Smart Business: Corporate Tax Time

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Smart Business: Corporate Tax Time

Hed: Key Tax Changes for This Year

Deck: Differences between the tax climate/laws in 2000 vs. 1999

Summary: Tax changes for 2000 are few, but big transformations may soon be on the way.

Pull quote: "With the change in administration and the slowdown in the economy, we're definitely looking at a good solid tax package emerging that will be beneficial for small business." -- Raymond Keating, chief economist, Small Business Survival Committee

Pull quote: "A continuing problem seems to be thousands of small businesses paying the Alternative Minimum Tax when they don't have to." -- Michael Tucker, tax director, T.M. Byxbee

Think of it as the lull before a storm although in this case the storm will be warmly welcome. Despite an economy teetering on the brink of recession, and the completion of an IRS overhaul that includes the creation of a new small business division, most small businesses filing their 2000 corporate income taxes will find few tax changes affecting them. Instead, experts are looking ahead eagerly to the passage of major reforms by the Bush administration changes that promise new benefits for small businesses.

"This year, as we've seen, there's definitely been a change in climate in Washington, D.C., in terms of the attitude toward tax reduction," says Raymond Keating, chief economist for the Small Business Survival Committee, an advocacy group in Washington, D.C. "With the change in administration and the slowdown in the economy, we're definitely looking at a good, solid tax package emerging that will be beneficial for small business."

Changes -- spurred by the current economic downturn -- might include reductions in personal income tax rates, a further reduction or perhaps even a phase-out of death taxes, and maybe a capital gains tax reduction which, says Keating, "would be a big plus for entrepreneurs for access to capital."

But these potential transformations won't have an impact before next tax year. So what do small business owners need to know as they work to meet the March 15 deadline for filing this year's corporate income taxes?

Installment Tax Correction

Last year, the biggest and worst news for entrepreneurs was the regulation requiring that when a business is sold, all taxes on the sale must be paid that same year, even though the payments for the sale might be spread over several years. This year, the most important change for small business owners is the Installment Tax Correction Act of 2000, which repeals that regulation.

"The 1999 law affected business owners' ability to get as high a value when they sold their business, especially when it was seller-financed, because the seller couldn't afford to defer payments and pay taxes," says Mark Luscombe, a principal analyst with tax-information publisher CCH. "In December, 2000, the law was retroactively repealed, so small businesses that did installment sales in 2000 now can still use the installment sales method. But those who sold out at a lower value are out of luck for that one year."

Cash Accounting

More small businesses can now use the cash method of accounting rather than the accrual method to pay their taxes. The simpler cash method—which also alleviates the requirement of maintaining an inventory of merchandise -- is available for businesses with gross annual revenue under $1 million, a higher threshold than in the past.

Phase-Ins

A number of tax law changes that passed in previous years are continuing to be phased in with increases for 2000 filings. One example is the health insurance deduction for the self-employed, who can now deduct 60 percent of the amount they paid in medical insurance. By 2003 that deduction will rise to 100 percent.

Another phase-in involves business expenses under Section 179 of the tax code. To avoid the record-keeping involved in depreciating business equipment, business owners can now deduct the total cost of such expenses, with the maximum allowed up to $20,000. In 2001 that amount will increase to $24,000, though a Senate bill recently introduced could mean an even bigger increase next year if it passes.

The standard business mileage rate reimbursement also went up, to 32.5 cents per mile.

Alternative Minimum Tax

Though it's not new, the alternative minimum tax (AMT) still causes confusion for many entrepreneurs. "A continuing problem seems to be thousands of small businesses paying the AMT when they don't have to," says Michael Tucker, tax director for T.M. Byxbee and an accounting professor at Quinnipiac University, both in Hamden, Conn. As a result of the 1997 Taxpayer Relief Act, many small businesses have been exempted from this tax, yet a significant number continue to pay it. A corporation initially qualified as an exempt small corporation if it had average gross receipts of $5 million or less for three tax years that ended with its first tax year beginning after 1993. Once a corporation is recognized as a small corporation under that test, it continues to be exempt from the AMT as long as its average gross receipts for the prior three-year period do not exceed $7.5 million.

If your small business inadvertently paid the AMT when it didn't need to, "you can file for a refund," says Barbara Weltman, president of Bwideas.com and author of J. K. Lasser's Tax Deduction for Your Small Business (Macmillan General Reference, 2000).

Self-Employment Tax

In contrast, a tax that needs to be paid but often gets overlooked is the self-employment tax. "Perhaps one of the worst areas small business owners encounter who are doing business as limited liability companies is trying to determine if the distribution to the LLC owner is subject to the self-employment tax," says Tucker. "There are basically no current IRS rules on this issue, and CPAs differ as to how the self-employment tax issue is to be addressed."

Retirement Plans

Another area where many small business owners fail to reap potential benefits at tax time involves deferred compensation options such as IRAs, 401k plans, and SIMPLE plans. Many don't opt in to these plans, and Tucker says that is a mistake. "Small business owners should never ignore the opportunity they have to put away, on a tax-deferred basis, savings for their retirement," he says. "New IRA/retirement plan distribution rules have just been put in place that simplify retirement plan/IRA distributions and are more favorable to the account owners."

A Change in Attitude

Most observers have welcomed the IRS' new small business division, though its impact has yet to be felt. Early signs, however, are encouraging. "I think we're seeing that the IRS is starting to at least pay more attention to small businesses," says Orban. "It's been encouraging in the last year to see their attitude of 'We want to help you do what's right.' We hope this continues."