Federal Income Tax Changes for Closely Held Businesses: 2016 and Beyond
Following are highlights of changes made that affect 2016. There were many new rules and regulations and we have selected some of the most significant.
Automobile Mileage Reimbursement
- Mileage rates for business will drop from $.575 per mile to $.54
- For medical and moving expenses, from $.23 to $.19.
Passive Loss Rules
Passive loss rules are getting more favorable towards the taxpayer. In order to take a deduction for a loss on a business, you must be an active participant. Here are four of the seven means of active participation:
- Work a minimum of 500 hours in the business
- Do all the work in the business
- Work more than 100 hours and more than anyone else
- Have a group of businesses in which you work an aggregate of 500 hours
In the past the taxpayer typically had to keep a contemporaneous log to prove time of participation in the business. A recent tax court case allowed the taxpayers to deduct the losses if they reconstruct the log. This can be done by using objective criteria such as cell phone (not land line) records, emails, travel documentation, credit card bills, and documentation received from customers.
There are special additional provisions for executors of estates and trustees of trusts that own the businesses.
IRS typically has tried to disallow losses from the operation of businesses that were essentially hobbies. But in recent case, the tax court allowed the deduction where the taxpayer actually ran the hobby as a business, actually tried to make profits, kept separate books, prepared a business plan, advertised, maintained a professional website, etc.
Capitalization v. Expenses
Until 2016 a business could write off any fixed asset expense up to $500 per invoice. For 2016 and later that amount is $2,500. Businesses can deduct these expenses but only if it is done right including a written policy, an election on the tax return, alignment with financial statements, and inclusion in the chart of accounts.
Partnerships and Self-Employment Taxes
If a partner wants to make a withdrawal, is it subject to self-employment tax? Can some of it be subject to self-employment tax and some not? Partnership distributions have been generally all treated as subject to self-employment taxes; however, while payments by the partnership for services are subject to self-employment taxes, payments based on capital in the partnership, and profits from the partnership are not.
Section 179 has been extended retroactively for 2015 and is permanent for 2016 and beyond. The $500,000 allowable 179 deduction has been indexed for inflation. But be careful if the property may be sold in the not too distant future, because the deduction will be recaptured at the highest ordinary income tax rates.
The section 179 deductions for real estate are increased from $250,000 to $500.000 for 2016 and beyond. The same caution about recapture referenced above should be considered.
HVAC units qualify for section 179 in 2016 and beyond. Where the taxpayer replaced only a portion of the units, IRS designated the replacement as a repair–so probably no recapture.
Depreciation on leasehold improvements, restaurant buildings, and retail buildings goes from 39 years to 15 years and has been extended. And you can also get bonus depreciation on half, then 15 years on the other half. Bonus depreciation is 50 percent through 2017, 40 percent for 2018, 30 percent for 2019, and then none after 2019.
Bonus depreciation on new luxury automobiles ($15,900 or more) used 100 percent for business is $8000 in 2016 ($6400 in 2017, $4800 in 2018, then -0-) on top of the regular depreciation.
R&D tax credit has been made permanent. Offsets AMT in businesses with gross receipts up to $50 million and payroll taxes for businesses with up to $5 million.
Part of 2015 Trade Package Legislation–Penalties
Penalties for being late in sending out 1099s, W-2s, or 1095s for health care reporting have skyrocketed and can be crushing. For example, the penalty for sending out 1099s after August 1 can be $500 per 1099 and more if intentional disregard. For 1095s (health care reporting), which cover all employees in companies with 50 more employees, it can be even more.
This blog posting covers only the highlights of new tax rules for 2016. And they do not list all the rules. We have written this to suggest some areas that you might want to consider. Please contact us for details on any of these changes or if you have any other questions.