We have been very successful in deferring taxes for our A&E clients and other businesses that are qualified to use the cash method for tax reporting purposes. During the past year, we have converted two clients from the accrual method of reporting income to the cash basis. If completed properly, this change can result in a substantial one-time tax deduction and enable the taxpayer to better manage their taxable income in the future.
Below are some additional advantages of changing methods. Note that this does not require the business to change to the cash basis for financial reporting purposes.
- Most income does not need to be reported until received or constructively received (i.e., when it is in the taxpayer’s control)
- Most expenses are deducted when paid, with the following exceptions:
- Payroll-type withholdings are deductible on the date of the payroll.
- Accrued pension expenses are deductible in the year accrued as long as they are paid by the due date of the tax return and are within the limits of qualified contributions.
- Fixed asset additions that don’t qualify for expensing under Section 179 will need to be capitalized and depreciated, similar to accrual basis.
- Provides taxpayers flexibility in managing their tax brackets when there is a potential change in tax rates.
Businesses with the following characteristics may qualify for the cash basis:
- Qualified personal service corporations (most engineering and architectural firms will qualify). A personal service corporation (PSC) is one that furnishes personal services performed by employee-owners. An employee-owner is an employee that owns, directly or indirectly, 10 percent or more of the equity in the business.
- A farming or tree-raising business that is not corporate owned.
- An eligible small business without inventories.
- An eligible small business with average annual revenues less than $10 million.
If you meet these criteria and currently report under the accrual basis, you can change to the cash basis by filing for a change in method with the IRS. If the change results in an additional deduction, which it usually does for larger businesses, the deduction is taken in the year of the request. If it results in income (rarely), it is taken into income evenly over a four year period.
If you are currently an accrual basis taxpayer, please contact us to determine whether a switch to the cash basis method might be advantageous for your company. As part of the decision-making process, we will calculate the one-time deduction to which you may be entitled.
Information contained in this alert should not be construed as the rendering of specific accounting, tax, or other advice. Material may become outdated and anyone using this should research and update to ensure accuracy. In no event will the publisher be liable for any damages, direct, indirect, or consequential, claimed to result from use of the material contained in this alert. Readers are encouraged to consult with their advisors before making any decisions.