business tax strategies in the new tax environment

BUSINESS TAX

STRATEGIES IN

THE NEW TAX

ENVIRONMENT

The Impact of

Tax Cuts and Jobs Act (TCJA)

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PRESENTERS:

PHOTO

Dan FalesShareholder

PHOTO

Tony SchweierShareholder

Agenda

• Change in Entity Structure

• Section 199A – Qualified Business Income

Deduction

• Leasehold Improvement Depreciation Issue

• Limitation on Excess Business Losses for

Non-Corporate Taxpayers

• International Changes

• Entertainment Expenses

• Opportunity Zones

• Investor Incentives at a Glance

• Qualified Opportunity Fund

• Qualified Opportunity Zone

Temporary

Provisions

It is important to note that the

Tax Cuts and Jobs Act has

sunset dates on many of its

provisions. Most sunset at the

end of 2025.

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New Corporate

Tax Rate

The TCJA changes the “C”

corporate tax rate to a flat 21%.

Corporate AMT is repealed.

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Change in Entity Structure?A variety of factors affect the decision by an individual to hold a business as a

corporation or a partnership (or other flow-through entity) including (i) the fact that the

income of a corporation is taxed twice (once at the corporate level and then again upon

a distribution by the corporation or a sale of the stock of the corporation), (ii) the relative

tax rates imposed on various types of income received by corporations and individuals,

(iii) the fact that it is generally not possible to remove appreciated assets from a

corporation without triggering tax on those assets, (iv) the tax consequences resulting

from a sale of the business, (v) the application of employment-related taxes and the so-

called Medicare tax under Section 1411, and (vi) the possibility of future changes in law

(including tax rates).

Our expectation is that these changes in rates will not fundamentally change an

individual’s determination in deciding whether to hold a business as a corporation or a

partnership (or other flow-through entity).

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S Corporation vs C Corporation

S Corporation C Corporation

Taxable Income 1,000,000$ 1,000,000$

State and Local Income Tax Non-Deductible 45,000$ -$

1,045,000$ 1,000,000$

199A Deduction 200,000$ -$

845,000$ 1,000,000$

Federal Tax at 37% 312,650$

Federal Tax at 21% 210,000$

Federal Tax on Ordinary Dividend (20%) -$ 158,000$

Federal Tax for ACA(3.8%) -$ 30,020$

Projected after tax Cash Flow 642,350$ 601,980$

Effective Tax Rate 35.77% 39.80%

NOTE: Your stock basis is increased by undistributed S corporation earnings but not if you own a C corporation.

Small Business

Deduction Limitation

Threshold amount means $315,000 if filing

joint ($157,500 single) of taxable income. If

you are below the threshold you get the

deduction without limitation.

If you are over the threshold the deduction

phases out for certain specified businesses.

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Section 199A – Qualified

Business Income Deduction

Proposed Regulations under IRC §199A were issued by TreasuryThe First Set of Guidance after Enactment(We’re hoping to get more in January of 2019!)

Six Proposed Regulations:

Prop. Reg. §1.199A-1 Operational Rules (includes defining terms)

Prop. Reg. §1.199A-2 Determination of W-2 Wages and UBIA of Qual. Prop.

Prop. Reg. §1.199A-3 Qualified Business Income (QBI), Qual. REIT Div and Qual. PTP Inc.

Prop. Reg. §1.199A-4 Aggregation Rules

Prop. Reg. §1.199A-5 Specified Service Trade or Business

Prop. Reg. §1.199A-6 Special Rules for Relevant Passthrough Entity (RPE)(Think partnerships and S corporations)

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Key Aspects of Prop. Reg. §1.199A-1 [The operational rules]

Define a lot of key terms for purposes of calculating the 20% deduction.

Also, specifically lays out the calculation for computations for individuals and trusts below the threshold amount, Prop. Reg. §1.199A-1(c), and for individuals and trusts above the threshold amount, Prop. Reg. §1.199A-1(d).

One major term applicable to the 20% deduction is the term “trade or business.”A lot of time will be spent with clients discussing what is a trade or business. As the preamble to the proposed regulations states:

“Neither the statutory text of section 199A nor the legislative history provides a definition of trade or business for purposes of section 199A.”

The proposed regulations will use the definition of trade or business as defined under IRC §162 – which itself is not a model of clarity.

IMPORTANT: an individual can have multiple trades or businesses under the IRC!!!14



Additional Key Aspects of Prop. Reg. §1.199A-1 [Operational Aspects]

An individual is required to calculate the net Qualified Business Income (QBI) from each separate trade or business and then NET THE AMOUNTS OF ALL QBIs of the individual.

If there is a net loss from aggregate QBIs for a taxable year then the net loss is treated as a carryover to the next taxable year.

Another watch out as your looking at year-end tax calculations – the proposed regulations provide that the 199A deduction does not reduce your self-employment income under IRC §1402!

Adjusts the penalty for underpayment of tax under IRC §6662 for erroneous 199A deductions. The penalty threshold amount is reduced from the general rule of omitting 10% the tax due to 5% if the reduction is related to 199A.

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Prop. Reg. §1.199A-5 – Specified Service Trade or Businesses[What we were all waiting for!][But didn’t quite get….]

The general rule – “unless an exception applies, if a trade or business is an SSTB, none of its items are to be taken into account for purposes of determining a taxpayer’s QBI.”

This general rule must also be looked at for partnerships and S corporations. The reporting rules under Prop. Reg. §1.199A-6(b)(3) require the partnership or S corporation to make the determination as to whether its respective income is that of a SSTB and disclose this to the partners or S corporation shareholders.

The biggest exception – individuals and trusts with income below the threshold amounts are not subject to the restrictions imposed on SSTBs.

The biggest left unknown…..CONSULTING!

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“Expensing”

of Capital

Investments

The Tax Cuts and Jobs Act allows

businesses to immediately write off (or

“expense”) the cost of new investments in

depreciable assets other than structures

made after September 27, 2017, for the

next five years. This policy represents an

unprecedented level of expensing with

respect to the duration and scope of

eligible assets.

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Limitations on

Immediate Expensing

The law on immediate expensing has an

interplay with the new interest expense limitation

rules. If a real estate business wants to avoid

being subject to the interest expense limitation

rules then it makes an election to do so and in

making such an election the business gives up

the ability to immediately expense assets.

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Leasehold Improvement

Depreciation Issue1. On December 22, 2017, the President signed into

law tax legislation commonly referred to as the

Tax Cuts and Jobs Act (the "New Act"). The New

Act was rushed through Congress in record time,

the result of which is that dozens of drafting

errors, oversights, and disconnects have been

discovered in the few months following its general

effective date of January 1, 2018.

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Depreciation Issue2. One of the most glaring errors relates to the period over which

various tenant improvements – can be depreciated under the New

Act. Prior to the enactment of the New Act, qualifying tenant

improvements could be depreciated over a period of 15 years. In

what was intended to be a simplification of the depreciation rules,

various forms of tenant improvements were combined in the New Act

into a single category of "qualified improvement property" or "QIP,"

which was intended to be eligible for a 15-year depreciation life.

However, due to what appears to be a drafting oversight, the New Act

was drafted without the language necessary to include QIP among

property eligible for a 15-year depreciation life, and thus it remains

subject to a 39-year depreciation life. This also means that QIP is not

eligible for 100% bonus depreciation under the New Act, which is only

available for property with a depreciable life of 20 years or shorter.

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Depreciation IssueThe New Act

3. Prior to the New Act, the following types of tenant improvements were

depreciable over a 15-year life (regardless of the term of the lease

and regardless of which party "owned" the improvements): (i)

qualified leasehold improvements, (ii) qualified retail improvement

property, and (iii) qualified restaurant property. Each of these assets

was defined in old Section 168(e)(6), (7) and (8) of the Internal

Revenue Code as it existed prior to the New Act. Each of these

categories of improvements was eliminated in the New Act. The only

remaining category of tenant improvements is "qualified improvement

property," defined in new Code Section 168(e)(6). The only

requirements for this category of improvements are: (i) an

improvement made to the interior portion of a nonresidential building,

and (ii) placement in service after the date the building is first placed

in service.

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Depreciation Issue4. While it is clear that the intent of Congress was a simplification of the

various tenant improvement categories into a single category of

qualified improvement property that would continue to be eligible for

depreciation over 15 years, the actual language of the statute does

not achieve the intended result-the link that would have allowed

qualified improvement property to be depreciated over 15 years was

overlooked and never inserted into the New Act. The result is that QIP

remains depreciable over 39 years.

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Business Interest

Deduction Limitation*1. Taxpayer's deduction of interest expense shall be limited

to 30% of adjusted taxable income for the taxable year.

2. Adjusted taxable income is EBITDA without including any

interest income, dividends or capital gains/losses. For tax years

beginning on or after January 1, 2022 adjusted taxable income

shall be EBIT.

3. Excess Business Interest (EBI) passes out to each

partner/shareholder and is deductible on their individual

return when they have Excess Taxable Income (ETI) from the

business.

*(only applies to companies with annual gross receipts in excess

of $25 million.)

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Electing Real Property

Trade or BusinessAn electing real property trade or business is a

business engaged in real property development,

redevelopment, construction, reconstruction,

acquisition, conversion, rental, operation,

management, leasing or brokerage.

Why is this distinction important?

If a real property trade or business makes the

election out of the interest expense limitation rule

then it cannot use the immediate expensing rules

and in fact has to depreciate its assets over

longer ADS depreciable lines.25

Limitation on Excess

Business Losses for Non-

Corporate Taxpayers

1. The law provides that the "Excess Business Loss"

of a non-corporate taxpayer is non-deductible in

the year it arises and becomes part of taxpayer's

NOL carryforward.

2. An excess business loss means a business loss in

excess of $500,000 (on a joint return).

3. The excess business loss rules are applied

only after applying Section 469.

4. An NOL resulting from an excess business loss

limitation is taken into account for purposes of the

determination of QBI in the year the NOL is used.

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Limitation on Excess

Business Losses for Non-

Corporate Taxpayers

5. The new law made following changes to NOL rules:

A) Eliminates carrybacks of NOLs

B) Limits the deduction of NOL carryovers to lessor

of carryover amount or 80% of taxable income

for the year

C) Eliminates 20-year cap on NOL carryovers

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International

International Changes in

General

• Moved from worldwide taxation regime to

territorial system with base erosion provisions

• 100% of foreign – sourced portion of

dividends paid by foreign corporation to U.S.

corporate shareholder owning 10% or more

of foreign corporation’s stock is exempt from

U.S. taxation

• No foreign tax credit or deduction allowed for

any foreign taxes paid or accrued on any

exempt dividend

• Untaxed accumulated foreign earnings

subject to one-time repatriation tax

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New Concepts

• Dividends Received Deduction

• Deemed Repatriation Tax

• Global Intangible Low-Taxed Income

(GILTI)

• Foreign-Derived Intangible Income (FDII)

• Base Erosion Anti-abuse Tax (BEAT)

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Global Intangible Low-Taxed

Income (GILTI)

• Applies to ALL U.S. shareholders, including noncorporate

shareholders

• Exception to new foreign dividends received deduction

exemption regime on foreign income earned by controlled

foreign corporation (CFC) offshored intangible assets

• GILTI rules use residual concept whereby perceived

excessive foreign profits are presumed to be derived from

intangible assets

• “Excess” income taxed at ordinary rates (21% for

corporations; 37% individuals)

• C corporations entitled to deduction

• Foreign tax credit offset available

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Entertainment

Expenses

The TCJA disallows deductions for

entertainment, amusement or recreation

activities under all circumstances. It would also

disallow transportation fringe benefits, benefits

in form of on-premises gym/athletic facilities or

for any personal amenities not directly related

to employer’s trade or business.

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Meals and Entertainment Changes Under Tax Reform

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2017 Expenses (Old Rules) 2018 Expenses (New Rules)

Office Holiday Parties

100% Deductible 100% Deductible

Entertaining Clients 50% Deductible Meals – 50% deductible

Event tickets, 50% deductible for face value of ticket; anything above face value is non-deductible

Tickets to qualified charitable events are 100% deductible

No deduction for entertainment expenses

Employee Travel Meals

50% Deductible 50% Deductible

Meals Provided for Convenience of

Employer

100% deductible provided they are excludible from employees’ gross income as de minimis fringe beneftis; otherwise, 50% deductible

50% Deductible (nondeductible after 2025)

Opportunity ZonesBackground

• The Opportunity Zones Program is based on a concept

developed by the Economic Innovation Group in 2015 to help

address persistent poverty and lack of businesses and jobs in

distressed communities

• Also a recognition that there are billions of dollars in

unrealized capital gains in stocks and mutual funds

• Original bill introduced in early 2017 with bipartisan support

as an effort to tap the unrealized gains for investments in

distressed communities

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Opportunity ZonesBackground

• The bill was included as part of the Tax Cuts and Jobs Act of 2017 enacted

December 22, 2017 and codified as new Code Sections 1400Z-1 and 1400Z-

2, and seeks to encourage economic growth and investment in designated

communities by providing federal income tax benefits to taxpayers who invest

in businesses located within the zones.

• Section 1400Z-1 provides for the designation of certain low-income

communities as qualified opportunity zones

• Section 1400Z-2 provides certain tax benefits for investments in these

qualified opportunity zones through investments in qualified opportunity

funds

• Until 10 days ago, there was only the statute and legislative history, with

limited IRS input, to provide guidance as to how these investments work

• On October 19, 2018, the IRS released proposed regulations, a revenue

ruling, updated FAQ's and a draft of a QOF certification form

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Investor Incentives

At a Glance

Temporary Tax Deferral

• Capital gains from the sale of assets can be

deferred until December 31, 2026 or the sale

of the new investment, whichever is earlier

Step-up In Basis

• After a 5-year hold we get to exclude 10%

of the original capital gain

• After a 7-year hold we exclude an

additional 5% - 15% total

Permanent Gain Elimination

• After a 10-year hold, investors get to

permanently exclude any capital gains tax

on the post-acquisition gains

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TIMELINE

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Comparison to1031 Exchange

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• An investment vehicle organized as a corporation or

partnership formed for the purpose of investing in

qualified opportunity zone property (other than another

QOF)

• Proposed regulations clarify that a taxpayer classified

as a corporation or partnership for tax purposes

(such as a limited liability company) may be a QOF

• Organizational documents should include a statement

of the entity’s purpose of investing in QOZ Property

• A QOF must file Form 8996 for the partnership or

corporation to self-certify that it is a QOF. On the Form

8996, the QOF must identify the first taxable year that it

intends to be a QOF, and may identify the first month.

Qualified Opportunity Fund

(QOF)

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• A QOF must hold at least 90% of its assets in

qualified opportunity zone property (“QOZP”)

• Generally, this is determined by the average

of the percentage of QOZP held on the last

day of the first 6 month period of the QOF’s

taxable year and the last day of QOF’s

taxable year

• A penalty is imposed for failing to meet 90%

investment standard

• Proposed regulations have provided

guidance on how to use the testing dates

• The investment in the QOF must be an equity

interest

Qualified Opportunity Fund

(QOF)

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• Qualified Opportunity Zone Stock

• Qualified Opportunity Zone

Partnership Interest

• Qualified Opportunity Zone Business

Property

Qualified Opportunity

Zone Property

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• Must be acquired after December 31, 2017

• Must be a QOZ Business, or is being organized to

be a QOZ Business

• Must remain a QOZ Business for substantially all of

the QOF’s holding period

QOZ Stock and Partnership

Interests(ACQUIRED BY THE QOF)

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A trade or business in which substantially all of the

tangible property owned or leased by the taxpayer is QOZ

Business Property

• The proposed regulations provide that, for this

purpose only, if at least 70% of the tangible property

owned or leased is QOZ Business Property, this

substantially all requirement is satisfied.

• At least 50% of the income of the QOZ Business is

derived from the active conduct of the trade or business

in the QOZ

• A substantial portion of the intangible property of the

QOZ Business is used in the active conduct of the trade

or business in the QOZ

• Less than 5% of the aggregate adjusted basis of the

QOZ Business Property is “non-qualified financial

property” (i.e. cash, debt, stock, partnership interests)

• The QOZ Business is not a “sin“ business

QOZ Business

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• Tangible property used in a trade or business

• Acquired by purchase from an unrelated party after

December 31, 2017 (less than 20% common

ownership)

• During substantially all of the QOZ Business holding

period, substantially all of the use is in a QOZ

• Original use of the property in the QOZ commences

with the taxpayer or the taxpayer “substantially

improves” the property

• Substantial improvement during any 30-month

period after acquisition, additions to basis exceed

an amount equal to the adjusted basis of such

property at the beginning of the period

QOZ Business Property

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What we now know:

• Existing land or a building will not be treated as original use

• The value of land will be excluded when calculating whether or the fund has doubled

its basis when substantially improving QOZ Business Property

Rev. Rul. 2018-29 Facts

• QOF A purchases for $800x Property X in 2018

• Property X consists of a building (40% or $320x) previously used as a factory

erected prior to 2018 and land (60% or $480x) on which the factory building is

located

• QOF A invests additional $400x in converting the building to residential property

within a 30-month period

• Thus, QOF A has substantially improved Property X because the additions to the

basis of the building ($400x) exceed an amount equal to QOF A’s adjusted basis of

the building at the beginning of the 30-month period ($320x)

We don’t know:

• How undeveloped land & buildings with plans to be demolished will be treated for

the substantial improvement test

Original Use or Substantial Improvement

Various Credits

• The TCJA retains the Work

Opportunity Tax Credit. (WOTC)

• The TCJA retains the R & D tax

credit.

• The TCJA retains the low income

housing tax credit.

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Partnership

Technical

Termination

Repeal

The TCJA repeals IRC

§708(b)(7)(B) “Technical

Termination“ rule.

Now if there is a more than 50%

change of ownership the

partnership is deemed to

continue.

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Like-Kind

Exchanges

The TCJA limits deferral

of gain on Like-Kind

Exchanges to real

property that is not held

primarily for sale.

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Tax Rules

Affecting Specific

Industries

Special tax regimes exist to govern the tax

treatment of certain industries and sectors.

The framework will modernize these rules to

ensure that the tax code better reflects

economic reality and that such rules provide

little opportunity for tax avoidance.

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Questions



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THANK

YOU



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