There has never been so much uncertainty for corporate tax-planning strategies as there has been this year. The traditional approach to planning has always involved accelerating deductions and deferring income where possible. This mindset works in a tax climate where there is certainty of declining tax rates or stability in the rates, as was the case during the past decade. However, the Bush-era tax cuts are set to expire at the end of the 2012 calendar year, which means higher taxes not only for ordinary income but for investment income, which has enjoyed favorable rates of 15 percent for the past decade.
Therefore, when planning for 2012 and beyond, some thought should be given to deferring expenses and accelerating income. Doing so would allow deductions to offset income subject to higher tax rates in the future as the result of the expiring Bush-era tax cuts, making the deductions more tax efficient. The same would hold true in accelerating income to be taxed at 2012 current rates to avoid being taxed as higher rates in the future.
Here are a few examples of strategies to contemplate before year-end.
Machinery and equipment
Putting new business equipment and machinery in service before year-end will qualify for the 50 percent bonus first-year depreciation allowance. However, taxpayers have an option to elect out of the bonus depreciation and expense the asset over its useful assigned life for tax purposes. Doing so would preserve the deduction to be utilized in future years when the tax rates are expected to be higher.
The qualified dividend rates are set to expire at the end of 2012 and revert back to ordinary tax rates. S corporations that have a surplus of cash on the balance sheet along with prior accumulated earnings and profits (AEP) and are thinking about making distributions from their corporation this year should evaluate making an election to treat the distribution from AEP. These distributions will be treated as qualified dividends and taxed at a rate of 15 percent.
An S corporation shareholder can deduct his or her pro rata share of an S corporation's losses only to the extent of the total of his or her basis in (a) his or her S corporation stock and (b) debt owed to him or her by the S corporation. Therefore, shareholders should look to increase their basis in the S corporation to enable them to deduct a loss from it for this year. If the loss creates a net operating loss on the shareholder’s return, an analysis should be done to evaluate carrying back the loss for a refund claim or carrying it forward to offset future income that could be taxed at higher tax rates.
Planning for 2012 and beyond will be a challenge for many taxpayers this year. The presidential election will help to provide some insight on the direction of future tax rates, but it may be too late for Congress to act on any extensions of the current tax rates. Therefore, taxpayers should review all tax planning strategies now under the various scenarios to allow enough time to implement these strategies before the end of the year. Please contact us if we can be of assistance throughout this process.
Carlo R. Ferri can be reached at Email or 215.441.4600.