What Small Business Owners Need to Know About the New Tax Code

Because large portions of the new tax law were targeted toward small businesses, small business owners will see sweeping changes in 2018. Here are the most important things you need to know.

When Does the New Tax Code Take Effect?

The new tax law is effective for tax years starting after December 31, 2017. If you file based on the calendar year, everything that happened in 2017 remains under the old law. The new law then takes effect with the new year, and you’ll use it when you file for 2018.

If your tax year ends on a date other than December 31st, you will continue to follow the old tax law until the end of your tax year. When your new tax year begins, you’ll begin using the new law for that year.

What Are the New Tax Rates?

Tax rates have changed for every type of business entity.

  • C-corporations and LLCs taxed as a corporation will pay a flat 21 percent rate.
  • Personal service corporations previously taxed as a C-corporation at the special 35 percent flat rate will see their rate reduced to a 25 percent flat rate.
  • Sole proprietorship, partnership, LLC and S-corporation owners will be taxed at the new individual rates. The maximum individual tax rate is now 37 percent down from 39.6 percent. Most taxpayers will see a 2 percent to 3 percent reduction in their marginal tax rate.

Does Eliminating Itemized Deductions Mean No More Business Deductions?

The elimination of certain itemized deductions on the individual side does not impact small business owners. This change only relates to personal expenses as well as certain unreimbursed expenses incurred by W-2 employees.

Small business owners can generally continue to deduct all ordinary and necessary business expenses on their Schedule C (for sole proprietors) or business tax return.

What’s the Pass-Through Deduction?

The pass-through deduction allows individuals to claim a 20 percent deduction for their share of income from a pass-through business entity. A pass-through business entity is a sole proprietorship, partnership, LLC not electing to be taxed as a corporation, or S-corporation.

Individuals making below $157,500 ($315,000 if married filing jointly) simply receive a 20 percent deduction. Above those thresholds, limitations apply based on the amount of W-2 wages the business pays and the activity the business is engaged in.

What Are the New Rules for Depreciation vs. Expensing?

You can now expense more large purchases in the year you made them rather than depreciating them over time.

  • Under Section 179, you can immediately deduct up to $1,000,000 for purchases such as furniture, equipment and machinery that would normally need to be depreciated over time. This is double the previous limit.
  • Improvements to existing buildings, such as new roofs and air conditioners, now qualify for immediate expensing rather than depreciation.
  • For purchases that don’t qualify for immediate expensing, accelerated depreciation is available, which allows you to deduct more of the cost sooner rather than evenly spreading it over a longer period.

Did Retirement Plan Deductions Change?

Despite rumors about changes to 401(k)s and other retirement plans, the law made no changes to the tax treatment of these plans.

Some routine inflation adjustments do apply for 2018.

  • 401(k) employee contributions are now capped at $18,500 (up $500) and the combined employer plus employee limit is now $55,000 (up $1,000).
  • SIMPLE IRA limits remain unchanged.
  • SEP IRA contributions are now based on the first $275,000 in compensation (up from $270,000).

When Will Everything Be Finalized?

The IRS is rushing to adopt new rules and issue new forms covering exactly how the new calculations will work. Finalized guidance should be available in early 2018.

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