Overview of Preparing for 2018 Tax Law Change
There are a few ways in which you want to make sure you’ve prepared for the first year of implementation of the Tax Cuts and Jobs Act (TCJA), also known as the 2018 Tax Law Change. You want to do at least the following as a small business, and maybe other important steps as well:
- Minimize your taxable income.
- Maximize your qualified deductions and credits.
- Make smart capital purchases and business expenses based on their “real cost” to you.
The 2018 tax law change specifically wants to drive simplicity in the tax code (it sometimes is still very complex) and encourage businesses to grow and thus hire more people long-term. Read on to learn more about how, specifically, your business can be a part of this major shift.
How Does My Self-Employed Business Prepare for the 2018 Tax Changes?
One of the biggest impacts on your tax burden will be the reduction of the corporate tax rate; what was once a 35% rate is now a 21% flat rate. High-grossing small businesses will see a huge impact based on this, and one of the major goals of TCJA was to incentivize spending that reduced tax expense on an expansion of your business. Here are some other ways that you’ll see changes, especially if you are a pass-through entity, like an LLC or a sole proprietorship.
Preparing for the Qualified Business Income Deduction
This is the first tax year in which business owners can take a 20 percent deduction on qualified business income.
Once you’ve calculated and prepared what your qualified business income is (for instance, subtracted any income from a traditional W2 job if your small business is a side project), you can then, in most cases, take a 20% deduction off your income from the top. So, if your business generated $20,000 in qualified business income this year, you would begin calculating your taxes with $16,000 as the first number, before other deductions and credits.
What are the phase-out ranges and how do I prepare for them?
This deduction is meant to assist those with relatively modest incomes, and for that reason, phase-out ranges exist when you no longer receive the 20% or you receive a lower percentage. For instance:
- When you are married, filing jointly, and your total taxable income is $315,000 or lower, or single and your total taxable income is $157,000 or lower, you receive the entire 20% deduction on your qualified business income in almost all cases.
- The next tier ($315,000 to $415,000 for married filing jointly, or $157,000 through $207,500 for single filers) means you’ll get a portion of the 20%, but not the whole thing, in most cases. This is what the “phase out” means.
- Above $415,000 for married filing jointly and $207,500 for single filers, the specified service ranges begin to matter. Let’s learn more about that below.
What is a “specified” service business and how do I prepare for it?
In this upper tier, there are new rules in the 2018 tax changes; basically, service businesses like accountants, actuaries, lawyers, and doctors are going to be excluded from this pass-through deduction if they make more than $415,000 a year. Businesses that would typically be pass-through entities but are considered “non-service” businesses receive a different kind of deduction that is based either on the 20% or a percentage of their W2 wages and property costs (read more here). The definition of service and non-service is nebulous (for instance, architects and engineers, despite being ostensibly service-oriented, are considered non-service organizations), so you need to talk to your accountant or consult a comprehensive list to understand your own situation in regard to the 2018 tax law changes, especially if your business offers both products and services.
2018’s Tax Law Change Increases Business Expense Tax Deduction
One of the major ways that businesses offset the expenses involved in running is through business expense tax deductions; by not having to pay taxes on some percentage of the expenses, the cost is effectively lowered. One of the biggest ones is known as 100% bonus depreciation; in the past, it was an option to take 50% of the depreciation of a new qualifying capital asset up-front, reducing your tax burden in the year you purchased said item. Now, it is possible to take the full 100% for a limited time (the TCJA would have to be renewed in some way to continue this forward); by allowing companies to take these deductions upfront, the IRS is making it very attractive to purchase major machinery or real estate that you might have put off purchasing in the past; these new items allow your business to grow and employ more people.
2018’s Tax Law Change Increased Auto Depreciation
Small businesses that require company vehicles, or the use of one’s personal vehicle for work-related travel, now have the opportunity to claim larger depreciation values per year, creating major savings. For a vehicle that is 100% used for company travel, depreciation is now $10,000 for Year 1 or $18,000 with the new temporary option for 100% bonus depreciation. $16,000 is for Year 2, $9,600 is for Year 3, and $5,760 for Year 4 and beyond, until the total value of the car is deducted. The new rule helps small businesses choose to get a car when it is valuable to their work, possibly saving on expensive rentals, and to get higher quality vehicles with less of an impact on their bank account long-term.
Preparing for 2018’s Moonlighting Costs
If your small business fits some of the definitions that the IRS uses for a hobby, it is a good idea to make that distinction clear, especially if you have substantial expenses in your moonlighting business that offset much of the income you generate. Some of the ways to distinguish your small business, even if it doesn’t generate a good profit-to-expenses ratio, include making a separate business bank account and making a plan for making sure you generate a profit some years, rather than taking consistent losses. Losses are fine as a long-term hobby, such as a person who loves fishing taking some people out for inexpensive chartered tours that don’t cover expenses, but the IRS no longer allows income deductions if you aren’t making a good faith effort at earning a profit.
More Complexity or Total Elimination for Certain Business Expenses
2018’s Tax Law Changes for Entertainment Expenses
If your business entertains clients on a regular basis, begin looking into how much you are spending on these items. In the past, a percentage of golf expenses, concert tickets, or sporting game tickets was deductible as a business expense; this is no longer the case. Food and drink for regular business meals remain viable deductions, so focus on keeping track of what expenses are regular business meals versus what you spend on entertaining clients and customers because those numbers will now be important to how you calculate taxes.
2018’s Tax Law Changes for Business Interest
For companies that in the past took a deduction based on business interest, the IRS has made a change to both simplify and apply broadly a new rule. According to the IRS website, “the deduction for business interest expense is generally limited to the sum of a taxpayer’s business interest income, 30 percent of adjusted taxable income and floor plan financing interest.” These limits generally only apply to businesses with $25 million or more in gross receipts, but they are worth knowing about if you are running a business of that size.
2018’s Tax Law Changes for Net Operating Loss (NOL) Deduction
If your company experiences a Net Operating Loss (NOL) in 2018, the ability to claim it on your taxes has shifted. In the past, you could offset 100% of your family’s taxable income with a large enough NOL, while now it can only offset up to 80%. You can still carry large NOLs forward, but it is no longer an option to carry them back. If 2018 happens to be an NOL year for you, prepare for your tax situation by working with a good tax software that will help you calculate the best way to maximize your tax advantage, especially if you have a much better year next year.
How to Save The Smart Way: Self-Employment Retirement Plans
Whether your business is constructed to allow for a SEP IRA or if you open a traditional IRA, make sure to learn the limits based on your income and do everything you can to fill it entirely. If you didn’t manage to get to that limit before the last day of 2018, you can still reduce your tax burden by making a contribution for the previous tax year before April 15th; aim to do it as soon as possible so you can use the documentation to complete your taxes.
There are other ways that this can be a helpful strategy; on years when you have high profits, and thus high taxable income, you are actually doing yourself a favor by saving for a rainy day, all while cutting how much tax you have to pay this particular year. For some, it makes more sense to contribute to a Roth IRA, where you pay the tax as normal, because this year wasn’t a high-grossing year or you have another way to reduce your taxable income.
Get the Help You Need to Prepare for 2018 Tax Success
When you are working toward an excellent, well-prepared tax plan for your small business, it makes sense to have an excellent tax software on your side as well. Most tax preparation software will automatically maximize the deductions you are eligible for and will directly ask you the most pertinent questions in ways that make it easy to save money. Knowing as much as possible about the TCJA, however, is not a bad idea either!