Year-End Tax Planning for the Subcontractor - Now More Than Ever!
Posted 12-15-2009 | By Paul Longsdorf | Download Article
While 2009 has proven to be a year filled with challenges for most subcontractors, there is opportunity to improve cash flow with the use of smart year-end tax planning strategies. Many companies are ignoring tax planning due to low or non-existent profits on their financial statements. This is a mistake. Recent legislation presents new opportunities that may work to your advantage.
On November 6, 2009 the President signed into law the Worker, Homeownership, and Business Assistance Act of 2009 (the Act). The provisions of the Act that received the most media attention were the extension of unemployment benefits and the extension and expansion of the first-time homebuyers tax credit. For many subcontractors, the big provision in this legislation was the extension and expansion of the five-year carry back of net operating losses (NOLs).
Generally taxpayers are allowed to carry NOLs back two years and/or forward 20 years. Previous stimulus legislation had provided for an optional three, four or five year carry back of 2008 NOLs. However, this only applied to small businesses (those with average annual gross receipts of less than $15 million). The current legislation expands the provision to include the 2009 tax year and eliminates the small business requirement. This opens up the carry back to all taxpayers. Given the ability to carry NOLs back to more profitable years, subcontractors should strongly consider income deferral and/or deduction acceleration techniques.
Contractors using percentage of completion accounting for income tax purposes should consider delaying delivery of job materials from late December to early January. Contractors using the completed contract method for tax reporting should consider delaying the completion of jobs from December to January to defer reporting the job profit to 2010.
Consider prepayment of 2010 expenses. Prepaid expenses for goods or services to be consumed within the next 3 ½ months can be deducted in the current year. These should not be job-related expenses. Prepayment of job-related expenses can result in acceleration of income under percentage of completion accounting.
For 2009 a business can immediately deduct up to $250,000 of qualifying equipment purchases (new or used), including computers and software. In addition, 50% first-year bonus depreciation is available in 2009 for qualifying property. Property eligible for the first-year bonus depreciation is generally property with a class life of 20 years or less placed in service before January 1, 2010. Only new property qualifies for the bonus depreciation.
Contractors should review their overall accounting methods and the methods they use to account for long-term contracts. Some contractors previously required to use the percentage of completion method (PCM) to account for long-term contracts, because their average annual gross receipts exceeded $10 million, may no longer be required to use PCM due to reduced revenue levels. This may provide an opportunity to use another method that will reduce current-year taxable income or increase losses that can be carried back.
Many closely held companies are organized as Subchapter S Corporations (S corps) or Limited Liability Companies (LLCs) whereby the income flows through to the owners and tax is paid at the individual level. Losses flowing through to individuals are eligible for the 5-year carry back. However, S corp shareholders and LLC members should review their basis in their ownership interests to insure they have tax basis and are “at risk” with respect to any flow-through losses. At risk is defined differently for LLCs taxed as partnerships and S corps, but those planning for flow-through losses to generate tax refunds should be sure to review this issue thoroughly.
All subcontractors should review the work they perform or revenue they generate outside of their home state. In these difficult economic times many subcontractors have begun to travel to new locations. Care should be taken to insure the income tax filing requirements are being addressed in all localities in which the subcontractor is operating. Hard economic times have hit the states as well and they are aggressively pursuing companies doing business in their states and not filing tax returns. Noncompliant contractors are easy targets due to licensing and registration requirements for contractors in most states.