Last-Minute Year-End General Business Income Tax Deductions
The purpose of this letter is to get the IRS to owe you money.
Of course, the IRS will not likely cut you a check for this money (although, in the right circumstances, that will happen), but you’ll realize the cash when you pay less in taxes.
Here are six powerful business tax deduction strategies you can easily understand and implement before the end of 2022.
1. Prepay Expenses Using the IRS Safe Harbor
You just have to thank the IRS for its tax-deduction safe harbors.
IRS regulations contain a safe-harbor rule that allows cash-basis taxpayers to prepay and deduct qualifying expenses up to 12 months in advance without challenge, adjustment, or change by the IRS.
Under this safe harbor, your 2022 prepayments cannot go into 2023. This makes sense because you can prepay only 12 months of qualifying expenses under the safe-harbor rule.
For a cash-basis taxpayer, qualifying expenses include lease payments on business vehicles, rent payments on offices and machinery, and business and malpractice insurance premiums.
Example. You pay $3,000 a month in rent and would like a $36,000 deduction this year. So on Friday, December 30, 2022, you mail a rent check for $36,000 to cover all of your 2023 rent. Your landlord does not receive the payment in the mail until Tuesday, January 3, 2023. Here are the results:
- You deduct $36,000 in 2022 (the year you paid the money).
- The landlord reports taxable income of $36,000 in 2023 (the year he received the money).
You get what you want—the deduction this year.The landlord gets what he wants—next year’s entire rent in advance, eliminating any collection problems while keeping the rent taxable in the year he expects it to be taxable.
2. Stop Billing Customers, Clients, and Patients
Here is one rock-solid, straightforward strategy to reduce your taxable income for this year: stop billing your customers, clients, and patients until after December 31, 2022. (We assume here that you or your corporation is on a cash basis and operates on the calendar year.)
Customers, clients, and insurance companies generally don’t pay until billed. Not billing customers and clients is a time-tested tax-planning strategy that business owners have used successfully for years.
Example. Jake, a dentist, usually bills his patients and the insurance companies at the end of each week. This year, however, he sends no bills in December. Instead, he gathers up those bills and mails them the first week of January. Presto! He postponed paying taxes on his December 2022 income by moving that income to 2023.
3. Buy Office Equipment
With bonus depreciation now at 100 percent along with increased limits for Section 179 expensing, buy your equipment or machinery and place it in service before December 31 and get a deduction for 100 percent of the cost in 2022.
Qualifying bonus depreciation and Section 179 purchases include new and used personal property such as machinery, equipment, computers, desks, chairs, and other furniture (and certain qualifying vehicles).
4. Use Your Credit Cards
If you are a single-member LLC or sole proprietor filing Schedule C for your business, the day you charge a purchase to your business or personal credit card is the day you deduct the expense. Therefore, as a Schedule C taxpayer, you should consider using your credit card for last-minute purchases of office supplies and other business necessities.
If you operate your business as a corporation, and if the corporation has a credit card in the corporate name, the same rule applies: the date of charge is the date of deduction for the corporation.
But suppose you operate your business as a corporation and are the personal owner of the credit card. In that case, the corporation must reimburse you if you want the corporation to realize the tax deduction, which happens on the reimbursement date. Thus, submit your expense report and have your corporation make its reimbursements to you before midnight on December 31.
5. Don’t Assume You Are Taking Too Many Deductions
If your business deductions exceed your business income, you have a tax loss for the year. With a few modifications to the loss, tax law calls this a “net operating loss,” or NOL.
If you are starting your business, you could very possibly have an NOL. You could have a loss year even with an ongoing successful business.
You used to be able to carry back your NOL two years and get immediate tax refunds from prior years, but the Tax Cuts and Jobs Act (TCJA) eliminated this provision. Now you can only carry your NOL forward, and it can only offset up to 80 percent of your taxable income in any one future year.
What does this all mean? Never stop documenting your deductions, and always claim all your rightful deductions. We have spoken with far too many business owners, especially new owners, who don’t claim all their deductions when those deductions would produce a tax loss.
6. Deal with Your Qualified Improvement Property (QIP)
In the CARES Act, Congress finally fixed the qualified improvement property (QIP) error that it made when enacting the TCJA.
QIP is any improvement made by you to the interior portion of a building you own that is non-residential real property (think office buildings, retail stores, and shopping centers)—if you place the improvement in service after the date you place the building in service.
The big deal: QIP is not real property that you depreciate over 39 years. QIP is 15-year property, eligible for immediate deduction using either 100 percent bonus depreciation or Section 179 expensing. To get the QIP deduction in 2022, you must place the QIP in service on or before December 31, 2022.
Planning note. If you have QIP property on an already filed 2019 return that you did not amend, it’s on that return as 39-year property. You need to fix that—and likely add some cash to your bank account by making the fix.
Last-Minute Year-End Tax Strategies for Your Stock Portfolio
When you take advantage of the tax code’s offset game, your stock market portfolio can represent a little gold mine of opportunities to reduce your 2022 income taxes.
Here’s the basic strategy:
- Avoid the high taxes (up to 40.8 percent) on short-term capital gains and ordinary income.
- Lower the taxes to zero—or if you can’t do that, lower them to 23.8 percent or less by making the profits subject to long-term capital gains.
Think of this: you are paying taxes at a 71.4 percent higher rate when you pay at 40.8 percent rather than the tax-favored 23.8 percent.To avoid higher rates, here are seven possible tax planning strategies.
Examine your portfolio for stocks you want to unload, and make sales where you offset short-term gains subject to a high tax rate, such as 40.8 percent, with long-term losses (a rate of up to 23.8 percent).
In other words, make the high taxes disappear by offsetting them with low-taxed losses, and pocket the difference.
Use long-term losses to create the $3,000 deduction allowed against ordinary income.
Again, you are trying to use the 23.8 percent loss to kill a 40.8 percent rate of tax (or a 0 percent loss to kill a 12 percent tax if you are in the 12 percent or lower tax bracket).
As an individual investor, avoid the wash-sale loss rule.
Under the wash-sale loss rule, if you sell a stock or other security and then purchase substantially identical stock or securities within 30 days before or after the date of sale, you don’t recognize your loss on that sale. Instead, the code makes you add the loss amount to the basis of your new stock.
If you want to use the loss in 2022, you’ll have to sell the stock and sit on your hands for more than 30 days before repurchasing that stock.
If you have lots of capital losses or capital loss carryovers and the $3,000 allowance is looking extra tiny, sell additional stocks, rental properties, and other assets to create offsetting capital gains.
If you sell stocks to purge the capital losses, you can immediately repurchase the stock after you sell it—there’s no wash-sale “gain” rule.
Do you give money to your parents to assist them with their retirement or living expenses? How about children (specifically, children not subject to the kiddie tax)?
If so, consider giving appreciated stock to your parents and your non-kiddie-tax children. Why? If the parents or children are in lower tax brackets than you are, you get a bigger bang for your buck by
- gifting them stock,
- having them sell the stock, and then
- having them pay taxes on the stock sale at their lower tax rates.
Strategy 6If you are going to donate to a charity, consider appreciated stock rather than cash because a donation of appreciated stock gives you more tax benefit.
It works like this:
- Benefit 1. You deduct the fair market value of the stock as a charitable donation.
- Benefit 2. You don’t pay any of the taxes you would have had to pay if you sold the stock.
- You get a tax deduction for $11,000.
- You pay no taxes on the $10,000 profit.
- Your deductions for donating appreciated stocks to 501(c)(3) organizations may not exceed 30 percent of your adjusted gross income.
- If your publicly traded stock donation exceeds the 30 percent, no problem. Tax law allows you to carry forward the excess until used, for up to five years.
Strategy 7If you could sell a publicly traded stock at a loss, do not give that loss-deduction stock to a 501(c)(3) charity. Why? If you sell the stock, you have a tax loss that you can deduct. If you give the stock to a charity, you get no deduction for the loss—in other words, you can just kiss that tax-reducing loss goodbye.
Last-Minute Year-End Medical Plan Strategies
All small-business owners with one to 49 employees should have a medical plan for their business.
Sure, it’s true that with 49 or fewer employees, the tax law does not require you to have a plan, but you should.
When you have 49 or fewer employees, most medical plan tax rules are straightforward.
Here are six opportunities for you to consider:
- Make sure to claim the federal tax credit equal to 100 percent of the required (2020) and the voluntary (2021) emergency sick leave and emergency family leave payments. You likely made payments that qualify for the credits.
- If you have a Section 105 plan in place and have not been reimbursing expenses monthly, do a reimbursement now to get your 2022 deductions, and then put yourself on a monthly reimbursement schedule in 2023.
- If you want to implement a Qualified Small Employer Health Reimbursement Arrangement (QSEHRA) but you have not yet done so, make sure to get that done correctly now. You are late, so you could suffer that $50-per-employee penalty should your lateness be found out.
- But if you are thinking of the QSEHRA and want to help your employees with more money and flexibility, consider the Individual Coverage Health Reimbursement Arrangement (ICHRA). It’s got more advantages.
- If you operate your business as an S corporation and want an above-the-line tax deduction for the cost of your health insurance, you need the S corporation to (a) pay for or reimburse you for the health insurance and (b) put that insurance cost on your W-2. Make sure the reimbursement happens before December 31 and you have the reimbursement set up to show on the W-2.
- Claim the tax credit for the group health insurance you give your employees. If you provide your employees with group health insurance, see whether your pay structure and number of employees put you in a position to claim a 50 percent tax credit for some or all of the monies you paid for health insurance in 2022 and possibly in prior years.
Last-Minute Year-End Retirement DeductionsThe clock continues to tick. Your retirement is one year closer.
You have time before December 31 to take steps that will help you fund the retirement you desire. Here are four things to consider.
1. Establish Your 2022 Retirement Plan
First, a question: do you have your (or your corporation’s) retirement plan in place?
If not, and if you have some cash you can put into a retirement plan, get busy and put that retirement plan in place so you can obtain a tax deduction for 2022.
For most defined contribution plans, such as 401(k) plans, you (the owner-employee) are both an employee and the employer, whether you operate as a corporation or as a proprietorship. And that’s good because you can make both the employer and the employee contributions, allowing you to put a good chunk of money away.
2. Claim the New, Improved Retirement Plan Start-Up Tax Credit of Up to $15,000
By establishing a new qualified retirement plan (such as a profit-sharing plan, 401(k) plan, or defined benefit pension plan), a SIMPLE IRA plan, or a SEP, you can qualify for a non-refundable tax credit that’s the greater of
- $500 or
- the lesser of (a) $250 multiplied by the number of your non-highly compensated employees who are eligible to participate in the plan, or (b) $5,000.
- the establishment or administration of the plan, or
- the retirement-related education of employees for such plan.
3. Claim the New Automatic Enrollment $500 Tax Credit for Each of Three Years ($1,500 Total)The SECURE Act added a non-refundable credit of $500 per year for up to three years, beginning with the first taxable year (2020 or later) in which you, as an eligible small employer, include an automatic contribution arrangement in a 401(k) or SIMPLE IRA plan.
The new $500 auto-contribution tax credit is in addition to the start-up credit and can apply to both newly created and existing retirement plans. Further, you don’t have to spend any money to trigger the credit. You just need to add the auto-enrollment feature (which does contain a provision that allows employees to opt out).
4. Convert to a Roth IRA
Consider converting your 401(k) or traditional IRA to a Roth IRA.
You first need to answer this question: How much tax will you have to pay to convert your existing plan to a Roth IRA? With this answer, you now know how much cash you need on hand to pay the extra taxes caused by the conversion to a Roth IRA.
Here are four reasons you should consider converting your retirement plan to a Roth IRA:
- You can withdraw the monies you put into your Roth IRA (the contributions) at any time, both tax-free and penalty-free, because you invested previously taxed money into the Roth account.
- You can withdraw the money you converted from the traditional plan to the Roth IRA at any time, tax-free. (But if you make that conversion withdrawal within five years of the conversion, you pay a 10 percent penalty. Each conversion has its own five-year period.)
- When you have your money in a Roth IRA, you pay no tax on qualified withdrawals (earnings), which are distributions taken after age 59 1/2, provided you’ve had your Roth IRA open for at least five years.
- Unlike with the traditional IRA, you don’t have to receive required minimum distributions from a Roth IRA when you reach age 72—or to put this another way, you can keep your Roth IRA intact and earning money until you die. (After your death, the Roth IRA can continue to earn money, but someone else will be making the investment decisions and enjoying your cash.)
Last-Minute Section 199A Tax Reduction StrategiesRemember to consider your Section 199A deduction in your year-end tax planning. If you don’t, you could end up with an undesirable $0 for your deduction amount.
Here are three possible year-end moves that could, in the right circumstances, simultaneously (a) reduce your income taxes and (b) boost your Section 199A deduction.
First Things First
If your taxable income is above $170,050 (or $340,100 on a joint return), your type of business, wages paid, and property can increase, reduce, or eliminate your Section 199A tax deduction.
If your deduction amount is less than 20 percent of your qualified business income (QBI), then consider using one or more of the strategies described below to increase your Section 199A deduction.
Strategy 1: Harvest Capital Losses
Capital gains add to your taxable income, which is the income that
- determines your eligibility for the Section 199A tax deduction,
- sets the upper limit (ceiling) on the amount of your Section 199A tax deduction, and
- establishes when you need wages and/or property to obtain your maximum deductions.
If the capital gains are hurting your Section 199A deduction, you have time before the end of the year to harvest capital losses to offset those harmful gains.Strategy 2: Make Charitable Contributions
Since the Section 199A deduction uses your Form 1040 taxable income for its thresholds, you can use itemized deductions to reduce and/or eliminate threshold problems and increase your Section 199A deduction.
Charitable contribution deductions are the easiest way to increase your itemized deductions before the end of the year (assuming you already itemize).
Strategy 3: Buy Business Assets
Thanks to 100 percent bonus depreciation and Section 179 expensing, you can write off the entire cost of most assets you buy and place in service before December 31, 2022.
Bonus depreciation can help your Section 199A deduction in two ways:
- The big asset purchase and write-off can reduce your taxable income and increase your Section 199A deduction when it gets your taxable income under the threshold.
- The big asset purchase and write-off can contribute to an increased Section 199A deduction if your Section 199A deduction currently uses the calculation that includes the 2.5 percent of unadjusted basis in your business’s qualified property. In this scenario, your asset purchases increase your qualified property, which in turn increases your Section 199A deduction.
Last-Minute Year-End Tax Strategies for Marriage, Kids, and FamilyAre you thinking of getting married or divorced? If yes, consider December 31, 2022, in your tax planning.
Here’s another planning question: do you give money to family or friends (other than your children, who are subject to the kiddie tax)? If so, you need to consider the zero-taxes planning strategy.
And now consider your children who are under the age of 18. Have you paid them for the work they’ve done for your business? Have you paid them the right way?
Here are five strategies to consider as we come to the end of 2022.
1. Put Your Children on Your Payroll
If you have a child under the age of 18 and you operate your business as a Schedule C sole proprietor or as a spousal partnership, you need to consider having that child on your payroll. Why?
- First, neither you nor your child would pay payroll taxes on the child’s income.
- Second, with a traditional IRA for the child, the child can avoid all federal income taxes on up to $18,950 of earned income.
If you operate your business as a corporation, you can still benefit by employing the child even though both your corporation and your child suffer payroll taxes.2. Get Divorced after December 31
The marriage rule works like this: you are considered married for the entire year if you are married on December 31.
Although lawmakers have made many changes to eliminate the differences between married and single taxpayers, the joint return will work to your advantage in most cases.
Warning on alimony! The Tax Cuts and Jobs Act (TCJA) changed the tax treatment of alimony payments under divorce and separate maintenance agreements executed after December 31, 2018:
- Under the old law, the payor deducts alimony payments and the recipient includes the payments in income.
- Under the new law, which applies to all agreements executed after December 31, 2018, the payor gets no tax deduction and the recipient does not recognize income.
3. Stay Single to Increase Mortgage DeductionsTwo single people can deduct more mortgage interest than a married couple can.
If you own a home with someone other than a spouse, and if you bought it on or before December 15, 2017, you individually can deduct mortgage interest on up to $1 million of a qualifying mortgage.
For example, if you and your unmarried partner live together and own the home together, the mortgage ceiling on deductions for the two of you is $2 million. If you get married, the ceiling drops to $1 million.
If you and your unmarried partner bought your house after December 15, 2017, the reduced $750,000 mortgage limit applies, and your ceiling is $1.5 million.
4. Get Married on or before December 31
Remember, if you are married on December 31, you are married for the entire year.
If you are thinking of getting married in 2023, you might want to rethink that plan for the same reasons that apply to divorce (as described above). The IRS could make considerable savings available to you for the 2022 tax year if you get married on or before December 31, 2022.
To know your tax benefits and detriments, you both must run the numbers in your tax returns. If the numbers work out, you may want to take a quick trip to the courthouse.
5. Make Use of the 0 Percent Tax Bracket
In the old days, you used this strategy with your college student. Today, this strategy does not work with that student because the kiddie tax now applies to students up to age 24.
But this strategy is a good one, so ask yourself this question: do I give money to my parents or other loved ones to make their lives more comfortable?
If the answer is yes, is your loved one in the 0 percent capital gains tax bracket? The 0 percent capital gains tax bracket applies to a single person with less than $41,675 in taxable income and to a married couple with less than $83,350 in taxable income.
If the parent or other loved one is in the 0 percent capital gains tax bracket, you can add to your bank account by giving this person appreciated stock rather than cash.
Example. You give Aunt Millie shares of stock with a fair market value of $20,000, for which you paid $2,000. Aunt Millie sells the stock and pays zero capital gains taxes. She now has $20,000 in after-tax cash, which should take care of things for a while.
Had you sold the stock, you would have paid taxes of $4,284 in your tax bracket (23.8 percent x $18,000 gain).
Of course, $4,000 of the $20,000 you gifted goes against your $12.06 million estate tax exemption if you are single. But if you’re married and made the gift together, you each have a $16,000 gift-tax exclusion, for a total of $32,000, and you have no gift-tax concerns other than the requirement to file a gift-tax return that shows you split the gift.
Taylor and Willis CPAs and Advisors