Category Archives: Taxes and Your Business

Reimbursing Employee Business Expenses

The reimbursement of employee travel and other out-of-pocket business expenses is most efficiently handled when the employer has established an “accountable” expense reimbursement plan.

Under Reg. 1.62-2(c)(4), an advance or reimbursement made to an employee under an “accountable” plan is deductible by the employer and is not subject to FICA and income tax withholding.  In general, an advance or reimbursement is treated as made under an accountable plan if (1) the employee receives the advance for a deductible business expense that he paid or incurred while performing services as an employee, (2) the employee must adequately account to his employer for the expense within a reasonable period of time, and (3) the employee must return any excess reimbursement or allowance within a reasonable period of time.

Advances or reimbursements to employees which are not made pursuant to these guidelines are fully taxable to the employee and subject to FICA and income tax withholding, thus forcing the employee to deduct the business expenses on his personal tax return, as a miscellaneous itemized deduction, subject to the 2% floor.  Not the most efficient way to go.

Sales Tax on Services?

This one has been kicking around for years, and in these lean times, don’t be surprised if  your state decides the time has come — impose a sales tax on services.

California (one of the leaders amongst states always on the lookout for new revenue sources) is looking at this:  Assembly Bill 1963 was recently introduced.  This bill would, on and after January 1, 2013, reduce the rate of state sales and use tax to 4% of the gross receipts from the retail sale of tangible personal property (a good thing), and would also, on and after January 1, 2013 impose a state sales and use tax on the privilege of selling services at retail and on the storage, use, or other consumption of services in the state at the rate of 4% of the sales price of the services.

Who knows where this particular bill will go?  But given the currently prevailing fiscal fiasco in many state (and local) jurisdictions, don’t be surprised if you, sometime soon, find yourself paying sales tax to your barber, vet, accountant…..

‘S’ Corporations and Employment Taxes

The age old game of S corporations paying their owner/employees low salaries and taking most of the income out in the form of “dividends” just got another comeuppance in the courts.

The 8th Circuit Court of Appeals (Watson, P.C. v. U.S., 109 AFTR 2d 2012-483) has once again stood up for the proposition that this sort of game plan, in many cases, won’t fly.

Recall that particularly service-providers are motivated to minimize FICA and Medicare taxes by treating what might otherwise be construed as self-employment income to be S corporation dividends.  No income tax advantage, just a FICA/Medicare savings ploy.

In 2010, the House (though not the Senate) actually passed legislation which would plug this loophole with respect to service professionals.  Despite the failure by the legislative bodies to close up this gap, the courts have consistently (and once again in Watson) ruled that this game doesn’t work, pointing to these principal factors in evaluating what is the appropriate level of reasonable compensation:

  • Training and experience
  • Duties and responsibilities
  • Time and effort devoted to the business
  • Dividend history
  • Payments to non-shareholder employees
  • Timing and manner of paying bonuses to key people
  • What comparable businesses pay for similar services
  • Compensation agreements
  • Use of a formula to determine compensation

Time For a ‘Repatriation’ Tax Holiday?

With all of the talk about job creation, we’re hearing more and more about encouraging big companies to quit stashing profits abroad, and bring them back home for investment.  The contra, of course, is the potentially onerous U.S. income tax burden on businesses which would slice off a large portion of those profits before the first dollar is put to work.

So Congress has been kicking around the idea of providing a “repatriation” holiday to temporarily solve the problem – H.R. 1834, the Freedom to Invest Act of 2011 was recently introduced, to allow for a U.S. corporation to deduct dividends received from a controlled foreign corporation for a one year period, beginning on the date of enactment.

A similar measure has been introduced in the Senate – S. 1671, the Foreign Earnings Reinvestment Act, which would further provide incentives for companies to use repatriated earnings to increase payrolls, among other things.

As usual, of course, the sentiment to move forward in this manner is far from unanimous.  A recent report issued by the Democratic staff of the Senate Permanent Subcommittee on Investigations says that the 15 companies which benefited the most for a similar 2004 program actually cut more than 20,000 net jobs, and decreased the pace of their research spending.  The report cited the 2004 program as “a failed tax policy” that cost the U.S. Treasury $3.3 billion in estimated lost revenues over 10 years!

“There is no evidence that the previous repatriation tax giveaway put Americans to work, and substantial evidence that it instead grew executive paychecks, propped up stock prices, and drew more money and jobs offshore,” according to Senator Carl Levin (D-Mich).  “Those who want a new corporate tax break claim it will help rebuild our economy, but the facts are lined up against them.”

Stay tuned…..

Claiming the Small Business Health Care Tax Credit

If you’re a fan of the Affordable Care Act, you may be aware of one of its provisions which allows some small employers to claim a “Small Business Health Care Tax Credit.”

The credit was intended to encourage both small businesses and small tax-exempt organizations to offer health insurance coverage to their employees for the first time, or to maintain coverage (expensive as it may be) already in place.

Generally, the credit is available to small employers that pay at least half of the premiums for single health insurance coverage for their employees. It is mainly intended to help small businesses and tax-exempt organizations which employ moderate and lower income workers.

Small businesses can claim the credit for 2010 through 2013 and for any two years after that. For tax years 2010 to 2013, the maximum credit is 35% of premiums paid by eligible small businesses, and 25% of premiums paid by eligible tax-exempt organizations.

The maximum amount of the credit can be realized by the smallest of employers – those with ten or less full-time equivalent employees, to whom average annual wage payments total $25,000 or less. The credit is completely phased out for employers which have 25 or more full-time equivalents, or which pay average wages of $50,000 or more per year per person.

Check out Form 8941, Credit for Small Employer Health Insurance Premiums if you might qualify.

More IRS Guidance on ‘Section 530 Relief’

Businesses often seek ways to orchestrate their affairs so that employment taxes are minimized or even avoided. Internal Revenue Code Section 3121 defines the general characteristics of an employer-employee relationship. But under Section 530 of the Revenue Act of 1978, for employment tax purposes a business may treat an individual as an independent contractor, rather than an employee, if:

1. The taxpayer does not treat the individual as an employee for any period;
2. The taxpayer does not treat any other individual holding a substantially similar position as an employee for purposes of employment taxes for any period;
3. All required Federal tax returns are filed by the taxpayer on a basis consistent with its treatment of the individual as a nonemployee; and
4. The taxpayer has a reasonable basis for not treating the individual as an employee.

A taxpayer has a reasonable basis for not treating an individual as an employee for a period if the taxpayer’s treatment of that individual for that period was in reasonable reliance on one or more of the following safe harbors:

1. Judicial precedent or IRS ruling;
2. A past IRS audit; or
3. A longstanding practice of a significant segment of the relevant industry.

A question which has arisen is whether the taxpayer must demonstrate that it reasonably relied on a safe harbor before hiring the worker to perform services. And in Program Manager’s Technical Advice, IRS says that an employer need not demonstrate that it reasonable relied on a Section 530 safe harbor before engaging the worker. However, the employer may qualify for relief if it is able to show reasonable reliance on the asserted safe harbor sometime after it first engaged the worker, but before the employment period at issue.

For more information, check out the IRS publication Do You Qualify for Relief Under Section 530?

Some Small Charities Lose Tax-Exempt Status

If your favorite nonprofit hasn’t filed its tax returns for the last three years, it may have lost its tax exempt status, says recent IRS Information Release 2011-63.  Indeed, some 275,000 such organizations have automatically lost their status due to failure to file.

2006 legislation imposed a filing requirement for the first time in 2007, in the case of the smallest of nonprofits.  “During the past several years, the IRS has gone the extra mile to help make tax-exempt groups aware of their legal filing requirement and allow them additional time to file,” quoth IRS Commissioner Doug Shulman recently.  “Still, we realize there may be some legitimate organizations, especially very small ones, that were unaware of their new filing requirement.  We are taking additional steps for these groups to maintain their tax-exempt status without jeopardizing their operations or harming their donors.”

In this vein, therefore, IRS has issued guidance on how organizations can apply for reinstatement of their tax-exempt status, including retroactive reinstatement.  Further, for organizations with annual gross receipts of $50,000 or less for 2010, reinstatement comes along with payment of a reduced application fee of $100, rather than the typical $400 or $850 fee which might be otherwise applicable. (See Notice 2011-43, Notice 2011-44, and Revenue Procedure 2011-36 if this is you.)

And if you’re a prospective donor, and want to be sure your favorite charity isn’t one of these malingerers, check the IRS website for the list of organizations whose exempt status has been revoked for failure to meet the filing requirement.  The list is searchable by state, and includes the effective date of the automatic revocation and the date it was posted to the list.

‘Last-In, First-Out’ a Thing of the Past?

Anyone who has been associated with the accounting and/or tax business for lo these many years became familiar early on with the acronym “LIFO,” referring to the “last-in, first-out” method of costing inventory. But if Obama has his way, LIFO may soon become truly a “thing of the past,” as government coffers are dry, and politicians are looking under every rock for revenue sources.

Under the LIFO method, of course, the goods which a business sells during an accounting period are deemed to be those most recently purchased, whereas the goods left on hand at the end of the period are deemed to be those earliest acquired.

During inflationary periods, LIFO results in a larger dollar amount of “cost of goods sold” in comparison to the answer produced by other inventory accounting methods. The corollary is that taxable income is lower, of course, which makes business taxpayers happy.

Obama has been calling for repeal of LIFO for years, as have other politicians, including former House Ways and Means Committee Chairman Charles Rangel (D-NY), and Senator John McCain (R-AZ), as proposed during the last presidential race.

If Obama’s 2012 budget proposal to end LIFO sticks, taxpayers would be required to write up their beginning LIFO inventory to its FIFO (“first-in, first-out”) value in the first tax year beginning after 2012, taking the income consequence into taxable income over a ten year period.

Opponents suggest that the repeal of LIFO will be a job killer, as more business resources would be required to pay the related tax, not to mention the fact that LIFO, arguably, is truly a more accurate way to reflect income, because of the related matching of current costs with current revenues.

We shall see……..

$4 Per Gallon for Gas? Not High Enough for IRS!

Nope — we guess it has to go a bit higher before IRS decides enough is enough, and the standard mileage rate ought to be raised.

Seems that during its May 12 payroll industry conference call, an IRS spokesperson said that the IRS has no current plans to increase the present standard rate of 51 cents per mile.

Recall that the standard rate for owned or leased cars (including vans and some trucks) was previously set at 51 cents for business travel after 2010. (Likewise, the 2011 rate for medical usage of your auto, or for its use in connection with moving is 19 cents per mile.)

The 51 cents per mile rate can also be used by employers for reimbursement of employees required to use their own auto for business, and who want to deem the reimbursement as having been made under an “accountable” expense reimbursement plan, as long as the employees appropriately document the usage to the employer. (More from Nolo on Business Tax and Deductions.)

IRS generally announces each year’s standard mileage rate near the beginning of the new tax year, but it’s not unheard of that they make a mid year correction – such as the action they took in 2008 when gas prices last spiked in a manner similar to recent experience.

But such is not in the cards, according to Ligeia Donis, Assistant Branch Chief, Office of the Chief Counsel, notwithstanding the recent spate of gas cost increases. And for two reasons, according to Donis: the possibility that gas prices could decline, and some recent whining by employers that mid-year changes are difficult to implement.

Time will tell — the year isn’t even half over yet.