It really does not seem to matter how long a CPA has been an auditor; everyone assumes that they do taxes. It is very likely that even their own mother will call each year around March and ask that infuriating question, “How is tax season going?”
Once an auditor has had that small vein pop out on their forehead for many (many, many) years, they should simply relax into the undeniable truth that every auditor needs a simple working knowledge of taxes to be able to have an elevator conversation on current tax issues. Their clients certainly are interested in taxes, and there is nothing worse than an auditor with a blank and unknowing stare.
Having this in mind, here are five things that every auditor should be able to discuss with construction clients for this coming tax year.
1: Buy That Equipment Before Year-End
This can be a tricky recommendation for an auditor to make. Everyone thinks that by purchasing equipment before year-end they are “saving” taxes, which is not completely true. The truth is that they are “accelerating” the deduction, rather than generating additional deductions. Auditors need to think in terms of how the income statement would look with a 100% deprecation in the current year rather than streamlining with straight-line.
The effect is that while a person won’t pay taxes on those amounts this year, they will not have any deductions for that equipment next year. The only true savings come from the time value of money.
Just to be as confusing as possible, there are actually two types of accelerated depreciation. Clients generally have two ways to take an immediate writeoff either for a portion or all of the cost of an acquired capitalized asset. They can claim a tax deduction for a percentage of the cost of the asset (bonus depreciation), or they can claim a deduction for a certain dollar amount of the cost of the asset (Section 179).
Bonus Depreciation: This is a tax incentive that allows businesses to take a first year-deduction on purchases of qualified business property in addition to other depreciation. Under the Tax Cuts and Jobs Act, bonus depreciation has been increased to 100% (up from 50%) for purchases made between September 27, 2017, and January 1, 2023. Bonus deprecation also now applies to both new and used machinery and equipment (previously it only applied to new items).
Section 179: This is also a tax incentive for businesses that purchase and use qualified business property. If equipment purchases are under $2,500,000 the client can expense the entire amount. Section 179 is completely phased out once eligible purchases reach $3,500,000 and is limited to $25,000 for SUVs and trucks greater than 6,000 pounds gross vehicle weight. In addition, qualified improvement property and certain structural components that are not eligible for bonus deprecation can be eligible for special expensing rules under Section 179.
2: New Tax Rate and Simplification of Taxes for C-Corporations
Much to the irritation of the tax department, auditors have routinely put forward that taxes do not make sense, they do not have an underlying logic and they are simply a socio-economic venue to motivate behavior. A point of confusion is not only the sliding scale of taxes, but the oddity of Alternative Minimum Tax. From an auditor’s perspective, this complicated addition to the tax code reads like a check-and-balance on that sliding scale, enabling taxes to be recalculated based on an alternative minimum amount.
The elimination of AMT and a new 21% flat-tax rate for C-corporations was a welcome and long-awaited change. The direct impact to the contractor is additional cash flow; the direct impact to the auditor is a simplification of overcomplicated tax planning; the indirect impact to the auditor is, naturally, new questions regarding converting to a C corporation.
3: R&D Credit
The U.S. Research and Development tax credit is a government-sponsored tax incentive that rewards companies for conducting R&D in the United States, and it is much more expansive than many businesses might think.
Any company that develops or enhances new or existing products or processes will most likely qualify for some portion of the R&D tax credit. The credit was implemented to incentivize innovation throughout the economy and to keep technical jobs local, which is highly beneficial to the construction industry.
4: Net Operating Loss Rules
In an ideal world, there would be no loss to carry forward for any clients. Unfortunately, during this time, many clients will have significant losses. An the auditor needs to be aware of changes that have taken place, as well as when and how much of the losses can be used.
The CARES Act allows for NOLs arising in a taxable year beginning after Dec. 31, 2017, and before Jan. 1, 2021, to be carried back five years and continue to be eligible to be carried forward indefinitely. Corporate taxpayers will enjoy this, as carryback to a pre-2018 tax year will typically be more valuable due to recent tax rate changes. The CARES Act also retroactively suspends the 80% limitation on use of NOL carryforwards and allows for 100% use. This can get real complicated real fast. Auditors need to make sure and their clients are tracking NOLs based upon when they are incurred, when they hope to use them and what tax act they fall under.
5: Bonuses Need To Be Paid by When?
Right around year-end, auditors will start getting this question—and there is an easy answer to have in your pocket. Usually between Thanksgiving and Christmas, management starts thinking about bonuses, how much they can write off and how to trick their payroll system to give an actual $1,000 bonus check rather than a tax-adjusted check. The whole process generally takes some time and is seldom complete before the end of the year.
The IRS has set time limits on when bonuses must be paid in order for them to be deductible in any given fiscal year. Auditors should make sure they know what day that is. Non-owner bonuses must be paid within 75 days of year-end and owner bonuses (“owner” being defined for S-corporations as regardless of percent-owned and for a C-corporation as more than 50% ownership) must be paid by year-end to be deductible.
Lastly, note that this article avoids addressing the “tax-free” aspects regarding the forgiveness of a PPP loan; auditors should leave that theoretical discussion to their least favorite tax partner.
