This blog post was originally published on February 7, 2018. It was updated on November 7, 2018.
Some benefits of tax reform require action now
The Tax Cuts and Jobs Act includes provisions affecting the construction industry. Here are a few specifics you should note.
Year-end tax planning is more important than ever this year. Like other businesses, construction firms will benefit from provisions in the Tax Cuts and Jobs Act such as the decrease in the maximum corporate tax rate to 21%. But here are a few other provisions you should discuss with your advisor before December 31, 2018.
Most urgent: Maximize the new deduction for qualified business income (QBI).
A big plus in the tax act is the 20% deduction for qualified business income available to pass-through entities. The new tax law includes a QBI deduction break for owners of certain pass-through entities. Pass-through entities include subchapter S corporations, partnerships and some limited liability companies. This may reduce your maximum effective tax rate for 2018.
Owners of some pass-through entities will now receive a 20% deduction on qualified business income, effectively reducing their maximum effective tax rate from 39.6% in 2017 to 29.6% in 2018. The deduction may be limited to 50% of the W-2 wages paid, or the sum of 25% of the wages plus 2.5% of depreciable basis. There’s another plus for pass-throughs: they keep the deduction on entity-level state and local taxes.
The QBI deduction limitations and restrictions are set at the owner level. Planning for year-end 2018 should include discussion of salaries, timing and distribution of income.
Companies with up to $25 million in gross receipts have three new options to consider.
- The cash method of accounting is now available.
Construction companies with up to $25 million in gross receipts now have the option to choose the cash method of accounting. Previously, the threshold was just $5 million; above that the accrual method was required.
The cash method records transactions when cash actually changes hands, creating a simpler process for small businesses from both paperwork and tax perspectives. With more options available, it’s important to consult your tax adviser to consider both pros and cons. The cash method, while it may be easier to understand and manage, may provide a misleading picture of your business profitability – it doesn’t take future revenue or expenses into account.
- The completed-contract method is also available to more companies.
The new law changes the accounting requirement for long-term contracts; now contractors between $10 million and $25 million in annual gross receipts may choose the completed-contract method instead of the percentage-of-completion method.
A long-term contract is defined as one that won’t be completed during the tax year it was started. Choosing the completed-contract method allows the taxpayer to delay accounting for the gross contract price and allocable contract costs until the job is done, even while booking progress payments received during the job. Changing to the completed-contract method and deferring recognition of long-term income may simplify recordkeeping. However, there are positives and negatives to discuss with a tax advisor.
- More companies are exempt from UNICAP.
Similarly, the threshold for exemption from another requirement has been raised.
Some of the costs of construction are required to be capitalized – treated as part of the building produced, rather than as expenses during the production process. This falls under the Uniform Capitalization Rules (UNICAP). The gross annual receipts threshold for this requirement has been raised from $10 million to $25 million, exempting construction firms under $25 million from UNICAP. Small contractors get relief from the burden of managing the capitalization process, and will now have the option to expense these costs during the project.
If your gross receipts are under $25 million, discuss the pros and cons of these three options with your tax professionals.
Contact your tax advisor to learn more about these and other provisions within the new tax law that could affect you or your business.