Navigating Federal Tax Changes
Most Americans have one basic question about new federal tax changes: Will I pay more or less income tax?
But for accountants, tax preparers, and finance officers for companies large and small, the questions surrounding the new tax bill are many and complex.
Of particular concern to Connecticut companies are changes to business taxes.
While federal tax changes to individual rates are varied and temporary, changes to the business tax structure are permanent and fairly complete.
Although the tax package simplifies many aspects of the tax code and eases filing for many taxpayers, it’s still an evolving piece of legislation.
“This idea of corporate and international tax reform was very much in the air for a number of years,” said Dean Zerbe, national managing director for alliantgroup and former senior counsel to the U.S. Senate Committee on Finance.
“It’s going to take a lot of pencil sharpening to really get all the benefits out there for small, medium, and large businesses.”
‘Sweeping’ Tax Bill
“It’s probably the most comprehensive and sophisticated tax reform we’ve seen in 30 years,” said Jay Sattler, managing partner of Tax Services for BlumShapiro.
“Blum Shapiro has been working hard trying to digest and analyze the legislation on top of the daily influx of news that’s been coming out since then.”
Former IRS Commissioner Mark Everson, now vice chairman of alliantgroup, called the new tax bill “sweeping.”
“It doesn’t just mess around with a few tax expenditures and lower rates,” Everson said.
The changes will have far-reaching ramifications. For pass-throughs, there is very significant change.
"That's going to have far-reaching ramifications. For pass-throughs, there is very significant change.
"But it's broader than that. There's change in the charitable areas. There are very real encroachments in areas that have been untouchable in previous cycles."
One of the biggest federal tax changes in the bill Congress passed last year that impacts Connecticut businesses is a 20% deduction for qualified business income from so-called pass-through entities, including S corporations and limited liability companies.
Greg Cabral, managing partner of BlumShapiro's Rhode Island operations, said taxable income must be below $157,500 if you are single or $315,000 if married and filing jointly to qualify for the full deduction.
"One of the overriding messages in this tax reform was we want to reduce the tax liability of businesses," Cabral said.
Under the federal tax changes, qualified business income is actually a deduction.
"It's essentially the operating income from your flow-through entities. It does not include your investment income, doesn’t include interest, doesn't include your income or your capital gains,” Cabral said.
“You can have an S corporation operating a manufacturing operation. You have a sole proprietorship doing the same thing.
"The S corporation has a requirement to pay its owners reasonable compensation, therefore reducing the qualified business income from that entity.
"The sole proprietorship doesn't have that requirement. So now their income is going to be higher. They’re going to get a bigger deduction than the S Corporation."
Federal tax changes, however, limit who can use the tax break.
Entrepreneurs with service businesses, including doctors and lawyers, may be unable to use the deduction if their income is too high, Cabral explained.
Cabral suggested business owners get together with their tax preparers to fully understand their options under the law and, possibly, reconsider how their business is organized.
The bill also includes major changes to how U.S. companies that do business overseas will be taxed, said Alan Osmolowski, a partner at BlumShapiro.
If nothing else, the U.S. system of taxation is now in line with the rest of the world.
"If nothing else, the U.S. system of taxation is now in line with the rest of the world," said BlumShapiro partner Timothy Barry.
"U.S. rates are more in line, the way we tax corporate earnings is in line. This is a trend that isn't just happening in the U.S., it's happening in other parts of the world as well."
Corporate Changes Permanent, Individual Rates Temporary
But while corporate tax rates are permanent, many of the individual tax breaks in this bill will expire in eight to 10 years, Barry said.
"Unless Congress takes action, then the old rules will come back into play starting 2026," he said.
"It's way too early to surmise which ones of these provisions will be extended, made permanent or will be expiring, but time will tell."
Most of the experts agreed that tax lawyers and accountants will have to do a lot of homework on the bill to ensure their clients get its full benefits.
But no matter what you think about the federal tax changes, Everson said, the legislation is already making waves.
"I think you can already see the positive impacts," he said.
"We also see the IMF [International Monetary Fund] raising projections for growth, not just in our country but across the globe, citing this new tax law as the reason."
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