With year-end approaching, it is time to start thinking about moves that may help lower your business’s taxes for this year and next. This year’s planning is more challenging than usual due to recent changes made by the Inflation Reduction Act of 2022 (formerly referred to as the Build Back Better Act) and the potential change in the congressional balance of power resulting from the midterm elections. To assist you with making decisions on what works best for you and your business, we have compiled a list of tax strategies based on current tax rules that may help you save tax dollars if you act before the end of the year.
Defer or Accelerate Income
Income-deferral and deduction-acceleration are standard year-end tax planning strategies. However, this year may favor doing the opposite if Congress considers raising the corporate tax rates for 2023 and beyond. If that change is enacted, accelerating income into 2022 and deferring deductions until 2023 may be advantageous. The below points consider the current tax law and disregard any proposed legislation.
- Cash Method of Accounting: Choosing the cash method of accounting instead of the accrual method allows for more flexibility in deferring income and accelerating expenses. Any entity other than a tax shelter that meets an inflation-adjusted average annual gross receipts test ($27 million for 2022; $29 million for 2023) can use the cash method of accounting. For cash basis taxpayers, business expenses are deductible when paid, and income is recognized when it is received. To lower taxable income for 2022, businesses should consider postponing billings to next year, paying invoices received before the end of the year, and even prepaying expenses when feasible.
- Installment Sales: Generally, if a gain will be realized on the sale of property, income recognition will typically be deferred under the installment method until payments are received, as long as one payment is received in the year after the sale. Consider selling the property and reporting the gain under the installment method to defer income. Suppose you determine it would be beneficial to move income from future years to 2022, and you made a property sale using an installment note. In that case, you could make the election on the 2022 tax return to not treat the sale as an installment sale recognizing all the gain in 2022.
Qualified Business Income Deduction
The QBI deduction continues to be an effective deduction for businesses. Taxpayers other than corporations may be entitled to a deduction of up to 20% of their qualified business income (QBI). For 2022, if taxable income exceeds $340,100 for a married couple filing jointly and $170,050 for all others, the deduction may be limited based on whether the taxpayer is engaged in a service-type trade or business (such as law, accounting, health, or consulting), the amount of W-2 wages paid by the trade or business, and/or the unadjusted basis of qualified property (such as machinery and equipment) held by the trade or business. The limitations are phased out and apply to joint filers with taxable income between $340,100 and $440,100; to single and head of household taxpayers with taxable income between $170,050 and $270,050; and to married filing separately taxpayers with taxable income between $170,050 and $220,050. Taxpayers may achieve significant savings with respect to the QBI deduction by deferring income or accelerating deductions to come under the dollar thresholds (or be subject to a smaller phase-out of the deduction) for 2022. Depending on their business model, taxpayers also may increase the new deduction by increasing W-2 wages before year-end.
Section 179 and Bonus Depreciation
For 2022, the Section 179 expensing limit is $1,080,000, with a phase-out for purchases of more than $2,700,000 and a complete phase-out at $3,780,000 of expense-eligible property placed in service in 2022. The deduction is subject to a business income limit. For 2023, the limit increases to $1,160,000, with a phase-out for purchases of more than $2,890,000 and a complete phase-out at $4,050,000. Expensing is generally available for most depreciable property (other than buildings) and off-the-shelf computer software. It is also available for qualified improvement property (generally, improvement to a building’s interior), roofs, HVAC systems, fire protection systems, alarm systems, and security systems. These deductions are not prorated for when the asset is in service during the year; therefore, property acquired and placed in service in the last days of the year can result in a full deduction for 2022. A 100% first-year deduction (bonus depreciation) for the adjusted basis of depreciable property is still allowed for qualified property acquired and placed in service during 2022. For 2023, the deduction is reduced to 80%. Qualifying property, including qualified improvement property (QIP), includes tangible property depreciated under MACRS with a recovery period of 20 years or less and most computer software. Bonus depreciation is not subject to a business income limit and can be used for new and used property.
Net Operating Loss (NOL)
The NOL deduction is subject to a limitation of 80% of taxable income for the 2021 tax year. A corporation (other than a large corporation) anticipating a small NOL in 2022 and significant income in 2023 should consider accelerating 2023 income (or deferring 2022 expenses). This will permit full absorption of the NOL at 100% in the current year instead of delaying it to future years when it would be allowed at 80%.
As always, please stay tuned to our website and follow us on social media for the most up-to-date tips and guidance as it becomes available. Click here to read our individual year-end planning guidance for 2022.
We would be happy to assist you with your year-end tax planning or answer any questions. Please reach out to your personal Sciarabba Walker contact or email us at info@swcllp.com at your earliest convenience.