In this September 2018 issue, you will find the following articles:
- Brent R. Johnson, Esq.
- Chad A. Fett, CTFA, CFP®
- Joshua R. Schroeder, CPA, CVA
Owners pour endless amounts of time and resources into growing their businesses.
But, just like children, growing companies develop different needs as they expand. Sometimes it’s hard to see what a growing company may need to foster continued success.
Conducting a business audit can help identify areas to target for improvement in a company’s operation, including corporate structure, potential liability pitfalls and tax considerations. Here are five areas to consider auditing.
1) Evaluate the current structure of your business.
Review your corporate entity documents, including ownership and governance policies. Are they up-to-date? Ask whether the company is operating with the best entity form and corporate structure to meet your current needs. The driving factors in this evaluation are most often tax considerations and the separation of liability.
Management, together with the company’s team of professionals, should help identify potential areas to improve operational efficiencies and, more importantly, to better separate liability. For example, do you have equipment, intellectual property, manufacturing, retail or other areas of operation you may want to consider spinning off into separate and distinct entities?
Do any of these areas present potential liability that, if triggered, could bring down or severely hamper the whole business? Could reorganizing the company’s structure help alleviate these concerns?
An in-depth analysis of operations may identify areas to spin-off. Review the important tax considerations involved in a reorganization of the business and the differing administrative factors that impact a company’s reorganization efforts.
Once you settle on the proper corporate structure, the business must coordinate with its trusted advisers -- attorneys, accountants, insurance and financial professionals -- to prepare the necessary documentation to guide the company through a reorganization.
2) Analyze the company’s standard business contracts.
Do your company contracts fully articulate the parties’ contractual rights and obligations? Do your contracts adequately protect your company’s interests? What risks are inherent with the company’s contractual relationships? Proper contracts are generally the cornerstone of every successful business. A business audit helps identify areas for improvement.
Regardless of your industry, contracts should be regularly reviewed to not only keep pace with changing laws, but also identify weaknesses and areas to be corrected as the business grows. This review should include contracts with vendors, clients, distributors, independent contractors and joint ventures. Look at the contract from top to bottom including the recitals, definitions, term and termination, representations and warranties, indemnification provisions, limitations on liability, and miscellaneous boilerplate provisions.
The review may identify areas for revision, such as risk allocation provisions to help apportion exposure to potential losses. For example, when making representations and warranties, it may be appropriate to attempt limiting or qualifying their effect by narrowing their scope, identifying exceptions, adding materiality and knowledge qualifiers, or limiting their survival period. This review may also include indemnity provisions, additional insured language provisions and the proper insuring agreements.
Use the experience you’ve gained operating your business to tailor your standard contracts to the way you want and need to do business.
3) Review your employment practices.
An employment audit can be quite comprehensive. You should review hiring and firing practices, personnel files, job descriptions, wage and hour practices, regulatory issues and perhaps more. Do a thorough review of your employment agreements and handbook, particularly with an eye toward dictating who owns any intellectual property assets created and the confidentiality of the work, assets created, customer lists, etc. This part of the audit should include a review of all confidentiality and non-disclosure agreements as well as non-compete and non-solicitation agreements.
4) Catalog and protect intellectual property (IP).
A company’s IP and other intangibles, such as computer code and technological know-how, may constitute a significant portion of the company’s value. For example, your business’s name may bear significant market value and it should be protected through proper registrations and policing. An IP audit provides the company with an opportunity to identify core IP assets, evaluate concerns with ownership or registration of those assets, and ensure that IP rights are properly protected. An IP audit generally requires three steps. First, investigate all potential IP assets, whether service or trademarks, chemical formulations, existing processes, product names. Second, identify all IP rights that apply to the assets identified. Finally, catalogue and develop a schedule for protecting the applicable IP rights. From there, develop practices for continued asset protection.
Information Technology (IT) and security concerns should also be reviewed and compliance strategies developed to avoid possible claims or unintended disclosures concerning proprietary information. This process should include developing appropriate compliance strategies to mitigate first-party and third-party risk with respect to the company’s IP and IT assets. Ultimately, completing the IP audit will aid future efforts to police and protect the exploitation of IP rights.
5) Regularly review your insurance protection.
Do you really understand the types of insurance policies and coverages needed to protect your growing business? Auditing your insurance policies, including insurance coverages and policy limits, in conjunction with insurance experts who can make specific recommendations, can help identify areas of exposure. Companies often neglect, for example, insurance covering employment practices or cyber security.
It may work best to have an insurance evaluation done at the same time you address each segment to ensure you have the proper coverage in terms of the entities covered, the products and services covered and any additional insureds that should be named. You may have a trusted insurance agent you will invite to the table or ask for recommendations from people who work on these issues.
You may not want to tackle all of these audit elements at once, but rather, select a few critical areas to start with. That selection process itself is valuable because it requires you to prioritize which areas to tackle first. The best option for an audit is to set up a meeting with the key persons in your company and your professional team, including legal counsel, accountants, insurance advisers and financial professionals.
Create an action plan and prioritize according to the risk levels identified. Conducting periodic business audits will help make sure your company continues growing and avoids threats that can arise from issues you didn’t even know were lurking.
Stacey DeKalb and Jason Engkjer are attorneys with the law firm Lommen Abdo: 612.339.8131; firstname.lastname@example.org; email@example.com; www.lommen.com.
Simply stated, estate planning is a method for determining how to distribute your property during your life and at your death. It is the process of developing and implementing a master plan that facilitates the distribution of your property after your death and according to your goals and objectives.
At your death, you leave behind the people that you love and all your worldly goods. Without advance planning, you have no say about who gets what, and more of your property may go to others, like the federal government, instead of your loved ones. If you care about (1) how and to whom your property is distributed, and (2) ensuring that your property is preserved for your loved ones, you need to know more about estate planning.
As a process, estate planning requires a little effort on your part. First, you'll want to come to terms with dying, at least to a degree that you can deal with the necessary planning. Understandably, your death can be a very uncomfortable subject, but unfortunately, the discussions in this area are full of references to your death, so it really can't be avoided. Some statements may seem too businesslike and unfeeling, but tiptoeing around the subject of dying will only make the planning process more difficult. You will understand the process more easily and implement a more successful master plan if you approach it in a straightforward manner.
Who needs estate planning?
Not just for the wealthy
Estate planning may be important to individuals with a wide range of financial situations. In fact, it may be more important if you have a smaller estate because the final expenses will have a much greater impact on your estate. Wasting even a single asset may cause your loved ones to suffer from a lack of financial resources.
Your master plan can consist of strategies that are simple and inexpensive to implement (e.g., a will or life insurance). If your estate is larger, the estate planning process can be more complex and expensive.
Implementing most strategies will probably require you to hire professional help of some kind, an attorney, an accountant, a trust officer, or an insurance agent, for example. If your estate is large or complex, you should consult with an estate planning expert such as a tax attorney or financial planner for advice before the implementation stage.
In deciding on your course of action, you should always consider whether the benefit of the strategy outweighs the cost of its implementation.
May be especially needed under certain circumstances
You may need to plan your estate especially if:
- Your estate is valued at more than the federal gift and estate tax applicable exclusion amount or your state's death tax exclusion amount
- Your income tax bracket is in excess of 10 percent
- You have children who are minors or who have special needs
- Your spouse is uncomfortable with or incapable of handling financial matters
- You're a business owner
- You have property in more than one state
- You intend to contribute to charity
- You have special property, such as artwork or collectibles
- You have strong feelings about health-care decisions
- You have privacy concerns or want to avoid probate
If you would like to explore the “next steps” of estate planning or have any questions, please don’t hesitate to contact me.
From a new deduction for qualified business income to a significantly lower corporate tax rate, the Tax Cuts and Jobs Act (TCJA) brings a host of planning opportunities for your business. This article presents some tax planning ideas under the TCJA for you to think about while there’s sufficient time left in 2018 to take action.
Maximize the Qualified Business Income Deduction
Under the TCJA, business owners may deduct up to 20% of their qualified business income. The deduction is available for qualified business income from both pass-through entities (partnerships, LLCs, and S corporations) and sole proprietorships (including farms). It is, however, subject to various rules and limitations.
Although official guidance is lacking on this new deduction, there are some planning strategies that can be considered now. For example, there are ways to adjust your business’s W-2 wages to maximize your qualified business income deduction. Also, it may be helpful to convert your independent contractors to employees, assuming the benefit of the deduction outweighs the increased payroll tax burden. Other planning strategies include restructuring the business, investing in short-lived depreciable assets, and leasing or selling property between businesses.
Rethink Choice of Entity
The TCJA makes major changes to the choice of entity decision. Because C corporations are now taxed at a flat rate of 21% (as opposed to a top rate of 35% under prior law), many business owners wonder whether they should restructure their business operations as a C corporation. Unfortunately, the answer is not simple. For one thing, the top individual tax rate also fell under the TCJA, from 39.6% to 37%. Also, the new qualified business income deduction isn’t available for C corporations or their shareholders. There are other factors to consider as well, such as self-employment and state taxes.
It is also important to remember that C corporations are subject to double taxation, meaning that corporate income is taxed once at the entity level and again when it’s distributed to shareholders as dividends. This can be avoided if the corporation retains all profits to finance growth, and does not pay profits out as dividends. However, this opens the door to the accumulated earnings tax (or personal holding company tax) if profits accumulate beyond the reasonable needs of the business.
The choice of entity decision is complicated, but we’re here to help. We would be happy to analyze your particular circumstances to see if a C corporation is right for you.
This is a great time to acquire business assets, thanks to the TCJA. Your business may be able to take advantage of very generous Section 179 deduction rules. Under these rules, businesses can elect to write off the entire cost of qualifying property rather than recovering it through depreciation. The maximum amount that can be expensed this year is $1 million (up from $510,000 for 2017). This amount is reduced (but not below zero) by the amount by which the cost of qualifying property exceeds $2.5 million (up from $2.03 million for 2017). Also, the Section 179 deduction is now available for certain tangible personal property used predominantly to furnish lodging and certain improvements to nonresidential real property (roofs, HVAC, and security systems). Note that if your business is already expected to have a tax loss for the year, you cannot claim a Section 179 write-off that would create or increase the overall business tax loss.
Above and beyond the Section 179 deduction, your business also can claim first-year bonus depreciation. The TCJA establishes 100% first-year bonus depreciation for qualified property acquired and placed in service after 9/27/17 and before 1/1/23 (1/1/24 for certain property with longer production periods). Unlike under prior law, this provision applies to new and used property. The bonus percentage will phase down for years 2023 through 2026. Note that 100% bonus depreciation deductions can create or increase a Net Operating Loss (NOL) for your business’s 2018 tax year. Under the TCJA, the NOL generally can’t be carried back to an earlier tax year, but it can be carried forward indefinitely. Unfortunately, NOLs arising in tax years beginning after 2017 can’t reduce taxable income by more than 80%.
Given these generous provisions, your asset acquisition plan is more important than ever. We can help you develop a plan that is right for your business.
Adopt a More Favorable Accounting Method
The cash method of accounting, which allows you to recognize sales when cash is received, is attractive to many small businesses due to its simplicity. For tax years beginning after 2017, the ability to use the cash method is greatly expanded. Any entity (other than a tax shelter) with three-year average annual gross receipts of $25 million or less can use the cash method regardless of whether the purchase, production, or sale of merchandise is an income-producing factor. Likewise, C corporations and partnerships with C corporation partners can use the cash method if they meet the $25 million gross receipts test.
Under pre-TCJA law, if the purchase, production, or sale of merchandise was an income-producing factor, inventories were required to be maintained, and the cash method wasn’t allowed unless the taxpayer met a $1 million gross receipts test or a $10 million gross receipts test (which only applied if the taxpayer’s principal business activity was an eligible activity). Also, for years beginning before 2018, C corporations and partnerships with a C corporation partner with average annual gross receipts over $5 million couldn’t use the cash method.
The $25 million gross receipts test is made on a year-by-year basis, and we can monitor whether your average annual gross receipts fall below the threshold. If they do, we can discuss the pros and cons of changing your accounting method. If a change would be beneficial, we can help you file the appropriate paperwork with the IRS.
Determine Eligibility for the Employer-paid Family and Medical Leave Credit
The TCJA establishes a new credit for employer-paid family and medical leave. The credit is for tax years beginning in 2018 and 2019 and is equal to 12.5% of the amount of wages paid to qualifying employees on family and medical leave. However, the employer must pay at least 50% of the wages normally paid to the employee. The credit is increased by 0.25 percentage points (but not above 25%) for each percent by which the payment rate exceeds 50%.
Watch out for New Business Interest Expense Limit
Regardless of its form, every business will be subject to a net interest expense disallowance. Starting in 2018, net interest expense in excess of 30% of your business’s adjusted taxable income will be disallowed. However, your business won’t be subject to this rule if its average annual gross receipts for the prior three years is $25 million or less. Also, real property trades or businesses can choose to have the rule not apply if they elect the Alternative Depreciation System (ADS) for real property used in their trade or business. Since ADS is a slower way to depreciate property, real property trades or businesses will need to look at the trade-off between currently deducting their business interest expense and deferring depreciation expense.
Monitor State Response to Tax Reform
States react differently to changes to federal tax law. For example, some states automatically conform to federal tax law as soon as legislation is passed. Other states require their legislatures to adopt federal tax law as of a fixed date. This generally occurs on an annual basis. There are some states, however, that pick and choose which federal provisions to adopt. Because of this, your state income tax rules may be drastically different than the federal income tax rules. It is important to monitor your state’s response to the TCJA and to help minimize your state income tax bill.
This article is to get you thinking about tax planning moves for the rest of the year. This year is unique given the numerous tax law changes brought by the TCJA. Even with uncertainty about some of the TCJA’s provisions, there are things you can do now to improve your business’s situation. Please don’t hesitate to contact us if you want more details or would like to schedule a tax planning session.