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taxes: Year-End Tax Planning Moves for Small Businesses

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Year-End Tax Planning Moves for Small Businesses

SmartMoney.com

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By Bill Bischoff

Updated on January 10, 2008.

ATTENTION SMALL-BUSINESS OWNERS: Now is not the time to get distracted by the holiday chaos. Time is rapidly running out on your chance to make some savvy tax-saving moves that could slash thousands of dollars off your 2008 small business tax bill.

So drop the fruitcake and listen up. To take advantage of the generous tax breaks detailed below, you need to take action before the ball drops in Times Square.

1. Load-Up on Equipment and Software

As you probably know, most small businesses are eligible for the "Section 179 deduction." For tax years beginning in 2008, this valuable break allows you to immediately deduct up to $128,000 worth of business equipment as long as it's up and running by year end. That equipment can be new or pre-owned. Business software costs also qualify.

Keep in mind, this is a use-it-or-lose-it deal. You can't roll over any unused Section 179 allowance from this year to next. So the more you spend by year end on business equipment and software, the more you'll save on taxes. However, you need not get too carried away here. Why? Because you'll start off on January 1, 2009, with a brand-new Section 179 allowance of more than $128,000, thanks to the annual inflation adjustment. (This assumes your business uses the calendar year for tax purposes.)

2. Buy a Heavy SUV

Your business might not be big enough to justify spending $128,000 on equipment and software. If so, consider buying a new "heavy" SUV before year end to soak up some or all of your leftover Section 179 allowance. By heavy, I mean an SUV with a gross vehicle weight rating (GVWR) above 6,000 pounds.

Congress imposed a $25,000 limit on Section 179 deductions for heavy SUVs, but it's still a great deal. Why? Because the tax law allows you to claim the following writeoffs on your 2008 return: (1) a $25,000 Section 179 deduction, (2) regular first-year depreciation on the cost left after the first deduction.

For example, say you spend $60,000 on a new Cadillac Escalade that will be used 100% in your business. As long as you make the purchase before the year's over and use the new vehicle for business before then, you can generally claim the following deductions on your business's 2007 federal return: the $25,000 Section 179 deduction plus another $7,000 of regular depreciation. These first-year deductions add up to a whopping $32,000, or about 53% of your new Escalade's cost, all in Year One. Not too shabby.

3. Better Yet: Buy a Heavy Non-SUV

Here's some really good news: The full $128,000 Section 179 deduction is still available for heavy business vehicles (those with GVWRs above 6,000 pounds) that are not considered to be SUVs under the tax law. Both new and used vehicles can qualify for this important exception. Non-SUVs include:

  • Vehicles with a cargo area of at least six feet in interior length that's not easily accessible directly from the passenger compartment. Many pickups with full-size beds will fit this description. Beware: some "quad cab" and "extended cab" pickups might have cargo beds that are too short to qualify.
  • Vehicles designed to seat more than nine passengers behind the driver's seat. Many hotel shuttle vans will fit this description.
  • Vehicles with: (1) a fully enclosed driver's compartment and cargo area, (2) no seating behind the driver's seat, and (3) no body section protruding more than 30 inches ahead of the leading edge of the windshield. This sounds pretty weird, but many delivery vans will meet this description.

Bottom Line: Heavy vehicles that fall under these three exceptions remain eligible for the full Section 179 instant writeoff of $128,000 for tax years beginning in 2008.

Beware Depreciation Restrictions
Here are some important rules to keep in mind as you consider making year-end purchases of depreciable assets for tax reasons.
You can claim depreciation deductions only for the business-use percentage of an asset's cost. For example, if you use a vehicle 80% for business and 20% for personal purposes, you can depreciate only 80% of the cost.

The Section 179 deduction cannot exceed your business's taxable income (calculated before the Section 179 writeoff). For 2008, the deduction is phased out if your business acquires more than $510,000 worth of assets that would otherwise qualify for the Section 179 writeoff.

When a heavy SUV, pickup, or van is owned by your corporation, it must be used more than 50% for actual corporate business activities (based on mileage) to qualify for the Section 179 writeoff. Unfortunately, personal use by an employee who is also a more-than-5% shareholder (this means you) doesn't count as corporate business use for this purpose, even though the personal-use value must be reported as additional taxable compensation on your Form W-2. The same restriction holds true for other corporate employees who are related to a more-than-5% shareholder. When the over-50% business-use test is failed, your corporation must depreciate the vehicle using the straight-line method (in which case it will take six years to write off the cost completely).

4. Set Up Your Tax-Favored Retirement Plan Now

Recent tax law changes have given small-business owners better retirement plan options than ever before. But to reap these rewards, you generally must set up a plan before year end. Here's a breakdown of your best options:

  • Establish a simplified employee pension (SEP) plan and potentially contribute and deduct up to $46,000 for the 2008 tax year. Actually, you can do this after yearend, because a SEP can be opened up as late as the extended due date of your 2008 return. You can make your contribution as late as that date and still claim a 2008 tax deduction. But why procrastinate?
  • For a one-person business, establish a solo 401(k) plan. This arrangement may allow you to contribute and deduct considerably more than other types of plans (potentially up to $51,000 if you'll be 50 or older as of year end). However, to claim any deduction on your 2008 return, you must establish the plan by Dec. 31 (assuming your business uses the calendar year for tax purposes). You can defer part of the actual contribution until the extended due date of your 2008 return.
  • Set up a defined benefit pension plan and potentially contribute and deduct even more. The exact amount depends on various factors, including your age and earnings. Defined benefit plans generally work best for high earners age 50 and older. To claim a deduction on your 2008 return, you must establish the plan by Dec. 31 (assuming your business uses the calendar year for tax purposes). You can defer the actual contribution until the extended due date of your 2008 return.
  • Beware: If your business has other employees, you might have to make contributions to their accounts as well as your own. In this case, please consult a retirement-plan pro before taking any action.

5. Juggle Year-End Income and Expenses for Tax-Saving Results

Most small businesses operate as pass-through entities (meaning S corporations, partnerships, and LLCs). These outfits pass their business income and deduction items through to their individual owners, who then report them on their personal 1040s. Most small businesses also use the cash method of accounting for tax purposes.

If that sounds like your situation, and you expect to be in the same or lower tax bracket next year, it's a smart move to defer taxable income into 2009 and accelerate deductible expenditures into this year. Here are some suggestions on how to do that:

  • Charge deductible business expenses on credit cards before year end. That way, you'll create 2008 tax writeoffs even though the actual credit-card bills won't be paid until 2009. Beware: this taxpayer-friendly rule doesn't apply to store revolving charge accounts. So if you charge expenses on your Home Depot credit card, you can't claim any deductions until you actually pay the bill.
  • Cut checks before year end to pay other deductible expenses. You can claim 2008 deductions even though the checks might not be cashed or deposited until early next year. To fail-safe your writeoffs against an IRS challenge, send large year-end checks via registered or certified mail. That proves you shipped the checks off this year.
  • On the income side of the equation, consider deferring some of your billings until right at the end of the year. That way, you'll be paid — and taxed — next year instead of this year. Of course, you should never defer billings when there's any chance that would decrease the odds of collecting your money.

Small Business Tax Planning Info. for 2008:

07 Retirement Account Contribution Limits
Maximum deductible solo 401(k) to business owner's account:$46,000
Maximum deductible solo 401(k) contribution if owner is 50 or older: $51,000
Maximum deductible SEP account contribution:$46,000
Maximum profit-sharing Keogh account contribution:$46,000
Maximum SIMPLE IRA salary deferral contribution:$10,500
Maximum SIMPLE contribution if age 50 or older:$13,000
Other Important 2008 Tax Planning Figures
Maximum Section 179 instant depreciation writeoff:$128,000*
Cap on Social Security tax (based on wages or self-employment income):$102,000
Allowance for business mileage:50.5 cents per mile

* For tax years beginning in 2008.