The recently enacted Tax Cuts and Jobs Act (TCJA) did not provide simplification for the taxation of dealers. The information provided below was prepared by Boyer & Ritter CPAs.
The TCJA was enacted in late December of 2017 with most of its provisions effective starting in 2018, the exceptions being the provisions regarding bonus depreciation and medical expenses.
The TCJA is wide ranging and impacts many provisions of the tax code. There are still many unknowns. The passing of the law by Congress and signature by the President is just the beginning of the process. Further guidance and clarification will come in the way of regulations and further interpretation. That being said, the following is a high level look at some of the areas that will likely impact dealer taxation.
Business Interest Deduction – For most taxpayers, business interest will be limited to business interest income plus 30% of “adjusted taxable income.” For dealers, the limitation will apply to interest expense other than floor plan interest. The TCJA provides that 100% of floor plan interest can be deducted. However, a taxpayer deducting floor plan interest cannot use the bonus depreciation provisions of the TCJA.
Real estate entities separate from the dealership entity would be subject to the interest deduction limitation. However, real estate entities can elect out of the limitation provision. If the real estate entity elects out, it must use longer lives for depreciation of real property (40 year life instead of normal 39 year life) and qualified improvement property (20 year life instead of normal 15 year life) and no bonus depreciation could be taken.
Bonus Depreciation – The TJCA provides for 100% bonus depreciation of qualifying assets acquired after September 27, 2017. The TJCA also extended bonus depreciation to used property. A dealer will not be able to utilize the new 100% bonus depreciation for assets acquired after December 31, 2017, but can utilize it for assets acquired after September 27, 2017, and before January 1, 2018.
Types of Qualified Property
· For property acquired prior to September 28, 2017, new tangible property that has a recovery period under the MACRS rules of 20 years or less;
· For property acquired after September 27, 2017, new and used tangible property that has a recovery period under the MACRS rules of 20 years or less;
· Water utility property (which, under MACRS, has a recovery period of 25 years);
· Computer software that is depreciated over 36 months, using the straight-line method;
· Qualified leasehold improvements.
Section 179 Expense – The expense limit is increased to $1,000,000 and the asset acquisition limit is increased to $2,500,000 beginning in 2018.
Like Kind Exchanges – Like kind exchanges will only be available for real property. Gain deferral will no longer be available for exchanges of personal property.
Corporate Tax Rate – The rate for a C corporation is a flat 21% starting in 2018.
Pass-through Deduction – In an effort to equalize the tax treatment of C corporations and pass-through entities, a deduction is allowed for qualified pass-through income. There is a new term called “Qualified Business Income” or QBI which describes these pass-through income streams. The deduction applies to income received from a partnership, S corporation, sole proprietorship, or rental property reported on the individual’s return.
The deduction is 20% of the qualifying income with limitations depending on taxable income and type of business. The applicable taxable income thresholds are $315,000 for married filing joint status and $157,500 for other filing statuses.
If a taxpayer’s taxable income is less than the threshold, the deduction is 20% of the qualifying income.
If taxable income exceeds the threshold, the deduction is the lesser of (1) 20% of qualifying income, (2) 50% of wages paid by the entity, or (3) 25% of wages paid by the entity plus 2.5% of unadjusted basis of property owned by the entity. There is a phase in the above amounts for income between $315,000 and $415,000.
If the individual is in the highest tax bracket (37%) and gets the full 20% deduction, the effective tax rate on the pass-through income is 29.6%. As everyone gains additional guidance on these provisions, you may be advised to evaluate the potential restructuring of QBI within your current control to achieve enhanced tax benefits.
Business Losses for Individuals – Business losses for an individual can only offset $500,000 of other income. The excess is carried forward and treated as a net operating loss.
Net Operating Loss (NOL) – For both corporations and individuals, NOLs occurring in 2018 and forward cannot be carried back and can be carried forward indefinitely. Also, the NOL can only be used to offset 80% of taxable income of a subsequent year; if excess NOL remained, it would have to be carried forward.
Individual Changes – The individual tax rates were reduced with the highest tax rate going from 39.6% to 37%. The personal exemption was eliminated and the standard deduction was increased to $24,000. Significant changes to the itemized deductions are the $10,000 cap on state taxes, elimination of employee business expenses, and the lowering of the threshold on loans that qualify for the mortgage interest deduction.
Estate and Gift Taxes – The exemption amount for transfers at death and during lifetime was doubled. For 2018, the amount an individual can gift or transfer at death tax free will be approximately $11,200,000. The TCJA retained the step up in basis rules for property received as a result of death and the portability rules to allow a surviving spouse to utilize the unused exemption amount of a deceased spouse. Like many other provisions, this doubling of the exemption amount is scheduled to end in 2025 when it will revert to the 2017 level adjusted for inflation (approximately $5,600,000). The doubling of the exemption amount and the continued basis step-up provisions make income tax basis planning a more integral component to estate planning than ever before.
Most of the items have exceptions and other intricacies. Planning opportunities will exist to minimize tax, but proceed with caution until the unknowns become known.
Courtesy of PAA Bulletin No. 2, 1/24/2018