Month: July 2018

Accountability Drives Results. 

Are you a business owner or a senior level executive who wants to see your business consistently run better and grow faster? Join us for an insightful, reflective, and collaborative workshop that teaches you the simple formula and practical system to gain true accountability in your business.

 Brian’s interactive style and experience-based real-world insights make this an eye-opening event for growth-oriented business leaders.

Learn more about the September 25th The Traction E.O.S. Accountability Workshop

 

 

Preface: The “Michael Process“ is powerful, effective, and simple; it is an element of the DNA link to entrepreneurial success. If you’re an entrepreneur today, you’re advised to ponder strategically how your business adheres to the “Michael Process.” 

The “Michael Process”

Credit: Donald J. Sauder, CPA, CVA

Well said Michael. “Real entrepreneurs have a passion for what they’re doing, a problem to be solved, and a purpose that drives them forward” – quote from Michael Dell. Exuberant business successes can be simplified to adherence with the three step “Michael Process.” A) passion for a marketplace, B) a concisely defined problem(s) the marketplace needs (re)solved, and C) providing an effective solution to the marketplace problem(s) defined in step B.

Your business purpose must fit the third step in the “Michael Process” to generate relevant and powerful business achievements, socially, and, or financially.

Entrepreneurial accomplishment in business is a derivative of effectively following either strategically or intuitively, the “Michael Process.” Your business purpose must fit the third step in this process to generate relevant and powerful business achievements, socially, financially, or both. That is your business purpose – provide an effective solution to a marketplace problem that you’ve concisely defined, with a passion for the marketplace, i.e. customers or clients. Say:

“More people fail through lack of purpose than lack of talent” — quote from Billy Sunday.

Let’s consider for a moment, a recent business case study from gofundme.com, that demonstrates simply and effectively the “Michael Process”.

Ever since she was a toddler, Mikayla Rydzeski dreamed of running her own lemonade stand. And last year, on the hottest day of summer, her dream finally came true. In just a few hours, she made over $1,000. But rather than keep the money for herself, she gave every single penny she earned to kids in her community who couldn’t afford school supplies. This year, Mikayla is back at it—and she’s aiming even higher.

 The day the lemonade stand was scheduled to take place ended up being the hottest day of the summer. But that didn’t stop Mikayla. She mixed up batches of plain and strawberry lemonade, decorated her stand, and posted up by the street to wait for customers.

In just five hours, Mikayla’s lemonade stand raised over $1,000—enough to provide 36 local kids with back-to-school supplies. She also became the youngest large donor in the nonprofit’s history.

“I was so happy because people were giving over the amount they had to pay for, and not a single person asked for cash back,” says Mikayla. “It was just the best thing in my life to help others. Once that happened, I knew I was going to get over my goal.”

 This aspiring entrepreneur unknowingly scored very high on adherence to the three-step “Michael Process”. 

First, Mikayla had a real passion for the marketplace. For years, she dreamed of running her own lemonade stand, but just never got the chance. She also had a compatible passion for helping other people who didn’t have as much stuff as everyone else.

Secondly, Mikayla was serving a marketplace that had a real-world problem, of vital importance– they needed something to cool their tongue in the hot summer weather.

Step three in the “Michael Process”, Mikayla had formulated a very effective solution – purchase from her business, some cooling and thirst quenching drink(s).

This aspiring entrepreneur followed the three-step “Michael Process” with likely minimal business planning. Yet, importantly, you can see easily how the process was effectively applied intuitively, and you too can see the success it generated. Her customers patronized her business happily, and even paid above market rates for solving a simple problem. With net income of $200+ per hour on average, from a likely modest profit margin. This summer her goal is $7,000.

The “Michael Process“ is powerful, effective, and simple; it is an element of the DNA link to entrepreneurial success. If you’re an entrepreneur today, you’re advised to ponder how your business adheres to the powerful, effective and simple “Michael Process.”

The “Michael Process“ is strategically powerful, effective, and simple; it is an element of the DNA link to entrepreneurial success. If you’re an entrepreneur today, you’re advised to ponder how your business adheres to the “Michael Process.” If your entrepreneurial endeavors are like Mikayla’s, and based upon the “Michael Process” either strategically or intuitively, your business is likely very successful too.

Preface: Partnership mergers are sometimes applicable to improving business tax plans and tax filing efficiencies, and often encompass many taxation and legal issues that must be reviewed and evaluated with appropriate advice to ensure that the most appropriate decisions are chosen, with adherence to required guidelines. This blog outlines a general awareness of the major tax pertinent highlights.

Tax Laws of Partnership Mergers

Credit: Sauder & Stoltzfus, LLC

The general tax definitions of the partnership-merger rules do not define a “merger.” In general, however, one of the partnerships entering the merger will be the “continuing” partnership after the merger, and one of the partnerships will terminate; it will be the “dissolving” partnership.

In addition, a partnership merger, can also involve a conversion of the entity to an LLC in certain states. The tax ramifications of the conversion are beyond the scope of this blog.

An entity that is taxed as a partnership may combine with a like entity. The transaction that will be treated as a “merger” for purposes of the partnership-merger rules in one of several ways:

Assets-over. A partnership can transfer all its assets to another partnership in exchange for interests in that partnership. It then distributes the interests received to the members of the dissolving partnership. This form of merger is called “assets-over,” because the dissolving partnership’s assets are conveyed over to the resulting partnership.

Assets-up. The partnership can liquidate by distributing all its assets to its partners. They then contribute the assets to the resulting partnership. This form of merger is called “assets-up,” because assets are transferred “up” to the partners.

Interests-over. The partners in a dissolving partnership can transfer their interests to another partnership in exchange for its interests. The dissolving partnership then liquidates. This form of merger is called “interest-over.”

State-law merger. State-law entities that are taxed as partnerships can merge without using one of the forms listed above. They do so by merging under a state-law merger statute.

“Also, partnerships using the interest-over form are treated for tax purposes as following the assets-over form. Thus, as a practical matter, the only way that partners can avoid the application of the assets-over form is to use the assets-up form.”

When entities taxed as partnerships merge by a statutory merger, tax consequences are determined by treating the transaction as an assets-over transaction. Also, partnerships using the interest-over form are treated for tax purposes as following the assets-over form. Thus, as a practical matter, the only way that partners can avoid the application of the assets-over form is to use the assets-up form. To qualify as an asset-up form, the partnership assets must be transferred for state-law purposes to each of the partners. This may impose additional costs and risks on the partners.

Generally, which partnership is the continuing partnership for tax purposes is determined under one of two tests.

1. Do the partners from one of the partnerships own (in the aggregate) more than 50 percent of the capital and profits in the resulting partnership? If so, the continuing partnership is the one that was previously owned by the majority of the partners.
2. Do the partners in both of the former partnerships own more than 50 percent of the capital and profits in the resulting partnership? If so, the continuing partnership is the one credited with the contribution of assets having the greatest fair market value to the resulting partnership. Fair market value is net of liabilities.

“In fact, the continuing partnership for tax purposes may be the one that was merged out of existence for state-law purposes.”

Under these rules, it is not obvious which partnership in a state-law merger survives for tax purposes. In fact, the continuing partnership for tax purposes may be the one that was merged out of existence for state-law purposes. Now we will protract on the tax consequences of each transaction pertinent to a partnership merger.

Tax consequences to the dissolved partnership. The partnership that is deemed to terminate for tax purposes under the partnership-merger rules is treated as follows:

1. The dissolved partnership is deemed to contribute its assets and liabilities to the continuing partnership in exchange for interests in the continuing partnership. In general, there is no gain or loss on the contribution.
2. The dissolved partnership receives a capital account credit based on the amount of money contributed and the fair market value of property contributed, net of any liabilities.
3. The dissolved partnership’s basis in the contributed assets carries over to the basis in the interests of the continuing partnership that it receives.
4. The dissolved partnership’s holding period in the contributed assets tacks on to the holding period in the partnership interest received.

The dissolved partnership’s tax year terminates on the date of the merger.

Tax consequences to the continuing partnership. The partnership that is deemed to continue for tax purposes under the partnership-merger rules is treated as follows:

1. The continuing partnership generally has no gain or loss.
2. The continuing partnership takes a carryover basis in the assets of the dissolved partnership.
3. The holding period of the assets of the dissolved partnership “tacks.” That is, the continuing partnership acquires whatever holding period the dissolved partnership had.
4. The continuing partnership will generally step into the dissolved partnership’s shoes for depreciation and cost recovery of contributed assets of the dissolved partnership.

The dissolved partnership’s contributions of unrealized receivables, inventory, and built-in capital loss property will retain their character in the continuing partnership.

The continuing partnership’s tax year does not close.

The federal income tax return for the year of the merger must state that the partnership is a continuation of the merging partnership.The continuing partnership must retain the same employer identification number.

Tax consequences to the partners. The partners in a partnership merger are generally taxed as follows: In a  dissolved entity they generally do not recognize gain or loss on the transaction”

A partner may, however, recognize gain or loss in certain instances. This usually occurs if the partner’s net share of liabilities allocated to the partner is reduced so there is a deemed cash distribution that triggers taxable gain.

The partners of the dissolved partnership step into the dissolved partnership’s shoes with respect to their shares of capital accounts.

The partners of the dissolved partnership generally will have the same adjusted basis in the continuing partnership that they had in the dissolved partnership.

The continuing partnership may have a Code Sec. 754 election (also known as a step-up in basis) in effect. If so, the partners of the dissolved partnership may receive a special basis adjustment in the assets of the continuing partnership. This adjustment extends as far as a partner’s basis in continuing partnership interests received differs from his basis in the continuing partnership’s assets.

Partnership mergers involve many tax specific issues that must be reviewed and evaluated to ensure that the best decisions are made.  Please talks with an experienced tax advisor before commencing on a partnership merger.

A Summary of the New Tax Laws For Section 199A

Tax Implications and Planning Features with the Qualified Business Income Deductions

Credit: Donald J. Sauder, CPA, CVA

Tax Planning Features

When assisting taxpayers with business asset purchases, it is well advised to apply a Class V category on the Form 8594 to the greatest segment of asset transactions as realistic, because this class increases the capital base of the business property when computing application of a Section 199A threshold limit. Since depreciation rules permit accelerated expense rates, the tax benefit is optimized with Class V because the acquirer can still deduct the purchase in the year of acquisition, and obtain a greater 2.5% of property threshold advantage.

Correspondingly, individual losses in QBI for businesses, are aggregated with combined business activities. Secondly, if there is a loss for QBI in the current year, it is carried forward to future years to reduce QBI, and therefore the benefit the Section 199A deduction.

For example, say Bob owns two businesses, a convenience store with $35,000 of QBI earnings, and wholesale supplies business with a QBI loss of $40,000. Bob cannot apply a Section 199A deduction on his tax filing, and has a carryover of $5,000 to the subsequent year QBI calculation.

Tax planning factors are now most unique in that individual optimization of each business tax variables is required to minimize tax expenses, i.e. income and expenses and W-2 wages, and property in service, must be considered individually per business for multiple business activity taxpayers. Generally, a taxpayer in specified trade or business can claim a modified business deduction if their individual income is less than $415,000 MFJ or $207,500 for all other taxpayers.

In addition, 1231 gains have tax characteristics specific to Section 199A, because the 1231 gains are deducted from the activities QBI since they are capital gains for tax purposes, while the 1231 losses are deducted from QBI since they are ordinary, to reduce the Section 199A deduction. Bottom line 1231 gains and losses have a new tax planning variable that reduce the Section 199A benefit.

Service business classifications are now subject to tax optimization since the tax deduction for Section 199A is reduced to zero when the threshold level is exceeded. Architects and engineers are not considered service businesses presumably because they were eligible for Section 199 DPAD.

The skill and reputation definition and tax planning variable of service businesses will remain a grey area of Section 199A as it is not well-defined now, but likely following the guide lines of business activities that applied the Section 199A DPAD in prior years, will continue to be considered non-service businesses.

One item of note, is that service business must reduce QBI for reasonable compensation or guaranteed payments for services provided. So therefore, a consulting partnership will deduct guaranteed payments to partners from the QBI computation for the Section 199A deduction. S-Corporations will be subject to “reasonable compensation” thresholds. The tax planning characteristics relevant to this specific ruling will result in many service businesses not benefiting from the Section 199A because of the additional described threshold rules. From a practical standpoint, service businesses, e.g. consultants, attorneys, accountants, health care providers, etc. should not expect to avail benefits from Section 199A. Architects and engineers are the exceptions to this threshold rule.

Summary: The Section 199A Qualified Business Income Deductions are a new variable in tax planning beginning with the 2018 year. Entrepreneurs are hereby advised to apply appropriate tax planning for their businesses activities to optimize the tax benefits and nuances of these new tax laws beginning with the 2018 tax year.

The Changing Landscape of Sales Taxes (Segment II)

By Jacob M. Dietz, CPA

The Wise Steward

Let’s suppose Justin owns a business where he sells most of his various products online. The only state in which he has a physical presence is Pennsylvania, and in the past, he has only been collecting sales tax for Pennsylvania. While eating lunch one day, he receives a call from his accountant Reuben regarding the South Dakota v. Wayfair, Inc. Supreme Court case.

Justin questions him about whether he will need to file sales tax in South Dakota. His accountant Reuben inquires of Justin how many transactions pertain to South Dakota, and how many dollars do the transactions total annually? Reuben asks these questions to help determine if Justin’s business meets an exception.

As Justin chews another bite of hamburger, he suddenly realizes that he doesn’t know the answer to any of these questions. To make matters worse, he is not sure how to get answers without spending hours looking at invoices. Justin realizes that he should upgrade his information-gathering on sales, and he asks Reuben what changes could be made to his accounting system to start tracking these changes. Together they develop a plan to track product sales to various states.

After reviewing the specifics of Justin’s business, Justin and Reuben realize that in the future, Justin will need to collect and remit South Dakota sales tax. Justin realizes that charging sales tax will likely come as an effective price increase to his customers, although the extra money is going to the government instead of staying with him. His accountant Reuben advises him to save up some extra cash so that he has sufficient working capital to weather a slight downturn in sales.

Although sales take a slight dip, most of the customers still buy Justin’s products even though he is collecting and remitting sales tax.

Two years pass. Out of the blue, South Dakota audits Justin. Reuben helps Justin navigate the audit. South Dakota lets Justin go with no additional taxes or penalties because he faithfully collected and remitted sales.

The Oblivious Businessman

On the other hand, suppose Justin’s competitor, Kaden, runs a business very comparable to Justin’s, and it is 30 miles away. As Kaden ate lunch one day, he saw an article about the Supreme Court Wayfair decision. Kaden does not like to read about boring court cases, so he finds another article to educate himself while eating his hamburger. Unfortunately, no one calls Kaden and warns him that the sales tax environment is changing.

Kaden also sells into South Dakota, and he should start collecting and remitting sales tax, based on the specific facts of his business. Kaden, however, has a clear conscience because he does not realize he should be collecting and remitting sales tax. He is quite pleased because he sees a slight uptick in sales. Although he does not realize the reason, some customers that formerly bought from Justin’s business switched to Kaden’s business because Kaden is now cheaper since Justin started collecting sales tax.

Two years pass. Out of the blue, South Dakota audits Kaden. Unfortunately, they find that he should have been collecting and remitting sales tax. Unlike Justin, Kaden did not collect the sales tax that he owed. If South Dakota forces him to pay the sales tax now, it directly affects his profitability. Furthermore, if they charge interest and penalties, that would decrease his profitability even more. Although Kaden was unaware of the danger, nevertheless he still suffered because he passed on without realizing the danger and taking steps to avoid it.

Complexity

There are thousands of sales tax jurisdictions in the United States, and the jurisdictions do not always follow the same rules regarding taxability. Furthermore, the same type of item may be taxable or not taxable depending on the situation. Pennsylvania charges sales tax on some labor, but not other labor. If you are uncertain if your product or services are subject to sales tax, consider seeking help. It would be better to start collecting and remitting now, if necessary, than to get audited later and learn then that you should have been collecting and remitting. Foresee the danger and take steps to protect your business.

This article is general in nature, and does not contain legal advice. Please contact your accountant to see what applies in your specific situation.

 

Preface: This blog is for entrepreneurs who are hereby advised to apply appropriate tax planning for their businesses activities to optimize the tax benefits and nuances of the new Section 199A tax laws, beginning with the 2018 tax year.

A Summary of the New Tax Laws For Section 199A

Tax Implications and Planning Features with the Qualified Business Income Deductions

Credit: Donald J. Sauder, CPA, CVA

Surpass the Threshold

What if you surpass the $315,000 MFJ and $157,500 Section 199A threshold? Well, tax planning becomes more complex and is then subject to certain individual tax planning nuances. First, the service business deduction goes to zero when exceeding the threshold. Further, qualifying businesses have a separate individual limitation on two levels 1) applicable to W-2 wages amounts, or 2) the combined W-2 wages and a 2.5% capital factor.

For example, the first step planning item nuance with the Section 199A threshold for high income entrepreneurs, is that tax planning must now occur on a business by business approach, with segregations of the individual business activities to determine (QBI) qualified business income optimization. Therefore, for entrepreneurs with multiple ownership interests e.g. Sch. C’s or K-1’s, the tax activity grouping features are now imperative. Secondly, tracking income and expense, and W-2 wages for each business, and the corresponding basis of fixed assets is an additional feature now of yearly tax planning. This planning is an advised tax accountant task.

Tax Planning with Section 199A Threshold

It appears that prior tax year groupings for net investment income tax provisions, will continue to work with Section 199A. However, groupings of business on W-2 wages and fixed assets are now aggregate considerations. In other words, the grouping features of an individual taxpayer have a new feature of consideration, and future aggregation will require specific individual tax planning. These groupings are a separate tax planning topic.

Furthermore, the industry code applied to a business tax filing has become increasingly important. A once more trivial consideration, the industry code reported to the IRS on the business tax filings, will now result in potential audit flags if misclassified as a service based activity, i.e. the IRS will apply scrutiny of industry codes on service business as subject to audit adjustments even if business income qualifies as non-service QBI, because the tax filing has classified the activities as service sourced revenue.

Adding to the tax planning nuances, fixed asset schedules are another key area of tax planning for purposes of qualified property factors for Section 199A when taxpayers exceed the threshold. More tax planning variables occur with the 2.5% qualified property factor calculated in the Section 199A deduction that permit business property owned and in service at the end of the tax year and produces qualified business income, to provide a tax deduction in the absence of W-2 wages.

This is a welcome tax rule improvement from the prior Section 199 DPAD. The in- service property’s unadjusted basis remains applicable for 10 years after placed in service, or the last day of the last full year of MACRS depreciation. The accuracy of fixed assets is now a pivotally global tax filing attribute.

Surprisingly to the entrepreneur’s taxation favor, the unadjusted basis of fixed assets for the Section 199A is not reduced by Section 179, bonus depreciation, or regular depreciation. Adding to the benefits, the unadjusted basis of assets is used for the greater of the recovery period of 10 years. Property basis for Section 199A is only reduced or eliminated if the asset is no longer used in the qualifying business. Therefore, if a business purchases $500,000 of equipment on March 1 of 2018, if the business deducts the $500,000 galaxy of asset additions, with bonus depreciation rules during 2018, the qualified property basis is still $500,000 for the Section 199A capital limit, i.e. the 2.5% of property computation. Adding to tax complexity, uncertain tax positions will now be relevant in say real estate partnerships with allocations of land and building allocations because the QBI limit will be adjusted based upon qualifying depreciable property.

End of Segment II – to be continued

The Changing Landscape of Sales Taxes  (Segment I)

By Jacob M. Dietz, CPA

“A prudent man foreseeth the evil, and hideth himself; but the simple pass on, and are punished.” Proverbs 13:12

The landscape for collecting and remitting sales taxes is changing. If your business operates in more than one state, consider if you should be making any changes to hide yourself from unpleasant circumstances.

History

Decades ago, the Supreme Court ruled in the Quill case that merchants did not need to collect and remit sales tax in other states if they didn’t have a physical presence in that state. This exception allowed out-of-state merchants to sell items that would normally be subject to sales tax into another state without collecting and remitting sales tax.

The exception to collection and remission allowed merchants to avoid the hassle of determining if their product was subject to sales tax in a different jurisdiction. For example, just because something is subject to sales tax in Pennsylvania does not automatically mean it is subject to another state’s sales tax. On the other hand, a product that is exempt from PA sales tax is not automatically exempt under another state’s sales tax rules.

The exception to collection and remission also allowed merchants to avoid the time and expense of filing sales tax returns in other states. It takes time to file in other states. Also, it can make a significant difference in the price your customer pays. For example, suppose you are selling a $10,000 item to another state with a 5% sales tax rate. If you do not charge sales tax, then your price is $10,000. Suppose that you have a competitor with a physical presence in that state. They are selling the same item that you are selling, also for $10,000. Since they had a physical presence, however, they need to charge the 5% sales tax rate. If a customer buys from your competitor, they pay $10,500. If they buy from you, they pay $10,000. Merchants with no physical presence therefore had an advantage.

Some states have a use tax for this situation. The use tax would be payable by the customer, so they would still owe $500 of tax, which they should report and pay themselves. The merchant would not need to bother with it. Unfortunately, compliance with use tax is low.

The Great Change

We have been addressing the past, but there has been a great change. South Dakota wanted tax money, and they passed a law to collect sales tax from out-of-state vendors even if they did not have a physical presence in the state.

The South Dakota law, however, did not require every out-of-state merchant to collect and remit sales tax. It used the threshold of $100,000 sales and 200 separate transactions. Therefore, an out-of-state merchant that sold $10,000 of products into South Dakota in 10 separate transactions would not be required to collect and remit sales taxes under South Dakota’s law.

This law, even with the threshold, contradicted the Supreme Court’s rulings in the past, so this law came before the Supreme Court. The Supreme Court sided with South Dakota in a 5-4 ruling. In South Dakota v. Wayfair, Inc., the Court overturned its decades old precedent requiring physical presence for the collection and remission of sales taxes.

How Will This Case Affect Businesses?

If a business is selling into another state, even without a physical presence in that state, it is possible that the business will be subject to sales tax in that state. Note that it is possible, it is not guaranteed. It depends on the specifics of the situation.

This article is general in nature, and does not contain legal advice. Please contact your accountant to see what applies in your specific situation.

To be continued……