Kenneth Dewitt is a CPA and certified financial planner who serves as a part-time chief financial officer for a variety of businesses, including trucking companies.
Most closely held companies formed in the last 15 years or so – including trucking companies – are likely organized as S corporations for tax purposes. Pre-year-end tax planning for S corporations is critical. The right moves before year-end can save you thousands of dollars. But it won’t happen without careful planning.
S corporations are only one form of business. Proprietorships, general and limited partnerships, limited liability companies and C corporations round out the choices. It is important to know your form of organization and method of accounting, such as cash or accrual, when contacting tax planning. Contact your CPA now for customized planning opportunities.
For owners of S corporations, there are several important tax issues to consider before the New Year’s Eve celebrations roll around:
Check your tax basis. To claim a loss as an S corporation shareholder, you must have sufficient tax basis. This is a technical term describing your level of investment in your S corporation. The distinctions are incredibly important. Simply borrowing money for your company and personally guaranteeing the loan, for example, does not count in the tax basis calculation.
What does count is previously taxed earnings of the S corporation, capital you have contributed, and loans you have made to the business.
Let’s consider at an example. Tough Times Trucking suffered a $100,000 loss in 2002. The previously taxed S corporation earnings were $40,000, and the owners’ initial capital was $10,000. They have also personally guaranteed $500,000 in lines of credit and equipment loans. To any logical person, the shareholders have $550,000 “at risk” in their business, right?
Not to the Internal Revenue Service. The shareholders of Tough Times may only claim $50,000 of that $100,000 loss on their 2002 personal tax returns, because the deduction of the loss is limited to their tax basis of $50,000. As a consolation prize, the disallowed loss is carried forward to future years, but that will mean paying higher taxes today than necessary.
Had the owners conducted proper pre-year-end tax planning, they would have restructured part of those loans to be in their own personal names, with the proceeds loaned in to the business as shareholder loans. A $50,000 move in this direction likely would have saved them $20,000 on this year’s tax bill come April.
To be valid for creating tax basis, such year-end moves must be carefully planned to consider all the circumstances in a company’s tax situation, so having up-to-date accounting and professional help is essential.
Check your tax payments. If, on the other hand, Tough Times Trucking had had a good year, it could be in for an April Surprise, and, worse, penalties for underpaying. Good pre-year-end planning allows owners to consider “catch-up” tax payments strategies through officer W-2 bonuses, or more creatively, by using an IRA temporary rollover with taxes withheld.
Review your corporate form. S corporation status may or may not be the best choice as your business undergoes changes and your long-range plans change as well. The end of the year is the best time to review your “form of organization” strategy. You have only 75 days into the new year – that’s March 15 for companies that operate on a calendar fiscal year – to change your mind if you are not presently an S corporation.
Don’t forget other planning items. Retirement plans, shareholder fringe benefit reporting, alternative minimum tax, equipment purchases and income or expense acceleration or deceleration are other year-end strategies to be considering now.
One thing is certain. If you wait until tax form preparation time in March 2003 to do your tax planning, you will find your options are severely limited. It’s better to take action now, while you can still do something about it.
See “The Basics of Tax Planning,” an overview of the many ways to control taxes through good planning, at this site.