The IRS has begun to issue guidance on various components of the Tax Cuts and Jobs Act which may have an important impact on your 2018 year-end tax planning process and beyond. Below are updates on six key areas that affect many businesses.
Business Deductions for Meals and Entertainment
Earlier this month the IRS announced that proposed regulations – which have yet to be published – will permit taxpayers to continue to deduct fifty percent of the cost of business meals provided to a customer, client, consultant, or similar business contact if the taxpayer (or an employee of the taxpayer) is present and the food or beverages are not lavish or extravagant.
There had been concern that the IRS would assert that such costs incurred during an entertainment event would not be deductible. For example, the cost of a hot dog and beverage at a baseball game might have been ruled nondeductible as such costs were “tainted” by the entertainment relationship. The IRS announcement makes it clear that this will not be the approach taken in the forthcoming proposed regulations. However, the cost of the “meal” component during or at an entertainment activity must be separately stated on bills, invoices, or receipts.
Tax Treatment of Charitable Contributions for Which a Credit is Received Against State and Local Taxes
Individuals who itemize deductions when filing tax returns are now limited to an aggregate deduction of $10,000 ($5,000 for a married individual filing a separate return) for state and local tax payments. States have responded with programs wherein taxpayers could make charitable contributions in exchange for credits against the taxpayer’s state or local tax obligation. The IRS has issued proposed regulations which will apply a “substance over form” concept, wherein the charitable contribution deduction must generally be reduced by the economic benefit of the credit, except where the credit is no more than 15 percent of the contribution amount. A hearing is scheduled for November 5.
Tax Treatment of Business Expense Payments for Which a Credit is received against State and Local Taxes
Unlike the result for charitable contributions, the IRS has issued clarification that business taxpayers who make business-related payments to charities for which they receive a state or local tax credit can generally deduct the full amount of the payment as a business expense, without reduction for the economic value of the credit received.
Exclusion from Income for Employer Reimbursements of Qualified Moving Expenses
After December 31, 2017, an employer reimbursement of an employee’s qualified moving expenses will no longer be excludible from the employee’s income. Reimbursements will be considered taxable wages. The employee’s deduction for any unreimbursed expenses has also been terminated. The IRS has announced that these new provisions will not apply to an employer’s reimbursement made after December 31, 2017 for expenses incurred by an employee in connection with a move occurring prior to January 1, 2018 and that would have been deductible had the employee paid the amount prior to January 1, 2018.
Twenty Percent Deduction for Qualified Business Income
The new twenty percent deduction under Internal Revenue Code section 199A will be one of the most important changes for business taxpayers operating as pass-through entities. The IRS issued proposed regulations in August that cover a number of key components of how section 199A will be applied. Topics include:
- How taxpayers will be permitted to aggregate various business operations under common control to achieve maximum benefit of the new deduction.
- How taxpayers will determine W-2 wages for purposes of limitations of the new deduction, including how wages paid by third parties are to be treated.
- Clarification of what constitutes an excluded specified service trade or business, including a taxpayer-friendly interpretation relating to statute language “trade or business where the principal asset of such trade or business is the reputation or skill of one or more of its employees.”
- A provision for taxpayers who rent or lease property to a commonly-controlled business to treat the rental activity as a qualified trade or business.
An important area not covered in the proposed regulations involves taxpayers who rent or lease property to parties other than commonly-controlled businesses. Whether such rental activities will constitute a “trade or business” is questionable, given the unclear standards that have developed over time for purposes unrelated to the new section 199A. Rental arrangements involving triple net lease terms wherein the taxpayer does not carry out material activities on a continual and regular basis may not be interpreted by the IRS as satisfying a trade or business standard yet to be specified relative to the section 199A deduction.
Like-Kind Exchanges of Real Estate
The tax deferral of gain recognition in connection with property dispositions qualifying under Internal Revenue Code section 1031 no longer applies after December 31, 2017, subject to transition provisions. The tax deferral provisions will continue to apply for real estate. The new 100 percent bonus depreciation provisions for a number of types of personal property mitigate the impact of this change for many components of such property used in a trade or business. While the tax deferral provisions will continue to apply for real property, the IRS has announced that the manner in which the cost of replacement property will be treated when calculating the two and a half percent of cost basis limitation for the new twenty percent qualified business income deduction will be more restrictive than many had hoped. The qualifying cost will reference the remaining undepreciated tax basis of property given up rather than its original cost.
If you have questions or would like to discuss any of these items in more detail, please don’t hesitate to contact Kreischer Miller’s Tax Strategies group.