How exactly are business taxes affected by the Tax Cuts and Jobs Act (TCJA)? Below are some significant changes affecting business taxes since the implementation of this new law.
In this article:
- Pass-through Income Deduction Rate
- Flat Tax Rate for Corporations
- Business Meals and Entertainment Expenses
- Depreciation Deductions
- Business Loan Interest
- Net Operating Loss Deduction
List: Aspects of Business Taxes Affected by TCJA
1. Pass-through Income Deduction Rate
The TCJA provides new rules for pass-through businesses. A pass-through business is usually a small business that does not pay business income tax. Rather, the owners of these businesses pay tax through their individual tax returns. A pass-through business can be any of the following:
- sole proprietorship
- partnership
- S corporation
- limited liability company (LLC)
- limited liability partnership (LLP)
Based on the TCJA, pass-through business owners may deduct up to 20% of the net business income from their personal income taxes. However, only “qualified business income” (or QBI) will get accepted under this rule. QBI does not include the following:
- short/long-term capital gain/loss or loss
- dividend/interest income
- wages (for S corporation)
- guaranteed payments (for partnerships and LLC)
- business income earned outside the U.S.
Also, small business owners must meet the following required income to claim the 20% deduction:
- $157,500 and below taxable income for single individuals
- $315,000 and below taxable income for married individuals
2. Flat Tax Rate for Corporations
How about other entities such as C corporations and Personal Service Corporations (PSCs)? Before TCJA, PSCs pay a flat 35% tax rate, while C corporations pay anywhere between 15% and 35% tax depending on their income.
Now, the new law imposes a flat 21% tax rate on both these entities. Also, the percentage of deductions on dividends received by C corporations dropped from 70-80% to just 50-65%.
The TCJA also repealed the current rule on corporate alternative minimum tax (AMT). The new law completely eliminates the 20% AMT tax rate that C corporations earning more than $7.5 million annually pay.
3. Business Meals and Entertainment Expenses
While TCJA provides benefits to small businesses, it also limited some of the perks they used to enjoy. For example, before a business could deduct up to 50% of business-related costs that have to do with entertainment or recreational activities such as sports.
But now, with the TCJA, the deduction for any expenses related to business activities related to entertainment or recreation is no longer permitted.
Business owners may still deduct 50% of the cost of meals given for the convenience of the employer or through an in-house cafeteria. However, the meals should not be very expensive and lavish.
4. Depreciation Deductions
The TCJA expands the definition on depreciation of properties. According to the new law, corporate taxes may cover, as part of deductions, the cost of improvements made to the following parts of business properties:
- any improvement to the interior, except if made in connection with:
– enlargement of the office space
– repair of escalator or elevator
– change in the internal structural framework of the office space - roofs
- HVAC
- fire protection systems
- alarm systems
- security systems
The TCJA increases the maximum deduction from $500,000 to $1 million, and the phase-out threshold from $2 million to $2.5 million.
5. Business Loan Interest
The TCJA also imposes limitations on the deductibility of business interest expense. Before, a corporation could not deduct the cost of paying business loan interest if the net interest exceeded 50% of the taxable income.
Now, the TCJA adjusted this limit to 30%. This limit, however, does not cover the following:
- entities with $25 million or less average annual gross receipts
- most real estate or farm-related businesses
- regulated utilities
6. Net Operating Loss Deduction
Before TCJA, a business owner may carryback a net operating loss (NOL) for two years and carryforward it for 20 years to avoid taxes. The NOL refers to the difference of his business deductions from his gross income.
The new law eliminated the carryback provision but exempts losses incurred in trading or farming. Also, the new law provides an indefinite period for carryforward, as long as business owners may offset only 80% of their taxable income.
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Watch this video and find out how business are affected under the Tax Cuts and Jobs Act!
In looking at aspects of business taxes affected by the Tax Cuts and Jobs Act, one would see newly-imposed benefits and limitations in the new law. Business owners should be mindful of these changes to prevent penalties due to tax deduction misdeclaration and miscalculation.
Do you think there are other aspects of business taxes affected by the new law? Share with us your thoughts in the comments section below.
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