by cdaaccounting | May 21, 2021 | Business Deductions
It’s common to consider making your Idaho S corporation (versus yourself) a partner in your partnership: it saves you self-employment taxes.
Does this affect your Section 199A deduction? It does.
Guaranteed payments are not qualified Coeur d’Alene Idaho business income (QBI) for the Section 199A deduction.
The non-QBI guaranteed payment rule applies whether the partner receives the payment as an individual or as pass-through income from a Coeur d’Alene Idaho S corporation.
Your only options to claw back your Section 199A deduction with the S corporation as a partner are to
- reduce or eliminate the partnership’s guaranteed payments, and take the income pro rata based on ownership percentage; or
- use a special allocation of partnership tax items.
Keep the Coeur d’Alene Idaho S corporation self-employment tax savings in mind when considering your partnership activity. Often the savings can make the S-corporation-as-a-partner strategy well worth it.
by cdaaccounting | May 16, 2021 | Business Deductions
Now, add to this no-tax-on-sale benefit to the 21 percent corporate tax rate from the Tax Cuts and Jobs Act, and you have a significant tax planning opportunity.
Imagine this: You sell your Idaho C corporation. The sale produces a $6 million capital gain to you.
Your federal income tax bite on the $6 million of gain is zero. Yes, you are awake. You are reading this correctly. The tax bite is zero.
Internal Revenue Code Section 1202 establishes the rules for the zero tax bite. To get to zero, you need to operate your business as a tax code-defined QSBC.
You may already have a tax code-defined small business corporation in Coeur d’Alene Idaho, or you may be thinking of starting a new Coeur d’Alene business as a small business corporation. Paying zero taxes on the sale of your business stock is a big incentive.
100 Percent Gain Exclusion Break (Tax-Free Capital Gains)
To qualify for tax-free capital gains, you must acquire your QSBC stock after September 27, 2010.
More Than Five Years
Of course, there’s more than one rule. You must hold your QSBC stock for more than five years to qualify for the tax-free treatment.
Limitations on Excludable Gains
Your beloved lawmakers impose limits on your tax-free capital gains from the sale of a particular QSBC. In any taxable year, the tax limits on your eligible gain exclusion may not exceed the greater of
- 10 times the aggregate adjusted basis in the QSBC stock you sell, or
- $10 million reduced by the amount of eligible gains that you’ve already taken into account in prior tax years from sales of this QSBC stock ($5 million if you use married filing separate status).
Example 1: $10 Million Limitation
You are a married joint filer. You invested $100,000 when you started your C corporation in 2012.
Now, in 2019 (more than five years after the start), you sell the stock in the C corporation for $6.1 million. You have tax-free capital gains equal to the greater of
- $1 million (10 x $100,000), or
- $6 million (because it’s less than $10 million).
You have $6 million of tax-free capital gains.
Example 2: 10-Times-the-Basis Limitation
You are an unmarried individual. You invest $2 million in a single QSBC stock this year.
In 2025, more than five years from now, you sell this stock for $24 million, resulting in a total gain of $22 million ($24 million – $2 million). The tax code limits your tax-free gain to the greater of
- $20 million (10 times the basis of the stock), or
- $10 million.
In 2025, you have $20 million in tax-free capital gains and $2 million in taxable capital gains. You have to be smiling.
Definition of QSBC Stock
To be eligible for the QSBC gain exclusion, the stock you acquire must meet the requirements set forth in Section 1202 of our beloved Internal Revenue Code. Those requirements include the following:
- You generally must acquire the stock upon original issuance or through gift or inheritance.
- You must acquire the stock in exchange for money, other property (not including stock), or services.
- The corporation must be a QSBC at the date of the stock issuance and during substantially all the period you hold the stock.
Next, you have to look at the rules that apply to the corporation. To qualify as a QSBC, the following rules apply.
Rules for the Corporation
Your Coeur d’Alene corporation must be a domestic C corporation.
The corporation must satisfy an active business requirement. That requirement is deemed satisfied if at least 80 percent (by value) of the corporation’s assets are used in the active conduct of a qualified business.
Beware. Qualified businesses do not include
- the performance of services in the fields of health, law, engineering, architecture, accounting, actuarial science, performing arts, consulting, athletics, financial services, brokerage services, or any other business where the principal asset is the reputation or skill of one or more of its employees;
- banking, insurance, leasing, financing, investing, or similar activities;
- farming (including raising or harvesting timber);
- production or extraction of oil, natural gas, or other natural resources for which percentage depletion deductions are allowed; or
- the operation of a hotel, motel, restaurant, or similar business.
The Coeur d’Alene corporation’s gross assets cannot exceed $50 million before the stock is issued and immediately after the stock is issued (which considers amounts received for the stock).
by cdaaccounting | May 1, 2021 | Business Deductions
Here’s an easy example to illustrate.
Let’s say that in 2017, you purchased for Coeur d’Alene business use a pickup truck with a gross vehicle weight rating greater than 6,000 pounds. Asserting that you use the pickup 100 percent for business, you expensed the entire $55,000 cost.
What happens to that $55,000 expensed amount if you die, retire, or become disabled before the end of the vehicle’s five-year depreciation period?
If your heirs are not going to pay estate taxes, your death is about as good as it gets. Here’s why:
- You get to keep your Section 179 deduction. (It goes to the grave with you.)
- Your pickup truck gets marked up to fair market value. (Remember, you expensed it to zero, but now at your death, the fair market value is the new basis to your heir or heirs.)
Example. Using Section 179, you expensed the entire cost of your $55,000 pickup truck. You die. Your daughter Amy inherits the pickup at its fair market value, which is now $31,000, and sells it immediately for $31,000. Here are the results:
- You get to keep your Section 179 deduction—no recapture applies.
- Amy pays zero tax on her sale of the pickup truck.
- Your estate includes the $31,000 fair market value of the pickup, and if your estate is less than $11.4 million, your estate pays no estate taxes.
This is ugly. If you become disabled and you allow your Coeur d’Alene business use of the pickup to fall to 50 percent or below during its five-year depreciable life, you must recapture and pay taxes on the excess deductions generated by the Section 179 deduction.
To make matters worse, you must use straight-line depreciation in making the excess-deduction calculation.
With retirement, you have exactly the same problem as you would have if you became disabled. In fact, with retirement, you disable your Coeur d’Alene business involvement, and that makes your pickup truck fail the more-than-50-percent-business-use test, resulting in recapture of the excess benefit over straight-line depreciation.
You need to consider what happens should you become disabled, or retire, or die.