Savvy investors can build wealth by deferring capital gains taxes via a 1031 exchange. This article highlights what that is, how it works, and how it can help you as a real estate investor. For the in-depth information required to execute a 1031 exchange, a qualified intermediary is necessary.

What is a 1031 Exchange?

A 1031 exchange allows real estate investors to avoid paying capital gains taxes when selling an investment property and reinvesting in a replacement property. The name 1031 exchange comes from Section 1031 of the U.S. Internal Revenue Code.

A 1031 is also called a like-kind exchange. It is essentially a swap of one investment property for another. The “like-kind” refers to the fact that the properties in the exchange must be similar (i.e., of like kind) and the exchange property must be of equal or greater value as the property sold.

How Does a 1031 Exchange Work?

Under IRS code section 1031, which applies to real estate, investors can reinvest proceeds from the sale of one property into another property within a specified time frame to avoid paying capital gains taxes (the taxes on the growth of an investment when it is sold). Because it is rare for an even property swap to occur between parties, the most common type of exchange is the delayed “forward” exchange. In this case, the sold property funds are sent to a qualified intermediary and later used to acquire a replacement property from a seller.

What is a Qualified Intermediary?

A qualified intermediary facilitates a 1031 exchange. They hold the transaction funds from the sale of the first property until those funds are transferred to the seller of a replacement property. The qualified intermediary also prepares the legal documents required for the exchange. The qualified intermediary can have no formal relationship with the exchange parties outside of the exchange.

1031 Exchange Important Deadlines

• The seller of the first property (the relinquished property) must identify a replacement property (their new investment property) within 45 days of the transfer of the relinquished property.
• The replacement property must be received by the exchanger within either (1) 180 days of the date the exchanger transferred the first Relinquished Property or (2) the due date of the exchanger’s tax return for the year that the transfer of the first relinquished property occurs.
• These are strict timelines and are not extended even if the 45th or 180th days fall on a weekend or holiday.

What You Need to Know about a 1031 Exchange

1031 exchange transactions should be handled by a professional qualified intermediary that is a third party (i.e., not a family member, friend, acquaintance, or business associate of either party involved in the exchange).

Exceptions

The IRS does not allow capital gains tax avoidance if the exchange:

• is U.S. real estate for real estate in another country
• involves property for personal use
• is between related parties and either disposes of the property within two years

Why Do Investors Use a 1031 Exchange?

• They can use what they would have paid in capital gains taxes to put more down on a replacement property to improve their buying power.
• The savings on federal capital gains taxes could be 15 to 20 percent.
• There could be savings at the state level (this varies by state, so your qualified intermediary should be consulted for this information).
• The amount of income taxes paid could be reduced due to depreciation of the investment property.

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A 1031 exchange is a tool that savvy real estate investors use to build wealth over time. To further understand how a 1031 exchange can benefit you, ask your CPA or accountant to help put you in touch with a qualified intermediary. Their guidance is critical in executing a 1031 whether you’re swapping two properties or working with a full portfolio of investment real estate properties.

Eligible employers are entitled to an Employee Retention Tax Credit (ERTC) of up to 70 percent of the first $10,000 in wages and certain health care plan expenses paid per employee for each of the first two quarters of 2021 according to the New Stimulus Act.

What is the Employee Retention Tax Credit (ERTC)?

Designed to incentivize businesses to keep employees on the payroll during the pandemic, the ERTC is a fully-refundable tax credit that is part of the federal government’s COVID-19 relief plan. As part of this plan, the New Stimulus Act includes the Taxpayer Certainty and Disaster Tax Relief Act of 2020, which became effective January 1, 2021. This Act amends and extends the former ERTC and the availability of advance payments of the tax credits under the Coronavirus Aid, Relief, and Economic Security (CARES) Act.

Is My Company Eligible for the ERTC?

Previously, employers could only take advantage of the Paycheck Protection Program (PPP) OR the ERTC, so the ERTC was not widely used. However, Congress revised this provision to make both plans available to qualifying businesses.

As of December 2020, small businesses (with 500 or fewer employees) that suffered a revenue reduction in 2020 can claim the ERTC. A revenue reduction specifically means a business experienced a decline in gross receipts by more than 20 percent in any quarter of 2020 compared to the same quarter in 2019. (Note this is a change from the previous ERTC rule that required a gross receipts decline of at least 50 percent.)

Further, the tax credit applies to employers, including tax-exempt organizations, that conducted business during 2020 and were forced to fully or partially suspend operation during any quarter due to government orders related to COVID-19, according to the Internal Revenue Service (IRS).

How is the Maximum Amount of ERTC Determined?

As mentioned, under the New Stimulus Act, eligible employers are entitled to a tax credit equal to 70 percent of the first $10,000 in wages and qualifying health plan expenses paid per employee for each of the first two quarters of 2021 (up to $14,000).

Note that the combined maximum $14,000 credit for the first two quarters of 2021 is available even if the employer previously received the $5,000 maximum credit for wages paid in 2020.

In addition to the aforementioned changes to the ERTC, the wage period has been extended. Under the New Stimulus Act, qualified wages are those paid after March 12, 2020 up until July 1, 2021. The previous cutoff date was January 1, 2021.

What are Qualified Wages?

Qualified wages are wages, compensation, and qualified health plan expenses paid by an eligible employer after March 12, 2020 and before July 1, 2021 for time that the employee did not provide services due to a full or partial COVID-19-related government suspension of operations OR a 20 percent or greater decline in gross receipts.

For specific determinants, see sections 3121(a) and 3231(e) of the Internal Revenue Code.

The determination of qualified health plan expenses is the same as qualified health plan expenses for the Family and Medical Leave Tax Credit under the Families First Coronavirus Response Act.

Number of Employees Matters

Under the CARES Act, companies with 100 or fewer employees were eligible for the ERTC; however, under the New Stimulus Act, the threshold increased to 500 employees. In other words, for the first two quarters of 2021, a company with 500 or fewer employees is eligible for the ERTC. This is true whether those employees are working or not.

Other Notable Changes to the ERTC

• Previously, governmental entities were not eligible for the ERTC under the CARES Act; however, under the New Stimulus Act this tax credit is available to state or local run colleges, universities, and organizations providing medical or hospital care.
• While the New Stimulus Act allows businesses with a PPP loan to qualify for the ERTC, the tax credit may not be claimed on wages paid with the PPP loan that has been or will be forgiven.

As always, seek counsel from your trusted accountant, tax preparer, or CPA to be certain your business is in compliance with current laws related to the ERTC or any tax matter.

Start planning your tax strategy today by calling 208-215-2112 now or request your free consultation online and we’ll contact you to discuss how we can reduce your tax burden.

Eligible small employers who provide health care coverage to their employees can receive a Small Business Health Care Tax Credit from the Federal government. Here’s what you need to know about who qualifies and how to take advantage of the credit.

What is the Small Business Health Care Tax Credit?

Small business owners make numerous decisions about employee benefits. For example, the type of benefits offered can entice the most desirable candidates to apply for their company’s positions. The right type of benefits can also boost employee retention. An excellent employee benefit to consider is health insurance. If that’s a perk being offered, the small business health care tax credit is a feature of the Affordable Care Act (ACA) that may be of interest. The tax credit is limited to employers with less than 25 employees, and it operates as a sliding-scale credit based on the size of the employer. The larger the employer, the smaller the tax credit. The maximum credit is 50 percent of premiums paid (35 percent for tax-exempt employers).

Qualifying small employers can take advantage of the small business health care tax credit for two consecutive tax years providing the business owes no taxes during those years. The credit can also be carried forward or back to other tax years. Any excess amount paid for health insurance premiums over the allowable credit can be claimed as a business expense.

Who qualifies for the Small Business Health Care Tax Credit?

As mentioned above, the small business health care tax credit is for small employers with fewer than 25 full-time equivalent employees (FTE). Note that the FTE concept is based on hours worked rather than the actual number of employees.

Other qualifications include that:

The employer pays less than $50,000 a year per FTE in average wages. Determining FTEs and average annual wages should be done by your qualified tax preparer, CPA, or via guidance from the Internal Revenue Service (IRS).

The employer offers a qualified health plan to employees through a Small Business Health Options Program Marketplace (SHOP).

The employer pays at least 50 percent of the employee’s premium cost. (Not family or dependent premium cost.)

What about Tax-exempt Organizations?

Tax-exempt organizations are also eligible for the small business health care tax credit. In this case, the credit is refundable to the extent that it does not exceed income tax withholdings or Medicare tax liability. Refunds to tax-exempt organizations are reduced by the current fiscal year sequestration rate. For an explanation of sequestration and how it impacts the small business health care tax credit, consult your tax advisor or accountant.

How do small businesses take advantage of the Small Business Health Care Tax Credit?

To claim the small business health care tax credit, the IRS requires Form 8941 (Credit for Small Employer Health Insurance Premiums) to be filled out and submitted. For small businesses, the amount should be included as part of the general business credit on the company’s federal tax return. The amount should be included on Form 990-T (Exempt Organization Business Income Tax Return) for tax-exempt organizations. Note: this form must be filed for a tax-exempt organization to claim the small business health care tax credit, even if the business does not typically file that form.

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Small business owners may find that offering perks like health insurance aren’t beyond their economic reach with incentives like this. As always, a trusted tax professional is the place to turn regarding this and other tax credits for small businesses.

The Consolidated Appropriations Act of 2021 brings a favorite business tax deduction back to life. The so-called “three-martini lunch” is in vogue once again; however, not everyone is happy about it. So, what does this mean for businesses? Read on to learn more about the deduction and the associated pros and cons.

What is the Three-Martini Lunch Tax Deduction?

There was a time – up until the mid-1980s – that business owners and executives could take a 100 percent tax deduction for entertaining clients, colleagues, or even themselves (as it was not unheard of for personal expenses to be grouped in with “business expenses”).

The somewhat scoffing name of the deduction – the Three-Martini Lunch – comes from these lavish “business expenses” that sometimes included leisurely lunches (complete with cocktails), rounds of golf, sporting event tickets, and even vacations. However, under tax laws at the time, as long as the activities were conducted in the name of entertaining clients, they could be deducted on a business’ federal return.

What Changed?

The Tax Reform Act of 1986 eliminated or significantly reduced many tax deductions, including putting a severe halt to businesses’ total deductions for entertaining potential or current clients. Beginning in 1987, the business meal deduction decreased from 100 to 80 percent. Further, the Act called for any part of the meal that was considered “lavish and extravagant” to be excluded from the amount used to calculate the deduction (although no accurate guidance was provided on what constituted “lavish and extravagant”).

Over the years, the deduction was further reduced, and finally, the Tax Cuts and Jobs Act (TCJA) of 2017 repealed the entertainment allowance and scaled the business meal deduction down to 50 percent. The deduction applied only to expenses encountered during actual business activities or active discussions.

Of course, there were caveats and loopholes associated with the changes; however, those loopholes no longer seem necessary as, after more than 30 years, the 100 percent deduction is restored. This increase is due to the Taxpayer Certainty and Disaster Tax Relief Act of 2020, part of the Consolidated Appropriations Act of 2021 (CAA 2021).

The Consolidated Appropriations Act of 2021

Championed by the White House and Senator Tim Scott, a Republican from South Carolina, the Act increases the deduction to 100 percent so that businesses can deduct the total cost of business meals on federal taxes. This increase in deduction occurred by way of an amendment to the Tax Reform Act of 1986 that makes an exception to the 50 percent rule until January 1, 2023.

What You Should Know

For expenses to be fully deductible, they must be paid or incurred during 2021 or 2022, and the food and beverages claimed must be provided by a restaurant. The Act does not explicitly apply this full deduction to entertainment expenses. Intended to help the flailing restaurant industry during the global pandemic, the Act leaves many business personnel with questions. For example, what constitutes a “restaurant”? (this is not clearly defined in the IRS code).

For some guidance, Section 4.01 of Part III of the IRS procedural guide for taxpayers who own or operate a restaurant or tavern deems a “restaurant” to be a place where “food and beverages are prepared to customer order for immediate on-premises or off-premises consumption. Examples are full-service restaurants, limited-service eating places, cafeterias, special food services (like food service contractors, caterers, and mobile food services), and bars, taverns, and other drinking places.”

Another question taxpayers are asking is how should non-food and beverage expenses be handled? (there is no accurate guidance on entertainment expenses).

As you consider these and other questions regarding the new deduction guidelines, also consider some of the proposed pros and cons of the ruling.

Pros and Cons of the Three-Martini Lunch

Returning to a full deduction for business meals and entertainment has been praised and criticized regarding how the change will impact businesses and the economy in general.

Some suggested benefits include:

• An increase in business will help restaurants and bars reopen in the time of the global pandemic.
• New employment for those out of work and reemployment for furloughed food service employees.
• A limited-time (two-year) action to bolster the foodservice industry during the pandemic.

Some of the criticisms of the Act are that:

• This deduction robs tax relief funds that are more important.
• It could be challenging to eliminate the deduction when the two-year limit comes.
• The benefit will extend only to the wealthy who do not need immediate tax relief.
• Only large, high-end restaurants that serve wealthy business clientele will benefit.

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These and other points of interest – as well as many questions – will likely arise as the tax year unfolds. To address these, it is always best for business owners to consult with a tax professional.

 

General Overview of Business Deductions

Business expenses are the cost of carrying on a trade or business, and there may be some tax breaks there. But a lot has changed in recent months, and the rules can be complicated.

Are there business deductions you can take advantage of? Yes, but first you have to make sure your expenses are truly business-related. The lines can blur, especially with a small business, because you generally cannot deduct personal, living or family expenses. However, if you have an expense for something that is used partly for business and partly for personal purposes, divide the total cost between the business and personal parts, and then deduct the business part.

An example: You borrow money and use 70% of it for business and the other 30% for a family vacation. You can deduct 70% of the interest as a business expense. The remaining 30% is personal interest and isn’t deductible.

Let’s look at business use of your car and your home:

• Business use of your car: If you use your car in your business, you can deduct car expenses. If you use your car for both business and personal purposes, you must divide your expenses based on actual mileage.
• Business use of your home: If you use part of your home for business, you may be able to deduct expenses for the business use of your home. These expenses include mortgage interest, insurance, utilities, repairs and depreciation.

Other types of business expenses? Let’s take a closer look:

• Employees’ pay: You can generally deduct the pay you give your employees for the services they perform for your business.
• Retirement plans: These are savings plans that offer you tax advantages to set aside money for your own, and your employees’, retirements.
• Rent expense: Rent is any amount you pay for the use of property you don’t own. In general, you can deduct rent as an expense only if the rent is for property you use in your trade or business. If you have or will receive equity in or title to the property, the rent is not deductible.
• Interest: Business interest expense is an amount charged for the use of money you borrowed for business activities.
• Taxes: You can deduct various federal, state, local and foreign taxes directly attributable to your trade or business as business expenses.
• Insurance: Generally, you can deduct the ordinary and necessary cost of insurance as a business expense, if it is for your trade, business or profession.

This list is not inclusive but endeavors to offer some common business expenses and explains what is and isn’t deductible. Of course, in some cases, expenses might need to be amortized — deducted over a period of several years — if they are startup costs or if they’re related to the purchase of business equipment.

You must capitalize, rather than deduct, some costs that are part of your investment in your business — these are called capital expenses. Capital expenses are considered assets in your business.

Of course, some business deductions can be very complex, so professional advice is necessary to make sure you’re getting what you’re owed without raising any red flags with the IRS. We’re here to help you with your business tax needs.

Get back to the job of running your business and leave the accounting to us! Call us at 208-215-2112 now and request a free consultation to get started.

The Social Security Administration has released new numbers for those paying Social Security and those collecting it. Check out the new maximum taxable earnings amount as well as COLA and other key adjustments.

Every year, the Social Security Administration takes a fresh look at its numbers and typically makes adjustments. Here are the basics for 2020 — what has changed, and what hasn’t.

First, the basic percentages have not changed:

• Employees and employers continue to pay 7.65% each, with the self-employed paying both halves.
• The Medicare portion remains 1.45% on all earnings, with high earners continuing to pay an additional 0.9% in Medicare taxes.
• The Social Security portion (OASDI) remains 6.20% on earnings up to the applicable taxable maximum amount — and that’s what’s changing:

Starting in 2020, the maximum taxable amount is $137,700, up from the 2019 maximum of $132,900. This actually affects relatively few workers; the Society for Human Resource Management notes in an article that only about 6% of employees earn more than the current taxable maximum.

Also changing is the retirement earnings test exempt amount. Those who have not yet reached normal retirement age but are collecting benefits will find the SSA withholding $1 in benefits for every $2 in earnings above a certain limit. That limit is $17,640 per year for 2019 and will be $18,240 for 2020. (See the SSA for additional information on how this works.)

Cost-of-living adjustments

Those collecting Social Security will see a slight increase in their checks: Social Security and Supplemental Security Income beneficiaries will receive a 1.6% COLA for 2020. This is based on the increase in the consumer price index from the third quarter of 2018 through the third quarter of 2019, according to the SSA.

A detailed fact sheet about the changes is available on the SSA site.