Business tax rules are never simple, but there are things to know that may make the process less painful and costly.
By Mark Battersby, Contributing Editor
Convenience store retailers should be turning to their advisors for strategies on how to reduce their convenience operation’s—and their own—tax bill. Fortunately, every c-store retailer has at their disposal a number of basic strategies that, along with several other year-end moves, can help reduce the annual tax bill.
INCOME AND EXPENSES
Generally, a profitable business will want to accelerate deductions and defer income. On the deduction side, the operation may be able to accelerate state and local income taxes, interest and real estate tax payments.
By deferring (postponing) income to a later year, it may be possible to minimize the current income tax liability. Thus, when that deferred income is eventually reported, in all likelihood, the c-store business will be in a lower income tax bracket.
One strategy: Most small businesses are allowed to use cash-method accounting for tax purposes. Assuming the convenience business is eligible, cash-method accounting permits micro-managing the operation’s 2016 and 2017 taxable income to minimize taxes over the two-year period. If business income is predicted to be taxed at the same rate or at a lower rate next year, several cash-method moves to defer some taxable income until 2017 exist:
• Charge recurring expenses normally paid early on the operation’s credit card. Thus, 2016 deductions can be claimed even though the credit card bills won’t actually be paid until 2017.
• Pay expenses with checks and mail them a few days before year end. The tax rules say expenses can be deducted in the year the checks are mailed, even though they won’t be cashed or deposited until early next year. For big-ticket expenses, sending checks via registered or certified mail is recommended to provide proof they were mailed this year.
The economic benefit from the prepayment must not extend beyond the earlier of: (1) 12 months after the first date on which the business realizes the benefit or (2) the end of the next tax year.
For example, this rule allows you to claim 2016 deductions for prepaying the first three months of next year’s store rent or prepaying the premium for property insurance coverage for the first half of next year.
On the income side, there is little that can be done for either a c-store using either accounting method. While the general rule for cash-basis businesses is that they don’t have to report income until the year cash is received or checks are in hand, little billing is actually done by c-stores. Check payments are counted when the check payment is received regardless of when it is cashed.
DEPRECIATING SMARTLY
Depreciation is the income tax deduction that allows a convenience store retailer to recover the cost or other basis of business property. It is an annual allowance for the wear and tear, deterioration or obsolescence of property such as buildings, machinery, vehicles, furniture and equipment. Also depreciable is some intangible property, such as patents, copyrights and computer software.
BONUS WRITE-OFFS
Last year’s “extenders” bill permanently set the Section 179, first-year expensing write-off at $500,000 with a $2 million overall investment limit before phase out. While there is no increase in that $500,000 limit on qualifying business property and equipment expenditures, thanks to the inflation adjustment, the investment limit for 2016 increases to $2.01 million before phase out.
And, speaking of bonus depreciation, it remains at the 50% level through the 2017 tax year after which it is phased down to 40% in 2018, 30% in 2019 before finally zeroing out in 2020 and later years. The bonus depreciation deduction is on top of any allowable Section 179 deduction. For example, bonus depreciation is available for computer systems, purchased software, machinery, fixtures and more if the costs exceed what could be written-off under Section 179 expensing.
One good, all-purpose, tax-saving, trouble-reducing move involves paying the c-store operation’s entire 2016 state income tax liability prior to Dec. 31 (even if it is not due until April). This will reduce the business’s federal tax liability—unless it is subject to the alternative minimum tax (AMT), in which case it may be better to pay the tax in 2016.
OTHER YEAR-END MOVES
Small Business Healthcare Tax Credit: Businesses employing 25 or fewer full-time-equivalent employees with average annual wages of less than $50,000, may qualify for a tax credit to help pay for employees’ health insurance. The tax credit is worth up to 50% of the employer’s contribution toward its employees’ premium costs (up to 35% for tax-exempt employers).
Repairs: Whenever possible, end of year repairs and expenses should be deducted immediately, rather than capitalized and depreciated. Small businesses lacking applicable financial statements (AFS) are able to take advantage of de Minimis safe harbor by electing to deduct smaller purchases ($500 or less per purchase or per invoice). Businesses with AFSs are able to deduct $5,000. Small businesses with gross receipts of $10 million or less can also take advantage of safe harbor for repairs, maintenance and improvements to eligible buildings.
Work Opportunity Tax Credit (WOTC): Thanks to last year’s tax “extenders” bill, the WOTC has been extended through 2019 for hiring members of targeted groups. That “extenders” bill also added qualified long-term unemployment recipients to the roster of targeted groups effective Jan. 1, 2016.
Partnerships and Pass-Throughs: The IRS has begun giving partnerships and other pass-through entities greater attention. One area that interests IRS auditors is the amount of the operator’s investment in the c-store business partnership or S corporation.
Generally, partners or S corporation shareholders in entities that have a loss for 2016 can deduct that loss only up to the amount they have invested, their basis, in the entity. However, they can take steps to increase their basis to allow a larger deduction. Basis in the entity can be increased by lending the entity money or making a capital contribution by the end of the entity’s tax year.
Retirement Plans: Perhaps changing the c-store operation’s retirement plan or other benefits plans makes sense. Self-employed individuals who have not yet done so should set up self-employed retirement plans before the end of 2016.
A properly-designed 401(k) can be self-directed and utilized in real estate transactions, hard-money lending as well as for investments in the c-store business. This year, the owners of small businesses can deduct up to $51,000 with matching. That’s $18,000 as a deferral before matching, with an additional $5,500 for those 50 and older. However, the payroll level chosen by the business’s owner must be carefully considered in this process.
C-store operators and owners might consider converting their traditional IRA or 401(k) to a Roth IRA, and start paying taxes at a lower rate without paying taxes on withdrawals in the future. Regardless of income, the owner or operator can convert any amount desired.
