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:

• The asset’s expected use,
• Any legal or contractual time constraints,
• The entity’s historical experience with similar assets, and
• Obsolescence or other economic factors.

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:

1. Straight-line,
2. Sum-of-the-years-digits,
3. Units-of-production, and
4. Declining-balance.

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.

© 2021

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:

• Handle broad duties,
• Possess specialized training,
• Have extensive experience, or
• Make significant contributions to annual sales.

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.

© 2021

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:

• Employ no more than 300 employees per location,
• Have used or will use the full amount of their first PPP loan, and
• Demonstrate at least a 25% reduction in gross receipts in the first, second or third quarter of 2020 relative to the same 2019 quarter. Applications submitted on or after Jan. 1, 2021, are eligible to utilize the gross receipts from the fourth quarter of 2020.

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.

Assistance provided

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:

• • Equaled 50% of qualified employee wages paid by an eligible employer in an applicable 2020 calendar quarter,
  • Was subject to an overall wage cap of $10,000 per eligible employee, and
  • Was available to eligible large and small employers.

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.

New delay

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:

• The end of the national emergency declaration related to the COVID-19 crisis, or
• December 31, 2022.

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.

Stay tuned

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.

© 2021

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:

• Following up with a firm, but tactful, email when an invoice is overdue.
• Moving to a phone call if follow-up emails aren’t generating a response.
• Trying to contact the customer’s accounts payable staff or business manager, if previous follow-up efforts aren’t working.

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.

Need help?

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.

Other considerations

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. 

© 2020

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.

January 15

• Pay the final installment of 2020 estimated tax.
• Farmers and fishermen: Pay estimated tax for 2020.

February 1 (The usual deadline of January 31 is a Sunday)

• File 2020 Forms W-2, “Wage and Tax Statement,” with the Social Security Administration and provide copies to your employees.
• Provide copies of 2020 Forms 1099-MISC, “Miscellaneous Income,” to recipients of income from your business where required.
• File 2020 Forms 1099-MISC reporting nonemployee compensation payments in Box 7 with the IRS.
• File Form 940, “Employer’s Annual Federal Unemployment (FUTA) Tax Return,” for 2020. If your undeposited tax is $500 or less, you can either pay it with your return or deposit it. If it’s more than $500, you must deposit it. However, if you deposited the tax for the year in full and on time, you have until February 10 to file the return.
• File Form 941, “Employer’s Quarterly Federal Tax Return,” to report Medicare, Social Security and income taxes withheld in the fourth quarter of 2020. If your tax liability is less than $2,500, you can pay it in full with a timely filed return. If you deposited the tax for the quarter in full and on time, you have until February 10 to file the return. (Employers that have an estimated annual employment tax liability of $1,000 or less may be eligible to file Form 944, “Employer’s Annual Federal Tax Return.”)
• File Form 945, “Annual Return of Withheld Federal Income Tax,” for 2020 to report income tax withheld on all nonpayroll items, including backup withholding and withholding on accounts such as pensions, annuities and IRAs. If your tax liability is less than $2,500, you can pay it in full with a timely filed return. If you deposited the tax for the year in full and on time, you have until February 10 to file the return.

March 1 (The usual deadline of February 28 is a Sunday)

• File 2020 Forms 1099-MISC with the IRS if: 1) they’re not required to be filed earlier and 2) you’re filing paper copies. (Otherwise, the filing deadline is March 31.)

March 16

• If a calendar-year partnership or S corporation, file or extend your 2020 tax return and pay any tax due. If the return isn’t extended, this is also the last day to make 2020 contributions to pension and profit-sharing plans.

© 2020

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.

Assessment guidance

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.

Attestation exemptions

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:

1. The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 instructed the Securities and Exchange Commission (SEC) to permanently exempt nonaccelerated filers from Sec. 404(b). Nonaccelerated filers are defined as companies with a public float of less than $75 million on the last business day of their most recent second fiscal quarter. In March 2020, the SEC provided an additional narrow-scope exception for small reporting companies (SRCs) with a public float between $75 million to $700 million if they had annual revenues of less than $100 million in the most recent fiscal year for which audited financial statements were available.
2. The JOBS Act of 2012 gave emerging growth companies (EGCs) a five-year reprieve from compliance with Section 404(b) following an initial public offering (IPO). But if a company surpasses $1 billion in annual revenue, it will lose its EGC status sooner, after the end of the fiscal year in which it reached that milestone. EGC status also will be lost if it issues more than $1 billion in nonconvertible debt over a three-year period or reaches a public float of $700 million.

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.

Got questions?

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.

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:

• Significant inconsistencies between tax returns filed in the past and your most current tax return,
• Gross profit margin or expenses markedly different from those of other businesses in your industry, and
• Miscalculated or unusually high deductions. 

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:

• Understand what the IRS is disputing (it’s not always clear),
• Gather the specific documents and information needed, and
• Respond to the auditor’s inquiries in the most expedient and effective manner.

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.

© 2020

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:

• Fixed assets, such as land, buildings and equipment,
• The use of fixed assets or utilities,
• Materials and supplies, such as food, clothing or pharmaceuticals,
• Intangible assets, and
• Recognized contributed services.

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.

Enhanced transparency

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:

• Qualitative information about whether contributed nonfinancial assets were either monetized or used during the reporting period and, if used, a description of the programs or other activities in which those assets were used,
• The nonprofit’s policy (if any) for monetizing rather than using contributed nonfinancial assets,
• A description of any associated donor restrictions,
• A description of the valuation techniques and inputs used to arrive at a fair value measure, in accordance with the requirements in Topic 820, Fair Value Measurement, at initial recognition, and
• The principal market (or most advantageous market) used to arrive at a fair value measurement if it is a market in which the recipient nonprofit is prohibited by donor restrictions from selling or using the contributed nonfinancial asset.

The new rule won’t change the recognition and measurement requirements for those assets, however.

Coming soon

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.

Asking questions

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:

• Whether management has knowledge of any actual, suspected or alleged fraud,
• Management’s process for identifying, responding to and monitoring the fraud risks in the entity,
• The nature, extent and frequency of management’s assessment of fraud risks and the results of those assessments,
• Any specific fraud risks that management has identified or that have been brought to its attention, and
• The classes of transactions, account balances or disclosures for which a fraud risk is likely to exist.

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.

Risky business

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!

© 2020

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.

Purchased software

Some software costs are deemed to be costs of “purchased” software, meaning software that’s either:

• Non-customized software available to the general public under a non-exclusive license or
• Acquired from a contractor who is at economic risk should the software not perform. 

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.

Leased software

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.

Contact us

We can assist you in applying the tax rules for treating computer software costs in the way that is most advantageous for you!

© 2020

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:

• Operational risks (based on the inner workings of the company),
• Financial risks (involving how the company manages its finances, including the threat of fraud and the effectiveness of internal control procedures),
• Compliance risks (related to issues that might attract the attention of government regulators, such as environmental agencies and the IRS), and
• Strategic risks (regarding the company’s market focus and its ability to respond to changes in customer preferences).

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.

Need help?

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.

© 2020

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. 

Need Help?

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:

• The major classes of line items constituting the pretax profit or loss of the discontinued operation,
• Either 1) the total operating and investing cash flows of the discontinued operation, or 2) the depreciation, amortization, capital expenditures, and significant operating and investing noncash items of the discontinued operation, and
• If the discontinued operation includes a noncontrolling interest, the pretax profit or loss attributable to the parent.

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.

Unfamiliar territory

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

• If a calendar-year C corporation that filed an automatic six-month extension:
  • File a 2019 income tax return (Form 1120) and pay any tax, interest and penalties due.
  • Make contributions for 2019 to certain employer-sponsored retirement plans.

Monday, November 2

• Report income tax withholding and FICA taxes for third quarter 2020 (Form 941) and pay any tax due. (See exception below under “November 10.”)

Tuesday, November 10

• Report income tax withholding and FICA taxes for third quarter 2020 (Form 941), if you deposited on time (and in full) all of the associated taxes due.

Tuesday, December 15

• If a calendar-year C corporation, pay the fourth installment of 2020 estimated income taxes.

Thursday, December 31

• Establish a retirement plan for 2020 (generally other than a SIMPLE, a Safe-Harbor 401(k) or a SEP).

© 2020

Hyde & Company CPAs has just joined one of the world's largest exclusive network of advisers in IR Global.  Members that are a part of this exclusive network include the world's leading legal, accountancy and financial advisers, recommended exclusively by jurisdiction and practice area.  Our firm is featured as Oklahoma's sole Audit & Assurance Services firm, with Chris Toler and Nancy Hyde leading the helm.  We are excited to be a part of IR Global and are looking forward towards what is to come!

Find out more about IR Global here.​