How the New Tax Law Will Impact New Jersey Business Owners
The Tax Cuts and Jobs Act (the “Act”), was signed into law on December 22, 2017 and encompasses many changes to individual, corporate, pass-through entities, and trust taxes. The Act will have wide-sweeping implications for the nation’s entire economy and many of these changes will directly impact New Jersey businesses and their owners. The following is a summary of some of these changes.
New deduction for pass-through income
Generally, for tax years beginning after December 31, 2017 and before January 1, 2026, a non-corporate taxpayer (including a trust or estate) who has Qualified Business Income (QBI) from a partnership, S corporation, or sole proprietorship is allowed a 20% deduction from QBI based on various limitations. This deduction could be a substantial savings to business owners. If applicable, the deduction related to the pass-through income can reduce the effective tax rate paid for dealership taxable income, from 37% to 29.6%.
Reduction of Corporate Tax rates
Under the Act, C corporations are taxed at a flat rate of 21 % (the previous tax law had a graduated scale that topped out at 35%).
Some have said that the lowering of the corporate tax rate to a lower rate than the individual tax rate is a signal to convert partnerships and S corporations to C corporations. While there may be circumstances where this is advisable, in general, the lower tax rate (21%) is offset by the fact that, when the remaining earnings of the C corporation are distributed and taxed as a dividend, the double taxation will create an almost 40% federal tax rate – a rate higher than the maximum individual rate of 37% and certainly higher than the 29.6% effective rate on qualified flow-through business
Section 179 expenses
For property placed in service in tax years beginning after December 31, 2017, the maximum amount a taxpayer may expense under code section 179 is increased to $1 million, and the phase-out threshold amount is increased to $2.5 million.
Temporary 100% bonus depreciation on qualified business assets
A 100% first-year deduction for the adjusted basis is allowed for qualified property acquired and placed in service after September 27, 2017, and before January 1, 2023. Thus, the phase-down of the 50% allowance for property placed in service after December 31, 2017 is repealed. The additional first-year depreciation deduction is allowed for new and used property. (In later years, the first-year bonus depreciation deduction phases down, beginning with assets placed in service after December 31, 2022.)
It is extremely important for businesses to review fixed assets placed into service after September 27, 2017 and prior to December 31, 2017, to determine if they can take advantage of the 100% bonus depreciation, prior to the filing of their 2017 income tax return. Businesses who went through a renovation should pay particular attention to the new depreciation provisions.
Limitation on deduction of business interest
For tax years beginning after December 31, 2017, every business, regardless of its form, is generally subject to a disallowance of a deduction for net interest expense, in excess of 30% of the business's adjusted taxable income – with few exceptions.
Average annual gross receipts for a three-year tax period ending with the prior tax year that do not exceed $25 million
Working capital loans and equipment financing may be limited under the new law.
Under current law, a taxpayer could deduct up to 50% of expenses relating to meals and entertainment. For amounts incurred or paid after December 31, 2017, deductions for entertainment expenses are disallowed, eliminating the subjective determination of whether such expenses are sufficiently business related. The 50% deduction allowed for business meals is still applicable.
Estate & Gift Tax Exemption
For estates of decedents gifted after December 31, 2017 and before January 1, 2026, the Act increases the estate and gift tax exemption from $5.6 million to $11.2 million ($22.4 million for a married couple). This increase provides an opportunity for business owners to review succession plans and the transferring of ownership interest to the next generation.
The provisions of the Act provide many opportunities and some pitfalls. More than ever, business owners need to consult their tax advisers to understand both the business and personal implications of the new tax laws.