The Super Bowl is behind us and the ground hog has seen his shadow. What’s next? For business owners with Dec. 31 close dates, it is time to think about 2007 year-end taxes. There are several points to consider when finalizing your year-end tax planning. In addition to spending time with your CPA for further year-end advice, the following are year-end tax saving strategies to consider:
Close out December 2007 with updated accounting: Having a solid understanding of your company’s financial performance and a good year-end close out is imperative to a year-end tax strategy. Vendor invoices relating to expenses incurred in late-2007 should be recorded as 2007 expenses (assuming you are on an accrual basis.) It is not all that uncommon for vendor invoices to trickle up late. Verify a proper accounts payable cut-off and commit to ensuring all 2007 expenses are booked before calling 2007 closed.
Book inventory adjustments: Be sure to make adjustments to your accounting system that reflect any write downs of inventory determined to be damaged, obsolete or missing at the end of 2007. Taking the time to conduct a year-end inventory is useless without making the proper adjustments within your accounting system. The decrease in the market value of the reduced inventory can provide your company with added deductions.
Verify a clean year-end cut-off for revenues: Without an accurate work-in-progress schedule, it is possible that invoices were generated in 2007 for work that was later completed in 2008. Double check to be sure that all revenues earned in 2008 are recorded in 2008 and were not erroneously recorded as revenue in 2007.
Review Personal Expenditures: Review all of your personal expenditures to determine whether any of them qualify as employee- or employment-related business expenses. If you have spent your personal funds on behalf of the business, you may have the business reimburse you. If you are an accrual-basis taxpayer, your right to reimbursement may be accrued as an expense for 2007. If you are a cash-basis taxpayer, you can reimburse yourself in 2008 and take a deduction in the 2008 tax year.
Book year-end employee bonuses: If your business operates on the accrual basis of accounting, you may accrue year-end bonuses to be paid to your employees. Doing so, your business will get a deduction for the bonuses in 2007 even though your employees are not paid until 2008. Keep in mind, the accrued bonuses must be paid two-and-a-half months after year end (March 15 in the case of a business with a Dec. 31 year end). If you operate on a cash basis of accounting, the bonuses must have actually been paid by the end of the year to be deducted in that year.
Consider a retirement plan contribution: If you sponsor a retirement plan, such as a pension or profit sharing plan, you can make a contribution for 2007 any time up until the time that you file your 2007 corporate income tax return. This is true whether you are a cash-basis taxpayer or an accrual-basis taxpayer. Many employers decide on the amount of their profit sharing plan contribution after they have calculated their pre-tax profit. The plan contribution will reduce that free-tax profit, perhaps down to zero.
Confirm year-end write-offs: Businesses using the accrual method of accounting are able to deduct bad debts. A business that utilizes the accrual method of accounting recognizes income when a sale is made, not when cash is collected. Therefore accounts receivable on their balance sheet that can potentially go uncollected. The key to writing off and subsequently deducting the write off of an accounts-receivable balance for tax purposes hinges on when the account becomes worthless. Proof of legal action is not required. However, you must show that you have tried to collect the debt and that future payments are unlikely.
Businesses on the cash basis do not book income until cash is collected and therefore cash-basis businesses will not have accounts receivable balances on their balance sheets. Because the cash-basis businesses do not recognize income until it is received, no tax deduction may be claimed when an account is deemed worthless due to the fact that no income for that transaction has been previously booked.
If an accrual-basis business writes off a bad debt then later receives payment on that debt, the income must be recognized when the payment is received.
Verify that all accounts deemed worthless at year-end were written off in 2007.
Section 179 depreciation: Although fixed assets must generally be depreciated, businesses can take advantage of the Section 179 deduction. This allows a business (or self-employed individual) to deduct the full amount of such purchases in the year of purchase. Consult with your CPA about Section 179 limitations as generally restrictions on asset type and total deductions change yearly.
Ask your accountant about Subchapter S Status: As you are reviewing your 2007 taxes, it is a good time to consider whether your corporation should elect Subchapter S status. Subchapter S allows a corporation to be taxed as a sole proprietor or partnership. In certain circumstances, this can provide the business owner with some tax advantages. For example, an S corporation can pay you a portion of your profits as an S corporation distribution, which is not considered compensation and is therefore not subject to the 2.9% Medicare tax. However, whether to change to or from Subchapter S status is a complicated issue. Be sure to consult with a professional tax advisor.
These points will apply differently to each business owner's situation and accounting method. Take the time to review the best strategy with a professional advisor and make the most of the year-end tax planning for your small business.
Mike Coyne, founding partner of the Cleveland-based law firm Waldheger Coyne, contributed to this article. Brandon Jacob operates Contractors Financial Opportunity LLC (www. Contractorscfo.com), a financial consulting firm that specializes in business valuations, transactional support and exit strategies. Jacob calls upon his 16 years as a CPA as well as industry insight gained as a valuation analyst and acquisition specialist in the hvacr, plumbing and electrical trades. A graduate of Texas A&M University, Jacob brings big business experience and expertise to small business owners who would otherwise never have access to such resources. To contact Jacob: Brandon@Contractorscfo.com.
Taxes: Monthly To-Do List
The Internal Revenue Service offers a detailed Small-Business Tax Calendar that highlights dates and actions. Here are a few calendar entries:
March 17, 2008:
• Corporations: File a 2007 calendar year income tax return (Form 1120 or 1120-A).
• S Corporations: File a 2007 calendar year income tax return (Form 1120-S). Provide shareholders with a copy of Sch K-1.
• S Corporation elections: File Form 2553 to choose to be treated as an S corporation beginning the calendar year 2008.
• Electing Large Partnerships: Provide each partner with a copy of Sch K-1.
March 31, 2008:
• Electronic filing of Forms W-2, W-2G, 1098, 1099, and 8027.
April 15, 2008:
• File a 2007 Form 1040, 1040-A, or 1040-EZ and pay any tax due.
• Partnerships/Electing Large Partnerships: File a 2007 calendar year return (Form 1065 or 1065-B). Provide each partner with a copy of Sch K-1.
• Corporations: Deposit the first installment of your estimated tax for 2008.
April 30, 2008:
• File Form 941 if you did not deposit all taxes when due.
• File Form 720 for the 1st quarter of 2008.
June 16, 2008:
• Corporations: Deposit the second installment of your estimated tax for 2008.
July 31, 2008:
• File Form 720 for the 2nd quarter of 2008.
• File Form 941 for the 2nd quarter of 2008.
• File Form 5500 or 5500-EZ for 2007. File Form 5558 to request extension to file Forms 5500 or 5500-EZ.
September 15, 2008:
• Corporations: File 2007 tax return and pay if you timely requested an automatic extension. Deposit third installment of your 2008 estimated tax.
• S Corporations: File 2007 tax return and pay if you timely requested an automatic extension. Deposit Payroll tax for August if the monthly deposit rule applies.
October 15, 2008:
• Partnerships: File your 2007 tax return if you were given a 6-month extension.
December 15, 2008:
• Corporations: Deposit the fourth installment of your estimated tax for 2008.
One problem many new business owners encounter is not budgeting enough money for taxes. Better to gather your records and file your tax forms by their due dates— even if you can’t pay the full amount. Even partial payments will help reduce interest and penalties accruing.
If you are still unable to pay at the next due date, continue to file your return on time to avoid the failure-to-file penalty. Attach an Installment Agreement Request (Form 9465) and propose your own monthly payment date and amount. If circumstances make it unlikely that you could pay the full tax even on an installment plan, ask for a copy of Publication 594, What You Should Know About the IRS Collection Process. This publication lists alternative methods for resolving your account.
Note: The failure-to-pay penalty may be reduced from 0.5% to 0.25% per month during the period in which an individual installment agreement is in effect. However, you must have filed on time.
Source: Internal Revenue Service, United States Department of the Treasury.
Forms, Forms and More Forms
Maintaining good payroll records is critical for the benefit of both you and your employees.
The Internal Revenue Service outlines several records with which you will need to become familiar:
Form W-4, Employee’s Withholding Allowance Certificate Ask all new employees to complete and return Form W-4 showing their filing status and how many withholding allowances are permitted. Verify the social security number with the employee’s social security card. If a new employee fails to complete and return Form W-4, withhold income tax as if he or she is single with no withholding allowances.
Form W-5, Earned Income Credit Advance Payment Certificate The earned income credit for low-income taxpayers allows eligible employees to be paid part of the credit in advance. Eligible employees who want advance payments must complete Form W-5 and submit it to you.
Withholding: Keep track of withheld Federal income tax, social security and Medicare taxes, state and local taxes, and the net amount paid to each employee (including advance earned income credit payments) during the year.
Form W-2, Wage and Tax Statement This is the annual statement you give to employees showing their earnings and withholdings for the year. Generally, you must provide the statement by Jan. 31 of the following year. Copy A of Form W-2 is due to Social Security on the last day of February, although electronic filers have until the last day of March.
Form 940, Employer’s Annual Federal Unemployment Tax Return (FUTA) Generally, Federal unemployment tax is computed on the first $7,000 of each employee’s earnings. If the FUTA tax liability is more than $500, quarterly deposits must be made. Always maintain a copy of the filed tax return.
Form 941, Employer’s Quarterly Federal Tax Return This is your quarterly report of wages paid, tip income received by the employee, income tax withheld, social security and Medicare taxes and tips, and advanced earned income credit paid to the employee. Make a copy for your records.
Form 944, Employer’s Annual Federal Tax Return In place of Form 941, this is an annual report of wages for employers whose total annual liability for income tax withheld, social security, and Medicare taxes is $1,000 or less. The IRS will notify you if you qualify to file Form 944. Make a copy for your records.
Source: Internal Revenue Service, United States Department of the Treasury.
Take Stock of Your Possessions
Over time, business equipment ages, deteriorates, or becomes obsolete. You can regain a portion of your cost for certain property by taking depreciation deductions. To claim depreciation, the property must be used in your business or income-producing activity, must have a determinable useful life of more than one year, and must be property you own. The depreciation deduction begins when you place the property in use as a business asset and ends when you retire it from service. Additionally, when the entire asset cost has been recovered before the asset is retired, depreciation will stop.
The kind of property impacts how a depreciation deduction is claimed. Property falls into two categories:
Tangible property can be seen or touched, such as buildings, cars, machinery, or equipment. If you own tangible property that you use for both personal and business purposes, you may take deductions based only on the business use portion of the property. Certain types of property may never be depreciated. For example, you may not depreciate the cost of land because it does not wear out or become obsolete. The cost of inventory does not qualify for the depreciation deduction because it will be accounted for as part of Cost of Goods Sold deduction.
Intangible property is generally any property that can’t be seen or touched, such as copyrights, franchises, and patents. Certain types of intangible property cannot be depreciated but must be amortized instead.
To see if you can claim depreciation deductions, refer to Form 4562, Depreciation and Amortization, and its instructions. You may be able to deduct all or part of the cost of certain qualifying property used in your business in the year you placed it in service by claiming a Section 179 deduction, Election to Expense Certain Business Assets.
If you acquire and place in service more than one item of qualified property during the year, you can allocate the Section 179 deduction among the items in any way, as long as the total deduction does not exceed the specified limits.
Source: Internal Revenue Service, United States Department of the Treasury.
