, alarm customers, lenders and suppliers, and drain working capital reserves.
Common among small businesses
No one is indispensable. But filling the shoes of a founder, visionary or rainmaker who unexpectedly leaves a business is sometimes challenging. These risks are usually associated with small businesses, but they can also impact large multinationals.
Consider the stock price fluctuations that Apple experienced following the death of innovator Steve Jobs. Fortunately for Apple and its investors, it possessed a well-trained, innovative workforce, a backlog of groundbreaking technology and significant capital to continue to prosper. But other businesses aren’t so lucky. Some small firms take years to fully recover from the sudden loss of a key person.
Factors to consider
Does your business rely heavily on key people, or is its management team sufficiently decentralized? The answer requires an evaluation of your management team. Key people typically:
Other factors to consider include whether an individual has signed personal guarantees in relation to the business and the depth and qualification of other management team members. Generally, companies that sell products are better able to withstand the loss of a key person than are service businesses. On the other hand, a product-based company that relies heavily on technology may be at risk if a key person possesses specialized technical knowledge.
Personal relationships are also a critical factor. If customers and suppliers deal primarily with one key person and that person leaves the company, they may decide to do business with another company. It’s easier for a business to retain customer relationships when they’re spread among several people within the company.
Ways to lower your risk
Your auditor’s risk assessment can help determine accounts and issues that may require special attention during audit fieldwork. The assessment can also be used to help you shore up potential vulnerabilities.
Training and mentoring programs can help empower others to take over a key person’s responsibilities and relationships in case of death or a departure from the business. Likewise, a solid succession plan can help smooth the transition.
Also consider external replacement options. This exercise can help you understand how much it would cost to hire someone with the same knowledge, skills and business acumen as the key person. In addition, a key person life insurance policy can help the company fund a search for a replacement or weather a business interruption following the loss of a key person.
We can help
Key person risks are a real — and potentially significant — possibility, especially for small businesses with limited operating history and charismatic, innovative leaders. Contact us to help identify key people and brainstorm ways to lower the risks associated with them.
The Small Business Administration (SBA) announced that the Paycheck Protection Program (PPP) reopened the week of January 11. If you’re fortunate to get a PPP loan to help during the COVID-19 crisis (or you received one last year), you may wonder about the tax consequences.
Background on the loans
In March of 2020, the CARES Act became law. It authorized the SBA to make loans to qualified businesses under certain circumstances. The law established the PPP, which provided up to 24 weeks of cash-flow assistance through 100% federally guaranteed loans to eligible recipients. Taxpayers could apply to have the loans forgiven to the extent their proceeds were used to maintain payroll during the COVID-19 pandemic and to cover certain other expenses.
At the end of 2020, the Consolidated Appropriations Act (CAA) was enacted to provide additional relief related to COVID-19. This law includes funding for more PPP loans, including a “second draw” for businesses that received a loan last year. It also allows businesses to claim a tax deduction for the ordinary and necessary expenses paid from the proceeds of PPP loans.
Second draw loans
The CAA permits certain smaller businesses who received a PPP loan and experienced a 25% reduction in gross receipts to take a PPP second draw loan of up to $2 million.
To qualify for a second draw loan, a taxpayer must have taken out an original PPP Loan. In addition, prior PPP borrowers must now meet the following conditions to be eligible:
To be eligible for full PPP loan forgiveness, a business must generally spend at least 60% of the loan proceeds on qualifying payroll costs (including certain health care plan costs) and the remaining 40% on other qualifying expenses. These include mortgage interest, rent, utilities, eligible operations expenditures, supplier costs, worker personal protective equipment and other eligible expenses to help comply with COVID-19 health and safety guidelines or equivalent state and local guidelines.
Eligible entities include for-profit businesses, certain non-profit organizations, housing cooperatives, veterans’ organizations, tribal businesses, self-employed individuals, sole proprietors, independent contractors and small agricultural co-operatives.
Deductibility of expenses paid by PPP loans
The CARES Act didn’t address whether expenses paid with the proceeds of PPP loans could be deducted on tax returns. Last year, the IRS took the position that these expenses weren’t deductible. However, the CAA provides that expenses paid from the proceeds of PPP loans are deductible.
Cancellation of debt income
Generally, when a lender reduces or cancels debt, it results in cancellation of debt (COD) income to the debtor. However, the forgiveness of PPP debt is excluded from gross income. Your tax attributes (net operating losses, credits, capital and passive activity loss carryovers, and basis) wouldn’t generally be reduced on account of this exclusion.
This only covers the basics of applying for PPP loans, as well as the tax implications. Contact us if you have questions or if you need assistance in the PPP loan application or forgiveness process.
COVID-19 has shut down many businesses, causing widespread furloughs and layoffs. Fortunately, employers that keep workers on their payrolls are eligible for a refundable Employee Retention Tax Credit (ERTC), which was extended and enhanced in the latest law.
Background on the credit
The CARES Act, enacted in March of 2020, created the ERTC. The credit:
The Consolidated Appropriations Act, enacted December 27, 2020, extends and greatly enhances the ERTC. Under the CARES Act rules, the credit only covered wages paid between March 13, 2020, and December 31, 2020. The new law now extends the covered wage period to include the first two calendar quarters of 2021, ending on June 30, 2021.
In addition, for the first two quarters of 2021 ending on June 30, the new law increases the overall covered wage ceiling to 70% of qualified wages paid during the applicable quarter (versus 50% under the CARES Act). And it increases the per-employee covered wage ceiling to $10,000 of qualified wages paid during the applicable quarter (versus a $10,000 annual ceiling under the original rules).
Interaction with the PPP
In a change retroactive to March 12, 2020, the new law also stipulates that the employee retention credit can be claimed for qualified wages paid with proceeds from Paycheck Protection Program (PPP) loans that aren’t forgiven.
What’s more, the new law liberalizes an eligibility rule. Specifically, it expands eligibility for the credit by reducing the required year-over-year gross receipts decline from 50% to 20% and provides a safe harbor allowing employers to use prior quarter gross receipts to determine eligibility.
We can help
These are just some of the changes made to the ERTC, which rewards employers that can afford to keep workers on the payroll during the COVID-19 crisis. Contact us for more information about this tax saving opportunity.
The Consolidated Appropriations Act (CAA), signed into law on December 27, 2020, includes a variety of economic relief measures. One such measure allows certain banks and credit unions to temporarily postpone implementation of the controversial current expected credit loss (CECL) standard. Here are the details.
Updated accounting rules
The Financial Accounting Standards Board (FASB) issued Accounting Standards Update No. 2016-13, Financial Instruments — Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, in response to the financial crisis of 2007–2008. The updated CECL standard relies on estimates of probable future losses. By contrast, existing guidance relies on an incurred-loss model to recognize losses.
In general, the updated standard will require entities to recognize losses on bad loans earlier than under current U.S. Generally Accepted Accounting Principles (GAAP). Originally, it was scheduled to go into effect for most public companies in 2020.
This is the third time the CECL has been delayed. In October 2019, the FASB extended the deadlines for smaller reporting companies (SRCs) from 2021 to 2023, and for private entities and nonprofits from 2022 to 2023. In March 2020, the CARES Act gave large banks the option to delay CECL reporting by a year.
Under the CAA, large public insured depository institutions (including credit unions), bank holding companies and their affiliates have the option of postponing implementation of the CECL standard until the earlier of:
This is an extension from December 31, 2020. Many public banks have already made significant investments in systems and processes to comply with the CECL standard, and they’ve communicated with investors about the changes. So, some may choose not to take advantage of this option to delay implementation — but many banks will hold off.
Congress decided to provide a temporary reprieve from implementing the changes for a variety of reasons. Notably, the COVID-19 pandemic has created a volatile, uncertain lending environment that may result in significant credit losses for some banks.
To measure those losses, banks must forecast into the foreseeable future to predict losses over the life of a loan and immediately book those losses. But making estimates could prove challenging in today’s unprecedented market conditions. And, once a credit loss has been recognized, it generally can’t be recouped on the financial statements. Plus, there’s some concern that the CECL model would cause banks to needlessly hold more capital and curb lending when borrowers need it most.
These are uncertain times, and the FASB may feel pressure from stakeholders to provide additional relief to help companies during the COVID-19 pandemic. Contact us for the latest developments on this issue or to help implement the new CECL model.
Unfortunately, many businesses have experienced problems with collections during the COVID-19 pandemic. Accounts receivable are a major item on most companies’ balance sheets. Slow-paying — or even nonpaying — customers or clients adversely affect cash flow. Proactive measures can help identify collections issues early and remedy them before they spiral out of control.
Recognize the warning signs
To stay on top of collections, be aware of the following red flags:
Anonymous clients. Some prospective customers don’t seem to exist anywhere other than, say, a vague email address. This is a sign to move cautiously. It’s not too much to expect that even start-up businesses have some sort of online presence, a physical address, and a working email address and phone number.
Empty assurances. One warning sign is clients who ask that work on their product or service start immediately, but without providing assurances that payment will be forthcoming. In some industries, it might be common practice for suppliers to provide goods or services, and follow up with invoices later. When that’s not the case, however, consider the lack of credible assurances to be a warning sign. That’s especially true if a prospective customer is vague on the budget for a project.
Future earnings as payment. Customers who promise some portion of future earnings as payment may be legitimate. But, before you begin work, nail down the terms and decide if the potential reward compensates for the risk.
Perpetual nitpicking. A client who regularly finds fault with minor details of a project may keep it from ever getting off the ground. While clients have a right to expect the level of quality promised at the outset of a project, those who seem to continually search for reasons to criticize products or services may be using their purported dissatisfaction to avoid paying for their purchase.
Take precautionary measures
If you’re skeptical you’ll be able to collect from a customer, it’s wise to ask for a retainer or deposit up front before starting a project. You can also request progress payments while the project is in process. Additional steps that can help expedite collections include:
If you have clients that continue to withhold payment after these steps, it may be time to take legal action. When it’s necessary to pursue missing payments, persistence pays off.
Delinquent payments and write-offs can damage your company’s operations and profitability. Contact us if your business is experiencing collections issues. We can help you sort out your options.
The best choice of entity can affect your business in several ways, including the amount of your tax bill. In some cases, businesses decide to switch from one entity type to another. Although S corporations can provide substantial tax benefits over C corporations in some circumstances, there are potentially costly tax issues that you should assess before making the decision to convert from a C corporation to an S corporation.
Here are four issues to consider:
1. LIFO inventories. C corporations that use last-in, first-out (LIFO) inventories must pay tax on the benefits they derived by using LIFO if they convert to S corporations. The tax can be spread over four years. This cost must be weighed against the potential tax gains from converting to S status.
2. Built-in gains tax. Although S corporations generally aren’t subject to tax, those that were formerly C corporations are taxed on built-in gains (such as appreciated property) that the C corporation has when the S election becomes effective, if those gains are recognized within five years after the conversion. This is generally unfavorable, although there are situations where the S election still can produce a better tax result despite the built-in gains tax.
3. Passive income. S corporations that were formerly C corporations are subject to a special tax. It kicks in if their passive investment income (including dividends, interest, rents, royalties, and stock sale gains) exceeds 25% of their gross receipts, and the S corporation has accumulated earnings and profits carried over from its C corporation years. If that tax is owed for three consecutive years, the corporation’s election to be an S corporation terminates. You can avoid the tax by distributing the accumulated earnings and profits, which would be taxable to shareholders. Or you might want to avoid the tax by limiting the amount of passive income.
4. Unused losses. If your C corporation has unused net operating losses, they can’t be used to offset its income as an S corporation and can’t be passed through to shareholders. If the losses can’t be carried back to an earlier C corporation year, it will be necessary to weigh the cost of giving up the losses against the tax savings expected to be generated by the switch to S status.
When a business switches from C to S status, these are only some of the factors to consider. For example, shareholder-employees of S corporations can’t get all of the tax-free fringe benefits that are available with a C corporation. And there may be issues for shareholders who have outstanding loans from their qualified plans. These factors have to be taken into account in order to understand the implications of converting from C to S status.
If you’re interested in an entity conversion, contact us. We can explain what your options are, how they’ll affect your tax bill and some possible strategies you can use to minimize taxes.
Here are some of the key tax-related deadlines affecting businesses and other employers during the first quarter of 2021. Keep in mind that this list isn’t all-inclusive, so there may be additional deadlines that apply to you. Contact us to ensure you’re meeting all applicable deadlines and to learn more about the filing requirements.
February 1 (The usual deadline of January 31 is a Sunday)
March 1 (The usual deadline of February 28 is a Sunday)
Each year, public companies must assess the effectiveness of their internal controls over financial reporting (ICFR) under Section 404(a) of the Sarbanes-Oxley Act (SOX). In some cases, private companies should follow suit.
In addition, a public company’s independent auditors are generally required to provide an attestation report on management’s assessment of ICFR under Sec. 404(b). But some smaller entities may be exempt.
Adherence to Sec. 404(a) is required only of public companies. However, it may be recommended for some larger private companies — particularly if management is planning to go public or sell the business to a public company.
SOX adherence can make a private business more attractive to public companies, which can result in a higher sale price. Compliance with SOX can also improve the company’s reputation with investors, lenders and the public by demonstrating that its financial reporting is transparent.
Proponents of Sec. 404(b) argue that the auditor attestation requirement has led to improvements in the quality of financial reporting and have fought efforts to provide exemptions. But two exemptions are available:
SRC vs. accelerated filers
In 2018, the SEC expanded its definition of smaller reporting companies (SRCs) from companies with a public float of less than $75 million to those with a public float of less than $250 million. This change allowed nearly 1,000 more companies to qualify for the lighter set of disclosure rules available to SRCs. But, the SEC’s expanded definition of SRCs did not raise the public float thresholds for when a company qualifies as an accelerated filer.
As a result of the March 2020 changes to the exception for nonaccelerated filers, companies with public floats between $75 million and $250 million will still be subject to all of the accelerated filer requirements unless their revenues were under the $100 million revenue threshold. Many were hoping for alignment of the SRC and nonaccelerated filer categories, but the SEC decided to take a more-tailored approach.
Some smaller public companies — and large private companies considering an IPO or sale — may be unclear about the ICFR assessment and attestation requirements under SOX. Contact us for questions about the rules or for information regarding best practices in internal controls.
Are you considering replacing a car that you’re using in your business? There are several tax implications to keep in mind.
A cap on deductions
Cars are subject to more restrictive tax depreciation rules than those that apply to other depreciable assets. Under so-called “luxury auto” rules, depreciation deductions are artificially “capped.” So is the alternative Section 179 deduction that you can claim if you elect to expense (write-off in the year placed in service) all or part of the cost of a business car under the tax provision that for some assets allows expensing instead of depreciation. For example, for most cars that are subject to the caps and that are first placed in service in calendar year 2020 (including smaller trucks or vans built on a truck chassis that are treated as cars), the maximum depreciation and/or expensing deductions are:
The effect is generally to extend the number of years it takes to fully depreciate the vehicle.
The heavy SUV strategy
Because of the restrictions for cars, you might be better off from a tax standpoint if you replace your business car with a heavy sport utility vehicle (SUV), pickup or van. That’s because the caps on annual depreciation and expensing deductions for passenger automobiles don’t apply to trucks or vans (and that includes SUVs). What type of SUVs qualify? Those that are rated at more than 6,000 pounds gross (loaded) vehicle weight.
This means that in most cases you’ll be able to write off the entire cost of a new heavy SUV used entirely for business purposes as 100% bonus depreciation in the year you place it into service. And even if you elect out of bonus depreciation for the heavy SUV (which generally would apply to the entire depreciation class the SUV belongs in), you can elect to expense under Section 179 (subject to an aggregate dollar limit for all expensed assets), the cost of an SUV up to an inflation-adjusted limit ($25,900 for an SUV placed in service in tax years beginning in 2020). You’d then depreciate the remainder of the cost under the usual rules without regard to the annual caps.
The tax benefits described above are all subject to adjustment for non-business use. Also, if business use of an SUV doesn’t exceed 50% of total use, the SUV won’t be eligible for the expensing election, and would have to be depreciated on a straight-line method over a six-tax-year period.
Contact us if you’d like more information about tax breaks when you buy a heavy SUV for business.
It’s almost time for calendar-year businesses to prepare their year-end financial statements. If used correctly, these reports can be a valuable management tool. Use them in benchmarking and forecasting to be proactive, not reactive, to market changes.
Historical financial statements can be used to evaluate the company’s current performance vs. past performance or industry norms. A comprehensive benchmarking study includes the following elements:
Size. This is usually in terms of annual revenue, total assets or market share.
Growth. This shows how much the company’s size has changed from previous periods.
Liquidity. Working capital ratios help assess how easily assets can be converted into cash and whether current assets are sufficient to cover current liabilities.
Profitability. This section evaluates whether the business is making money from operations — before considering changes in working capital accounts, investments in capital expenditures and financing activities.
Turnover. Such ratios as total asset turnover (revenue divided by total assets) or inventory turnover (cost of sales divided by inventory) show how effectively the company manages its assets.
Leverage. This refers to how the company finances its operations — through debt or equity. Each has pros and cons.
No universal benchmarks apply to all types of businesses. So, it’s important to seek data sorted by industry, size and geographic location, if possible. To understand what’s normal for businesses like yours, consider such sources as trade journals, conventions or local roundtable meetings. Your accountant can also provide access to benchmarking studies they use during audits, reviews and consulting engagements.
Historical financial statements also may serve as the starting point for forecasting, which is a critical part of strategic planning. Comprehensive business plans include forecasted balance sheets, income statements and statements of cash flows.
Many items in your forecasts will be derived from revenue. For example, variable expenses and working capital accounts are often assumed to grow in tandem with revenue. Other items, such as rent and management salaries, are fixed over the short run. These items may need to increase in steps over the long run. For example, if a company is currently at (or near) full capacity, it may eventually need to expand its factory or purchase equipment to grow.
By tracking sources and uses of cash on the forecasted statement of cash flows, management can identify when cash shortfalls might happen and plan how to make up the difference. For example, the company might need to draw on its line of credit, lay off workers, reduce inventory levels or improve its collections. In turn, these changes will flow through to the company’s forecasted balance sheet.
For more information
Let’s take your financial statements to the next level! We can help you benchmark your company’s performance and create forecasts from your year-end financial statements.
If you own a business, you may wonder if you’re eligible to take the qualified business income (QBI) deduction. Sometimes this is referred to as the pass-through deduction or the Section 199A deduction.
The QBI deduction:
Taxpayers other than corporations may be entitled to a deduction of up to 20% of their QBI. For 2020, if taxable income exceeds $163,300 for single taxpayers, or $326,600 for a married couple filing jointly, the QBI deduction may be limited based on different scenarios. These include whether the taxpayer is engaged in a service-type of trade or business (such as law, accounting, health, or consulting), the amount of W-2 wages paid by the trade or business, and/or the unadjusted basis of qualified property (such as machinery and equipment) held by the trade or business.
The limitations are phased in. For example, the phase-in for 2020 applies to single filers with taxable income between $163,300 and $213,300 and joint filers with taxable income between $326,600 and $426,600.
For tax years beginning in 2021, the inflation-adjusted threshold amounts will be $164,900 for single taxpayers, and $329,800 for married couples filing jointly.
Year-end planning tip
Some taxpayers may be able to achieve significant savings with respect to this deduction, by deferring income or accelerating deductions at year end so that they come under the dollar thresholds (or be subject to a smaller phaseout of the deduction) for 2020. Depending on your business model, you also may be able to increase the deduction by increasing W-2 wages before year end. The rules are quite complex, so contact us with questions and consult with us before taking steps.
As your company plans for the coming year, management should assess your strengths, weaknesses, opportunities and threats. A SWOT analysis identifies what you’re doing right (and wrong) and what outside forces could impact performance in a positive (or negative) manner. A current assessment may be particularly insightful, because market conditions have changed significantly during the year — and some changes may be permanent.
Inventorying strengths and weaknesses
Start your analysis by identifying internal strengths and weaknesses keeping in mind the customer’s perspective. Strengths represent potential areas for boosting revenues and building value, including core competencies and competitive advantages. Examples might include a strong brand or an exceptional sales team.
It’s important to unearth the source of each strength. When strengths are largely tied to people, rather than the business itself, consider what might happen if a key person suddenly left the business. To offset key person risks, consider purchasing life insurance policies on key people, initiating noncompete agreements and implementing a formal succession plan.
Alternatively, weaknesses represent potential risks and should be minimized or eliminated. They might include low employee morale, weak internal controls, unreliable quality or a location with poor accessibility. Often weaknesses are evaluated relative to the company’s competitors.
Anticipating opportunities and threats
The next part of a SWOT analysis looks externally at what’s happening in the industry, economy and regulatory environment. Opportunities are favorable external conditions that could increase revenues and value if the company acts on them before its competitors do.
Threats are unfavorable conditions that might prevent your company from achieving its goals. They might come from the economy, technological changes, competition and government regulations, including COVID-19-related operating restrictions. The idea is to watch for and minimize existing and potential threats.
Think like an auditor
During a financial statement audit, your accountant conducts a risk assessment. That assessment can provide a meaningful starting point for your SWOT analysis. Contact us for more information.
As we approach the end of the year, it’s a good time to think about whether your business needs to buy business equipment and other depreciable property. If so, you may benefit from the Section 179 depreciation tax deduction for business property. The election provides a tax windfall to businesses, enabling them to claim immediate deductions for qualified assets, instead of taking depreciation deductions over time.
Even better, the Sec. 179 deduction isn’t the only avenue for immediate tax write-offs for qualified assets. Under the 100% bonus depreciation tax break, the entire cost of eligible assets placed in service in 2020 can be written off this year.
But to benefit for this tax year, you need to buy and place qualifying assets in service by December 31.
The Sec. 179 deduction applies to tangible personal property such as machinery and equipment purchased for use in a trade or business, and, if the taxpayer elects, qualified real property. It’s generally available on a tax year basis and is subject to a dollar limit.
The annual deduction limit is $1.04 million for tax years beginning in 2020, subject to a phaseout rule. Under the rule, the deduction is phased out (reduced) if more than a specified amount of qualifying property is placed in service during the tax year. The amount is $2.59 million for tax years beginning in 2020. (Note: Different rules apply to heavy SUVs.)
There’s also a taxable income limit. If your taxable business income is less than the dollar limit for that year, the amount for which you can make the election is limited to that taxable income. However, any amount you can’t immediately deduct is carried forward and can be deducted in later years (to the extent permitted by the applicable dollar limit, the phaseout rule, and the taxable income limit).
In addition to significantly increasing the Sec. 179 deduction, the TCJA also expanded the definition of qualifying assets to include depreciable tangible personal property used mainly in the furnishing of lodging, such as furniture and appliances.
The TCJA also expanded the definition of qualified real property to include qualified improvement property and some improvements to nonresidential real property, such as roofs; heating, ventilation and air-conditioning equipment; fire protection and alarm systems; and security systems.
What about bonus depreciation?
With bonus depreciation, businesses are allowed to deduct 100% of the cost of certain assets in the first year, rather than capitalize them on their balance sheets and gradually depreciate them. (Before the Tax Cuts and Jobs Act, you could deduct only 50% of the cost of qualified new property.)
This tax break applies to qualifying assets placed in service between September 28, 2017, and December 31, 2022 (by December 31, 2023, for certain assets with longer production periods and for aircraft). After that, the bonus depreciation percentage is reduced by 20% per year, until it’s fully phased out after 2026 (or after 2027 for certain assets described above).
Bonus depreciation is allowed for both new and used qualifying assets, which include most categories of tangible depreciable assets other than real estate.
Important: When both 100% first-year bonus depreciation and the Sec. 179 deduction are available for the same asset, it’s generally more advantageous to claim 100% bonus depreciation, because there are no limitations on it.
These favorable depreciation deductions may deliver tax-saving benefits to your business on your 2020 return. Contact us if you have questions, or you want more information about how your business can maximize the deductions.
As we wrap up 2020, year-end tax planning has never been more crucial. This year brought challenges and disruptions that significantly impacted your personal and financial situations – COVID-10, economic relief measures, new tax laws, and political shifts. Now is the time to take a closer look at your current tax strategies to make sure they are still meeting your needs and to make any last-minute steps that could save you money.
Not only does year-end planning equal fewer surprises, but many times there may be strategies (such as deferral of income, prepayment of expenses, and others) that can help you minimize your tax bill and position you for greater success.
We are here to help you take a fresh look at the health of your tax and financial well-being. Please contact us at 405.842.0028 at your earliest convenience to set up a year-end review for you and/or your business, so we can develop a customized plan.
Many businesses are closed or are limiting third-party access as COVID-19 surges across the United States. These restrictions could still be in place at year end — a time when external auditors traditionally observe physical inventory counts for calendar-year entities. Here’s how you can identify and overcome the challenges associated with inventory counts during the pandemic.
What’s expected to change?
Companies conduct manual counts at the end of the accounting period to ensure that the inventory balance reflected on their balance sheet matches what’s held on-site in raw materials, work-in-progress and finished goods. The extent to which your counting procedures will need to change during the COVID-19 crisis depends on your circumstances.
For example, you may need to make only minimal changes to protect employees and third parties, if your inventory is stored in one warehouse and requires only a small team to conduct the count. Possible safety measures might include:
In some extreme situations (for example, if local stay-at-home mandates have been issued), your management team may decide to delay or even forgo an inventory count. If you face this situation, document the reasoning for your decision and share it with your auditors, board of directors and audit committee.
Be prepared for these groups to suggest alternative ways to conduct an inventory count. They might also request that your team identify an alternate date to conduct the count. If the count date is significantly later than the financial statement date, the audit team will pay close attention to how the count differed from what’s recorded in your inventory records.
What if your auditor can’t attend a physical count?
There are several reasons your auditor might be unable to observe your physical count in person, including government restrictions and company or audit firm policies designed to mitigate the spread of COVID-19. If this happens, you and your audit team will need to devise alternate ways to gather audit evidence pertaining to your company’s inventory.
The options available depend on the accuracy and integrity of your company’s inventory records, coupled with the auditor’s previous experience and observations related to your company’s inventory counts. For example, your auditors could use the inventory balance associated with the last count they observed, coupled with subsequent sales and purchases data to roll forward and generate a new inventory balance.
Alternatively, some companies use cycle count procedures. This is a form of sampling that involves counting a small amount of inventory on a regular basis and making corrections to the inventory system. These counting methods can circumvent the need for an annual inventory count.
Technology to the rescue
If you proceed with an inventory count, don’t overlook technology and its ability to document the existence of inventory and its location. For example, those involved in the inventory count could wear body cameras with GPS capabilities, or auditors could use drones, to observe the count in real-time. Additionally, those conducting the count can refer to video footage after the fact to verify the amounts they document during the process. Contact us to discuss the best approach to verify your year-end inventory levels.
S corporations can provide tax advantages over C corporations in the right circumstances. This is true if you expect that the business will incur losses in its early years because shareholders in a C corporation generally get no tax benefit from such losses. Conversely, as an S corporation shareholder, you can deduct your percentage share of these losses on your personal tax return to the extent of your basis in the stock and any loans you personally make to the entity.
Losses that can’t be deducted because they exceed your basis are carried forward and can be deducted by you when there’s sufficient basis.
Therefore, your ability to use losses that pass through from an S corporation depends on your basis in the corporation’s stock and debt. And, basis is important for other purposes such as determining the amount of gain or loss you recognize if you sell the stock. Your basis in the corporation is adjusted to reflect various events such as distributions from the corporation, contributions you make to the corporation and the corporation’s income or loss.
Adjustments to basis
However, you may not be aware that several elections are available to an S corporation or its shareholders that can affect the basis adjustments caused by distributions and other events. Here is some information about four elections:
Contact us if you would like to go over how these elections, as well as other S corporation planning strategies, can help maximize the tax benefits of operating as an S corporation.
As year end approaches, it’s a good idea for calendar-year entities to review the guidelines for recognizing revenue and expenses. There are specific rules regarding accounting cutoffs under U.S. Generally Accepted Accounting Principles (GAAP). Strict observance of these rules is generally the safest game plan.
Companies that follow GAAP must use the accrual method of accounting, not the cash method. That means revenues and expenses must be matched to the periods in which they were earned or incurred. The end of the period serves as a “cutoff” for recognizing revenue and expenses. For a calendar-year business, the cutoff is December 31.
However, some companies may be tempted to play timing games to lower taxes or boost financial results. The temptation might be especially high in 2020, as many companies struggle during the COVID-19 pandemic.
Now or later
Test your understanding of the cutoff rules with these two hypothetical situations:
In both examples, the transactions should be reported in 2021, not 2020. In the first example, even if the customer takes the car home for the weekend, it doesn’t matter; there’s still the possibility the customer could back out of the deal. The dealership can’t report the transaction in 2020 revenue until the customer has signed the paperwork and paid for the vehicle with cash or financing.
If your financial statements are audited, your CPA will enforce strict cutoff rules — and likely reverse any items that were reported inaccurately. Audit procedures may include reviewing customer contracts and returns reported near year end. Auditors also may compare expenses as a percentage of revenues from period to period to identify timing errors. And they may vouch expenses to invoices and contracts for accuracy.
It never reflects favorably — in the eyes of investor or lenders — when auditors adjust year-end financial statements for inaccurate observation of cutoffs. Don’t give cause for others to wonder about your operations.
Timing is critical
Contact us if you need help understanding the rules on when to record revenue or expenses. We can help you comply with the rules and minimize financial statement adjustments during your audit.
Owners of closely held corporations are often interested in easily withdrawing money from their businesses at the lowest possible tax cost. The simplest way is to distribute cash as a dividend. However, a dividend distribution isn’t tax-efficient, since it’s taxable to you to the extent of your corporation’s “earnings and profits.” And it’s not deductible by the corporation.
Fortunately, there are several alternative methods that may allow you to withdraw cash from a corporation while avoiding dividend treatment. Here are five strategies to consider:
If you’re interested in discussing any of these ideas, contact us. We can help you get the most out of your corporation at the lowest tax cost.
Unfortunately, the COVID-19 pandemic has forced many businesses to shut down. If this is your situation, we’re here to assist you in any way we can, including taking care of the various tax obligations that must be met.
Of course, a business must file a final income tax return and some other related forms for the year it closes. The type of return to be filed depends on the type of business you have. Here’s a rundown of the basic requirements.
Sole Proprietorships. You’ll need to file the usual Schedule C, “Profit or Loss from Business,” with your individual return for the year you close the business. You may also need to report self-employment tax.
Partnerships. A partnership must file Form 1065, “U.S. Return of Partnership Income,” for the year it closes. You also must report capital gains and losses on Schedule D. Indicate that this is the final return and do the same on Schedules K-1, “Partner’s Share of Income, Deductions, Credits, Etc.”
All Corporations. Form 966, “Corporate Dissolution or Liquidation,” must be filed if you adopt a resolution or plan to dissolve a corporation or liquidate any of its stock.
C Corporations. File Form 1120, “U.S. Corporate Income Tax Return,” for the year you close. Report capital gains and losses on Schedule D. Indicate this is the final return.
S Corporations. File Form 1120-S, “U.S. Income Tax Return for an S Corporation” for the year of closing. Report capital gains and losses on Schedule D. The “final return” box must be checked on Schedule K-1.
All Businesses. Other forms may need to be filed to report sales of business property and asset acquisitions if you sell your business.
Employees and contract workers
If you have employees, you must pay them final wages and compensation owed, make final federal tax deposits and report employment taxes. Failure to withhold or deposit employee income, Social Security and Medicare taxes can result in full personal liability for what’s known as the Trust Fund Recovery Penalty.
If you’ve paid any contractors at least $600 during the calendar year in which you close your business, you must report those payments on Form 1099-NEC, “Nonemployee Compensation.”
Other tax issues
If your business has a retirement plan for employees, you’ll want to terminate the plan and distribute benefits to participants. There are detailed notice, funding, timing and filing requirements that must be met by a terminating plan. There are also complex requirements related to flexible spending accounts, Health Savings Accounts, and other programs for your employees.
We can assist you with many other complicated tax issues related to closing your business, including Paycheck Protection Plan (PPP) loans, the COVID-19 employee retention tax credit, employment tax deferral, debt cancellation, use of net operating losses, freeing up any remaining passive activity losses, depreciation recapture, and possible bankruptcy issues.
We can advise you on the length of time you need to keep business records. You also must cancel your Employer Identification Number (EIN) and close your IRS business account.
If your business is unable to pay all the taxes it owes, we can explain the available payment options to you. Contact us to discuss these issues and get answers to any questions.
The coming audit season might be much different than seasons of yore. As many companies continue to operate remotely during the COVID-19 pandemic, audit procedures are being adjusted accordingly. Here’s what might change as auditors work on your company’s 2020 year-end financial statements.
Eye on technology
Fortunately, when the pandemic hit, many accounting firms already had invested in staff training and technology to work remotely. For example, they were using cloud computing, remote access, videoconferencing software and drones with cameras. These technologies were intended to reduce business disruptions and costs during normal operating conditions. But they’ve also helped firms adapt while businesses are limiting face-to-face contact to prevent the spread of COVID-19.
When social distancing measures went into effect in the United States around mid-March, many calendar-year audits for 2019 were already done. As we head into the next audit season, be prepared for the possibility that most procedures — from year-end inventory observations to management inquiries and audit testing — to be performed remotely. Before the start of next year’s audit, discuss which technologies your audit team will be using to conduct inquiries, access and verify data, and perform testing procedures.
Emphasis on high-risk areas
During a remote audit, expect your accountant to target three critical areas to help minimize the risk of material misstatement:
1. Internal controls. Historically, auditors have relied on the effectiveness of a client’s controls and testing of controls. Now, they must evaluate how transactions are being processed by employees who work remotely, rather than on-site as in prior periods. Specifically, your auditor will need to consider whether modified controls have been adequately designed and put into place and whether they’re operating effectively.
2. Fraud and financial misstatement. During fieldwork, auditors interview key managers and those charged with governance about fraud risks. These inquiries are most effective when done in person, because auditors can read body language and, if more than one person is present during an interview, judge the dynamics in a room. Auditors may request video conferences to help overcome the shortcomings of inquiries done over the phone or via email.
3. Physical inventory counts. Normally, auditors go where inventory is located and observe the counting process. They also perform independent test counts and check them against the inventory records. Depending on the COVID-19 situation at the time of an audit, auditors may be unable to travel to the company’s facilities, and employees might not be there physically to perform the counts. Drones, videoconferencing and live video feeds from a warehouse’s security cameras may be suitable alternatives to on-site observations.
In some cases, audit firms may be unable to perform certain procedures remotely, due to technology limitations or insufficient access to data needed to comply with all the requirements of the auditing standards. In those situations, your auditor might decide to issue a modified audit report with scope restrictions and limitations. Contact your CPA for more information about remote auditing and possible modifications to your company’s audit report.
A conflict of interest could impair your auditor’s objectivity and integrity and potentially compromise you company’s financial statements. That’s why it’s important to identify and manage potential conflicts of interest.
What is a conflict of interest?
According to the America Institute of Certified Public Accountants (AICPA), “A conflict of interest may occur if a member performs a professional service for a client and the member or his or her firm has a relationship with another person, entity, product or service that could, in the member’s professional judgment, be viewed by the client or other appropriate parties as impairing the member’s objectivity.” Companies should be on the lookout for potential conflicts when:
Determining whether a conflict of interest exists requires an analysis of facts. Some conflicts may be obvious, while others may require in-depth scrutiny.
For example, if an auditor recommends an accounting software to an audit client and receives a commission from the software provider, a conflict of interest likely exists. Why? While the software may suit the company’s needs, the payment of a commission calls into question the auditor’s motivation in making the recommendation. That’s why the AICPA prohibits an audit firm from accepting commissions from a third party when it involves a company the firm audits.
Now consider a situation in which a company approaches an audit firm to provide assistance in a legal dispute with another company that’s an existing audit client. Here, given the inside knowledge the audit firm possesses of the company it audits, a conflict of interest likely exists. The audit firm can’t serve both parties to the lawsuit and comply with the AICPA’s ethical and professional standards.
How can auditors prevent potential conflicts?
AICPA standards require audit firms to be vigilant about avoiding potential conflicts. If a potential conflict is unearthed, audit firms have the following options:
Ask your auditors about the mechanisms the firm has put in place to identify and manage potential conflicts of interest before and during an engagement. For example, partners and staff members are usually required to complete annual compliance-related questionnaires and participate in education programs that cover conflicts of interest. Firms should monitor conflicts regularly, because circumstances may change over time, for example, due to employee turnover or M&A activity.
For more information
Conflicts of interest are one of the gray areas in auditing. But it’s an issue our firm takes seriously and proactively safeguards against. If you suspect that a conflict exists, contact us to discuss the matter and determine the most appropriate way to handle it.
Cash flow is a top concern for most businesses today. Cash flow forecasts can help you predict potential shortfalls and proactively address working capital gaps. They can also help avoid late payments, identify late-paying customers and find alternative sources of funding when cash is tight. To keep your company’s cash flow positive, consider applying these four best practices.
1. Identify peak needs
Many businesses are cyclical, and their cash flow needs may vary by month or season. Trouble can arise when an annual budget doesn’t reflect, for example, three months of peak production in the summer to fill holiday orders followed by a return to normal production in the fall.
For seasonal operations — such as homebuilders, farms, landscaping companies, recreational facilities and many nonprofits — using a one-size-fits-all approach can throw budgets off, sometimes dramatically. It’s critical to identify peak sales and production times, forecast your cash flow needs and plan accordingly.
2. Account for everything
Effective cash flow management requires anticipating and capturing every expense and incoming payment, as well as — to the greatest extent possible — the exact timing of each payable and receivable. But pinpointing exact costs and expenditures for every day of the week can be challenging.
Companies can face an array of additional costs, overruns and payment delays. Although inventorying all possible expenses can be a tedious and time-consuming exercise, it can help avoid problems down the road.
3. Seek sources of contingency funding
As your business expands or contracts, a dedicated line of credit with a bank can help meet your cash flow needs, including any periodic cash shortages. Interest rates on these credit lines can be comparatively high compared to other types of loans. So, lines of credit typically are used to cover only short-term operational costs, such as payroll and supplies. They also may require significant collateral and personal guarantees from the company’s owners.
4. Identify potential obstacles
For most companies, the biggest cash flow obstacle is slow collections from customers. Your business should invoice customers in a timely manner and offer easy, convenient ways for customers to pay (such as online bill pay). For new customers, it’s important to perform a thorough credit check to avoid delayed payments and write-offs.
Another common obstacle is poor resource management. Redundant machinery, misguided investments and oversize offices are just a few examples of poorly managed expenses and overhead that can negatively affect cash flow.
Adjusting as you grow and adapt
Your company’s cash flow needs today likely aren’t what they were three years ago — or even six months ago. And they’ll probably change as you continue to adjust to the new normal. That’s why it’s important to make cash flow forecasting an integral part of your overall business planning. We can help.
On September 30, the Financial Accounting Standards Board (FASB) finalized a rule to defer the effective date of the updated long-term insurance standard for a second time. The deferral will give insurers more time to properly implement the changes amid the COVID-19 pandemic.
Need for change
After 12 years of work, the FASB issued Accounting Standards Update (ASU) No. 2018-12, Financial Services — Insurance (Topic 944): Targeted Improvements to the Accounting for Long-Duration Contracts, in August 2018 to improve and simplify the highly complex, nuanced reporting requirements for long-term insurance policies. The rules were designed to simplify targeted areas in reporting life insurance, disability income, long-term care and annuity payouts.
Specifically, the update requires insurers to:
Under the updated guidance, insurance companies must measure updated liabilities using a standardized, market-observable discount interest rate based on the yield from an upper-medium-grade, fixed-income instrument. The method required by ASU No. 2018-12 is a more conservative approach than one used for insurance policies under existing guidance.
Requests for deferral
When the updated standard was issued, the original effective dates were fiscal years beginning after December 15, 2020, for public companies and a year later for private companies. In November 2019, the FASB postponed the standard’s effective dates from 2021 to 2022 for public companies and from 2022 to 2024 for smaller reporting companies (SRCs), private companies and not-for-profit organizations. This delay was designed to give insurance companies more time to update their software and methodology, train their staff, and conduct educational outreach to investors.
In March, the American Council of Life Insurers (ACLI), the trade organization that represents the sector, requested an additional delay, citing unprecedented challenges stemming from the COVID-19 crisis. The ACLI told the FASB that the impacts of the pandemic continue to escalate, with little clarity about how long the capital markets may persist within their current turbulent state.
During a recent meeting, the FASB voted 6-to-1 to postpone the effective date from 2022 to 2023 for large public companies and from 2024 to 2025 for other organizations.
We can help
The FASB has been sympathetic to companies that have been trying to navigate major accounting rule changes during these uncertain times. In addition to deferring the updated rules for long-term insurance contracts, the FASB in May postponed the effective dates for the updated revenue recognition and lease rules for certain entities. Contact us for more information about impending deadlines or for help implementing accounting rule changes that affect your organization.
Are you wondering if the passive activity loss rules affect business ventures you’re engaged in — or might engage in?
If the ventures are passive activities, the passive activity loss rules prevent you from deducting expenses that are generated by them in excess of their income. You can’t deduct the excess expenses (losses) against earned income or against other nonpassive income. Nonpassive income for this purpose includes interest, dividends, annuities, royalties, gains and losses from most property dispositions, and income from certain oil and gas property interests. So you can’t deduct passive losses against those income items either.
Any losses that you can’t use aren’t lost. Instead, they’re carried forward, indefinitely, to tax years in which your passive activities generate enough income to absorb the losses. To the extent your passive losses from an activity aren’t used up in this way, you’ll be allowed to use them in the tax year in which you dispose of your interest in the activity in a fully taxable transaction, or in the tax year you die.
Passive vs. material
Passive activities are trades, businesses or income-producing activities in which you don’t “materially participate.” The passive activity loss rules also apply to any items passed through to you by partnerships in which you’re a partner, or by S corporations in which you’re a shareholder. This means that any losses passed through to you by partnerships or S corporations will be treated as passive, unless the activities aren’t passive for you.
For example, let’s say that in addition to your regular professional job, you’re a limited partner in a partnership that cleans offices. Or perhaps you’re a shareholder in an S corp that operates a manufacturing business (but you don’t participate in the operations).
If you don’t materially participate in the partnership or S corporation, those activities are passive. On the other hand, if you “materially participate,” the activities aren’t passive (except for rental activities, discussed below), and the passive activity rules won’t apply to the losses. To materially participate, you must be involved in the operations on a regular, continuous and substantial basis.
The IRS uses several tests to establish material participation. Under the most frequently used test, you’re treated as materially participating in an activity if you participate in it for more than 500 hours in the tax year. While other tests require fewer hours, all the tests require you to establish how you participated and the amount of time spent. You can establish this by any reasonable means such as contemporaneous appointment books, calendars, time reports or logs.
Rental activities are automatically treated as passive, regardless of your participation. This means that, even if you materially participate in them, you can’t deduct the losses against your earned income, interest, dividends, etc. There are two important exceptions:
Contact us if you’d like to discuss how these rules apply to your business.
IRS audit rates are historically low, according to the latest data, but that’s little consolation if your return is among those selected to be examined. But with proper preparation and planning, you should fare well.
In fiscal year 2019, the IRS audited approximately 0.4% of individuals. Businesses, large corporations and high-income individuals are more likely to be audited but, overall, all types of audits are being conducted less frequently than they were a decade ago.
There’s no 100% guarantee that you won’t be picked for an audit, because some tax returns are chosen randomly. However, the best way to survive an IRS audit is to prepare for one in advance. On an ongoing basis you should systematically maintain documentation — invoices, bills, cancelled checks, receipts, or other proof — for all items to be reported on your tax returns. Keep all your records in one place. And it helps to know what might catch the attention of the IRS.
Audit hot spots
Certain types of tax-return entries are known to the IRS to involve inaccuracies so they may lead to an audit. Here are a few examples:
Certain types of deductions may be questioned by the IRS because there are strict recordkeeping requirements for them — for example, auto and travel expense deductions. In addition, an owner-employee salary that’s inordinately higher or lower than those in similar companies in his or her location can catch the IRS’s eye, especially if the business is structured as a corporation.
Responding to a letter
If you’re selected for an audit, you’ll be notified by letter. Generally, the IRS doesn’t make initial contact by phone. But if there’s no response to the letter, the agency may follow up with a call.
Many audits simply request that you mail in documentation to support certain deductions you’ve taken. Others may ask you to take receipts and other documents to a local IRS office. Only the harshest version, the field audit, requires meeting with one or more IRS auditors. (Note: Ignore unsolicited email messages about an audit. The IRS doesn’t contact people in this manner. These are scams.)
Keep in mind that the tax agency won’t demand an immediate response to a mailed notice. You’ll be informed of the discrepancies in question and given time to prepare. You’ll need to collect and organize all relevant income and expense records. If any records are missing, you’ll have to reconstruct the information as accurately as possible based on other documentation.
If the IRS chooses you for an audit, our firm can help you:
The IRS normally has three years within which to conduct an audit, and often an audit doesn’t begin until a year or more after you file a return. Don’t panic if you’re contacted by the IRS. Many audits are routine. By taking a meticulous, proactive approach to how you track, document and file your company’s tax-related information, you’ll make an audit much less painful and even decrease the chances that one will happen in the first place.
On September 17, the Financial Accounting Standards Board (FASB) issued an accounting rule that will provide more detailed information about noncash contributions charities and other not-for-profit organizations receive known as “gifts in kind.” Here are the details.
Need for change
Gifts in kind can play an important role in ensuring a charity functions effectively. They may include various goods, services and time. Examples of contributed nonfinancial assets include:
Increased scrutiny by state charity officials and legislators over how charities use and report gifts in kind prompted the FASB to beef up the disclosure requirements. Specifically, some state legislators have been concerned about the potential for charities to overvalue gifts in kind and use the figures to prop up financial information to appear more efficient than they really are. Other worries include the potential for a nonprofit to hide wasteful use of its resources.
Accounting Standards Update (ASU) 2020-07, Not-for-Profit Entities (Topic 958): Presentation and Disclosures by Not-for-Profit Entities for Contributed Nonfinancial Assets, aims to give donors better information without causing nonprofits too much cost to provide the information.
The updated standard will provide more prominent presentation of gifts in kind by requiring nonprofits to show contributed nonfinancial assets as a separate line item in the statement of activities, apart from contributions of cash and other financial assets. It also calls for enhanced disclosures about the valuation of those contributions and their use in programs and other activities.
Specifically, nonprofits will be required to split out the amount of contributed nonfinancial assets it receives by category and in footnotes to financial statements. For each category, the nonprofit will be required to disclose the following:
The new rule won’t change the recognition and measurement requirements for those assets, however.
ASU 2020-07 takes effect for annual periods after June 15, 2021, and interim periods within fiscal years after June 15, 2022. Retrospective application is required, and early application is permitted.
Contact us for more information!
Remote audit procedures can help streamline the audit process and protect the parties from health risks during the COVID-19 crisis. However, seeing people can be essential when it comes to identifying and assessing fraud risks during a financial statement audit. Virtual face-to-face meetings can be the solution.
Auditing standards require auditors to identify and assess the risks of material misstatement due to fraud and to determine overall and specific responses to those risks. Specific areas of inquiry under Clarified Statement on Auditing Standards (AU-C) Section 240, Consideration of Fraud in a Financial Statement Audit include:
In addition, auditors will inquire about management’s communications, if any, to those charged with governance about the management team’s process for identifying and responding to fraud risks, and to employees on its views on appropriate business practices and ethical behavior.
Seeing is believing
Traditionally, auditors require in-person meetings with managers and others to discuss fraud risks. That’s because a large part of uncovering fraud involves picking up on nonverbal cues of dishonesty. In a face-to-face interview, the auditor can, for example, observe signs of stress on the part of the interviewee in responding to the question.
However, during the COVID-19 pandemic, in-person meetings may give rise to safety concerns, especially if either party is an older adult or has underlying medical conditions that increase the risk for severe illness from COVID-19 (or lives with a person who’s at high risk). In-person meetings with face masks also aren’t ideal from an audit perspective, because they can muffle speech and limit the interviewer’s ability to observe facial expressions.
A videoconference can help address both of these issues. Though some people may prefer the simplicity of telephone or audioconferences, the use of up-to-date videoconferencing technology can help retain the visual benefits of in-person interviews. For example, high-definition videoconferencing equipment can allow auditors to detect slight physical changes, such as smirks, eyerolls, wrinkled brows and even beads of sweat. These nonverbal cues may be critical to assessing an interviewee’s honesty and reliability.
Evaluating fraud risks is a critical part of your auditor’s responsibilities. You can facilitate this process by anticipating the types of questions your auditor will ask and ensuring your managers and accounting personnel are all familiar with how videoconferencing technology works.
Contact us for more information!
Do you buy or lease computer software to use in your business? Do you develop computer software for use in your business, or for sale or lease to others? Then you should be aware of the complex rules that apply to determine the tax treatment of the expenses of buying, leasing or developing computer software.
Some software costs are deemed to be costs of “purchased” software, meaning software that’s either:
The entire cost of purchased software can be deducted in the year that it’s placed into service. The cases in which the costs are ineligible for this immediate write-off are the few instances in which 100% bonus depreciation or Section 179 small business expensing isn’t allowed or when a taxpayer has elected out of 100% bonus depreciation and hasn’t made the election to apply Sec. 179 expensing. In those cases, the costs are amortized over the three-year period beginning with the month in which the software is placed in service. Note that the bonus depreciation rate will begin to be phased down for property placed in service after calendar year 2022.
If you buy the software as part of a hardware purchase in which the price of the software isn’t separately stated, you must treat the software cost as part of the hardware cost. Therefore, you must depreciate the software under the same method and over the same period of years that you depreciate the hardware. Additionally, if you buy the software as part of your purchase of all or a substantial part of a business, the software must generally be amortized over 15 years.
You must deduct amounts you pay to rent leased software in the tax year they’re paid, if you’re a cash-method taxpayer, or the tax year for which the rentals are accrued, if you’re an accrual-method taxpayer. However, deductions aren’t generally permitted before the years to which the rentals are allocable. Also, if a lease involves total rentals of more than $250,000, special rules may apply.
Software developed by your business
Some software is deemed to be “developed” (designed in-house or by a contractor who isn’t at risk if the software doesn’t perform). For tax years beginning before calendar year 2022, bonus depreciation applies to developed software to the extent described above. If bonus depreciation doesn’t apply, the taxpayer can either deduct the development costs in the year paid or incurred or choose one of several alternative amortization periods over which to deduct the costs. For tax years beginning after calendar year 2021, generally the only allowable treatment will be to amortize the costs over the five-year period beginning with the midpoint of the tax year in which the expenditures are paid or incurred.
If following any of the above rules requires you to change your treatment of software costs, it will usually be necessary for you to obtain IRS consent to the change.
We can assist you in applying the tax rules for treating computer software costs in the way that is most advantageous for you!
During the COVID-19 crisis, you can’t afford to lose sight of other ongoing risk factors, such as cyberthreats, fraud, emerging competition and natural disasters. A so-called “stress test” can help reveal blind spots that threaten to disrupt your business. A comprehensive stress test requires the following three steps.
1. Identify the risks your business faces
Here are the main types of risks to consider:
If you’ve conducted a risk analysis in prior years, beware: Current risk factors may be different due to changes in market conditions, business operations and technology. For example, if your business pivoted to more online orders or remote working arrangements during the pandemic, it may now be more exposed to cyberattacks than it previously was.
2. Establish a risk management strategy
Meet with managers from all functional lines of business — including sales and marketing, human resources, operations, procurement, IT, and finance and accounting — to discuss the risks that have been identified. The goal is to improve your team’s understanding of business threats and to brainstorm ways to manage those risks.
For example, if your company operates in an area prone to natural disasters, such as earthquakes or wildfires, you should have a disaster recovery plan in place. Review copies of the disaster recovery plan and ask when it was last updated.
In addition to asking for feedback about identified risks, encourage managers to share any additional risk factors and projections regarding the potential financial impact. Their frontline experience can be eye-opening, especially during these unprecedented times.
3. Review and update your strategy
Managing risk is a continuous process. After creating your initial risk mitigation strategy, your management team should meet periodically to review whether it’s working. If it isn’t, brainstorm ways to fortify it.
For example, if your company’s disaster recovery plan has been activated recently, ask your management team to assess its effectiveness. Then consider making changes based on that assessment.
While risk is part of operating a business, some organizations are more prepared to handle the unexpected than others. To ensure your company falls into the “more prepared” category, implement a stress test. We can help you assess current risks and develop a plan that’s right for you.
The business use of websites is widespread. But surprisingly, the IRS hasn’t yet issued formal guidance on when Internet website costs can be deducted.
Fortunately, established rules that generally apply to the deductibility of business costs, and IRS guidance that applies to software costs, provide business taxpayers launching a website with some guidance as to the proper treatment of the costs.
Hardware or software?
Let’s start with the hardware you may need to operate a website. The costs involved fall under the standard rules for depreciable equipment. Specifically, once these assets are up and running, you can deduct 100% of the cost in the first year they’re placed in service (before 2023). This favorable treatment is allowed under the 100% first-year bonus depreciation break.
In later years, you can probably deduct 100% of these costs in the year the assets are placed in service under the Section 179 first-year depreciation deduction privilege. However, Sec. 179 deductions are subject to several limitations.
For tax years beginning in 2020, the maximum Sec. 179 deduction is $1.04 million, subject to a phaseout rule. Under the rule, the deduction is phased out if more than a specified amount of qualified property is placed in service during the year. The threshold amount for 2020 is $2.59 million.
There’s also a taxable income limit. Under it, your Sec. 179 deduction can’t exceed your business taxable income. In other words, Sec. 179 deductions can’t create or increase an overall tax loss. However, any Sec. 179 deduction amount that you can’t immediately deduct is carried forward and can be deducted in later years (to the extent permitted by the applicable limits).
Similar rules apply to purchased off-the-shelf software. However, software license fees are treated differently from purchased software costs for tax purposes. Payments for leased or licensed software used for your website are currently deductible as ordinary and necessary business expenses.
Was the software developed internally?
An alternative position is that your software development costs represent currently deductible research and development costs under the tax code. To qualify for this treatment, the costs must be paid or incurred by December 31, 2022.
A more conservative approach would be to capitalize the costs of internally developed software. Then you would depreciate them over 36 months.
If your website is primarily for advertising, you can also currently deduct internal website software development costs as ordinary and necessary business expenses.
Are you paying a third party?
Some companies hire third parties to set up and run their websites. In general, payments to third parties are currently deductible as ordinary and necessary business expenses.
What about before business begins?
Start-up expenses can include website development costs. Up to $5,000 of otherwise deductible expenses that are incurred before your business commences can generally be deducted in the year business commences. However, if your start-up expenses exceed $50,000, the $5,000 current deduction limit starts to be chipped away. Above this amount, you must capitalize some, or all, of your start-up expenses and amortize them over 60 months, starting with the month that business commences.
We can determine the appropriate treatment of website costs for federal income tax purposes. Contact us if you have questions or want more information.
Marketplace changes during the COVID-19 crisis have caused many companies to make major strategic shifts in their operations — and some changes are expected to be permanent. In certain cases, these pivot strategies may need to be reported under the complex discontinued operations rules under U.S. Generally Accepted Accounting Principles.
What are discontinued operations?
The scope of what’s reported as discontinued operations was narrowed by Accounting Standards Update (ASU) No. 2014-08, Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity. Since the updated guidance went into effect in 2015, the disposal of a component (including business activities) must be reported in discontinued operations only if the disposal represents a “strategic shift” that has or will have a major effect on the company’s operations and financial results.
A component comprises operations and cash flows that can be clearly distinguished, both operationally and for financial reporting purposes, from the rest of the company. It could be a reportable segment, an operating segment, a reporting unit, a subsidiary or an asset group.
Examples of a qualifying strategic shift include disposal of a major geographic area, a line of business or an equity method investment. When such a strategic shift occurs, a company must present, for each comparative period, the assets and liabilities of a disposal group that includes a discontinued operation separately in the asset and liability sections of the balance sheet.
On the income statement, the results of discontinued operations are reported separately (net of income tax) from continuing operations in both the current and comparative periods. Allocating costs between discontinued and continuing operations is often challenging because only direct costs may be associated with a discontinued operation.
What disclosures are required?
Under GAAP, companies also must provide detailed disclosures when reporting discontinued operations. The goal is to show the financial effect of such a shift to the users of the entity’s financial statements — allowing them to better understand continuing operations.
The following disclosures must be made for the periods in which the operating results of the discontinued operation are presented in the income statement:
Additional disclosures may be required if the company plans significant continuing involvement with a discontinued operation or if a disposal doesn’t qualify for discontinued operations reporting.
Today’s conditions — including shifts to work-from-home arrangements, domestic supply chains and online distribution methods — have disrupted traditional business models in many sectors of the economy. These kinds of strategic changes don’t happen often, and in-house personnel may be unfamiliar with the latest guidance when preparing your company’s year-end financial statements.
Contact us to help ensure you’re in compliance.
Here are some of the key tax-related deadlines affecting businesses and other employers during the fourth quarter of 2020. Keep in mind that this list isn’t all-inclusive, so there may be additional deadlines that apply to you. Contact us to ensure you’re meeting all applicable deadlines and to learn more about the filing requirements.
Thursday, October 15
Monday, November 2
Tuesday, November 10
Tuesday, December 15
Thursday, December 31
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Are you using your client portal this tax season? Here's a few things you should know:
It's easy to access right on your client portal homepage. Once you have completed filling out your organizer, just click 'Submit to Preparer'. Our office will then get a notification and start working on your returns! You can upload tax documents as you fill out your organizer, but there is a catch...
If you upload documents but don't click 'Submit to Preparer' we won't know that you did it! If you are not filling out a web organizer, we recommend you upload all documents via File Exchange (see below). That way, we'll know when you've uploaded a file for us to see!
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