Strategies for achieving tax savings

By |  April 10, 2017

Even as tax filing deadlines approach and pass, it is not too late to reap tax savings. In fact, now might be a good time to think about ignored or overlooked tax deductions, change an already filed tax return, pay that tax bill – all the while trying to estimate the aggregate mining operation’s 2017 tax bill.

Working toward a goal of keeping the operation’s tax bill to a legal minimum, think about the possibilities presented under the tax rules in effect for 2016. While the year-end deadline for making tax-saving transactions is long past, how those transactions are treated on the tax return can maximize tax savings. Consider the ever-present deduction for depreciation.

Cost recovery via depreciation

Depreciation is the income tax deduction that allows aggregate producers to recover the cost or other basis of property purchased during the tax year. It is an annual allowance for the deterioration or obsolescence of business property such as buildings, machinery, vehicles, furniture and equipment.

The “extenders” bill passed late in 2015, permanently set the Section 179, first-year expensing write-off at $500,000 with a $2 million overall investment limit before phase out. While there is no increase in the dollar amount of asset purchases that qualify, the investment limit for 2016 increased to $2.01 million before the phase out kicked in.

The same law change also extended the 50 percent “bonus” depreciation write-off for equipment placed in service between 2015 and 2017, with a lower percentage kicking in for an additional two years. That means an immediate write-off of 50 percent of the cost of business property placed in service during the 2016 tax year plus the regular depreciation rate on the remaining 50 percent.

In many cases, taking depreciation upfront is a great way to boost cash flow. Although depreciation can only be claimed for assets placed in service prior to the end of the tax year, claiming or ignoring depreciation write-offs should be given some thought.

Spreading the deduction over time might make sense for a startup or a quarry that expects future taxable income to be considerably higher. For instance, an aggregate business can elect out for all property within a “class.” If the operation purchases five trucks (five-year property) and $65,000 in cellphones and communications equipment (seven-year property), the choice can be made to not take bonus depreciation on the trucks, the communications gear or both. On the other hand, selecting which trucks to use the election on is a no-no.

Overlooked, neglected, misunderstood

Photo credit: free pictures of money via / CC BY

Some of the most lucrative tax deductions are also some of the most complicated. The home office deduction requires compiling multiple expenses and calculating percentages, while the deduction for automobile expenses requires extensive recordkeeping that should have begun last year. Others include repairs, domestic manufacturing, too much compensation, software and records.

Repairs: Whenever possible, repairs and maintenance expenses should be deducted immediately rather than capitalized and depreciated. The IRS issued new “repair” regulations in 2013, governing how the cost of acquiring, repairing or improving business property should be accounted for.

Small businesses lacking so-called “applicable financial statements” (AFS) can take advantage of a new de minimis safe harbor by electing to deduct smaller purchases of $500 or less per purchase or invoice. Businesses with an AFS can deduct as much as $5,000 per purchase or invoice without worrying about whether it is a repair or should be capitalized. Small businesses with gross receipts of $10 million or less can also take advantage of a safe harbor for repairs, maintenance and improvements to eligible buildings.

Domestic manufacturing: Often overlooked is a special provision in our tax law – Section 199 – that is sometimes referred to as the “domestic manufacturing deduction,” or “U.S. production activities deduction.” It allows businesses to claim a deduction of 9 percent of their income from qualified production activities under a complex calculation. In no event can the deduction exceed 50 percent of the W-2 wages paid by the business.

The law defines “domestic production activities” to include mining, oil extraction, farming, construction, architecture, engineering and the production of software, recordings and films. Although this deduction is often thought to be limited to the traditional manufacturing industry, it may be available to a wider segment of businesses. It can even be claimed for products only partially in produced in the U.S. Thanks to a “safe harbor” in the regulations, manufacturing activities performed in the U.S. that account for 20 percent of costs may be eligible for this deduction.

Every aggregate producer should consider this unique production and manufacturing deduction. Now is a good time to weigh its benefit against the cost of calculating and supporting it.

Too much compensation: Over the years, the U.S. Treasury Department has ruled that S corporations were required to pay the operation’s owner a reasonable salary as compensation for the services they perform. In addition, that reasonable salary is subject to self-employment tax.

Software: As a general rule, software purchased for an aggregate business must be depreciated over a 36-month period with some exceptions. When software comes with a computer and its cost is not separately stated, the software is treated as part of the hardware and is depreciated over a five-year period. Under Section 179, many aggregate producers can write off an entire computer system, including bundled software, in the first year if the total cost falls within Section 179 annual first-year expensing regulations.

Records: Documenting all business expenses is generally the biggest chore when preparing and filing income tax returns and reports. While the IRS doesn’t usually require receipts for expenses of less than $75, our tax rules do require many expenses be documented – a chore that can mean ensuring there are receipts for every single paper clip and no overlooked write-offs.

Extending the pain

Businesses that have tried but can’t get their taxes prepared by the filing deadline can file Form 4868, Application for Automatic Extension of Time to File U.S. Individual Income Tax Return or use an online service. The IRS will automatically grant extensions of as much as six months to file taxes. Remember, the tax extension provides more time to file the aggregate operation’s tax returns but not more time to pay the tax bill or a good estimate of the final tab.

An IOU for the IRS

Although the last bill anyone should ignore is a tax bill, many aggregate businesses and their owners might choose to ignore it. Fortunately, there are payment extensions and installment payment arrangements to keep the IRS from instituting its collection process (such as liens and property seizures) against the business or its owners.

In general, there are three penalties:
◾ The Failure to File Penalty accrues at a rate of 5 percent per month or part of a month to a maximum of 25 percent, reached after five months;
◾ The Failure to Pay Penalty accrues at a rate of only 0.5 percent per month or part of a month to a maximum of 25 percent reached after 50 months; and
◾ Interest is charged on all late payments.

Many aggregate producers have discovered that the rate of interest that would be paid to a family member or even to a bank is less overall than that which would have to be paid to the IRS for unpaid taxes, penalties and interest.

Similarly, there are advantages to paying taxes by credit card, including the fact that it is convenient. However, credit card loans are likely to carry high rates of interest, and that interest is not tax deductible.

Under some circumstances, procrastination might be advisable. A short-term extension may be arranged that gives an aggregate producer up to 120 days to pay. No fee is charged, but the late-payment penalty plus interest will apply.

The IRS accepts installment payments for some tax debts. Generally, the IRS allows taxpayers to make installment payments on the taxes owed if it amounts to $25,000 or less. Payment plans exist for when more than $25,000 is due, but the IRS must first determine eligibility.

An “offer-in-compromise” has allowed many aggregate producers to settle their tax debts for a fraction of face value. Many producers able to demonstrate “reasonable cause” have been surprised to learn penalties are often forgiven by the IRS. The IRS determines if reasonable cause exists by considering all the facts and circumstances.

No aggregate producer, business or owner should let an inability to pay their tax liability in full restrict them from filing all tax returns on time. It is also important to remember that an extension of time to file the tax returns does not extend the time to pay the tax bill.

Changing your mind

It doesn’t take an experienced business owner to know that mistakes are inevitable. Fortunately, a combination of unique tax write-offs and strategies can help any business avoid potential pitfalls and make any of the changes necessary to keep the operation clear of the regulators and tax authorities, all the while growing the operation’s profitability.

The IRS encourages correcting or amending a tax return because of errors, omissions, mistakes, overlooked deductions or changes in our tax laws. Although few taxpayers amend their returns to report additional income, changing other items on filed tax returns can mean substantial savings.

Generally, an aggregate producer can change its mind about previously reported income and deductions within three years from the time the return was filed or within two years from the time the tax was fully paid. If the refund claim involves the deductibility of bad debts or worthless securities, the period is seven years.

Individuals and sole proprietors use the IRS’ Form 1040X, Amended Individual Tax Return. A corporation that filed Form 1120 uses Form 1120X, Amended U.S. Corporation Income Tax Return, to file an amended return, while S corporations and partnerships check a box on the Form 1120S or Form 1065.

Guessing future tax bills

And don’t forget that Uncle Sam, in the form of the IRS, demands each taxpayer and business required to pay taxes “guess” their income for the coming year and make installment payments on that estimated tax bill over the course of the year. Unfortunately after the tax bill for the year has been estimated and payments computed, changes in income, adjustments, deductions, credits or exemptions may make it necessary to refigure the estimated tax installment.

Should an incorporated aggregate business figure and deposit its estimated tax for the period only to find that its total tax liability for the year will be more or less than originally estimated, refiguring any remaining estimated payments will be necessary, especially if an overpayment might result. An immediate catch-up payment should be made to reduce any penalty that might result from underpaying either earlier or remaining installments.

Proposed and promised

In his campaign, President Trump highlighted several tax goals that included reducing the official corporate tax from its present rate of 35 percent to 15 percent. In addition, the president would like to see the top individual tax rate at 33 percent, down from 39.6 percent.

President Trump’s campaign promise to work with Congress to introduce broader legislative measures within the first 100 days of his administration included the following:

Middle Class Tax Relief And Simplification Act. An economic plan designed to grow the economy 4 percent per year and create at least 25 million new jobs through massive tax reduction and simplification, along with trade reform, regulatory relief and lifting the restrictions on American energy. The business rate would be lowered from 35 percent to 15 percent, and the trillions of dollars of American corporate money overseas could be brought to a 10 percent rate.
End The Offshoring Act. Establishes tariffs to discourage companies from laying off workers in order to relocate in other countries and ship their products back to the U.S. tax-free.
American Energy & Infrastructure Act. This would leverage public-private partnerships, and private investments using tax incentives, to spur $1 trillion in infrastructure investment over 10 years.

Congress proposes

Under the new Congress, it’s more than likely that President Trump’s proposals will be incorporated into a host of other changes. Most likely, when Congress undertakes the 2018 budget this spring, the process will include:
◾ Creating a new business rate for small businesses that are organized as sole proprietorships or pass-through entities instead of taxing them at individual rates;
◾ Reducing the corporate tax rate to 20 percent;
◾ Providing for immediate expensing of the cost of business investments;
◾ Allowing interest expense to be deducted only against interest income, with any net interest expense carried forward and allowed as a deduction against net interest income in future years (with special rules that will apply for financial services companies);
◾ Allowing net operating losses (NOLs) to be carried forward indefinitely and increased by an interest factor, and eliminating NOL carrybacks;
◾ Retaining the research credit (but evaluating options to make it more effective);
◾ Eliminating certain special interest deductions and credits; and
◾ Shifting to a territorial tax system.

Although tax planning should be a year-round strategy with year-end planning a good backup, even as the tax filing deadlines come and go, it is not too late to reap tax savings. Whether this is accomplished with year-end tax planning, last-minute tax strategies or changes occurring after the returns are filed, doesn’t matter. After all, the goal with all tax-related moves should be to pay every aggregate producer’s fair share of taxes, and not a dollar more.

Now might also be a good time to seek professional advice and help with any of these strategies.

Mark E. Battersby is a freelance writer who has specialized in taxes and finance for the past 25 years.

Comments are closed