2023 has been a quiet year for tax legislation. To help you decide 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.
Qualified Business Income Deduction
The Qualified Business Income (QBI) deduction continues to be effective for businesses. Taxpayers other than corporations may be entitled to a deduction of up to 20% of their qualified business income. For 2023, if taxable income exceeds $364,200 for a married couple filing jointly and $182,100 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 $364,200 and $464,200 and to single, head of household, and married filing separate taxpayers with taxable income between $182,100 and $232,100. 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 phaseout of the deduction) for 2023. Depending on their business model, taxpayers may also increase the deduction by increasing W-2 wages before year-end.
Defer or Accelerate Income
Deferring income and accelerating deductions are standard year-end tax planning strategies. However, if Congress were to consider raising the top individual, capital gain, and corporate tax rates, you may want to consider doing the opposite. If such changes are enacted, accelerating income into this year might subject it to a lower tax rate, and deferring deductions into next year could allow them to be taken against higher taxed income. If you expect taxable income to be higher in 2024 than in 2023, pulling income into 2023 to be taxed at the currently lower rates and deferring deductible expenses until 2024 may be advantageous. The points below are made considering the current tax law in place.
- Cash Method of Accounting: Choosing the cash method of accounting instead of the accrual method lets you put yourself in a better position for deferring income and accelerating expenses. Any entity other than a tax shelter that meets an inflation-adjusted average annual gross receipts test ($29 million for 2023; $30 million for 2024) can use the cash method of accounting. For cash basis taxpayers, business expenses are deductible when they are paid, and income is recognized when it is received. Businesses may choose to pay invoices before the end of the year or prepay certain expenses to decrease taxable income for 2023.
- Installment Sales: If a gain is 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 decide it would be beneficial to move income from future years to 2023, and you made a sale of property using an installment note. In that case, you could make the election on the 2023 tax return to not treat the sale as an installment sale recognizing all the gain in 2023.
- Early Collection: Businesses reporting on the cash basis method should consider issuing bills and pursuing collection before the end of 2023. Also, you could check to see if customers are willing to pay for 2024 goods or services in advance. Any income received using these steps will shift income from 2024 into 2023.
Section 179 and Bonus Depreciation
For 2023, the Section 179 expensing limit is $1,160,000, with a phaseout for purchases of more than $2,890,000 and a complete phaseout at $4,050,000 of expense-eligible property placed in service in 2023. The deduction is subject to a business income limit. For 2024, the limit increases to $1,220,000, with a phaseout for purchases of more than $3,050,000. Section 179 expense is available for most depreciable property (other than buildings) and off-the-shelf computer software. It is also available for qualified improvement property (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 2023. A first-year bonus depreciation deduction falls to 80% for the adjusted basis of depreciable property and is still allowed for qualified property acquired and placed in service during 2023. For 2024, the deduction is reduced to 60% for property placed in service in 2024. 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 allows a taxpayer with a loss in one year and income in another year to pay tax on the net amount as if it were earned evenly over the same period, thus reducing the inequity that would otherwise result from the use of annual accounting periods and the progressive rate structure. For 2023, NOLs are limited to 80% of taxable income and may be carried forward indefinitely. A taxpayer that may have difficulty taking advantage of the full amount of an NOL carryforward this year should consider shifting income into and expenses out of this year. By doing so, the taxpayer may avoid intervening tax year modifications that would apply to the NOL carryforward if not used in full in 2023.
A corporation (other than a large corporation) expecting a small NOL in 2023 and significant income in 2024 may consider accelerating enough of the 2024 income (or deferring just enough expenses) to this year, creating a small amount of income. This will allow the corporation to base its estimated tax installments for next year on the lower amount of income shown on its 2023 return rather than having to pay estimated taxes based on its higher 2024 taxable income.
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By Stephanie Couey, EA