If so, is your S corporation salary

• nonexistent?
• too low?
• too high?
• just right?

Getting the S corporation salary right is important. First, if it’s too low and you get caught by the IRS, you will pay not only income taxes and self-employment taxes on the too-low amount, but also both payroll and income tax penalties that can cost plenty.

Second, in most cases, the IRS is going to expand the audit to cover three years and then add the income and penalties for those three years.

Third, after being found out, you likely are now stuck with this higher salary, defeating your original purpose of saving on self-employment taxes.

Getting to the Number

The IRS did you a big favor when it released its “Reasonable Compensation Job Aid for IRS Valuation Professionals.”

The IRS states that the job aid is not an official IRS position and that it does not represent official authority. That said, the document is a huge help because it gives you some clearly defined valuation rules of the road to follow and takes away some of the gray areas.

Market Approach

The market approach to reasonable compensation compares the S corporation’s business with others and then looks at the compensation being paid by those businesses to employees who look like you, the shareholder-employee who is likely the CEO.

The question to be answered is, how much compensation would be paid for this same position, held by a nonowner in an arm’s-length employment relationship, at a similar company?

In its job aid, the IRS states that the courts favor the market approach, but because of challenges in matching employees at comparable companies, the IRS developed other approaches.

Cost Approach

The cost approach breaks your employee activities into their components, such as management, accounting, finance, marketing, advertising, engineering, purchasing, janitorial, bookkeeping, clerking, etc.

Here’s an example of how the cost approach works to support a $71,019 salary as reasonable compensation for this S corporation owner whose corporation had $3.5 million in revenue and 19 employees:

Health Insurance

The S corporation’s payment or reimbursement of health insurance for the shareholder-employee and his or her family goes on the shareholder-employee’s W-2 and counts as compensation, but it’s not subject to payroll taxes, so it fits nicely into the payroll tax savings strategy for the S corporation owner.

Pension

The S corporation’s employer contributions on behalf of the owner-employee to a defined benefit plan, simplified employee pension (SEP) plan, or 401(k) count as compensation but don’t trigger payroll taxes. Such contributions further enable the savings on payroll taxes while adding to the dollar amount that’s considered reasonable compensation.

Planning note. Your S corporation compensation determines the amount that your S corporation can contribute to your SEP or 401(k) retirement plan. The defined benefit plan likely allows the corporation to make a larger contribution on your behalf.

Section 199A Deduction

The S corporation’s net income that is passed through to you, the shareholder, can qualify for the 20 percent Section 199A tax deduction on your Form 1040.

To be better understand the S Corporation Salary’s detailed information. We are here to help you. Don’t hesitate to call our office:415-860-6288 (San Francisco), 917-397-0949 (New York) and 713-396-0107 (Houston), and e-mail us at info@flextcg.com.

The post Avoid Trouble: Don’t Let the IRS Set Your S Corporation Salary appeared first on Flex Tax and Consulting Group (FTCG).

The rules that apply to you do not apply to the rank-and-file employee group. The government puts you, the owner-worker, in a separate “owner-employee” category to limit your business’s PPP benefits.

There are four types of owner-employees:

1. General partners in partnerships
2. S corporation shareholder-employees
3. C corporation shareholder-employees
4. Form 1040, Schedule C filers (e.g., the self-employed, sole proprietors, 1099 recipients, single-member LLCs, and husband and wife LLCs treated as single-member LLCs)

If you own all or part of your business and work in the business, you fall into one of the four categories.

The maximum loan attributable to and forgiveness available for the “compensation paid” to any SBA-defined owner-employee across all businesses is

• $15,385 for borrowers who received a PPP loan before June 5, 2020, and elected to use an eight-week covered period.
• $20,833 for borrowers under the 24-week covered period.

Owners of Multiple Businesses Beware

If you have ownership interests in more than one business, you need to consider that the owner-employee loan maximums apply to all your businesses.

The new interim final rule puts the $15,385 or $20,833 deemed compensation cap on the loan forgiveness for the defined owner-employee, but contains no guidance on how to allocate or otherwise deal with the caps when you have ownership interests in multiple businesses.

Example. Jim operates an S corporation and a proprietorship. He receives his PPP loan on June 17. The cap on Jim’s combined S corporation and proprietorship loan forgiveness attributable to (a) Jim’s employment in the S corporation and (b) his profits from the proprietorship is $20,833.

We know Jim can obtain loan forgiveness for up to $20,833, but we have no guidance on how Jim would allocate the forgiveness between the S corporation and proprietorship. Perhaps by the time Jim applies for PPP loan forgiveness, we will have some directions.

Partnerships

The PPP loan forgiveness begins for general partners at the amount of their 2019 net earnings from self-employment (reduced by claimed Section 179 expense deductions, unreimbursed partnership expenses, and depletion from oil and gas properties) multiplied by 0.9235.

You then take the lesser of the amount determined above or $100,000, divide by 12, and multiply by 2.5 to find the loan amount. With this calculation, the maximum loan is $20,833.

The maximum forgiveness attributable due to the partner’s self-employment income is

• $15,385 if the partnership obtained its loan before June 5, 2020, and elected the eight-week regime, or
• $20,833 if the partnership is under the 24-week program.

Planning note. Under the 24-week program, the partnership with no employees does not need to spend any amounts on interest, rent, or utilities to obtain full forgiveness. It can obtain full forgiveness in 11 weeks using the calculated self-employment income of up to $20,833 for each partner.

S Corporations

As with all owner-employees, the PPP loan and its forgiveness for “compensation” are capped at $15,835 under the eight-week covered period and $20,833 under the 24-week covered period.

Reminder. The $20,833 cap is based on the maximum defined compensation of $100,000 divided by 12 and then multiplied by 2.5.

Under the 24-week program, the S corporation whose only employee is an owner-employee obtains full loan forgiveness after 11 weeks when using the 24-week covered period without spending anything for interest, rent, or utilities.

If the S corporation with no employees other than the owner-employee elects the eight-week covered period, the corporation has to spend money on interest, rent, and utilities to rise above the $15,385.

The Paycheck Protection Program Flexibility Act of 2020 created a new statutory 60 percent payroll rule. Using the 60 percent enables the S corporation with no employees other than the sole owner-employee that elects the eight-week covered period to achieve full forgiveness with payments for interest, rent, and utilities.

S corporation owner-employees are capped by the amount of their 2019 employee cash compensation and employer retirement contributions made on their behalf, but employer health insurance contributions made on their behalf cannot be separately added because those payments are already included in their employee cash compensation.

Example. Liz operates her solo busines as an S corporation. Her 2019 W-2 compensation of $68,000 included $18,000 for medical insurance. Her payroll cost for the PPP loan and its forgiveness includes the full $68,000 plus what the S corporation paid into her retirement plan and to the state for unemployment insurance. The total of these amounts is capped at $100,000, which creates the $20,833 maximum loan amount as explained above.

C Corporations

C corporation owner-employees are capped by the amount of their 2019 employee cash compensation and employer retirement and health insurance contributions made on their behalf.

Example. Don operates his business as a C corporation where he is the only employee. In 2019, the corporation paid Don a salary of $60,000, contributed $12,000 to his retirement plan, paid $20,000 for his family’s medical insurance, and paid $350 to the state for unemployment insurance.

Don’s corporation has $92,350 in qualifying payroll costs. His loan and forgiveness are capped at $19,240 ($92,350 ÷ 12 x 2.5).

Form 1040 Schedule C Businesses

Your PPP loan and its forgiveness for “compensation” are capped at $15,835 under the eight-week covered period or at $20,833 under the 24-week covered period. The cap amounts are computed using your net profit from line 31 of your 2019 Schedule C.

Your easy-peasy road to 100 percent loan forgiveness is the 11-week program. With 11 weeks of taking the loan amount out of the business, you obtain full forgiveness without paying any rent, utilities, or interest.

When Can the Owner-Employee’s Business Apply for Forgiveness?

According to SBA guidance issued on June 22, 2020, you may submit your loan forgiveness application anytime on or before the maturity date of the loan—including before the end of the covered period—if you used all the loan proceeds for which you requested forgiveness.

Example. Ron receives his $20,833 PPP loan on May 19, 2020. During the 11 weeks beginning with May 19, 2020, Ron’s corporation pays qualified payroll costs that total $20,833. Ron can apply for $20,833 of loan forgiveness anytime after the 11th week.

Special allocations are tricky business. We are here to help you. Don’t hesitate to call our office:415-860-6288 (San Francisco), 917-397-0949 (New York) and 713-396-0107 (Houston) and e-mail us at info@flextcg.com.

The post PPP Loan Forgiveness for Partnerships and S and C Corporations appeared first on Flex Tax and Consulting Group (FTCG).

1. Partner’s Self-Employment Income Creates Cash and Forgiveness

Just as sole proprietors failed originally to ask for their PPP cash assistance, so did many partners.

Three things to note here:

1. The partnership (not the individual partner) applies for the PPP loan.
2. The deemed payroll amount that the partnership uses for the partners is their 2019 self-employment income (both guaranteed payments and ordinary income).
3. If the partnership filed for the PPP loan based on its employees, but failed to include any dollar amount for the partners, the U.S. Small Business Administration (SBA) in an interim final rule authorizes the lender to increase the loan amount for the appropriate partners’ deemed payroll inclusion that was left out of the original application.

2. Paid and Capped

Line 9 of the SBA official forgiveness application reads as below:

Line 9: Enter any amounts paid to owners (owner-employees, a self-employed individual, or general partners). This amount is capped at $15,385 (the eight-week equivalent of $100,000 per year) for each individual or the eight-week equivalent of their applicable compensation in 2019, whichever is lower.

Note the word “paid.”

In general, payments to partners don’t occur in a pattern that would equal the amount needed during the eight-week covered period.

To protect the partnership’s forgiveness amount, make sure that payments to partners during the eight-week covered period equal the 8/52 of the partners’ deemed 2019 payroll. We have not seen a requirement on the “paid” part, but that word is there. So protect yourself.

3. Qualifying Non-Payroll Expenses

When explaining that the partnership had to file for the PPP loan and forgiveness, the SBA stated:

Rent, mortgage interest, utilities, and other debt service are generally incurred at the partnership level, not partner level, so it is most natural to provide the funds for these expenses to the partnership, not individual partners.

4. Apply

If your partnership has not applied for its PPP money, do it now. The SBA has plenty of money available for PPP loans at the moment, but you have to think it won’t last long.

5. Easier Forgiveness on the Way

On Thursday, May 28, the U.S. House of Representatives approved the Paycheck Protection Program Flexibility Act of 2020 by a vote of 417-1. This bill or something similar will be enacted in June to make it easier for all PPP borrowers to qualify for PPP loan forgiveness.

Here are some highlights from this bill:

• Extends the eight weeks to 24 weeks
• Changes the 75 percent rule to 60 percent
• Changes the two years to five years and retains the 1 percent interest rate
• Changes June 30 to December 31
• Adds exemptions that will increase full-time equivalents and that will increase forgiveness amounts

Will make it easier to obtain forgiveness when you have reductions in your employee

If you need our assistance with either the PPP loan or forgiveness, we are here to be of service. Our office e-mail is info@flextcg.com and the office number is 415-860-6288 (San Francisco), 917-397-0949 (New York) and 713-396-0107 (Houston).

The post Six Insights into the PPP for Partnerships appeared first on Flex Tax and Consulting Group (FTCG).

If your small businesses managed to secure a Paycheck Protection Program (PPP) loan before the well ran dry, your next task is figuring out how to use it. Here’s a list of the expenses that qualify for forgiveness (meaning you don’t have to pay the loan back).

Remember, your lender will perform an audit at the end of the 8-week forgiveness period to see how you spent the loan. Keep the relevant paperwork under each section so you can sail through the audit.

Salaries & Wages

A minimum of 75% of your PPP loan must go to compensating your employees, excluding those who earn more than $100,000 per year. We are still waiting for guidance from the Small Business Administration on salaries over $100,000 and business owner/family salaries.

For the audit: Payroll processing reports, tax reports, or other reports such as paid time off (vacation or sick leave).

Healthcare Benefits

This is for paying any company’s group health insurance plan premiums. Company owners and family are included if they’re on the group plan. However, payments to the owner’s policy or Health Savings Account contributions do not qualify for PPP loan forgiveness.

For the audit: Insurance invoice(s) and proof of payment.

Retirement Plan Contributions

If you offer your employees a Defined Benefit Plan, Defined Contribution Plan, or SEP IRA, you can use some of your PPP loans to continue funding that plan. There’s no specific guidance about benefits paid to the owner or owner’s family, but we doubt it would be forgiven.

For the audit: Retirement plan statements, funding schedules, and proof of remittances.

Non-Payroll Expenses

Operating expenses that don’t directly benefit employees — a few of which we’ll list below — can’t total more than 25% of the loan. You’ll have to pay back any excess amounts if you go over that percentage.

Rent

The expense must be incurred and paid during the 8-week loan period to be forgiven. Any rent that was already due before the date of the loan doesn’t qualify. Also, the lease must have been signed before February 15, 2020.

For the audit: Signed lease contract, proof of rent payment (canceled check, ACH, bank statement, or wire).

Utilities

Service contract agreements must have been in effect before February 15, 2020. This covers electricity, gas, water, phone, internet, etc. It’s not clear what the SBA means by “etc.”

For the audit: Proof of payment for each utility.

Interest in Business Loans

You may use some of your PPP loans to pay the interest on your business mortgage, practice acquisition loan, build-out loan, or any loan secured by business personal property. The mortgage/loan must have been in effect before February 15, 2020.

For the audit: Bank statement or loan invoice showing principal and interest, plus proof of payment. You may wish to pay principal and interest separately during the 8-week PPP loan period, so there’s no question in the auditor’s mind.

The pandemic has inflicted significant damage on many of America’s small businesses. And the financial relief red tape makes the situation even more difficult. Flex Tax can help make sense of it all and take some of the bookkeeping worries off your shoulders, so you can focus on returning to the “new normal.”

The post What Can You Spend Your PPP Forgivable Loan on? appeared first on Flex Tax and Consulting Group (FTCG).

Over the past few months, I’ve been surprised to find that very few angel investors and entrepreneurs are aware of one of the most important developments for startups in a long time. If you are an angel investor or a founder make sure you read this article carefully as it could save you millions.

Recently Congress extended Section 1202 of the Internal Revenue Code, providing significant tax benefits to angel investors and entrepreneurs. Section 1202 tax exclusion provides tax-free gains on 100% of gains related to startup investments, up to $10 million per investment. This provision enables entrepreneurs to exclude up to $10 million of gains as well. A version of this provision has been around for years but previously it was not a permanent exemption. The exemption was less than 100% during certain years and it was generally less straightforward.

The 1202 tax exclusion should make angel investing more attractive than ever before and also provides a major benefit to entrepreneurs. Just make sure you understand the details:

Section 1202 Basics

• 100% tax break for gains made on investments in qualified small business stock (startups or small businesses).
• Maximum exclusion equals the greater of $10 million or ten times the initial investment (technically the adjusted tax basis).
• Alternative Minimum Tax does not apply.
• Companies must be properly incorporated in adherence to Section 1202.
• Founders, employees, angel investors, fund general partners, and taxable limited partners are all eligible for the tax break.

Example of Impact on Entrepreneurs

A company is acquired for $50 million and the founder owns 20% of the company at exit. The founder would receive $10 million before taxes and would have $10 million of gains.

If the company took advantage of the 1202 tax exclusion, he/she could exclude the entire $10 million of gains from taxes.

Example of Impact on Angel Investors

Another company gets acquired for $500 million and an angel investor who invested $100,000 early on now owns 2.5% of the company at exit. The angel investor would receive $12.5 million at the exit and would have a $12.4 million gain ($12.5 million of proceeds less original investment of $100,000).

As long as the company took advantage of the 1202 tax exclusion. The angel investor could exclude $10 million from taxes and would just get taxed on the remaining $2.4 million.

Section 1202 Requirements

• Investment must be hold for at least five years.
• The company must be incorporat as a C Corporation in adherence to Section 1202.
• The company must have no more than $50 million in assets before the investment or immediately afterward.
• Businesses may not be in the service, finance, farming, mining, extraction, restaurant, hospitality, or real estate industries.
• Corporations that make investments are not eligible.

This development should give more credence to the argument for C-Corporation vs. LLCs and likely overrides my prior argument for LLCs. If you are a founder, you might be able to take advantage of this exemption even if you weren’t aware of it upon incorporation. Talk to Flex Tax and Consulting Group. If you are an angel investor, make sure any startup you are investing in is aware of the 1202 tax exemption. It makes the proper elections to comply if they qualify.

The post The Secret Angel Investment Tax Credit That Could Save You Millions appeared first on Flex Tax and Consulting Group (FTCG).

File Away Your Tax Return and All Related Records

Once you’ve filed your return, it’s a good idea to create a single location to keep all the information related to the tax year for which you just submitted. If you keep physical records, this means printing off your return. Including all additional schedules, and sticking everything in a file, along with all the forms you received that reported income, expenses, or other tax-related information. These are forms like the 1099 MISC, 1099 INT, etc.

It’s also a good idea to include receipts for purchased items you’ve claimed as deductions and other records. You’ve used for filing your taxes, such as accounting reports and mileage records. Then if by chance the IRS chooses to audit your tax return, you won’t have to scramble to find all the records you need to prove why you claimed these deductions and credits.

Get Organized for Next Year

There’s no better time for organizing tax records than right now. Since you just filed your taxes, you’re aware of what was hard about the process and what parts of filing you can streamline. This may mean creating a physical file or a file on your computer where you can store receipts as they come in. Since more and more receipts arrive via email, you may want to create a separate receipts folder in your email account so they’re easy to find.

If you think you’ll be able to claim new deductions or credits next year, now is the time to start gathering the information to do so. Or if you expect to lose a credit or deduction you claimed last year, you can start considering other ways you can lower your tax burden to compensate. This may mean contributing more to your retirement plan or donating to charity. Being proactive makes it a lot easier to find everything you need when you’re ready to file your taxes next year.

Keep Receipts

You may be able to itemize your deductions, consider keeping all your receipts. When you itemize deductions, you can deduct the amount of sales tax you paid on goods throughout the year. Although the IRS provides a sales tax calculator that calculates a standard tax deduction. It based on your income and ZIP code. You may have spent more than the standard, especially if you made a large purchase. Likely buying a car or building a house, and paid sales tax on the supplies.

If you create a spreadsheet where you can enter the amount of sales tax on everything you’ve bought, it will ultimately save you a lot of time during tax season. This way, you’ll know whether you spent more than the standard tax deduction you’re eligible for.

Consider Storing Your Records Online

When you prefer to keep the amount of paperwork you acquire to a minimum, you can choose to store all your current and past tax information on your computer. Or — even better — online using a cloud service. You do store it on your computer, and be sure you make regular backups. If you subscribe to a cloud service, the information you store on your computer will automatically backup anytime you’re connect to the Internet, ensuring you never lose those records. If you have paper records, you can scan them and upload them onto your computer so you can store everything in one convenient location.

By getting organized now, you can save yourself a lot of time and more than a few headaches when the next tax season comes around. These tips on organizing tax records after you file will make the process a whole lot easier.

The post Organized Your Tax Paperwork appeared first on Flex Tax and Consulting Group (FTCG).

When it’s time to file a federal income tax return for your small business, there are various ways you can do it, depending on whether you run the business as a sole proprietorship or use a legal entity such as an LLC or corporation.

Each type of entity requires a different tax form on which you report your business income and expenses. Regardless of the form you use, you generally calculate your taxable business income in similar ways.

Step 1—Collect your records

Gather all business records. Before filling out any tax form to report your business income, you should have all records in front of you that report your business earnings and expenses.

If you use a computer program or a spreadsheet to organize and keep track of all transactions during the year, calculating your income and deductions is much easier than trying to remember every sale and expenditure that occurred during the year.

Step 2—Find the right form

Determine the correct IRS tax form. You always need to report your business earnings to the IRS and pay tax on them but choosing the right firm to report earnings on depends on how you operate your business.

Many small business owners use a sole proprietorship which allows them to report all of their business income and expenses on a Schedule C attachment to their income tax return. If you run the business as an LLC and you are the sole owner, the IRS also allows you to use the Schedule C attachment. However, if you use a corporation or elect to treat your LLC as one, then you must always prepare a separate corporate tax return on Form 1120.

Step 3—Fill out your form

Fill out your Schedule C or Form 1120. If you will be reporting your business earnings on Schedule C, you can search the IRS website for a copy to generate the form for you after you input all of your financial information.

Schedule C is a simple way for filing business taxes since it is only two pages long and lists all the expenses you can claim. When complete, you just subtract your expenses from your business earnings to arrive at your net profit or loss. You then transfer this number to your income tax form and include it with all other personal income tax items.

However, if you use Form 1120, you calculate your taxable business income in the same way, but the form requires more details that may not always apply to a small business. The biggest disadvantage of filing Form 1120 is that it is separate from your income tax return.

Step 4—Pay attention to deadlines

Be aware of different filing deadlines. When you use a Schedule C, it becomes part of your Form 1040 and therefore, no separate filing deadlines apply. It is generally subject to the same April 15 deadline.

If you are taxed as a C-Corp, you need to file a Form 1120, you must file it by the 15th day of the fourth month following the close of the tax year, which for most taxpayers is April 15. If you are taxed as an S-Corp, you need to file a Form 1120S, you must file it by the 15th day of the third month following the close of the tax year, which for most taxpayers is March 15. You cannot send this form to the IRS with your income tax return.

The post How to File Federal Income Taxes for Small Businesses appeared first on Flex Tax and Consulting Group (FTCG).

If you are thinking of starting a company, then one of the best steps you can take is to understand the structure options you have before you start your own business. Today we are going to introduce the options you have and how to handle the taxes with those structures.

Small Business Taxes Depend on Business Structure

These are the basics of paying your small business taxes:

What types of taxes do you need to pay?
How much do you have to pay in taxes?
When do you have to pay small business taxes?
And how do you pay small business taxes?

When it comes down to it, these four basics depend on your business’s legal structure. Whatever your business entity is, you’ll first need to know how it affects your tax burden.

Small Business Taxes for Sole Proprietors

A sole proprietorship is a business that’s owned and operated by one individual. Because the owner of a sole proprietorship is flying solo, filing taxes under this business structure is relatively simple.

Instead of filing your small business taxes on behalf of the business, as a sole proprietor, you’ll report business income and losses on your income tax return. Business profits will tax at your income tax rate. Sole proprietors must also pay self-employment taxes, which cover the business owner’s medicare and social security obligations.

If you run a sole proprietorship, you’re generally required to file a Schedule C or a Schedule C-EZ with your Form 1040 and pay quarterly estimated taxes.

Estimated tax is the method that all businesses use to pay social security and medicare taxes along with income tax. If you were an employee, you wouldn’t worry about this—your employer would withhold these taxes for you. But as a sole proprietor, you are responsible for making quarterly payments with the estimated tax method.

To figure out what you’ll need to pay in self-employment taxes—and if you have to pay quarterly—use Form 1040-ES, Estimated Tax for Individuals.

Small Business Taxes for Partnerships

Partnerships are businesses operated by two or more owners. Most partnerships are known as general partnerships, but there can also be limited partnerships or limited liability partnerships. Business owners who are a part of the partnership must pay income taxes, self-employment taxes, and quarterly estimated taxes.

If you operate a partnership, the business has to file Form 1065, which is an annual information return that shows the income, deductions, gains, and losses from the business’s operations—but the business itself doesn’t pay any income tax. Partnerships enjoy what’s called “pass-through taxation,” meaning the income is taxed on the owners of the business instead of being subject to corporate tax rates.

To file taxes, owners who are included in the partnership have to file their respective share of the business’s income and losses on their tax returns. Each partner’s share of the business’s income and losses are shown on Schedule K-1.

Small Business Taxes for C-Corporations

If your small business is structured as a C-corporation, your business is legally separate from you as the owner. C-corporations are subject to what’s called “double taxation.” To start, C-corporations are subject to a flat income tax rate of 21%. Then, shareholders are taxed on their tax returns when profits are distributed as dividends. The primary income tax form for C-corporations is Form 1120.

Shareholders who actively participate in the work of the corporation are considered employees. Only the employee’s salary is subject to self-employment taxes. Dividends are subject to a different dividend tax rate. Many corporations save on self-employment taxes by paying themselves a smaller salary and taking more money out of the company in distributions. There are several other tax advantages to C-corporations as well.

Small Business Taxes for S-Corporations

S-corporations are pass-through entities like sole proprietorships and partnerships. This means that each shareholder reports business income and losses on their tax return and profits are taxed at the personal income tax rate. An S-corporation files an informational tax return, called Form 1120S, but the business itself doesn’t pay a corporate tax. This allows an S-corporation to avoid double taxation.

Similar to C-corps, S-corps can also divide business income between salary and dividends. Salary is subject to self-employment taxes, and dividends are not. You can strategically try to save on self-employment taxes by paying yourself a salary. However, the IRS requires you to pay yourself a reasonable salary given your job title, industry, and qualifications. Both C and S-corporations must pay estimated taxes quarterly.

Small Business Taxes for Limited Liability Companies

A limited liability company (LLC) is a business entity that keeps the owners legally separate from the company’s debts or liabilities. As the owner of an LLC, you’ll have the liability protection of a corporation with the tax benefits of a sole proprietorship or partnership.

If you operate an LLC, you’ll be subject to pass-through taxation, just as you would be as a partnership. In other words, you won’t be taxed twice like corporations are. Instead, as an owner of an LLC, you’ll make quarterly tax payments on your income tax forms. On top of that, you’ll also have to submit Form 1065 each year for informational purposes.

LLCs, offer you additional tax flexibility compared to other business entities. From a legal standpoint, you can exist as an LLC. However, from a tax standpoint, you have the option to be taxed as an S-corporation or C-corporation.

When to Pay Small Business Taxes

No matter what type of small business entity you have, you have to pay quarterly estimated taxes if the business owes income taxes of $1,000 or more. Corporations only have to pay quarterly estimated taxes if they expect to owe $500 or more in tax for the year.

Before you owned a business, filing taxes was a one-time thing. But as a small business owner, you’ll have to pay the IRS four times per year. On one hand, that’s four more tax deadlines you might miss. But on the bright side, by the time your yearly tax deadline comes around, you’ll have already paid three-quarters of your tax return.

To make things even more complicated, businesses must deposit federal income tax withheld from employees, federal unemployment taxes, and both employer and employee social security and Medicare taxes. Depositing can be on a semi-weekly or monthly schedule.

Quarterly Estimated Small Business Taxes

To calculate your quarterly payment, estimate your expected adjusted gross income, taxable income, deductions, and tax credits for the year. The best way to gauge these is by just looking at your taxes from the previous year as a guide.

Once you’ve put a number of these figures, you’ll just have to calculate how much you’ll owe in your estimated quarterly small business taxes. The easiest way to do this is to use the IRS’s Form 1040-ES Estimated Tax Worksheet.

These are the deadlines for quarterly estimated small business taxes:

April 15 (covering the period from Jan. 1 to March 31)
June (covering the period from April 1 to May 31)
September (covering the period from June 1 to Aug. 31)
January (covering the period from Sept. 1 to Dec. 31)

Flex Tax and Consulting Group have served and managed all types of tax and revenue collection for the U.S. for more than eight years. Our value-added services and solutions are based on innovative thinking that fits our valuable clients’ needs. If you have any questions, please don’t hesitate to contact us at 415-860-6288 or info@flextcg.com.

The post Business Structures that Start-Up Companies and Small Business Should Know appeared first on Flex Tax and Consulting Group (FTCG).

Starting a business can be very rewarding

It can also be a little overwhelming. From business plans to market strategies, and even tax responsibilities. There are many things to consider. Here are tax tips can help new business owners find success  what new business owners can do to help get off to a good start.

• Choose a business structure. The form of business determines which income tax returns a business taxpayer needs to file. The most common business structures are:
  
  • Sole proprietorship: An unincorporated business owned by an individual. There’s no distinction between the taxpayer and their business.
  • Partnership: An unincorporated business with ownership shared between two or more people.
  • Corporation: Also known as a C corporation. It’s a separate entity owned by shareholders.
  • S Corporation: A corporation that elects to pass corporate income, losses, deductions, and credits through to the shareholders.
  • Limited Liability Company: A business structure allowed by state statute.

 A tax year

A tax year is an annual accounting period for keeping records and reporting income and expenses. A new business owner must choose either:

• • The Calendar year: 12 consecutive months beginning January 1 and ending December 31.
  • Fiscal year: 12 consecutive months ending on the last day of any month except December.
• Apply for an employer identification number. An EIN is also call a federal tax identification number. It’s used to identify a business. Most businesses need an EIN.
• Have all employees complete these forms:
  
  • Form I-9, Employment Eligibility Verification
  • Form W-4, Employee’s Withholding Allowance Certificate
• Pay business taxes. The form of business determines what taxes must be paid and how to pay them.

Taxpayers interested in starting a business can find information for some industries on the Industries/Professions Tax Centers webpage. Each state has additional requirements for starting and operating a business. Prospective business owners should visit their state’s website for info about state requirements.

More information:

• Small Business Admiration’s 10 steps to start your business
• Help You All Flex Tax and Consulting Group 

The post These tax tips can help new business owners find success appeared first on Flex Tax and Consulting Group (FTCG).

Many business owners are pushed into forming their companies in specific states to take advantage of corporate and LLC tax benefits that certain states offer. Entrepreneurs of corporations, for example, are often advised to set up C-corporations in Delaware, while founders looking to set up limited liability companies are often told to do so in Wyoming or Nevada.

But just because other business owners are incorporating or organizing their businesses in these states doesn’t mean you should follow suit. Although Delaware, Wyoming, and Nevada can all be excellent options for incorporating or organizing your business, depending on your goals, there are some situations where doing this would not make sense for business owners. Here are four scenarios where this could be the case.

When Incorporating or Organizing Your Business Outside Your Home State Might Not Be the Right Move

1. You Might Not Avoid Burdensome Incorporation or Organization Procedures in Your Home State

If you’re looking to open a new storefront or office in a state other than the one you initially registered in, chances are you’ll need to follow the same registration processes that you would need to had you incorporated or organized there in the first place. The only difference is that you’d now have to file paperwork to register as a “foreign” business entity—which includes both international businesses and out-of-state U.S. businesses.

Depending on the business you’re registering and the state you’re looking to open a location in, this can mean added costs and hassles. New York, Arizona, and Nebraska, for example, require LLCs to publish notices in news publications for a set period after filing their articles of organization.

Under New York’s rule, if you want your foreign LLC to conduct a business in New York state, you need to run notices in two newspapers—one daily and one weekly—in the county where you plan to have your LLC’s office. These notices must run for six consecutive weeks, starting within 120 days from the date you filed your initial application to do business at the New York Department of State. The county clerk is tasked with selecting the newspapers, but this means that business owners who want to operate in the New York City metro area could be required to run costly notice campaigns in newspapers like the New York Times, the Wall Street Journal, or the New York Post.

Foreign LLCs that fail to do this might not be able to obtain important vendor licenses or have the ability to sue in New York courts. In other words, a New York-based business that plans to file initial articles of organization in Wyoming or Nevada won’t be able to avoid this requirement.

2. You Could Still Face Tax Income Obligations in Other States

In certain parts of the country, out-of-state companies face the same tax consequences that in-state companies do—assuming they both do business in that state. Consider the way California taxes domestic and foreign S-corporations. Under federal law, S-corporations are considered “pass-through entities.” This means that—much like LLCs and partnerships—their income isn’t taxed twice at the organizational and shareholder levels. Having an S-corporation, in theory, is supposed to give owners the ability to leverage the benefits of pass-through taxation without sacrificing the liquidity and deductions that come with being a S-corporation. This is not the case in California. Domestic S-corporations that are incorporated there need to pay a 1.5% tax on their corporate income in addition to taxes on their shareholder dividends and earnings.

Delaware, on the other hand, exempts S-corporations from the 8.7% tax it levies on business that specifically transact within the state. Still, your Delaware-incorporated S-corporation won’t avoid the California S-corp tax—along with the state’s $800 minimum franchise tax—if your business is commercially domiciled in California, or if your sales to California residents exceed the lesser of 25% of your total sales or $500,000 in total sales. Out-of-state LLCs, including Nevada LLCs and Wyoming LLCs, are not immune to California reporting requirements, either. They could be eligible to pay California’s franchise tax and annual LLC fees if they meet certain requirements.

3. You’re Not Interested in Taking Your Company Public

If you’re looking to take on outside investment, chances are that you should incorporate in Delaware. There’s a reason why more than 60% of Fortune 500 companies are incorporated there: Delaware not only offers competitive corporate tax benefits, but a deep body of corporate case law that allows investors, shareholders, and business owners to quickly settle or otherwise resolve business-related disputes.

Creating a Delaware C-corporation also comes with international perks, as well. If you regularly conduct business in Canada, for example, you can use an incorporation strategy known as the “Delaware Straddle” to set up sister Delaware and Canadian corporations consisting of the same shareholders. This structuring tactic allows you to not only leverage Delaware’s tax benefits and case law, but also Canada’s generous government grant programs.

While these may be attractive perks for many companies, pursuing incorporation in Delaware may be an unnecessary step if you’re not looking to become a publicly traded company, entertain outside investments, or service a broad national or international audience.

4. Maintaining a Presence in a Different State Could Be Inconvenient

Even though you’re not required to set up your headquarters or a retail location in the state where you plan to incorporate or organize, you must maintain some sort of physical presence in that state in order to accept service of process in the event of a lawsuit. While working with a registered agent is a relatively affordable way for you to meet this requirement—reputable agents can cost anywhere from $100 to $300 per year—you’ll also likely be responsible for multiple state franchise fees, LLC entity payments, and business entity tax reporting requirements.

Because companies are also considered domiciled for legal purposes in both the state where they’re incorporated and the state where they maintain their principal place of business (which usually is where you’re headquartered), you could also be sued in the state where you’re organized or incorporated. This can raise a broad array of litigation-related headaches if the state where you’re incorporated or organized is far away from the state where you actually have offices and conduct business. In this case, it may make more sense from a logistical perspective to incorporate or organize in your business’s home state instead of filing this paperwork in a different state.

You have likely heard advice that you should incorporate or organize your small business in a state like Delaware, Wyoming, or Nevada. While it’s true that these are good options for many business owners, they might not necessarily be the best move for your business. And there are some cases where incorporating your business outside your home state can actually cause you to face annoying logistical problems or expensive tax consequences. Before making any final decisions on where you organize your small business, it’s worth seeking the advice of an experienced attorney who you trust.

Source: Should You Incorporate or Organize Your Business Outside Your Home State?

The post Should You Incorporate or Organize Your Business Outside Your Home State? appeared first on Flex Tax and Consulting Group (FTCG).

New businesses or start-up companies may be eligible to apply the R&D tax credit against their payroll taxes for up to five years.

The R&D credit permanently extended as part of the Protecting Americans from Tax Hikes (PATH) Act of 2015. The bill included enhancements starting in 2016, including offsets to the alternative minimum tax and payroll tax for eligible businesses.

While the credit used to offset payroll taxes is based on eligible R&D expenses, it only applies to costs incurred after the bill was signed into law. The maximum benefit an eligible company can claim against payroll taxes each year under the PATH Act is $250,000.

When does the payroll-tax offset take effect?

The payroll-tax offset is currently available for qualified expenses incurred in 2017. The R&D credit must calculated and shown on a taxpayer’s 2017 federal income tax return. And with the portion of the credit applied to offset payroll taxes identified and elected when the return filed in 2018. The offset is then available on a quarterly basis beginning in the first calendar quarter after a taxpayer files their federal income tax return.

For example, taxpayers need to file their 2017 federal income tax return by June 30, 2018, to apply the payroll-tax offset to the third quarter. As a result, the earliest taxpayers are likely to see a benefit is October 2018 when they file their quarterly payroll tax return for the third quarter.

How quickly does a company need to move on this? When does it need to get started?

The current opportunity to offset payroll taxes based on 2017 expenses, which means companies can benefit from acting quickly to determine their eligibility under the new rules and start planning. This will help ensure companies understand what types of information will need to gathered at the end of the year.

This credit must specific, elected, and filed in the original 2017 tax return before it can use to offset payroll taxes. Under the current rules, taxpayers can’t take advantage of this opportunity on an amended return.

What companies qualify for the offset?

The new payroll-tax offset allows companies to receive a benefit for research activities even if they aren’t profitable. To be eligible for the credit, companies must meet these qualifications:

• Gross receipts for five years or less (interest income counts toward gross receipts)
• Less than $5 million in gross receipts in the year the credit is elected
• Qualifying research activities and expenditures
• Payroll-tax liability

How is $5 million in gross receipts defined?

A company must have less than $5 million in annual gross receipts to be eligible. For new businesses, the gross receipts must fall under the $5 million limit after being annualized for a full 12 months. The gross receipts of businesses that related or share common ownership need to calculate on a combined basis for purposes of determining eligibility under this provision.

The IRS issued interim guidance on the definition of gross receipts in March 2017. In the guidance, the IRS confirmed gross receipts include the following:

• Total sales—defined as the net of returns and allowances
• All amounts received for services
• Income from investments, including interest income

Although the gross-receipts limitation helps to define a company’s eligibility for the credit. It’s important to note the R&D credit itself isn’t based on gross receipts. The actual credit based on the company’s eligible R&D expenses.

What are eligible R&D expenditures?

Eligible R&D costs include these categories:

• Wages. W-2 taxable wages for employees offering direct support and first-level research supervision.
• Supplies. Supplies used in research, including so-called extraordinary utilities but not capital items or general administrative supplies.
• Contract research. Certain subcontractor expenses. If the subcontractor’s tasks would qualify, they  instead being performed by an employee. These can include labor, services, or research, but payment can’t be contingent on results. In addition, the taxpayer must retain substantial rights in the results, whether exclusive or shared.
• Rental or lease costs of computers. This could include payments made to cloud service providers for the cost of renting server space. As longs as payments related to hosting software under development versus payments for hosting a stable software release.

What are some potential benefits of the offset?

Brand-new businesses can potentially claim the credit for up to five years with a maximum of $1.25 million in total credits claimed on their quarterly federal payroll tax returns.

New businesses and start-up companies will see a benefit between 6% and 14% of their eligible R&D costs. For most companies that incur at least $300,000 in eligible R&D costs. The federal credit to offset payroll tax will equal to 10% of total R&D expenses.

For example, a company with $500,000 of eligible expenses. Let’s say engineering costs, that could receive a $50,000 credit. On the other hand, a company with over $2.5 million in eligible expenses in 2017 could receive a credit equal to the full $250,000 annual limitation.

If the amount of the credit exceeds a company’s Social Security tax, also known as the OASDI tax. Liability in any given quarter, the excess can carry forward to the next calendar quarter.

Social Security Tax

The payroll-tax offset can only apply to the Social Security portion of payroll taxes. Companies required to pay Social Security tax of 6.2% on up to $127,200 each employee’s salary in 2017. For example, a company that employs 50 employees with an average salary of $75,000 would pay approximately $232,500 in Social Security payroll taxes.

Accordingly, a company would need to have more than $4 million in annual payroll subject to Social Security tax. $2.5 million in eligible R&D costs to offset the maximum $250,000 in payroll taxes each year under the new law.

Most employers required to deposit their payroll taxes to the federal government on a monthly. Or semiweekly basis as well as file a quarterly payroll tax return via Form 941. However, the credit will be applied against the Social Security tax on the quarterly return. When it’s deposited monthly or semiweekly.

The IRS is still formulating a plan for how this process will formally implement.

Are there risks to claiming the R&D credit?

Once a company starts using this credit, they receive a much higher level of scrutiny from the IRS. R&D credits are often a high priority for the agency, which assembles industry-specific project teams with technical specialists that assist in reviewing R&D credit claims.

Even at the small business level, it’s common for IRS technical specialists to be involved in R&D credit examinations. In general, however, larger credits receive more scrutiny from the IRS and often require more review and documentation.

Although many companies in the technology industry likely engaged in activities that would otherwise be eligible for R&D credits, the rules surrounding the credit are complex and always changing. New legislation, regulations, court cases, and IRS guidelines have drastically shifted the landscape of R&D tax law over the past few years and will continue to do so in the future.

Considering these complexities and potential financial penalties, companies can benefit from having their activities analyzed by a CPA, attorney, or enrolled agent familiar with the tax law and accounting rules that govern the R&D credit as well as the IRS examination and appeals process.

To deter companies from claiming credits without the proper level of review and documentation, the IRS can impose penalties greater than 20% of the credit amount claimed. For example, if a taxpayer claims a $250,000 R&D credit and the credit is then audited by the IRS, it’s possible the agency could deny the entire credit and fine the company with accuracy-related penalties exceeding $50,000.

What should companies know about documentation?

It’s important companies have the right documentation in place. It’s also key to know there isn’t a one-size-fits-all approach to documentation. The level of documentation deemed to be adequate varies based on the size and scope of the credit amounts claimed.

Companies should expect a greater time commitment to get set up in the first year of claiming an R&D credit. They’ll also need to put the appropriate measures in place to completely use the credit going forward. Depending on the company, it’s possible any historic R&D spending incurred may need to evaluate.

Proving Nexus

Taxpayers often will need to provide a nexus between their R&D expenses and qualified research activities. This can be challenging—even for companies that have some level of project tracking in place. This is because time- and expense-tracking systems aren’t generally intend to track eligible R&D expense to business components or R&D activities.

The subjectivity and interpretation of the R&D rules make it difficult to develop the perfect software tool for tracking eligible expenses and documentation. Particularly when considering annual updates to tax law, regulations, and IRS guidance. For this reason, it’s important to note project-accounting and time-tracking systems aren’t a prerequisite to claim the R&D credit.

Meeting the Four-Part Test

At minimum, taxpayers’ qualitative documentation should demonstrate how their underlying activities meet the four-part test. Examples of adequate documentation can vary by industry, but it’s possible for companies to leverage documentation they generate in their day-to-day operations. Qualitative documentation may also require review and analysis of any contracts between companies and their customers, partners, or vendors.

Taxpayers who have some level of familiarity with the R&D credit should carefully evaluate their methodology and documentation standards with respect to R&D credits being used under the new rules.

Additional Guidance

Companies in the software and pharmaceutical industries especially encouraged to review the IRS audit guidelines applicable to their industries. These are available on the IRS website:

• Audit Guidelines on the Application of the Process of Experimentation for All Software
• Pharmaceutical Industry Research Credit Audit Guidelines

The payroll-tax offset is available to eligible new businesses and start-up companies for up to five years. Any unused R&D credits that aren’t elected to offset payroll taxes may carried forward for up to 20 years and used when the business becomes profitable. This length of time makes thorough documentation even more important.

We’re Here to Help

To learn more about the R&D payroll-tax offset, whether your business qualifies, or our other R&D tax services, contact your FTCG professional.

Alex Kwan has practiced public accounting since 2010. He provides R&D tax services to middle-market companies. Including S corporations and partnerships, and consults on federal and state R&D credits, R&D expense deductions, and IRS and state examinations of R&D credits. You can reach himat (415) 860-6288 or alex.kwan@flextcg.com.

The material appearing in this communication is for informational purposes only and should not construed as legal, accounting, tax, or investment advice or opinion provided by Flex Tax and Consulting Group. This information is not intend to create, and receipt does not constitute, a legal relationship. Including an accountant-client relationship. Although these materials have prepared by professionals, the user should not substitute these materials for professional services. And it should seek advice from an independent advisor before acting on any information presented. Flex Tax and Consulting Group assumes no obligation to provide notification of changes in tax laws or other factors that could affect the information provided.

by Star Fischer, and Travis Riley

Original Link

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You have been operating your business as a sole proprietor for several years. Lower Your Employment Taxes by Operating as an S Corporation. Now, as the business is growing, you are thinking about incorporating as an S corporation in order to limit your liability, avoid double taxation of corporate profits, and to make it easier to obtain financing. Your accountant suggests another advantage to consider: reduction of your liability for employment taxes. Intrigued, you ask for more information.

Shareholders can wear two heads—employee and investor

Reducing your overall employment tax liability is possible because you can be both the owner and an employee of your corporation. Shareholders can be employees of the business—this means that they can be paid salaries as employees. Employment taxes must be paid on the amounts received as salary. However, shareholders can also receive dividends from the corporation. No employment taxes need to be paid on a dividend.

Putting these two options together means that a reasonable characterization of money received as salary versus dividends can help you reduce self-employment tax liability, while still generating business expense and wages paid deductions for the corporation.

Comparison of tax liability demonstrates savings

You think that dividing your income from the business into salary and dividends sounds promising, in theory. But, you still want your accountant to show you the dollars.

Your business will have $200,000 of gross income in 2019. Your deductions total $100,000, leaving $100,000 of income that you will receive. How does having a corporation and taking $100,000 partially as salary and partially as dividends save you money?

1. Sole proprietorship. You must report the entire $100,000 as earnings from self-employment as income on your Form 1040. Also, you have to pay self-employment tax on these earnings, which will be $12,283. (You are entitled to deduct one-half of this payment from your gross income.)
2. Corporation. You elect to receive a $20,000 dividend and $80,000 in salary. The total employment tax liability is $10,640. (Although your corporation receives a deduction for the employment taxes it pays.) Using the dividend/salary strategy saves you over $1,600 in employment tax liability in 2019, alone.

Using an S corporation avoids “double taxation”

In order for the salary/dividend strategy to be most effective, your corporation should be an S corporation. Unlike salary payments, dividend payments can not be deducted by a corporation to offset its current income. This means that a regular C corporation will need to pay corporate level tax on amounts it pays out as a dividend. In the example above, the tax on $20,000 would be $3,000—thereby wiping out any overall savings. By electing S corporation status, you can avoid this result. True, you will have to pay taxes on the dividend income, but your corporation will not need to do so.

Allocation of income to dividends must be reasonable

If you can save roughly $1,600 in employment taxes by paying yourself a $20,000 dividend, why not eliminate all employment taxes by dropping the salary portion and just taking a dividend? Remember that old adage: “Pigs get fed, but hogs get slaughtered?” Or, “If it seems too good to be true, it probably is?”

The IRS closely scrutinizes transactions between shareholders and their S corporation—especially if those transactions have tax avoidance potential. The more stock you own and the more control you exert over the corporation, the more likely the transaction is to be scrutinized. If the payments are challenged, the IRS will look to see if you are doing a great deal of work for the corporation. If you are doing substantial work, then the IRS will expect to see a salary that is “reasonable” for the type and quantity of work done. And, it will recharacterize the “dividend” as salary and hit the corporation with a bill for unpaid employment taxes.

Prudent use of dividends can lower employment tax bills

By paying yourself a reasonable salary (even if at the low-end of reasonable) and paying dividends at regular intervals over the year, you can greatly reduce your chances of being questioned. And, you can still lower your overall tax burden by lowering your employment tax liability.

Forming an S corporation

An S corporation is just a regular corporation that has made a special tax election with the IRS. First, you must form a corporation with state authorities. Then you need to file Form 2553 with the IRS stating you are electing S corporation status with its pass-through taxation.

Once you make this election, it can be difficult and expensive to undo. You also are bound by the corporate formalities of every corporation—holding board of directors meetings, recording the minutes, making regular filings, etc. But your reward is a lower tax bill.

The post Lower Your Employment Taxes by Operating as an S Corporation appeared first on Flex Tax and Consulting Group (FTCG).