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How to Maximize Your Tax Benefits on Your Vacation Rental Property

By Contributor
Accounting and Tax Planning Special Coverage

Questions and Answers

 

Increasingly, third-party sites like Airbnb and VRBO have made it easier for individuals to rent out their homes and condos and generate revenue. Given these trends, it’s important to understand both the tax benefits and tax implications before listing your property for lease.

By Elliot Altman, CPA, MST

 

Are you a current host or considering renting your property on third-party vacation sites?Understand the tax benefits and implications before listing your property.

Elliot Altman“If you are a property owner, it is important to understand the tax benefits that come with owning rental properties.”

Whether you are a first-time host or an experienced pro, it’s important to consider the responsibilities as much as the benefits. What follows is a comprehensive tax guide for vacation rental owners that covers everything from how to report your income to the IRS, to what deductions you can claim.

 

Benefits to renting out a room or vacation property

With the rise of the sharing economy, more and more people are renting out their homes on platforms like Airbnb and VRBO. Third-party sites like these can offer a variety of advantages.

First, you can reach a large audience of potential renters. Both sites have millions of users, so you’ll be able to find people from all over the world who are interested in staying in your rental. Second, you can set your own price and terms. You’re in control of how much you charge and what kind of rental agreement you want to have with your guests. Finally, renting through a third-party site can be a great way to earn extra income. With careful planning, you can make sure that your rental property is profitable.

 

What is taxable and what is not?

When you’re renting out your property, it’s important to know what income is taxable and what is not. Generally, any money that you receive from renting your property is considered taxable income. This includes rent, cleaning fees, and any other fees that you charge your guests.

However, there are some exceptions. For example, if you rent out your property for less than 14 days per year, the income is not considered taxable. Additionally, if you use your rental property for personal use part of the time, you may only have to pay taxes on the portion of the income that comes from renting it out.

Here are some of the most frequently asked questions related to taxes and your Airbnb and Vrbo rentals.

Do I have to pay taxes on rental income?
If you rent out your vacation home, spare room, or apartment for more than 14 days a year, you are required to pay taxes on the rental income. This includes all income you collect from rent, cleaning fees and any other additional fees.

How much tax will I have to pay?
The exact amount of tax you owe will depend on a number of factors, including the location of your rental property and the amount of income you earn. In most cases, you will be required to pay federal, state, and local taxes on your rental income.

State and local taxes on rental income vary depending on the location of your rental property.

What expenses can I write off?

People who rent out their homes on Airbnb and VRBO can write off a number of expenses on their taxes. These expenses can include the cost of repairs, cleaning, and furnishings. You will need to allocate rental and personal use in order to write off the expenses. In addition, rental property owners can deduct the costs of advertising and paying fees to the rental platforms. However, it is important to keep detailed records of all expenses in order to maximize the tax benefits. For example, receipts for repairs should be kept in order to prove that the expense was incurred. By carefully tracking their expenses, Airbnb and VRBO hosts can ensure that they take advantage of all the available tax benefits.

Do I need to collect occupancy tax?

The answer depends on the laws in your area, but in general, if you’re renting out a room or portion of your home for less than 30 days at a time, you are likely required to collect and remit occupancy taxes.

These taxes, which are also sometimes called lodging taxes or tourism taxes, are typically imposed by state or local governments in order to generate revenue from visitors. They can range from a few percent to over 10% of the rental rate, so it’s important to be aware of the laws in your area before listing your property. (Massachusetts state room occupancy excise tax rate is 5.7%).

One of the benefits to renting your property through a third-party site, is that they may have an automated feature that determines which taxes are applicable for your listing, collects and pays occupancy taxes on your behalf. Always check to see if this setting is available and if you need to opt in for it to be activated.

Am I considered self-employed if I have rental income?

Unlike wages from a job or a business, rental income isn’t considered to be earned income. Instead, it’s considered to be passive income by the IRS, and therefore is not subject to self-employment tax.

Will third-party rental sites provide me with a tax form?

There are a few factors that will determine if you will receive a tax form from your third-party site. The 1099-K form is used to report income from transactions that are processed through a third party. This includes credit card payments, PayPal payments, and other forms of electronic payments. The form will report the total amount of income that you received from Airbnb or VRBO during the year, as well as the total number of transactions.

Third-party sites, such as Airbnb and Vrbo, typically will provide you with form 1099-K if you meet certain thresholds such as:

• Processed more than $20,000 in gross rental income through the platform, and

• Have 200 or more transactions during the year.

 

Note that these are only general guidelines, and you may still receive a 1099-K form even if you don’t meet both of these criteria.

Maximize Your Tax Benefits on Your Rental Property

If you are a property owner, it is important to understand the tax benefits that come with owning rental properties. It’s important to speak with a tax professional so that you can get the most benefit from your rental properties and ensure that you are taking advantage of all available tax breaks.u

 

Elliot Altman, CPA, MST is a Senior Manager at the Holyoke based accounting firm, Meyers Brothers Kalicka, P.C.

Accounting and Tax Planning

The COVID-19 Pandemic Alters an Already-evolving Picture

By Contributor

Changes in Benefit Plans

By Melissa English

Melissa English

Melissa English

Audits of employee-benefit plans continue to evolve, and the pace of this evolution is unpredictable.

Areas such as technology and skills continue to grow, as well as industry standards. Now, throw COVID-19 into the mix, and we have to adjust not only to new ways of having these plans audited, but to additional standards that come into play with it.

The Auditing Standards Board has recently been issuing new standards. These standards go hand-in-hand with changes in technology and skills. These standards will improve the provisions of plans, affect the audits of plans, and address risk assessment and quality control. Auditors, as well as plan sponsors and administrators, should understand what these changes are and how they will affect retirement plans.

So what are some of the changes we can expect to see in the near future?

• Accounting Standards Updates (ASU) 2018-09 and 2018-13, which improve the standards on valuation of investments that use net-asset value as a practical expedient and improvements to fair-value disclosures. These both will be effective for years beginning after Dec. 15, 2019; and

• Statement on Auditing Standards (SAS) 134-141, with the biggest impact on limited-scope audits, which will now be called ERISA Section 103(a)(3)(c) audits. These standards will also affect the form and content of engagement letters, auditors’ opinions, and representation letters. The Statement on Auditing Standards was previously effective for years beginning after Dec. 15, 2020 but, due to COVID-19, has been moved, and is effective for years beginning after Dec. 15, 2021.

“Now, throw COVID-19 into the mix, and we have to adjust not only to new ways of having these plans audited, but to additional standards that come into play with it.”

In addition to these new standards, new acts recently came into law:

• The Bipartisan Budget Act of 2018, which was signed into law on Feb. 9, 2018. This act made changes in regulations for hardship distributions;

• The SECURE Act which became law on Dec. 20, 2019. This act will make it easier for small businesses to set up safe-harbor plans, allow part-time employees to participate in retirement plans, push back the age limit for required minimum distributions from 70 1/2 to 72, allow 401(k) plans to offer annuities, and change distribution rules for beneficiaries. This act also added new provisions for qualified automatic contribution arrangements (QACAs), birth and adoption distributions, and in-service distributions for defined benefit plans; and

• The CARES Act, which was signed into law on March 27, 2020 and acts as an aid and relief initiative from the impact of the COVID-19 pandemic. This act allows participants who are in retirement plans the option of taking distributions and/or loan withdrawals early without penalties during certain time periods for qualified individuals.

Lastly, there are constant discussions on cybersecurity. Cybercrime is one of the greatest threats to every company. Some questions to consider: does your company have a cybersecurity policy in place? Do you have insurance for cybersecurity? What is management’s role on cyber risk management? Do you offer trainings on how to handle cybercrime for both your IT department and all employees of the company? Cyberattacks are a normal part of daily business, but they can be significantly reduced if companies understand the risk, offer adequate resources and trainings, and maintain effective monitoring.

These changes affect most defined-contribution and defined-benefit plans. Plan sponsors should be evaluating these changes and the impact they have on retirement plans.

Some of these changes are optional, some are required, and some require amendments to plan documents. Plan sponsors should be discussing these changes as soon as possible with their third-party administrators and auditors. Remember, it’s the fiduciary’s responsibility to run the plan in the sole interest of its participants and beneficiaries, and to do this in accordance with all industry rules, regulations, and updated standards.

Melissa English is an audit manager at MP P.C. in its Springfield location. She specializes in employee benefit-plan work, such as audits; researching plan issues; compliance regulations, including voluntary plan corrections and self-corrections; and DOL and IRS audit examinations; (413) 739-1800.

Law

The Benefits of Sealing and Expunging Cannabis Records

By Contributor

Fresh Start

By John Greaney and Sarah Morgan

John Greaney

Sarah Morgan

Cannabis is a controlled substance under federal law. Massachusetts, however, has shifted from total prohibition to limited legalization. Despite this change, for many individuals, prior convictions for possession of marijuana may still cause major consequences. This raises the question: what can now be done about prior convictions for minor marijuana offenses that are no longer considered crimes under Massachusetts law?

Cannabis (marijuana) is made criminal as a Schedule I narcotic under the federal Controlled Substances Act. Notwithstanding the federal prohibition, Massachusetts and several other states have passed laws loosening the restrictions on small amounts of marijuana for personal use. In 2008, voters in Massachusetts approved a ballot question decriminalizing marijuana possession of up to one ounce per person. Massachusetts enacted an additional measure in 2012, allowing the purchase and use of marijuana for therapeutic uses from registered marijuana dispensaries.

Moving further away from prohibition, in 2016 Massachusetts enacted a law permitting individuals over the age of 21 to possess up to one ounce on their person and up to 10 ounces in their homes. The Cannabis Control Commission, the state agency which now regulates the recreational and medical marijuana industry, is considering social consumption of marijuana at sites designated as licensed marijuana establishments, such as cannabis cafés.

Despite the significant progress made, convictions for marijuana possession under the former criminalization scheme may continue to have lasting effects on individuals. Even minor convictions for possession appear on a person’s criminal offender record information (CORI) report and may disqualify him or her from employment or housing opportunities or possibly lead to other adverse consequences.

The impact of prior criminal convictions for possession also may disproportionately affect people of color. A study conducted by the Cannabis Control Commission found that African-American and Hispanic people — in particular, men — had been disproportionately convicted for cannabis possession between 2000 and 2013 as compared to white people during the same period.

“Despite the significant progress made, convictions for marijuana possession under the former criminalization scheme may continue to have lasting effects on individuals.”

Although the 2016 legalization bill permitted individuals to possess up to one ounce of marijuana, it did nothing to erase past convictions and their lasting impacts.

In 2018, our Legislature addressed the retroactivity problem when it enacted the Massachusetts Criminal Justice Reform Law, comprehensive legislation that allows individuals to seal or expunge their criminal records for offenses that are no longer a crime. This permits individuals who have been convicted for possession of one ounce or less of cannabis to seal or expunge their record. The law does not allow for sealing or expungement of more significant marijuana offenses.

The Criminal Justice Reform bill reflects the Commonwealth’s new views on marijuana use and a progressive intent to address the effects and disparate impacts of marijuana criminalization.

Under our revised laws, sealing and expungement are the two mechanisms available to limit, or remove, minor marijuana convictions from criminal records. Sealing records restricts who can access them and involves a relatively simple process — a petitioner must complete a petition to seal and mail it to the Office of the Commissioner of Probation in Boston. Once sealed, a person may answer, “I have no record,” when asked about criminal records concerning possession of marijuana by an employment or housing screener. However, state law-enforcement agencies and offices responsible for administering foster care, adoption, and childcare programs may still access sealed records.

Expungement permanently destroys a criminal record and allows a person to claim, without limitation, “I have no record,” when asked about their criminal history for any purpose. Expunging records requires a petitioner to file a petition for expungement in court and may require a hearing if either the petitioner or the district attorney, who must be notified of the petition, requests one. A judge hearing a petition for expungement has discretion to approve or deny it. Importantly, individuals who are not citizens, or whose immigration status may be impacted by the process, should not seal, or attempt to expunge, their records without consulting an immigration attorney.

Once a criminal conviction has been sealed or expunged, an individual is no longer obligated to report these convictions on an application for employment or housing. The Massachusetts Ban the Box Law prohibits employers from asking applicants in an initial employment application about their criminal records except in limited circumstances. The changes to the law also require employers to include specific informative language related to criminal-record disclosures in any requests provided to applicants. Applicants whose records have been expunged may answer ‘no record’ on an application for employment or housing.

Once a criminal conviction has been sealed or expunged, an individual is no longer obligated to report these convictions on an application for employment or housing.

At all stages of the hiring process, employers are absolutely prohibited from inquiring about criminal records — or anything related to criminal records — that have been sealed or expunged. In other words, once an employer learns that the applicant either has no record or that the records have been sealed or expunged, the employer cannot inquire further. In view of these changes, employers should review their hiring practices and applications and adjust them, and the interview process, accordingly.

Sealing and expunging prior convictions opens many new doors of opportunity for those impacted by the decades-long criminalization of marijuana in Massachusetts.

Anyone interested in exploring their options for addressing their qualifying Massachusetts cannabis convictions should contact the Hampden County Bar Assoc. regarding “Off the Record: A Clinic on Removing Past Marijuana Convictions from Your Record,” a free event to review individual circumstances and receive assistance on preparing the necessary documents. The clinic is co-sponsored by the Hampden County Bar Assoc., INSA, Sigma Pi Phi, and the Western New England University School of Law Center for Social Justice. 

Justice John Greaney is a former justice of the Supreme Judicial Court and senior counsel at Bulkley Richardson.  Sarah Morgan is an associate in the litigation and cannabis practices at Bulkley Richardson.

Autos

Why Electric and Hybrid Vehicles Are Gaining Traction

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Shifting Lanes

For years, people have been aware — at least vaguely — of the benefits of electric cars, especially energy conservation and savings on gasoline. But according to at least one survey, a general lack of awareness still surrounds these vehicles, especially when it comes to their often-surprising road performance. Yet, electrics and hybrids are gaining momentum, as evidenced by the number and variety of models being introduced to the marketplace — a group that might soon include larger SUVs and trucks.

Brian Ortega sees the connection between electric cars and energy conservation in general.

“They’re popular for a multitude of reasons,” said the product specialist at Balise Hyundai in Springfield. “One, a lot of people are making the transition to having solar panels in their home or making other changes to be a little more eco friendly. People are becoming more aware of climate change, and they want to switch to electric cars.”

But here’s what many drivers of gas-powered vehicles don’t know — people drive electric cars for the performance, too.

“With full electric, there’s a lot more torque,” Ortega said. “When you hit the pedal, there’s no gears, nothing but electricity hitting the car, so your takeoff and speed on the vehicle and ability to get out of snow is a lot better on an electric car.”

Since the days when the Toyota Prius was the only option on the electric market, he told BusinessWest, manufacturers have gradually improved the performance and pickup of electric vehicles, as well as hybrids, which tap into both electricity and gasoline (more on that later). And with Hyundai, Nissan, and a host of other names starting to roll a wider variety of electric and hybrid cars out of factories, they’ve been gradually improving ride quality as well.

“A lot of people have the stigma that it’ll only perform so well, but when they come from a traditional sedan and see that it performs at the same level or better, they are always caught off guard by that,” said Ortega.

Carla Cosenzi, president of TommyCar Auto Group, which sells a number of electric and hybrid vehicles, agreed.

“I think people are shocked when they get in the car and realize the pickup they have,” she said. “When consumers look at electric vehicles, they usually don’t expect them to be as responsive as they are or have the torque they have.”

Whatever the reason, she went on, “we see electrification becoming more popular among manufacturers. It seems everyone’s research and design are focused on electrification now, and they’re definitely becoming more popular with consumers, for a number of reasons. For one thing, I think consumers are now more environmentally conscious than in the past, so if vehicles offer zero emissions, that’s better for the environment and more efficient than internal-combustion engines. The other piece is that these cars are more affordable than in the past.”

Ford has taken note of shifting attitudes on electrics and hybrids and pivoted accordingly, said Jeff Sarat, president of Sarat Ford Lincoln in Agawam.

Brian Ortega says charging stations for electric cars are more ubiquitous than they think — and Hyundai has an app to help locate them while driving.

“It’s interesting — for a while, Ford and Lincoln dropped all of their hybrid vehicles, but recently they brought back numerous versions of hybrids, both plug-in and traditional hybrids. Lincoln has a plug-in version of the Aviator coming out called the Grand Touring model. That’s something like a high-end luxury vehicle, and with the plug-in version, believe it or not, it gets more horsepower and torque than a regular twin-turbo V6 that comes standard in that vehicle.”

In addition, Ford will soon launch the all-electric Mustang Mach-E, which Sarat said is a whole new entry point into electric vehicles — perhaps a hipper one.

“I think this vehicle — and I’ve seen it, I’ve sat in it — is really going to take the electric world by storm, and going to battle the likes of Tesla because it looks better than the Tesla, has better range, and it’s also probably a fraction of the cost, which is nice.

“I think, forever, the common thought about electrics and hybrids was that these aren’t exciting cars,” he added. “The Mustang Mach-E and Aviator Grand Touring, those are exciting vehicles with plenty of range. That’s what we’re seeing in the newer vehicles.”

Engines of Change

To explain the difference between electric and hybrid vehicles, Ortega pointed out two that Hyundai sells: the Ioniq, a sedan, and the Kona EV, a small SUV.

The EV is strictly electric, while Ioniq has a plug-in hybrid and an electric hybrid,” he said. “With full electric vehicles, there’s only the charge, no gas. Hybrid is a mixture of an electric battery, electric drivetrain, and an actual gasoline engine. With the typical hybrid, you fill it up with gas, and it uses regenerative braking, so that, every time you step on the brake, it actually charges the hybrid battery, and gives you a little extra range in driveability.

Carla Cosenzi

“I think people are shocked when they get in the car and realize the pickup they have. When consumers look at electric vehicles, they usually don’t expect them to be as responsive as they are or have the torque they have.”

The plug-in hybrid allows you to go a farther distance between the charge that’s on the car and the gasoline you put into it. So, with a plug-in hybrid, if you get 52 miles to the gallon on gasoline, you get 30 additional miles of range from electricity.”

Ford has long been a player in this market with its Escape hybrid, a small SUV. “We sold thousands of those,” Sarat said. “And we still have the Fusion Energi with the plug-in hybrid; we sell a lot of those.”

The tipping point for many people, he believes, will be the emergence of electric and hybrid trucks and larger SUVs. He said the hybrid Escape was discontinued for a time when the difference between its gas mileage and that of a gas-powered model was small — say, 33 miles per gallon versus 28. Now that hybrid SUVs get well over 40 miles per gallon, though, the difference is more likely to attract buyers, and Ford hopes that’s the case as it develops a hybrid Explorer.

“That will fit seven people and get 40 miles per gallon,” he said. “Everyone wants that.”

Cosenzi said some electric cars in her stores have sold well for years.

“The Nissan Leaf won a number of awards and was one of the top-selling electric vehicles for the past couple of years — and was one of the first electric vehicles on the market,” she told BusinessWest. “I think people are really excited about the range. They get over 200 miles per charge, so that’s really appealing. Other things put a customer at ease, too — you can save money on maintenance and gas, and the manufacturer supports the battery life of the vehicle; Leaf has an eight-year, 100,000-mile battery warranty.”

She also cited Hyundai’s Ioniq and Kona as popular sellers, as well as the Sonata hybrid. Volkswagen offers an electric Golf and is developing other electric models. And Volvo has the T8 hybrid and announced an electric XE40 SUV that will go on sale this year. And TommyCar just acquired a Genesis franchise, which will introduce an electric car this year.

In short, Consenzi said, electric and hybrid models are starting to proliferate, and that speaks to manufacturers’ confidence in their sales potential.

“I think, even when we talk about the next two or three years, you’ll see huge growth. From everything we hear from manufacturers, all the research and design is going into electrification.”

Forward Progress

Long-term forecasts of electric and hybrid vehicles have fluctuated by year, but the national growth rate since 2013 still averages about 25% per year.

Several factors explain why growth isn’t even higher, according to a recent survey by research firm Altman Vilandrie & Co. of 2,500 American drivers. When asked what’s stopping them from buying such vehicles, 85% of respondents pointed to a perceived lack of charging stations, followed by cost (83%), and concerns over the range (74%). And 60% said they were simply unaware of electric cars.

Worries about range and charging-station location seem to go hand in hand, and manufacturers have noticed. Ortega said Hyundai has an app that connects with a car’s data screen — even if navigation isn’t installed — and points out all the charging stations in the area.

“Typically, you’ll always have one within two miles of where you are,” he noted. “Of course, on the highway, that’s where it becomes more spread out, but they tend to be readily available.”

Cosenzi added that today’s charging stations are much more efficient than they used to be. “People waited a long time for their car to be charged, but now it’s as quick as under 45 minutes for a full charge.”

As for cost, she noted that government rebates for electric vehicles are often aggressive, such as a $7,500 federal rebate and state rebates that vary by manufacturer, but tend to average around $2,500. “That’s quite an advantage for going electric, plus savings on gas mileage.”

Ortega agreed, noting that, after about $9,000 in rebates, drivers can lease an Ioniq for under $200 a month, no money down.

“It makes all the sense. It’s the cheapest lease you can get,” he said, adding that, “in the future, that’s going to be the route people go. You’ll have that performance as well as the savings. They’ll become more popular.”

The fuel savings, after all, remains a huge factor, Sarat said.

“My truck has a 35-gallon gas tank in it. I hate filling that up; it costs 75, 80 bucks. Nobody likes doing that,” he told BusinessWest. “Pretty soon we’ll have hybrid pickup trucks. To me, that’s exciting because I hate filling this gas tank. I like to be home at night, plug it in, and be done with it, and be able to go to work the next day or go skiing on the weekend.”

And maybe go a little easier on the environment, too.

Joseph Bednar can be reached at [email protected]

Accounting and Tax Planning

Understanding the SECURE Act

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This Measure Changes the Retirement Landscape in Several Ways

It’s called the Setting Every Community Up for Retirement Enhancement Act, and it was signed into law just a few weeks ago and took effect on Jan. 1. It is making an impact on taxpayers already, and individuals should know and understand its many provisions.

By Ian Coddington and Gabriel Jacobson

Signed into law Dec. 20, 2019, the SECURE Act, or Setting Every Community Up for Retirement Enhancement Act, has changed the retirement landscape for Americans retiring or planning to retire in the future.

The prominent components of the SECURE Act remove the maximum age for Traditional IRA contributions, increase the age for required minimum distributions, change how IRA benefits are received after death, and expand the types of expenses applicable to education savings funds. This law offsets some of the spending included in the budget bill by accelerating distribution of tax-deferred accounts.

Ian Coddington

Gabriel Jacobson

Due to the timing of this new legislation, there will be many questions from tax filers regarding the new rules and what changes apply to their plans. We hope this article will provide a starting point for understanding the changes that will impact us come tax time.

A Traditional IRA, or Traditional Individual Retirement Account, can be opened at most financial institutions.

Unless your income is above a certain threshold, every dollar of earned income from wages or self-employment contributed to the account by an individual reduces your annual taxable income dollar for dollar. This assumes you do not contribute above the annual limit into one or more tax-deferred retirement accounts.

Due to increasing life expectancy, the SECURE Act has eliminated the maximum age limit that an individual may contribute to a Traditional IRA. Prior to 2020, the maximum age was 70½.

The SECURE Act also raises the age that an individual with investments held in a Traditional IRA or other tax-deferred retirement account, such as a 401(k), must take distributions from 70½ to 72. These required minimum distributions, or RMDs, serve as the government’s way of collecting on tax-deferred income and are taxed at the individual’s income-tax rates, so no special investment-tax rates apply.

Each year, the distribution must equal a certain fraction of the year-end balance of an individual’s tax-deferred retirement account. The tax penalty for omitting all or a portion of your annual RMD is 50% of the amount of the RMD not withdrawn. The fraction is known as the life-expectancy factor and is based on the individual’s age.

The SECURE Act did not change the life-expectancy factors for 2020, but a change is expected for 2021. Unfortunately, RMDs for individuals who reached 70½ by Dec. 31, 2019 are not delayed. Such individuals must continue to take their RMDs under the same rules as prior to passage of the SECURE Act.

“With the SECURE Act going into effect Jan. 1, 2020, the law is making an impact on taxpayers now. The effects of this will continue over the next few years, as death benefits for beneficiaries and minimum distributions will not affect all retirees immediately.”

Individuals who inherit Traditional or Roth IRAs during or after Jan. 1, 2020 are now subject to a shorter time frame for RMDs pursuant to the SECURE Act. Prior to passage of the SECURE Act, individuals were able to withdraw funds from their IRAs over various schedules. The longest schedule was based on the beneficiary’s life expectancy and could last the majority of the individual’s life.

This allowed those who inherited Traditional IRAs to stretch the tax liabilities on those RMDs discussed previously over a longer period, reducing the annual tax burden. Under the current law, distributions to most non-spouse beneficiaries are required to be distributed within 10 years following the plan participant’s or IRA owner’s death (the 10-year rule). This may increase the size of RMD payments and push an individual to a higher tax bracket.

Exceptions to the 10-year rule are allowed for distributions to the following recipients: the surviving spouse, who receives the account value as if they were the owner of the IRA; an IRA owner’s child who has not yet reached majority; a chronically ill individual; and any other individual who is not more than 10 years younger than the IRA owner. Those beneficiaries who qualify under this exception may continue to take their distributions through the predefined life-expectancy rules.

Section 529 plans have also been expanded by the SECURE Act. These plans can be opened at most financial institutions and are established by a state or educational institution.

These 529 plans use post-tax contributions to generate tax-free earnings to pay for qualified educational expenses. As long as the distributions pay for these expenses, they will be tax-free. Qualified distributions include tuition, fees, books, and supplies. Previously, distributions were only tax-free if paid toward qualified education expenses for public and private institutions; now, they will include registered apprenticeships and repayment of certain student loans.

This will expand the qualified distributions to include equipment needed to complete apprenticeships and technical classes and training. For repayment of student loans, an individual is able to pay the principal or interest on qualified education loans of the beneficiary, up to $10,000. This can also include a sibling of the beneficiary, if the account holder has multiple children.

With the SECURE Act going into effect Jan. 1, 2020, the law is making an impact on taxpayers now. The effects of this will continue over the next few years, as death benefits for beneficiaries and minimum distributions will not affect all retirees immediately.

This article does not qualify as legal advice. Seek your tax professional or retirement advisor with additional questions on the impact this will have in your individual situation.

Ian Coddington and Gabriel Jacobson are associates with Holyoke-based public accounting firm Meyers Brothers Kalicka, P.C.; [email protected]; [email protected]

Banking and Financial Services

New Tax Deduction May Yield Benefits for Some Business Owners

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Understanding Section 199A

By Kristina Drzal-Houghton, CPA, MST

Kristina Drzal Houghton

Kristina Drzal Houghton

At the close of every year, most individuals and business owners begin to think about taxes. Currently, many are anxious to find out what their liability will look like considering the law change known as the Tax Cuts and Jobs Act (TCJA).

One major provision is a new tax deduction for passthrough entities (S-corporations, partnerships, and sole proprietorships) under Sec. 199A. The deduction generally provides owners, shareholders, or partners a 20% deduction on their personal tax returns on their qualified business income (QBI). Various limitations apply based on the type of business operated and the amount of income the business has.

While the calculation of the deduction amount is beyond the scope of this discussion, a summary follows of the limitations that apply to specified service trades or businesses (SSTBs) and other benefits which may be available.

The Internal Revenue Code has historically treated professional service businesses more harshly than any other type of business, and this continues with the Sec. 199A deduction. For example, before the TCJA, professional service corporations were taxed at a flat 35% tax rate rather than the graduated tax rates applicable to other C-corporations. Under the new rules, the same corporations will benefit from a flat 21% tax. Pass-through entities did not fare as well; the 20% deduction does not apply to certain enumerated SSTBs if the taxpayer’s taxable income is above certain threshold amounts.

The threshold amounts are $315,000 for taxpayers filing jointly and $157,500 for all other taxpayers, with a deduction-phaseout range, or limitation phase-in range, of $100,000 and $50,000, respectively, above these amounts.

SSTBs are broken into two distinct categories:

1.Trades or businesses performing services in the fields of health, law, accounting, actuarial science, performing arts, consulting, athletics, financial services, brokerage services, or any trade or business where the principal asset of that trade or business is the reputation or skill of one or more of its employees (specifically excluded are engineering and architecture); or

2. Any trade or business that involves the performance of services that consist of investing and investment management, trading, or dealing in securities, partnership interests, or commodities.

QBI also does not include compensation, even compensation paid to the shareholders of an S-corporation, or any guaranteed payments paid to a partner for services rendered with respect to the trade or business, or any payment to a partner for services rendered with respect to the trade or business. As a result, if your practice is a partnership that pays out all of its income in guaranteed payments, you may want to switch to a model that instead specially allocates that income to the partners, as a special allocation of income is eligible for the 20% deduction, while the guaranteed payments are not.

This could allow individual partners whose income falls below the above thresholds to benefit from the QBI deduction even if the activity is otherwise an SSTB.

What happens if a trade or business has multiple lines of businesses, where one of the lines is an SSTB? The regulations include a de minimis rule for this situation. If a taxpayer has $25 million or less in gross receipts for the tax year from SSTB activities, it will not be considered an SSTB if less than 10% of the receipts are generated by the SSTB activity. If the taxpayer has more than $25 million in gross receipts, it will not be an SSTB if less than 5% of those receipts are generated by the SSTB activity.

The regulations do provide a couple of anti-abuse provisions to prevent taxpayers from incorrectly trying to take advantage of the tax law. The first relates to a common question I am often asked at networking functions where an employee now desires to be treated as an independent contractor to take advantage of this new tax deduction. The regulations provide that former employees are presumed to still be employees even if subsequently treated as an independent contractor. The IRS provides several tests and factors to consider if a worker is an independent contractor or employee which should be considered by an employer before changing a worker’s classification.

The second anti-abuse provision has to do with related party businesses. Here the IRS has stated that, if a business that otherwise wouldn’t be considered an SSTB has 50% or more common ownership with an SSTB (including related parties) and is providing substantially all its property or services to the related SSTB, it will be considered an SSTB. ‘Substantially all’ is defined to be 80% or more of its total property or services to the related SSTB. This is designed to prevent taxpayers from shifting income to non-SSTB businesses by adjusting the purchase price on related party sales to take advantage of the tax break.

There are several other provisions of the TCJA that benefit all businesses regardless of form. These provisions are all effective Jan. 1, 2018 unless otherwise indicated and include:

• The maximum amount allowed to be expensed under Code Section 179 is increased to $1 million, and the phaseout threshold is increased to $2.5 million. These amounts are indexed for inflation after 2018.

• The definition of qualified real property under Code Section 179 is expanded to include certain depreciable personal property used in the lodging industry, as well as certain improvements to nonresidential real property after the date such property was placed in service, such as roofs; heating, ventilation, and air-conditioning property; fire protection and alarm systems; and security systems.

• For property acquired and placed in service after Sept. 27, 2017 and before Jan. 1, 2023, the first-year deduction is increased to 100%.

• After 2022, the deduction percentage phases down by 20% per year until it sunsets after 2026.

• Most states, including Massachusetts, have decided to decouple from the new bonus-depreciation rules.

• No deduction is allowed for entertainment, amusement, or recreation; membership dues for a club organized for business, pleasure, recreation, or other social purposes; or a facility used in connection with any of the above.

• Costs for entertainment expenses such as tickets to sporting events, taking clients to play golf, and similar activities are no longer deductible.

• Meals provided for the convenience of the employer, through an eating facility or other de minimis food and beverage, are no longer 100% deductible, but now fall into the 50% category. They become non-deductible after 2025.

• Qualified transportation fringe benefits provided to employees continue to be excluded from the employees’ income but are no longer deductible by the business.

• Between Jan. 1, 2018 and Dec. 31, 2019, the TCJA allows a credit of 12.5% of the amount of wages paid to qualifying employees during any period during which such employees are out on family and medical leave, provided that the rate of payment is 50% of the wages normally paid to an employee. The credit increases by 0.25% (but not above 25%) for each percentage point by which the wages exceed 50%.

• Wage expense is reduced when the credit is taken as an alternative.

On Jan. 18, the IRS released guidance on many Sec. 199A issues when it issued final regulations. The IRS noted that the final regulations had been modified somewhat from the proposed regulations issued last August as a result of comments it received and testimony at a public hearing it held. The final regulations apply to tax years ending after their publication in the Federal Register; however, taxpayers may rely on the proposed regulations for tax years ending in 2018.

The combination of the proposed regulation and final regulations has altered some of the planning techniques originally thought to increase the tax benefits available to SSTBs under the provisions of Sec. 199A. If your business previously adopted planning techniques before the August and January regulations, you should revisit the projected benefits with your tax adviser.

Kristina Drzal-Houghton, CPA, MST is a partner at Holyoke-based Meyers Brothers Kalicka and director of the firm’s Taxation Division; (413) 535-8510.

Tax-Incentives
Banking and Financial Services

Income-tax Benefits from Charitable Contributions after the TCJA

By

Giving Some Insight

By Terri Judycki

Terri Judycki, CPA, MST

Terri Judycki, CPA, MST

The Tax Cuts and Jobs Act (TCJA) has resulted in many changes for taxpayers. One area in particular is charitable giving.

For those who regularly make charitable contributions, changing philanthropic giving habits may result in greater tax benefits. This article will explore various strategies for maximizing the tax benefit of charitable giving under the new law.

The TCJA increases the standard deduction to $12,000 for a single taxpayer and $24,000 for a married couple filing a joint tax return. In addition, the itemized deduction for taxes has been capped at $10,000 for all combined state and local tax payments. The Congressional Budget Office estimates that these changes will reduce the number of taxpayers who itemize deductions by more than half.

To maximize the benefit of the higher standard deduction, consider bunching charitable contributions in alternating years. For example, if a married couple with no mortgage ordinarily gives $12,000 to charity each year, they will likely take advantage of the $24,000 standard deduction ($12,000 to charity plus $10,000 in state and local states is less than the $24,000 standard deduction). If, instead, they give $24,000 every other year, they will use the $24,000 standard deduction in the ‘off’ year and $34,000 in itemized deductions in the year with the gifts ($24,000 charitable contributions plus $10,000 state and local taxes), resulting in lower taxable income without any increase in cash expenditures.

From the charity’s perspective, though, this could leave some budget challenges.

Another way to bunch deductions without bunching the charities’ income is through the use of a donor-advised fund (DAF). DAFs are funds controlled by 501(c)(3) organizations in which the person establishing the fund has advisory privileges as to the ultimate distribution to charities.

In our example above, the married couple might establish a DAF with $24,000 in one year and direct or ‘advise’ that donations be made to specific charities over time. Amounts used to establish the DAF are deductible charitable contributions when transferred to the sponsoring organization.

“For those who regularly make charitable contributions, changing philanthropic giving habits may result in greater tax benefits.”

Whether the idea of bunching appeals to you or not, don’t overlook the benefits of gifting appreciated stock to charity. The stock must have been held for more than a year to take advantage of this planning opportunity. The charitable deduction is the fair market value on the date gifted. Gifting the stock instead of cash avoids income tax on the appreciation.

For example, if a taxpayer wants to make a gift of $10,000 to a charity and sells stock worth $10,000 for which he paid $7,000, he would have a $10,000 deduction and $3,000 taxable gain. If, instead, he directs his broker to transfer the stock to the charity, he is still entitled to a $10,000 deduction, but does not report the $3,000 gain.

Finally, taxpayers age 70½ or older have another option available. An individual who is 70½ or older on the transfer date can direct the trustee of his IRA to distribute directly to a qualified public charity. The distribution is called a qualified charitable distribution (QCD). The amount transferred counts as a distribution for purposes of meeting the minimum distribution requirement but is not included in the taxpayer’s income.

There are a few requirements. The charity cannot be a private foundation or a donor-advised fund. No more than $100,000 can be donated by an account owner each year. The gift to the charity must be one that would have been entirely deductible if made from the taxpayer’s other assets — for example, the donor should obtain adequate substantiation from the charity, and the donation should not be one that entitles the donor to attend a dinner, play golf, or receive any other benefit.

In our example above, the couple who makes a QCD from IRAs for the $12,000 each year reduces taxable income by $12,000 and still uses the standard deduction.

Another possible advantage is the effect the reduction may have on other taxable items. Depending on the taxpayer’s total income, reducing adjusted gross income could result in reduction of the amount of Social Security benefits that are taxed, an allowed loss from certain real-estate rentals, or a reduction in the net investment income tax (if the amount of excess AGI exceeds the net investment income).

Reducing income may also result in lower Medicare premiums that are based on income for higher-income taxpayers. In addition, some states do not provide deductions for charitable donations, but do follow the federal treatment of excluding the QCD from income.

These changes may result in tax savings that could be used to make an even larger donation to a favorite charity.

Terri Judycki is a senior tax manager with the Holyoke-based public accounting firm Meyers Brothers Kalicka, P.C.; (413) 322-3510; [email protected]

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