How Tax Reform Will Impact Contractors – The Good, The Bad, The Ugly
The Tax Cuts and Jobs Act was passed by the House and Senate and signed by the President at blazing speed. Now that the dust has settled, many taxpayers find themselves wondering, “How does this impact me?”. In particular, the construction industry has many things to ponder as they sit down to discuss tax reform with their tax practitioners. Outlined below are several items that all contractors should consider for 2018 and beyond.
- Corporate tax rates have been permanently reduced to a 21% flat tax, a reduction of 14% from the maximum 35% tax rate of the previous graduated corporate rate structure.
- Corporate alternative minimum tax (AMT) is repealed and any AMT credit previously generated will be available to offset your regular tax liability after 2017. In addition, a portion of the AMT credit may be refundable.
- Pass-through businesses will now be able to claim a §199A deduction of 20% of qualified business income.
- The average annual gross receipt thresholds for many accounting methods has increased to $25,000,000. Therefore, many contractors will again be eligible to utilize the cash method of accounting or the completed contracts method for long-term contracts.
- Accounting for inventories has been simplified for taxpayers with less than $25,000,000 in average annual gross receipts. Taxpayers under this threshold may now conform to inventory treatment for financial accounting purposes.
- §179 expensing has been increased to a maximum of $1,000,000 on qualifying property placed in service in taxable years beginning after December 31, 2017. The phase-out threshold for this expensing election has been increased to $2,500,000 of qualifying property placed in service during the taxable year and is phased out $1 for $1 once qualified property placed in service during the taxable year exceeds the $2,500,000 threshold.
- 100% bonus depreciation is back! All qualified assets placed in service after September 27, 2017 and before January 1, 2023 are eligible for the 100% expensing election. Note: The definition of qualified assets has been expanded to include used property.
- The listed property “luxury automobile” depreciation limits have been increased to $10,000 in the 1st year, $16,000 in the 2nd year, $9,600 for the 3rd year and $5,760 for the fourth and later years in the recovery period.
- The depreciable period for qualified improvement property has been reduced to 15 years and the separate definitions for “qualified leasehold improvement”, “Qualified restaurant improvement” and “qualified retail improvement” have been eliminated.
- Individual tax rates have been reduced and lower brackets have been expanded. The standard deduction has increased to $12,000 for a single taxpayer and $24,000 for a married taxpayer filing jointly.
- The child tax credit has been expanded to $2,000 per child (and $500 for other dependents), of which $1,400 will be refundable. The phase-out threshold has significantly increased to $400,000 for married taxpayer filing a joint tax return and $200,000 for all other taxpayers.
Charitable contribution deductions have been expanded to 60% of adjusted gross income for individual taxpayers.
- For estates of decedents dying after December 31, 2017, the estate tax exemption has increased to $10,000,000. Adjusted for inflation after 2011, this limitation is expected to be $11,200,000 per decedent ($22,400,000 per married couple) for 2018.
- For taxpayers with average annual gross receipts exceeding $25,000,000, interest expense deductions will be limited to 30% of a corporation’s adjusted taxable income. Excess interest expense may be carried forward for up to five years to offset future business income.
- Like-Kind Exchanges are no longer permitted on personal property and may only be used for the exchange of real property.
- Entertainment expenses will no longer be deductible regardless if the expenses were business related or not.
- Deductions for employee transportation fringe benefits (parking and mass transit) are no longer allowed. The exclusion from income for such benefits by an employee is retained.
- Many itemized deductions for individual taxpayers have been eliminated including unreimbursed employee expenses, job search costs, tax preparation fees and many other miscellaneous expenses.
- The itemized deduction available for state and local taxes (income, personal and property) have been capped to a maximum deduction of $10,000. Prepayments of a future state tax obligation will no longer be deductible until the year of the tax liability.
- Mortgage interest paid on a newly purchased home is only deductible on the first $750,000 of the acquisition indebtedness.
- Moving expenses are no longer deductible and employer moving expense reimbursements will no longer be excluded from taxable income.
- The individual AMT has been retained, although it is not expected to impact many taxpayers as a result of the increased exemptions available and the impact of many of the other tax changes. Note: The percentage-of-completion method is still required for AMT purposes and will result in an add-back to taxable income for any contractor utilizing the completed contract method of accounting.
- Payments for college athletic seating rights are no longer considered to be charitable contributions. Previously 80% of the payment could be deducted as a charitable deduction.
- The individual mandate of the Affordable Care Act (ACA) has been repealed. This will result in changes to the current marketplace offerings and a likely increase in premiums.
- “Excess business losses” will no longer be deductible by a noncorporate taxpayer. The excess losses will carryforward to offset future business income.
- Self-Created property will no longer be treated as a capital asset. Accordingly, the sale of self-created patents, trademarks, goodwill and other intangibles will result in ordinary gain instead of a capital gain.
With such significant change to the existing tax laws, it is important to consult with your tax advisor to determine the impact of each of these changes. Additionally, it is worth re-visiting your choice of entity structure as some taxpayers may find a greater benefit by making a change between a corporation and a pass-through entity (C corporation or S corporation).