This blog post was originally published on February 16, 2018. It was updated on November 15, 2018.
Some benefits of tax reform require action now
The Tax Cuts and Jobs Act has impacted businesses in a number of ways, from the reduction of the corporate rate to more widely available tax credits. For companies in the technology industry, the tax legislation’s effects leaned more positive than for other sectors, but other tax changes are impacting the industry as well. To benefit from new provisions, you must be proactive in finalizing essential year-end tax planning for your business.
Most urgent: Maximize the new deduction for qualified business income (QBI).
The new tax law includes a QBI deduction break for owners of certain pass-through entities, which may reduce your maximum effective tax rate for 2018. Pass-through entities include subchapter S corporations, partnerships and some limited liability companies.
Owners of qualifying entities will now receive a 20% deduction on qualified business income, effectively reducing their maximum effective tax rate from 37.0% 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 certain 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.
Calculate your R&D tax credit, now more valuable to businesses in the technology industry.
If your business spends a considerable amount of time and money on innovation, you should consider claiming the research and development (R&D) tax credit, which permits companies to write off some costs incurred when creating new and improved products. The Tax Cuts and Jobs Act indirectly increased the R&D tax credit’s after-tax benefit, making it more valuable to businesses and entrepreneurs in the technology industry than before.
Additionally, the tax law’s removal of the corporate alternative minimum tax (AMT) gives more companies the opportunity to take advantage of the R&D tax credit. How can it benefit your company? Businesses are required to reduce the amount of research and development expenditures they deduct from their taxable income by the amount of their R&D tax credit. The new law boosts the R&D credit’s after-tax cash benefit: by applying the lower 21% new rate to the disallowed deduction, when compared to the prior 35% rate, your technology company could enjoy a larger net benefit. A knowledgeable tax advisor can help you calculate the exact yield you can expect from this credit.
The Tax Cuts and Jobs Act also limited the deductibility of net operating losses generated after December 31, 2017. Businesses can only offset up to 80% of their taxable income using net operating losses occurring after 2017. Technology companies expecting substantial revenue growth may consider taking advantage of their R&D tax credit now and apply it against the balance of taxable income that cannot be offset by their net operating losses.
You could fully depreciate new assets placed into service this year.
The Tax Cuts and Jobs Act increased Bonus Depreciation, allowing businesses to fully depreciate property placed in service on their federal tax return. This incentivized companies, especially in the technology, manufacturing, and construction sectors, to invest in their business and purchase new assets. It is important to note that some states have decoupled and disallowed this bonus depreciation, so you will need to consider whether your state is following federal or state tax laws as it relates to bonus depreciation when filing your 2018 tax return.
The Wayfair Supreme Court ruling may have a significant effect on your technology business’ tax liability.
The Wayfair Supreme Court ruling in May 2018 shifted the tax liability for online purchases from consumers to businesses. Instead of consumers paying a use tax, retailers now must collect the sales tax. The court’s decision effectively eliminated the need to have a physical presence in a particular jurisdiction in order to be subjected to that state’s laws, register as a business entity, and collect sales tax. States have established different sales volume thresholds, which determine a business’ liability. If you are a technology company selling software as a service, apps, or tangible goods, you need to understand how the states where you conduct business are interpreting and following these Wayfair-related laws.
Self-created intellectual property sale can no longer benefit from capital gains rate.
Inventors with self-made intellectual property such as inventions, patents and designs may not enjoy lower tax rates like before. The Tax Cuts and Jobs Act eliminated the ability to consider self-made property as capital assets, which are subject to the lower capital gains rate of 20%. Rather, self-made property is now taxed as ordinary income. You may want to consider how patented assets are sold and the impact that would have on your business’ deals across the technology industry.
Startup employees may want to delay tax on qualified equity grants.
Startup employees paid in restricted stock can now postpone paying taxes on this stock. Section 83(i) of the Tax Cuts and Jobs Act gives startup employees the opportunity to delay paying income taxes on restricted stock for up to five years.
Note that startup employees taking this approach would be relying on the startup’s financial success, and the impact of this new provision might be limited by its real-world application and reliance on guidance from the IRS. Startups are a major component of the technology industry, so many professionals in the tech space could potentially benefit.
Whether you plan to sell intellectual property or accept payment in restricted stock, contact a tax advisor to learn more about the Tax Cuts and Jobs Act’s impact on the technology industry and the implications for your business. Kaufman Rossin’s tax professionals can help you understand these and other provisions, and how to navigate the new tax law to maximize benefits.