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Don’t Let Estate Taxes Force Your Family Business into Liquidation

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My mom knew she was going to die. And she knew it would be sooner rather than later. Unfortunately, it was much sooner than she expected. She had time to put her personal affairs in order but ran out of time for figuring out succession planning for her business. Transitioning her sole-shareholder S-corporation shares over to me upon her death should have been straightforward. It wasn’t. But that’s a subject for another article.

Transitioning a family business upon the death of an owner or a significant stakeholder (partner or shareholder) is never easy. Having to grapple with how to pay estate taxes on a closely held business can add complexity and stress to an already fraught process.

With proper planning, however, family and other closely held businesses can avoid having to liquidate assets or sell shares or partnership interests to pay estate taxes. Insurance arrangements, operating agreements that include buy-sell provisions, and gifting strategies can all help to ensure a family business remains in the family and can pay any associated estate taxes. But what happens in the absence of proper planning? What happens when beneficiaries inherit a business they would like to keep family owned or closely held, but which is not liquid enough to pay the associated estate taxes within the required nine months? IRC Section 6166 can come to the rescue.

Continue reading to learn more.

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Last-minute Tax Fix for PTET Businesses That Missed the 12/31 Deadline

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Question: My client is just now paying the PTET for California with a timely filed election. Can they deduct the tax payment if they are an accrual basis taxpayer?

Answer: Based on face value, unfortunately, the answer is no.

Both cash and accrual basis passthrough entities would need to pay the tax by 12/31/21 (assuming calendar year-end) to get the deduction on the 2021 tax return.

This answer is based on IRS Notice 2020-75, stating that an entity could take a deduction in the year paid. While the guidance did not specify cash or accrual in the definition, unless the IRS comes out with any other guidance stating otherwise, it is a federal deduction so it works the same as accrued state taxes, which the taxpayer must pay by the end of the tax year to deduct the amount following the economic performance rules.

However, what if your client is an accrual basis taxpayer? While Notice 2020-75 does not specifically distinguish or reference method of accounting, there may be a way to fix your 2021 state tax deductions if you missed the 12/31 deadline.

Click here to keep reading.

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Avoiding Self-Employment Tax with a Limited Partner Interest

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The best tax planning will often be found where both the form and substance of a transaction align in the client’s interest. One such planning activity focuses on reducing self-employment tax, and while the attempt is admirable, the substance of the transaction might be stronger than its form.

Generally, if you’re a partner in a partnership, your distributive share of income is subject to Self Employment Contributions Act (SECA) tax, also known as self-employment tax. This can be up to an additional 15.3 percent on your earnings, unless an exception applies.

Many tax pros attempt to mitigate this tax by simply making the spouse of the main business partner a limited partner in the entity. The thought is that an exclusion applies for SECA tax when there is a “limited partner’s” share of partnership income.

But be careful! When the underlying substance overrides the form of a transaction, the taxpayer generally will lose.

The IRS recently highlighted such a problem with form in its draft partnership tax instructions by saying “For purposes of self-employment tax, however, status as a limited partner is determined under Section 1402(a)(13); whether a partner is a limited partner under state limited partnership law is not determinative.”

Simply calling a partner “limited” is not enough. The limited partner exception from self-employment tax creates a significant benefit when applied, but rulings focused on the substance of the partner’s interest have narrowed this exception.

Let’s review how to properly qualify as a limited partner in light of the IRS’s recent emphasis in this area. In the process, we will also look at the specifics of how particular forms should still win the day by avoiding SE tax.

Keep reading for more.

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Can I Deduct My Dog?

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Question: I’ve had clients ask and, of course, heard at cocktail parties the discussion about claiming a pet’s medical expenses and other costs. But what is the citation that prevents these deductions?

Answer: Wouldn’t it be nice if you could get a little tax help from the government by deducting your dog? Aside from the enormous price breeders charge for designer pets, there are vet bills, food (some people even have their pets eat raw or vegan), obedience classes, clothing, exercise, and daycare to name a few!

While today’s is a softball question, I thought we could all use a break from the continuation of the never-ending tax season of 2020. It also raises the issue of citations and documentation. Have you tried finding the one that says you cannot deduct pet expenses? What about the one that says you can?

Keep reading to learn how.

Can I Deduct My Dog? Read More »

Building Land Allocations for the Little People – The Truth About the 80/20 Rule

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If you own real estate, you’re no doubt familiar with that wonderful paper loss called depreciation. But you may not be entirely aware that land cannot depreciate. Alas, you must delete part of the price you paid for your real estate land from your original purchase price to generate your tax deduction.

A cost segregation study might be the answer. The study, done by an engineer, can accurately allocate the cost between building and land. This price of the allocation can be cost-justified; after all, it can save you tax.

But at lower depreciation amounts, the benefits might not outweigh the cost, or, if you’re a tax pro, your client might not believe it does. You’ve still got a tax return to do. Regulation 1.167(a)-5 tells us that we have to do something:

In the case of the acquisition on or after March 1, 1913, of a combination of depreciable and nondepreciable property for a lump sum, as for example, buildings and land, the basis for depreciation cannot exceed an amount which bears the same proportion to the lump sum as the value of the depreciable property at the time of acquisition bears to the value of the entire property at that time.

It doesn’t really give us much guidance. But you may have seen online or heard somewhere about the old 80/20 rule. That’s right, the tax law says 80 percent of cost gets allocated to the building with the remaining going to land. Only, hold on a second, I can’t find a citation for that one. Is it possible there is no such rule? Then again, Reilly’s 19th Law of Tax Planning says that Reilly uses sarcasm when discussing tax.

For the truth about this rule, continue reading here.

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Just Good Business – Review Your Fixed Asset List for Hidden Deductions

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Most businesses require the purchase of equipment or other property to help generate income. How you deduct the costs of these business assets depends on what it is and how long it will be useful (what are called asset classes and the Business Use Percentages (BUP)).

In some situations, you can deduct the full cost of the asset the year you buy it, rather than depreciating it over time, but many times you are deducting a portion of what you paid for the property each year you have it.

Fixed assets are assets that have a useful life of more than one year and/or are not expected to be converted to cash within a year (those types of assets are current assets). Land, buildings, furniture, and equipment (including vehicles) are the most common types of fixed assets for businesses.

Fixed asset listings are records of the costs of business property and what tax deductions or improvements have been made over time. Unfortunately, these lists can get quite messy and confusing over time, especially the longer a business is in operation, and the more frequently you have changed tax professionals.

What most business owners (and even their tax advisers) don’t know is that there are often thousands in tax savings contained on these lists, especially when they are messy or confusing.

There are four savings opportunities buried in these records and what you do with them can result in less cash to the IRS.

Continue reading to learn more.

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