Conner Ash

September 28, 2018December 19, 2018

Could a Cost Segregation Study Help You Accelerate Depreciation Deductions?

Businesses that acquire, construct or substantially improve a building — or did so in previous years — should consider a cost segregation study. It may allow you to accelerate depreciation deductions, thus reducing taxes and boosting cash flow. And the potential benefits are now even greater due to enhancements to certain depreciation-related breaks under the Tax Cuts and Jobs Act (TCJA).

Real property vs. tangible personal property

IRS rules generally allow you to depreciate commercial buildings over 39 years (27½ years for residential properties). Most times, you’ll depreciate a building’s structural components — such as walls, windows, HVAC systems, elevators, plumbing and wiring — along with the building. Personal property — such as equipment, machinery, furniture and fixtures — is eligible for accelerated depreciation, usually over five or seven years. And land improvements — fences, outdoor lighting and parking lots, for example — are depreciable over 15 years.

Too often, businesses allocate all or most of a building’s acquisition or construction costs to real property, overlooking opportunities to allocate costs to shorter-lived personal property or land improvements. In some cases — computers or furniture, for instance — the distinction between real and personal property is obvious. But often the line between the two is less clear. Items that appear to be part of a building may in fact be personal property, like removable wall and floor coverings, removable partitions, awnings and canopies, window treatments, signs and decorative lighting.

In addition, certain items that otherwise would be treated as real property may qualify as personal property if they serve more of a business function than a structural purpose. This includes reinforced flooring to support heavy manufacturing equipment, electrical or plumbing installations required to operate specialized equipment, or dedicated cooling systems for data processing rooms.

A cost segregation study combines accounting and engineering techniques to identify building costs that are properly allocable to tangible personal property rather than real property. Although the relative costs and benefits of a cost segregation study depend on your particular facts and circumstances, it can be a valuable investment.

Depreciation break enhancements

Last year’s TCJA enhances certain depreciation-related tax breaks, which may also enhance the benefits of a cost segregation study. Among other things, the act permanently increased limits on Section 179 expensing. Sec. 179 allows you to immediately deduct the entire cost of qualifying equipment or other fixed assets up to specified thresholds.

The TCJA also expanded 15-year-property treatment to apply to qualified improvement property. Previously this break was limited to qualified leasehold-improvement, retail-improvement and restaurant property. And it temporarily increased first-year bonus depreciation to 100% (from 50%).

Assess the potential savings

Cost segregation studies may yield substantial benefits, but they’re not right for every business. To find out whether a study would be worthwhile for yours, contact us for help assessing the potential tax savings.

September 27, 2018December 14, 2018

Auditing the Use of Estimates and Specialists

Complex accounting estimates — such as allowances for doubtful accounts, impairments of long-lived assets, and valuations of financial and nonfinancial assets — have been blamed for many high-profile accounting scams and financial restatements. Estimates generally involve some level of measurement uncertainty, and some may even require the use of outside specialists, such as appraisers or engineers.

As a result, examining estimates is a critical part of an audit. Companies that understand the audit process are better equipped to facilitate audit fieldwork and can communicate more effectively with their auditors. Here’s what you need to know about auditing the use of estimates as we head into next audit season.

Audit techniques

Some estimates may be easily determinable, but many are inherently complex. Auditing standards generally provide the following three approaches for substantively testing accounting estimates and fair value measurements:

1. Testing management’s process. Auditors evaluate the reasonableness and consistency of management’s assumptions, as well as test whether the underlying data is complete, accurate and relevant.
2. Developing an independent estimate. Using management’s assumptions (or alternate assumptions), auditors come up with an estimate to compare to what’s reported on the internally prepared financial statements.
3. Reviewing subsequent events or transactions. The reasonableness of estimates can be gauged by looking at events or transactions that happen after the balance sheet date but before the date of the auditor’s report.

When performing an audit, all three approaches might not necessarily be appropriate for every estimate. For each estimate, the auditor typically selects one or a combination of these approaches.

Regulatory oversight

Accounting estimates have been on the agenda of the Public Company Accounting Oversight Board (PCAOB) since it was established by Congress under the Sarbanes-Oxley Act of 2002. Although the leadership of PCAOB changed hands in early 2018, proposals to enhance the auditing standards for the use of accounting estimates and the work of specialists remain top priorities.

Earlier this summer, Chairman William Duhnke told the PCAOB’s Standard Advisory Group (SAG) that he hopes to complete these projects in the coming months. The updated auditing standards would help reduce diversity in practice, provide more-specific direction and be better aligned with the risk assessment standards.

Prepare for next audit season

Improvements on the audit standards for the use of estimates and the work of specialists could be coming soon. As companies plan for next year’s audit, they should contact their audit partners for the latest developments on the standards for auditing the use of estimates and specialists to determine what (if anything) has changed.

We can help you understand how estimates and specialists are used in the preparation of your company’s financial statements and minimize the risk of financial misstatement.

September 26, 2018December 19, 2018

2018 Q4 Tax Calendar: Key Deadlines for Businesses and Other Employers

Here are some of the key tax-related deadlines affecting businesses and other employers during the fourth quarter of 2018. 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.

October 15

If a calendar-year C corporation that filed an automatic six-month extension:
- File a 2017 income tax return (Form 1120) and pay any tax, interest and penalties due.
- Make contributions for 2017 to certain employer-sponsored retirement plans.

October 31

Report income tax withholding and FICA taxes for third quarter 2018 (Form 941) and pay any tax due. (See exception below under “November 13.”)

November 13

Report income tax withholding and FICA taxes for third quarter 2018 (Form 941), if you deposited on time and in full all of the associated taxes due.

December 17

If a calendar-year C corporation, pay the fourth installment of 2018 estimated income taxes.

September 25, 2018December 14, 2018

Consider These Financial Reporting Issues Before Going Private

Issuing stock on the public markets isn’t right for every business. Some public companies decide to delist — or “go private” — often due to the high costs of complying with the requirements of the Securities and Exchange Commission (SEC). But going private can be nearly as complex as going public, so it’s important to dot your i’s and cross your t’s.

SEC requirements

The SEC scrutinizes going-private transactions to ensure that unaffiliated shareholders are treated fairly. A company that’s going private — together with its controlling shareholders and other affiliates — must, among other requirements, file detailed disclosures pursuant to SEC Rule 13e-3.

The SEC allows a public company to deregister its equity securities when they’re held by fewer than 300 shareholders of record, or fewer than 500 shareholders of record if the company doesn’t have significant assets. Depending on the facts and circumstances, a company may no longer be required to file periodic reports with the SEC once the number of shareholders of record drops below the above thresholds.

Detailed disclosures

To comply with SEC Rule 13e-3 and Schedule 13E-3, companies executing a going-private transaction must disclose:

The purposes of the transaction, including any alternatives considered and the reasons they were rejected,
The fairness of the transaction, both substantive (price) and procedural, and
Any reports, opinions and appraisals “materially related” to the transaction.

The SEC’s rules are intended to protect shareholders, and some states even have takeover statutes to provide shareholders with dissenters’ rights. Such a transition results in a limited trading market to be able to sell the stock.

Failure to act with the utmost fairness and transparency can bring harsh consequences. SEC scrutiny can lead to costly damages awards and penalties if your company is guilty of treating minority shareholders unfairly or making misleading disclosures.

Handle with care

Companies that pursue going-private transactions should exercise extreme caution. To withstand SEC scrutiny and avoid lawsuits, it’s critical to structure these transactions in a manner that ensures transparency, procedural fairness and a fair price.

In addition to helping you comply with the SEC rules, we can evaluate whether going private can help your company reduce its compliance costs or allow it to focus on long-term goals rather than satisfying Wall Street’s demand for short-term profits.

September 24, 2018December 19, 2018

Assessing the S Corp

The S corporation business structure offers many advantages, including limited liability for owners and no double taxation (at least at the federal level). But not all businesses are eligible – and, with the new 21% flat income tax rate that now applies to C Corporations, S Corps may not be quite as attractive as they once were.

Tax comparison

The primary reason for electing S status is the combination of the limited liability of a corporation and the ability to pass corporate income, losses, deductions and credits through to shareholders. In other words, S Corps generally avoid double taxation of corporate income — once at the corporate level and again when distributed to the shareholder. Instead, S Corp tax items pass through to the shareholders’ personal returns and the shareholders pay tax at their individual income tax rates.

But now that the C Corp rate is only 21% and the top rate on qualified dividends remains at 20%, while the top individual rate is 37%, double taxation might be less of a concern. On the other hand, S Corp owners may be able to take advantage of the new qualified business income (QBI) deduction, which can be equal to as much as 20% of QBI.

You have to run the numbers with your tax advisor, factoring in state taxes, too, to determine which structure will be the most tax efficient for you and your business.

S eligibility requirements

If S Corp status makes tax sense for your business, you need to make sure you qualify – and stay qualified. To be eligible to elect to be an S Corp or to convert to S status, your business must:

Be a domestic corporation and have only one class of stock,
Have no more than 100 shareholders, and
Have only “allowable” shareholders, including individuals, certain trusts and estates. Shareholders can’t include partnerships, corporations and nonresident alien shareholders.

In addition, certain businesses are ineligible, such as insurance companies.

Reasonable compensation

Another important consideration when electing S status is shareholder compensation. The IRS is on the lookout for S corps that pay shareholder-employees an unreasonably low salary to avoid paying Social Security and Medicare taxes and then make distributions that aren’t subject to payroll taxes.

Compensation paid to a shareholder should be reasonable considering what a nonowner would be paid for a comparable position. If a shareholder’s compensation doesn’t reflect the fair market value of the services he or she provides, the IRS may reclassify a portion of distributions as unpaid wages. The company will then owe payroll taxes, interest and penalties on the reclassified wages.

Pros and cons

S Corp status isn’t the best option for every business. To ensure that you’ve considered all the pros and cons, contact us. Assessing the tax differences can be tricky — especially with the tax law changes going into effect this year.

September 21, 2018December 14, 2018

Spotlight on Auditor Independence and Hosting Arrangements

With Independence Day coming up, it’s a good time to check up on auditor independence issues. This is especially important in 2018. Why? New rules go into effect this fall that may warrant changes to the services provided by your audit firm. If you discover potential issues now, there’s still plenty of time to take corrective action before next year’s audit begins.

What’s independence?

Independence is one of the most important requirements for audit firms. It’s why investors and lenders trust CPAs to provide unbiased opinions about the presentation of a company’s financial results. The AICPA and the Securities and Exchange Commission (SEC) have rules regarding auditor independence. Even the U.S. Department of Labor has issued independence guidance for auditors of employee benefit plans.

The AICPA specifically goes to great lengths to explain how auditing firms can maintain their independence from the companies they audit. In short, auditors can’t provide any services for an audit client that would normally fall to management to complete. Auditors also can’t engage in any relationships with their clients that would compromise their objectivity, require them to audit their own work, or result in self-dealing, a conflict of interest, or advocacy.

Independence is a matter of professional judgment, but it’s something that accountants take seriously. A firm that violates the independence rules calls into question the accuracy and integrity of its client’s financial statement.

What’s changing?

Today, some businesses have chosen to host their company’s data with their audit firm. In response, the AICPA’s Professional Ethics Executive Committee announced a change to the profession’s independence rules. As of September 1, 2018, to maintain independence, auditors can’t perform any of the following services for their audit clients:

Serve as the sole host of a client’s financial or nonfinancial records.
Function as the primary custodian of a client’s data, meaning that a company must access the data in the CPA’s possession to possess a complete set of records.
Provide business continuity and disaster recovery support services.

Not all custody or control of a client’s records results in hosting services, however. The new rule narrowly interprets hosting services to mean the audit firm has accepted responsibility for maintaining internal control over data an audit client uses to run the business. Accepting responsibility to perform a management function explicitly compromises auditor independence.

Finding a host with the most

Is your audit firm responsible for managing your company’s data? If so, it may be time for a change. Data migration isn’t necessarily time consuming, but it may take time to find a new hosting company with the right balance of security and services to meet your data storage and access needs. Contact us to evaluate your hosting arrangement and, if necessary, identify an alternate provider to stay in compliance with the AICPA independence rules.

September 20, 2018December 19, 2018

An FLP Can Save Tax in a Family Business Succession

One of the biggest concerns for family business owners is succession planning — transferring ownership and control of the company to the next generation. Often, the best time tax-wise to start transferring ownership is long before the owner is ready to give up control of the business.
A family limited partnership (FLP) can help owners enjoy the tax benefits of gradually transferring ownership yet allow them to retain control of the business.

How it works

To establish an FLP, you transfer your ownership interests to a partnership in exchange for both general and limited partnership interests. You then transfer limited partnership interests to your children.

You retain the general partnership interest, which may be as little as 1% of the assets. But as general partner, you can still run day-to-day operations and make business decisions.

Tax benefits

As you transfer the FLP interests, their value is removed from your taxable estate. What’s more, the future business income and asset appreciation associated with those interests move to the next generation.

Because your children hold limited partnership interests, they have no control over the FLP, and thus no control over the business. They also can’t sell their interests without your consent or force the FLP’s liquidation.

The lack of control and lack of an outside market for the FLP interests generally mean the interests can be valued at a discount — so greater portions of the business can be transferred before triggering gift tax. For example, if the discount is 25%, in 2018 you could gift an FLP interest equal to as much as $20,000 tax-free because the discounted value wouldn’t exceed the $15,000 annual gift tax exclusion.

To transfer interests in excess of the annual exclusion, you can apply your lifetime gift tax exemption. And 2018 may be a particularly good year to do so, because the Tax Cuts and Jobs Act raised it to a record-high $11.18 million. The exemption is scheduled to be indexed for inflation through 2025 and then drop back down to an inflation-adjusted $5 million in 2026. While Congress could extend the higher exemption, using as much of it as possible now may be tax-smart.

There also may be income tax benefits. The FLP’s income will flow through to the partners for income tax purposes. Your children may be in a lower tax bracket, potentially reducing the amount of income tax paid overall by the family.

FLP risks

Perhaps the biggest downside is that the IRS scrutinizes FLPs. If it determines that discounts were excessive or that your FLP had no valid business purpose beyond minimizing taxes, it could assess additional taxes, interest and penalties.

The IRS pays close attention to how FLPs are administered. Lack of attention to partnership formalities, for example, can indicate that an FLP was set up solely as a tax-reduction strategy.

Right for you?

An FLP can be an effective succession and estate planning tool, but it isn’t risk free. Please contact us for help determining whether an FLP is right for you.

September 19, 2018December 14, 2018

Don’t Let Collaborative Arrangements Cause Financial Reporting Headaches

Businesses often enter into so-called “collaborative arrangements” when they partner with another entity on a major project. Unfortunately, the current guidance for these types of arrangements under U.S. Generally Accepted Accounting Principles (GAAP) is somewhat vague.

Here are some questions that may arise as participants report shared costs and revenue on their income statements, along with details about a recent proposal that would clarify how to report collaborative arrangements.

What is a collaborative arrangement?

Accounting Standards Codification (ASC) Topic 808, Collaborative Arrangements, provides guidance for income statement presentation, classification and disclosures related to collaborative arrangements. It lists three requirements for collaborative arrangements:

1. They must involve at least two parties (or participants).
2. The parties involved must all be active participants in the activity.
3. All participants must be exposed to significant risks and rewards dependent on the commercial success of the activity.

Collaborative arrangements are a particularly common type of joint venture for film production and life science companies. For example, two pharmaceutical companies might agree to share research and development expenses to produce a new drug. Then, if the drug succeeds, the companies also would share the revenue from sales of the drug.

What qualifies as revenue?

Today’s guidance on collaborative agreements has led to inconsistent accounting practices. Why? Topic 808 doesn’t include guidance for determining what the appropriate unit of accounting is or when recognition criteria are met. Rather, it says to look to other areas of GAAP to account for a transaction. If there’s no formal guidance available, businesses typically apply an accounting policy or another accounting method by analogy. As a result, companies may label items as “revenue” when they belong elsewhere on the income statement.

To further complicate matters, the landmark revenue recognition standard goes into effect in 2018 for public companies and in 2019 for private ones. Accounting Standards Update (ASU) No. 2014-09, Revenue from Contracts with Customers (Topic 606), limits application of the revenue standard to arrangements that involve a customer as one of the parties to a contract.

In April, the Financial Accounting Standards Board (FASB) proposed an update to clarify the scope of its standards for revenue and collaborative arrangements. If finalized, the proposal will help partners in a collaborative arrangement determine when a transaction should be treated as revenue. Public comments on the proposed changes are due in June.

Got more questions?

We’re atop the latest developments on reporting collaborative arrangements. Contact us with questions about the interaction of the standards for collaborative arrangements and revenue recognition. We can help you concurrently implement the latest rules and minimize the risk of restatement.

September 18, 2018December 19, 2018

Business Deductions for Meal, Vehicle and Travel Expenses: Document, Document, Document

Meal, vehicle and travel expenses are common deductions for businesses. But if you don’t properly document these expenses, you could find your deductions denied by the IRS.

A critical requirement

Subject to various rules and limits, business meal (generally 50%), vehicle and travel expenses may be deductible, whether you pay for the expenses directly or reimburse employees for them. Deductibility depends on a variety of factors, but generally the expenses must be “ordinary and necessary” and directly related to the business.

Proper documentation, however, is one of the most critical requirements. And all too often, when the IRS scrutinizes these deductions, taxpayers don’t have the necessary documentation.

What you need to do

Following some simple steps can help ensure you have documentation that will pass muster with the IRS:

Keep receipts or similar documentation. You generally must have receipts, canceled checks or bills that show amounts and dates of business expenses. If you’re deducting vehicle expenses using the standard mileage rate (54.5 cents for 2018), log business miles driven.

Track business purposes. Be sure to record the business purpose of each expense. This is especially important if on the surface an expense could appear to be a personal one. If the business purpose of an expense is clear from the surrounding circumstances, the IRS might not require a written explanation — but it’s probably better to err on the side of caution and document the business purpose anyway.

Require employees to comply. If you reimburse employees for expenses, make sure they provide you with proper documentation. Also be aware that the reimbursements will be treated as taxable compensation to the employee (and subject to income tax and FICA withholding) unless you make them via an “accountable plan.”

Don’t re-create expense logs at year end or when you receive an IRS deficiency notice. Take a moment to record the details in a log or diary at the time of the event or soon after. The IRS considers timely kept records more reliable, plus it’s easier to track expenses as you go than try to re-create a log later. For expense reimbursements, require employees to submit monthly expense reports (which is also generally a requirement for an accountable plan).

Addressing uncertainty

You’ve probably heard that, under the Tax Cuts and Jobs Act, entertainment expenses are no longer deductible. There’s some debate as to whether this includes business meals with actual or prospective clients. Until there’s more certainty on that issue, it’s a good idea to document these expenses. That way you’ll have what you need to deduct them if Congress or the IRS provides clarification that these expenses are indeed still deductible.

For more information about what meal, vehicle and travel expenses are and aren’t deductible — and how to properly document deductible expenses — please contact us.

September 17, 2018December 19, 2018

Choosing the Best Business Entity Structure Post-TCJA

For tax years beginning in 2018 and beyond, the Tax Cuts and Jobs Act (TCJA) created a flat 21% federal income tax rate for C corporations. Under prior law, C corporations were taxed at rates as high as 35%. The TCJA also reduced individual income tax rates, which apply to sole proprietorships and pass-through entities, including partnerships, S corporations, and, typically, limited liability companies (LLCs). The top rate, however, dropped only slightly, from 39.6% to 37%.

On the surface, that may make choosing C corporation structure seem like a no-brainer. But there are many other considerations involved.

Conventional wisdom

Under prior tax law, conventional wisdom was that most small businesses should be set up as sole proprietorships or pass-through entities to avoid the double taxation of C corporations: A C corporation pays entity-level income tax and then shareholders pay tax on dividends — and on capital gains when they sell the stock. For pass-through entities, there’s no federal income tax at the entity level.

Although C corporations are still potentially subject to double taxation under the TCJA, their new 21% tax rate helps make up for it. This issue is further complicated, however, by another provision of the TCJA that allows noncorporate owners of pass-through entities to take a deduction equal to as much as 20% of qualified business income (QBI), subject to various limits. But, unless Congress extends it, the break is available only for tax years beginning in 2018 through 2025.

There’s no one-size-fits-all answer when deciding how to structure a business. The best choice depends on your business’s unique situation and your situation as an owner.

3 common scenarios

Here are three common scenarios and the entity-choice implications:

1. Business generates tax losses. For a business that consistently generates losses, there’s no tax advantage to operating as a C corporation. Losses from C corporations can’t be deducted by their owners. A pass-through entity will generally make more sense because losses pass through to the owners’ personal tax returns.

2. Business distributes all profits to owners. For a profitable business that pays out all income to the owners, operating as a pass-through entity generally will be better if significant QBI deductions are available. If not, it’s probably a toss-up in terms of tax liability.

3. Business retains all profits to finance growth. For a business that’s profitable but holds on to its profits to fund future growth strategies, operating as a C corporation generally will be advantageous if the corporation is a qualified small business (QSB). Why? A 100% gain exclusion may be available for QSB stock sale gains. If QSB status is unavailable, operating as a C corporation is still probably preferred — unless significant QBI deductions would be available at the owner level.

Many considerations

These are only some of the issues to consider when making the C corporation vs. pass-through entity choice. We can help you evaluate your options.