For most contractors and construction-related businesses—particularly for those structured as pass-through entities—the 2018 tax season is anything but business as usual. With the Tax Cuts and Jobs Act (TCJA) on the books, there are several tax law changes that could impact your tax filing this year. Here are a few things to consider as you prepare your return.
Do you qualify for the qualified business income deduction?
One of the changes brought about by the TCJA was the qualified business income (QBI) deduction for pass-through entities, such as partnerships and S corporations. Only certain types of businesses qualify for the deduction; thankfully, most general contractors and subcontractors meet the requirements.
There are many phases to the calculation, but in general it is equal to 20 percent of the lesser of your flow-through business income or your taxable income. If a business owner’s taxable income exceeds $207,500 (or $415,000 if married filing jointly) you must also factor in wages paid by the company and the original cost of equipment and property owned by the business. Please talk to your tax advisor about this deduction, as it is highly complicated and the rules surrounding it were only recently finalized.
If you do qualify for the 20 percent deduction, consider this: The TCJA also limited the state income tax deduction and eliminated the production deduction, both of which were approximately 9 percent deductions (for high-income Minnesota taxpayers). So, although 20 percent sounds really great, in reality it’s only a 2 percent sway.
Should you change your accounting method?
Thanks to the TCJA, businesses with less than an average of $25 million in annual revenue over the last three years can now file tax returns on a cash basis. Previously, the threshold was $10 million ($5 million for C corporations). So, if you are a $10-million-a-year contractor who has been “stuck” on the accrual method of accounting, you now have an option to switch to cash.
Will you make the switch? A decision about whether or not to change your accounting method should never be made in haste. There are pros and cons to both methods, so it’s important to talk to your tax advisors st. paul to determine which is best for your business.
One more thing: The new $25 million threshold also applies to the use of percentage of completion for long-term contracts. This means you could have additional options for how you account for these, too.
Are you required to do a lookback interest calculation?
Previously, businesses that had more than $10 million in average annual revenue over the prior three years were required to do a lookback interest calculation. Now, this threshold has increased to an average annual revenue of $25 million or more over the last three years. For many contractors, this provides even more of an incentive to be conservative in estimates, which is not only good practice but also desired by third-party users of financial statements.
Will you expense incidental inventory?
One of the new rules ushered in by the TCJA is the ability to elect to expense up to $2,500 of incidental inventory. If you make this election, it must be reflected on your internal books and records. The election may not be appropriate if you’re using GAAP financial statements.
Partner with an expert to file your 2018 return.
When it comes to tax filings, much has changed since last year. It’s important to not only be aware of the new deductions, rules, and thresholds but also how they could impact your tax burden in 2018 and beyond. If you haven’t already, ask your tax advisor to help you understand your options, so you can make the right filing for your business.