We’re already one month through 2020, but there’s still plenty of time to make changes to affect your personal and business taxes for the year. Actually, there’s still even time to make some changes to save on your 2019 taxes.
Read on for some of our biggest tax insights for 2020, including retirement changes under the new SECURE Act and the continuation of tax savings for small business owners through the Tax Cuts and Jobs Act.
Qualified Business Income Deduction for Business Owners
The Qualified Business Income Deduction is one of the biggest changes in the past decade for pass-through entities. Basically, it allows you to shelter 20% of your ordinary business income in a given year, and that's taxed at ordinary rates, so it can be a huge savings.
The best thing about the QBI Deduction is there's no cap on it – the more money you make, the bigger your deduction is. It's one of the best benefits for small business owners that came out of the Tax Cuts and Jobs Act that became effective in 2018.
Who qualifies for the QBI Deduction? Basically all pass-through entities, which includes sole proprietors, partnerships, S corporations and estates and trusts. The only entity it doesn't qualify is C corporations because they're taxed at the entity level.
There are limits to the deduction when you're considered a service business. In this case, if you're under or over certain thresholds, you may or may not qualify.
Service businesses include doctors, lawyers, accountants, performing arts, athletes and financial brokerage services. If you're under the threshold - even though you’re a service business - you'll still qualify for this deduction. However, if you're over, you're not going to.
Here’s an example: Let's say I have a pass-through entity and make $100,000 in a given year. The deduction is 20%, so the QBI deduction is $20,000.
Let’s say I'm in the maximum tax bracket, which is 37%. In that scenario, I'm saving $7,400 in tax off that $100,000 income, so you can see this was a huge benefit.
The QBI Deduction became effective in 2018 and goes through 2026 and then is set to expire.
Estate & Succession Planning
If you're looking to transition wealth to the next generation or sell your business, now is a perfect time to do so. The current lifetime gift tax exemption amount is $11.5 million dollars per individual, which is the highest it’s ever been.
It's expected that over $10 trillion dollars’ worth of businesses are going to hit the market for sale the next decade, but 70-to-80% of those businesses aren't going to be sold because they didn't have proper planning.
We usually advise consulting your CPA, attorney and other business advisors about 3-to-5 years before you're going to either transition or sell your business. You want to have a plan in place, review all your business and estate documents and make sure you're going to achieve the best business and tax result.
The SECURE Act stands for Setting Every Community Up for Retirement Enhancement - what an acronym that is! It was just passed in December, so there are changes that affect both individuals and businesses as it applies to IRAs and retirement plans.
One of the biggest changes is the minimum required distribution age has been increased from 70 1/2 to 72, so now you can leave your money tax deferred longer if you don't need to take it out of your IRA.
The act also repealed the age 70 1/2 limitation on making contributions into an IRA. Now if you’re over 70 1/2 and have earned income in a year, you can still make contributions to your traditional IRA account.
Another big change is the ability for IRA beneficiaries to stretch out their distributions over their life expectancy – it’s basically been repealed except for spouses and a few other beneficiaries. Now you have to take all the money out of an inherited IRA within 10 years. With the change, everyone should look at their beneficiary designation forms on their retirement accounts to make sure they're up-to-date and consider the new law requirements.
Another change affecting individuals is you can now withdraw $10,000 penalty free from your IRA if you adopt or have a birth of the child.
Business changes from the SECURE Act include changing the safe harbor amount of the automatic enrollment for new employees into a 401(k) plan. The safe harbor amount is how much you can have automatically deferred from their paycheck, and the SECURE Act raised it from 10 to 15 percent. It can always be less, but now you can go up to 15 percent and statistics show automatic enrollment really helps people save for retirement.
There's also a new $500 per year tax credit available for three years for any small employers who have automatic enrollment that’s part of their 401(k) plan.
Another change for businesses is an increase in a tax credit for the costs a small employer pays to set up a new pension plan for their employees. Under the SECURE Act, this credit was increased from $500 to $5,000.
The last big change for businesses is the inclusion of long-term part-time employees in 401(k) plans. The act requires employers to allow part-time employees that work over 1,000 hours in one year or over 500 hours for three consecutive years to be included in company 401(k) plans. So it’s important for businesses to review the provisions of their retirement plans with all of these changes.
Last Minute Tax Saving Strategies for 2019
What can you still do last-minute to save taxes for 2019? One strategy is to contribute up to $6,000 to your IRA. You can make the contributions up until April 15.
If your business has a profit sharing plan, you can still make contributions into it until the due date of your tax return, including extensions.
Another change under the SECURE Act is small business owners used to only be able to set up SEP-IRAs after the end of your tax year and make a contribution that would count as a deduction in the prior year. Now the act allows you to set up any retirement plan, which is a positive change. So if your business doesn't have a retirement plan, you can still set one up before the due date of your tax return – including extensions – and still make a contribution into that plan.
If you're paying college tuition for any of your children, and for some reason you can't take the American Opportunity Tax Credit on your return, you may be able to take it on your child's return and get the $2,500 credit or $1,000 refundable credit, depending your child’s income.
One last strategy – if you're in a high deductible health care plan, make sure you make contributions to your health savings account before the due date of your tax return because you can still get a deduction.
These are just some of the many strategies available to individuals and businesses to save taxes in 2019, 2020 and beyond. Please contact us for more information or a personal consultation.