You cannot peruse the news or scroll through social media without reading about cryptocurrency, such as Bitcoin, Etherium’s Ether and Ripple’s XRP token. Despite such widespread coverage, few individuals truly understand how this new world money works or how investors yielded significant returns from their investment in it in 2017. Following is a crash course in cryptocurrency.
What is Cryptocurrency?
Cryptocurrency is a form of digital money with no tangible, physical form. It is created (or “mined”) and stored digitally on a specialized public network of computer systems where users may access the platform like cash and transfer it electronically to others to buy goods, services or other cryptocurrency. Users may buy and sell virtual currency, including digital tokens, as an investment on an exchange, such as Coinbase and Kraken, in the same way they would buy and sell gold or other commodities. However, it is important to remember that crypto tokens do not satisfy the legal definition of money. Rather, they are intangible assets, such as a copyright or brand that can be linked to a real-world asset.
How do I Acquire Cryptocurrency?
Individuals may buy Bitcoin and other forms of cryptocurrency with paper money, such as U.S. dollars, or they may acquire it by accepting it as payment for goods and service.
Unlike the dollar, the euro or other traditional forms of currency issued and controlled by a government entity or central bank, cryptocurrency is not subject to regulatory oversight from a centralized authority. Rather, a digital ledger records and tracks all cryptocurrency transactions, known as blocks, using complex mathematical algorithms that super computers on the shared network compete with to solve. The miner that finds the solution is rewarded in Bitcoin or other currency only after the other miners validate the solution. At that point, the block is added to the shared digital ledger using cryptographic techniques. As new blocks are added and linked, they create a blockchain, and the digital ledger continues to grow exponentially.
How Does Blockchain Fit in the Cryptocurrency Puzzle?
Blockchain is essentially the one record that links together and records the movement of all cryptocurrency transactions. Because each transaction is uniquely time-stamped, traceable and readily available for all users to see, blockchain technology has the potential to disrupt how businesses will operate in the future. For example, blockchain applications are already making an impact and improving the efficiency of businesses tracking orders in the supply chain, managing logistics and even managing retail sales. According to Gartner Group, it is estimated that blockchain technology and its ability to manage vast amounts of data will deliver $21 billion in business value-add or technology innovation by 2020, and $3.1 trillion by 2030.
What are the Risks Associated with Cryptocurrency?
Every investment involves risk, and cryptocurrency is no different. In 2017, Federal Reserve Chairman Janet Yellen referred to Bitcoin as a “highly speculative asset” without “a stable store of value.” Yet, despite the lack of a unified standard for legal, tax and accounting best practices, investors continue to buy crypto token as new cryptocurrencies enter the market and raise significant funds via initial coin offerings (ICOs). According to icodata.oi, startups completed 881 ICOs in 2017, crowdfunding their crypto platforms and raiding more than $6 billion by the end of the year. For some investors, the returns were beyond phenomenal. For example, Ripple was the breakout star of 2017 yielding gains of more than 36,000 percent, while Bitcoin grew by more than 1,000 percent over the same 12-month period. To be sure, few investors ended the year completely unscathed by intense and volatile cryptocurrency trading activity.
With the wide opportunities for financial gain that cryptocurrency can provide, it is no wonder that criminals have entered the market and developed scams to deceive users and steal their funds. Without the benefit of a regulatory agency to oversee cryptocurrency transactions, consumers bear the burden of protecting themselves from bad actors and minimizing their risks of falling victim to cryptocurrency schemes.
Finally, while not necessarily a risk, gains and losses that cryptocurrency investors realize during the year are subject to income tax reporting and payment liabilities. As a word of warning, the IRS as recently as February 2018 reminded taxpayers that it has unleashed a team of criminal agents to investigate individuals who may be evading taxes by using the anonymity offered by Bitcoin, Ripple or other digital coins.
Despite its cult-like following, cryptocurrencies, such as Bitcoin, Etherium and Ripple, are complicated and not without risks. The underlying technology of blockchain, however, holds promise for businesses to improve efficiencies and cut costs far into the future.
About the Author: Dustin Grizzle is an associate director of Tax Services with Berkowitz Pollack Brant, where he provides tax-planning and compliance services to high-net-worth individuals and businesses in the manufacturing, real estate management and property investment industries. He can be reached at the CPA firm’s Boca Raton, Fla., office at (561) 361-2000 or via email at info@bpbcpa.com.
Information contained in this article is subject to change based on further interpretation of tax laws and subsequent guidance issued by the Internal Revenue Service.
With the 2017 April tax-filing deadline in the rearview mirror, now is a good time to revisit the provisions of the Tax Cuts and Jobs Act (TCJA), which the IRS codified for tax years beginning in 2018. The following information will apply to the tax returns that individuals file in 2019.
Lower Individual Tax Brackets through 2025
While the TCJA lowers the tax rates that apply to most income levels, it does not make income taxes any simpler. A seven-bracket system remains in effect with a low rate of 10 percent for taxable income up to $9,525 for individuals, or $19,050 for married couples filing jointly, to a high of 37 percent for taxable income above $500,000 for individuals, or $600,000 for married couples filing jointly. Figuring out an individual’s actual taxable income depends upon his or unique situation, including filing status, sources of income and claims for credits, deductions and exemptions that can potentially reduce tax liabilities.
Higher Gift and Estate Tax Exemption
The estate and gift-tax exemptions double in 2018, allowing individuals to exclude from their taxable estate up to $11.18 million in assets, or $22.36 million for married couples filing joint tax returns. Estates valued above these thresholds will be subject to a 40 percent tax. The estate tax exemption will be indexed for inflation until 2026, when it will revert to its 2017 pre-TCJA level.
Higher Standard Deduction
The TCJA eliminates personal exemptions in 2018 while increasing the standard deduction to $12,000 for individual taxpayers, or $24,000 for married taxpayers filing jointly. In future years, these amounts will be adjusted annually for inflation until 2026 when the deduction it is set to expire.
Limits to Itemized Deductions
Taxpayers continue to have the option to either claim a standard deduction or itemize each deduction for which they may be entitled. With the new, higher standard deduction in 2018, it is expected that fewer taxpayers will itemize. However, for high-net-worth individuals whose itemized deductions may exceed the higher standard deduction, itemizing may continue to be the best option, especially when considering that the TCJA suspends the overall 3 percent of adjusted gross income (AGI) limitation on itemized deductions.
With this in mind, taxpayers should consider the following changes to common deductions.
- Casualty and Theft Losses are no longer deductible unless they result from a president-declared federal disaster, such as the 2017 hurricanes or California wildfires.
- Charitable Deductions are available only to taxpayers who itemize their deductions. However, the amount of cash contributions that an eligible taxpayer can deduct increases to 60 percent of his or her AGI. Benevolent taxpayers can maximize their tax-deductible gifts by bunching together several years of small donations into one year when the contributed amount will exceed the standard deduction. Similarly, taxpayers may realize tax benefits and stretch their philanthropic dollars by focusing their giving toward donor-advised funds and/or private foundations.
- The Foreign Earned Income Exclusion for 2018 increases to $103,900.
- Medical and Dental Expenses are deductible to the extent they exceed 7.5 percent of an itemizing taxpayer’s AGI.
- Miscellaneous Itemized Deductions are disallowed beginning in 2018. This includes deductions for use of a home office, unreimbursed job expenses, expenses incurred while searching for a job, as well as tax preparation and other professional service fees.
- Mortgage Interest is deductible on new loans executed on or after Jan. 1, 2018, on acquisition indebtedness of $750,000 or less for individual taxpayers. This dollar limit does not apply to mortgages existing on or before December 15, 2017. For 2018, taxpayers who refinance loans existing on or before December 15, 2017, will be able to deduct interest on up to $1 million of indebtedness. In 2018, there is no longer a deduction for interest paid on a home equity line of credit (HELOC).
- Moving expenses are no longer deductible regardless of whether or not they resulted from a taxpayer’s job change.
- Property Tax, and State and Local Tax (SALT) deductions are limited to a combined total of $10,000 for single and married filing jointly taxpayers. A number of U.S. states, including New York, New Jersey and California, have or are planning to introduce laws to reduce the impact of the SALT deduction limit on its residents. How the IRS will treat these state-level provisions is unclear at this time.
- Retirement Savers continue to receive favorable tax treatment when making annual contributions to retirement accounts. In 2018, the maximum amount that taxpayers may contribute to a 401(k) and receive a tax deduction is $18,500, or $24,500 for taxpayers age 50 and older. The limit on contributions to traditional and Roth IRAs remains at $5,500, or $6,500 for individuals age 50 and older. In addition, because the TCJA increases the income thresholds for taxpayers to contribute to IRAs and Roth IRAs, more taxpayers will be able to take advantage of these qualified retirement plans to save for the future.
- Student Loan Interest continues to be deductible up to $2,500, regardless of whether taxpayers choose to itemize or not. However, the deduction begins to phase out when taxpayers’ modified adjusted gross income (MAGI) exceeds $65,000, or $135,000 for married filing jointly. The deduction is not available to taxpayers whose MAGI reaches $80,000, or $165,000 for married couples filing joint returns.
A Mixed Bag for Families with Children
529 Savings Plans continue to be tax-efficient vehicles for families to save for a child’s future college education. New for 2018 is the ability for families to take from 529 plans tax-free distributions of up to $10,000 per year to pay for a child’s K through 12 private or religious school tuition. Annual 529 savings plan contributions of $15,000 per beneficiary, or $30,000 per beneficiary for married couples filing jointly, are generally not subject to federal gift taxes. There are also planning opportunities that allow taxpayers to elect to treat contributions in excess of the annual gift tax exclusion as if they were spread over a five-year period.
An Adoption Credit is available for families to recover up to $13,810 in adoption-related expenses. Families that adopt children with special needs are treated as having paid the maximum $13,810 credit regardless of the actual expenses they incur. This nonrefundable credit is subject to a phaseout when MAGI exceeds $207,140 and completely phases out when MAGI exceeds $247,140.
The Child Tax Credit increases to $2,000 per qualifying child and is refundable up to $1,400, depending on a family’s AGI. Once a taxpayer’s AGI reaches $200,000, or $400,000 for married taxpayers filing jointly, the Child Tax Credit begins to phase out.
Obamacare Shared Responsibility Penalty
Taxpayers who go without health insurance in 2018 will continue to be subject to the Affordable Care Act’s individual mandate. The penalty for failing to have health coverage for any month during the year is the greater of 2.5 percent of AGI, or $695 per adult and $347.50 per child up to a maximum of $2,085. The individual mandate is scheduled to be eliminated beginning in 2019.
Tax reform is a game-changer for most U.S. taxpayers. However, leveraging the benefits of the new law and mitigating the risk of exposure to an increased tax burden in 2018 and in future years requires careful planning under the guidance of experienced tax advisors and accountants.
About the Author: Tony Gutierrez, CPA, is a director with Berkowitz Pollack Brant’s International Tax Services practice, where he focuses on tax and estate planning for high-net-worth individuals, family offices, and closely held businesses in the U.S. and abroad. He can be reached at the CPA firm’s Miami office at 305-379-7000 or via email at info@bpbcpa.com.
Information contained in this article is subject to change based on further interpretation of tax laws and subsequent guidance issued by the Internal Revenue Service.
It can be argued that U.S. businesses and their shareholders will be the biggest winners from the Tax Cuts and Jobs Act (TCJA). However, because the law falls short of its aim to simplify the tax code, significant advance planning under the guidance of professional advisors is recommended to help taxpayers dig through the law’s complexity and reap its potential benefits.
Business Taxes
One of the most significant provisions of the TCJA is an immediate and permanent reduction in the corporate tax rate from 35 percent to a flat 21 percent and a complete repeal of the corporate alternative minimum tax. This historically low rate takes the U.S. off its perch as the country with the highest corporate tax rate and puts it a more competitive position compared with other advanced economies around the globe.
For businesses organized as pass-through entities, which represent more than 90 percent of all U.S. businesses, the new law is far more complicated. In general, the TCJA introduces a potential 20 percent deduction on certain income that flows from S Corporations, partnerships, LLCs and sole proprietors through to their owners’ individual income tax returns. However, there are a number of limitations and exclusions to this deduction based on such factors as the new concept of qualified business income (QBI), the amount of W-2 wages a business pays and the cost of the depreciable income-producing property owned by the business. Additional limitations apply to “specified service businesses” in the fields of health, law, accounting, actuarial sciences, performing arts, consulting, and financial and brokerage services or any other business whose primary asset is the reputation or skill of its owner or employees. How the IRS will interpret this provision remains to be seen as of today. What is known if that, unlike the corporate tax reduction, the treatment of pass-through businesses, is scheduled to expire in 2025.
With just these provisions in mind, it makes sense for some pass-through businesses to weigh the pros and cons of restructuring as C corporations in the near future. Consideration should be given to such matters as state and local tax liabilities and deductibility, exposure to double taxation and the tax treatment of retained profits and dividends paid to owners and partners of C corporations. If business owners intend to reinvest profits in their companies, a C corporation structure may make the most sense. Alternatively, if businesses intend to pull profits out their companies to distribute them to their owners, a C corporation with double-tax treatment may be more expensive. Based on the taxpayer’s specific and unique facts and circumstances, a conversion may not be the best option for minimizing tax liabilities.
Credits and Deductions
The TCJA provides corporations with a mixed bag of both limited and enhanced credits and deductions that may require careful planning in 2018 to minimize future tax liabilities.
For example, gone are deductions for domestic production activities. In addition, businesses may no longer deduct expenses for entertainment, including costs they incur for seats or suites at entertainment venues, tickets and meals for sporting events and concerts, and dues for membership in in business, recreational and social organizations.
The costs that a taxpayer incurs when treating clients or prospective customers to a business-focused lunch or dinner remains 50 percent deductible, as long as the meal occurs outside of an entertainment facility. Similarly, a company may continue to deduct 50 percent of the reimbursement for meals they provide to traveling employees and 100 percent of costs for a holiday party or similar employee event. However, under tax reform, businesses have until Dec. 31, 2025, to deduct on an annual basis only 50 percent of the costs for meals they provide to their employees for their benefit or in an employer’s on-site cafeteria. Despite these limitations, the law does provide businesses with some enhanced benefits.
Net Operating Losses (NOLs)
Net operating losses are a prime example of the ying and yang of tax reform. While NOL carrybacks areno longer allowed beginning in 2018, unused losses that were previous limited to 20 years of carryforwards are now permitted to be carried forward indefinitely. Yet, only 80 percent of taxable income will be can be offset with an NOL carryforward. As a result, corporations will no longer be able to use NOLs to bring their tax liabilities to zero.
Limitations to Business Interest Deduction
The deduction for business interest, including interest on related-party debt, is limited for certain taxpayers under the new law to 30 percent of earnings before interest taxes, depreciation and amortization (EBITDA) until 2021. At that point, the limitation is set to apply to earnings before interest taxes (EBIT). Any remaining business interest expense that is not allowed as a deduction may be carried forward indefinitely and applied to future tax years. An exception to the 30 percent limitations exists for businesses whose gross receipts for the three most recent tax years are less than $25 million, as well as for qualifying taxpayers who accrued interest in real property trades or business that elect the slower alternative depreciation system or ADS. Additional guidance on this topic is forthcoming from the IRS.
Limitations to Carried Interest
The TCJA preserves the favorable long-term capital gains treatment of gains from partnership interest held by managers and partners for a share of a business or project’s future profits. Yet, it also limits the benefit to assets held for a minimum of three years, rather than the previous holding period of one year, unless a corporation owns the partnership interest. The new longer holding period applies to capital assets. Curiously, the law does not apply the longer holding period to trade or business assets, also known as Section 1231 assets, which typically include apartments, office buildings and other depreciable property used in a trade or business and held for more than one year. We will watch for additional guidance from the IRS and on this topic.
Expanded Opportunities to Expense Business Assets
One significant bright spot in corporate tax reform deductions is available for businesses that invest in capital assets. For one, qualifying tangible property that businesses acquire and put into service after Sept. 27, 2017, and before Jan. 1, 2023, may be eligible for 100 percent “bonus” depreciation in the year of purchase. The new law defines qualifying property as tangible personal property with a recovery period of 20 years or less and including for the first time used property. Prior to the TCJA, bonus depreciation was limited to 50 percent of the cost of new tangible property or non-structural improvements to the interiors of nonresidential building.
Expanded Definition and Expensing of Section 179 Property
The new law expands the definition of Section 179 qualifying improvement property and business assets to include improvements to nonresidential property, such as roofs; heating, ventilation and air-conditioning property; fire protection and alarm systems; and security systems improvements. In addition, the law increases the maximum amount a taxpayer may expense under Section 179 to $1 million per year. Previously, the Section 179 deduction was limited to $500,000, and it began to phase out at $2 million.
Changes in Accounting Methods
The TCJA qualifies a larger percentage of corporations and partnership to use the cash method of accounting when filing their tax returns, rather than the accrual method, by raising the gross receipts test from $5 million to $25 million over a three-year period. Moreover, taxpayers that meet the average gross receipts test are no longer required to account for inventory using the accrual method. Rather, taxpayers have the option to either treat inventory as non-incidental materials and supplies or rely on the same method of accounting they use for financial statement purposes.
In order for businesses to take advantage of what may be the largest corporate tax cut in history, proper and timely planning is required. The professional advisors with Berkowitz Pollack Brant work with domestic and international businesses to implement tax efficient strategies that comply with complex laws and minimize taxpayer’s liabilities.
About the Author: Laurence Bernstein, CPA, is an associate director of Tax Services with Berkowitz Pollack Brant, where he provides tax and consulting service to high-net-worth families, entrepreneurs and growth-oriented business owners. He can be reached at the CPA firm’s Ft. Lauderdale, Fla., office at (954) 712-7000 or via email at lbernstein@bpbcpa.com.
Information contained in this article is subject to change based on further interpretation of the law and guidance issued by the Internal Revenue Service.
The IRS issued Notice 2018-29 providing guidance relating to the new withholding rules that apply when a foreign person disposes of a partnership interest. An IRS notice does not have the force and effect of actual regulations, but it does provide taxpayers with direction on how the IRS expects to enforce rules and eventually issue regulations in the future.
The recent tax reform law codified a long-held IRS position that gain or loss from the sale, exchange or other disposition of a partnership interest by a nonresident alien or a foreign corporation is taxable to the extent that the foreign person would have been subject to tax had the partnership sold all of its assets at fair market value. This rule applies to dispositions occurring on or after November 27, 2017. The notice does not provide any further guidance on determining the actual gain that is subject to tax.
The Tax Cuts and Jobs Act (TCJA) added an obligation for the acquirer (transferee) of a partnership interest to withhold a 10 percent tax on the amount realized on the transfer unless the transferor furnishes an affidavit or certificate to the transferee stating that the transferor is not subject to withholding. If the transferee fails to withhold the tax, the partnership is required to withhold from distributions to the transferee until the unpaid withholding tax (plus interest) has been satisfied. The recent Notice does not address the mechanics for this withholding. The IRS previously issued guidance suspending the withholding requirement on dispositions of certain publicly traded partnerships.
Notice 2018-29 generally adopts the forms and procedures for withholding on dispositions of U.S. real property interests under the Foreign Investment in Real Property Act (FIRPTA), which requires the purchaser of a U.S. real property interest from a foreign person to withhold and remit 15 percent of the sale proceeds as a withholding tax. The purchaser uses Forms 8288 and 8288-A to report the amount realized and the amount of tax withheld to the IRS, which then processes the withholding tax and returns a stamped copy of Form 8288-A to the transferor. In order to claim a credit for the withholding tax on their income tax return reporting the sale, the transferor must attach a copy of the IRS-stamped copy of Form 8288-A.
The Notice further provides that the transferee of a partnership interest should write “Section 1446(f)(1) withholding” at the top of Forms 8288 and 8288-A and remit payment within 20 days of the transfer of partnership interest. Transferees who fail to withhold properly are liable for the tax, and failure to submit the withholding tax may result in other civil and criminal penalties. The IRS will not assert penalties or interest when transferees file these forms and pay amounts to the IRS on or before May 31, 2018.
Under the Notice, transferees may eliminate their withholding obligation when they receive the following certifications:
- A certification of non-foreign status or IRS Form W-9 from the transferor;
- A certification from the transferor that no gain will be recognized on the transfer;
- A certification from the transferor that the partnership interest had been held for at least two years and his or her allocable share of partnership effectively connected income (ECTI) was less than 25 percent of his allocable share of all partnership income;
- A certification from the partnership that if it sold all of its assets, the amount of gain that would have been treated as ECTI (including gain from U.S. real property interests) would be less than 25 percent of the total gain; or
- A certification from the transferor that a non-recognition provision applies.
The exact information that transferees must receive differs for each certification. However, in general, the transferor or partnership must sign the certification under penalties of perjury. The transferee can rely on the certification unless he or she has knowledge that the information is false.
For purposes of determining the amount realized that is subject to withholding, the disposing partner must consider the amount of liability relief he or she obtained and include the amount realized on the transfer. A partner who owned a less than 50 percent interest in partnership capital, profits, deductions or losses may provide the transferee with a certification that provides the following:
- the amount of the partner’s share of partnership liabilities reported on his or her most recently received Schedule K-1, and
- confirmation that he or she does not have actual knowledge of events occurring after the issuance of the Schedule K-1 that would cause the amount of his or her share of partnership liabilities to be more than 25 percent above than the amount shown on the K-1.
The partnership may also issue a certification relating to the transferor partner’s share of liabilities. The notice does not specify a method for a partner who owns 50 percent or more of the partnership to certify his or her share of partnership liabilities. Therefore, in that situation, presumably the partnership certification would be required.
The total amount withheld cannot exceed the amount the transferor realized (without considering the transferor’s liabilities). If the transferee is unable to determine the amount realized because certification of the transferor’s share of liabilities is not provided, the transferee must withhold the entire amount he or she realized, determined without regard to the transferring partner’s liabilities.
The tax and withholding rules apply to partnership distributions in excess of the foreign partner’s basis in the partnership that would be treated as a capital gain (a partial disposition of the partnership interest).
These rules also apply in cases involving tiered partnerships. If a transferor transfers an interest in an upper-tier partnership that owns an interest in a lower-tier partnership, and the lower-tier partnership would have effectively connected taxable income (ECTI) on the deemed disposition of all of its assets, a portion of the gain recognized by the transferor is characterized as effectively connected gain. Therefore, the lower-tier partnership would be required to provide the upper-tier partnership with information in order for the upper-tier partners to be able to comply with these rules.
The advisors and accountants with Berkowitz Pollack Brant work with domestic and foreign individuals and businesses to comply with international tax laws, maximize tax efficiency and reduce unnecessary compliance costs.
About the Author: Arthur Dichter, JD, is a director of International Tax Services with Berkowitz Pollack Brant, where he works with multi-national businesses and high-net worth foreign individuals to structure their assets and build wealth in compliance with U.S. and foreign income, estate and gift tax laws. He can be reached at the CPA firm’s Miami office at (305) 379-7000 or via email at info@bpbcpa.com.
The overhaul of the U.S. Tax Code that the president signed into law in December 2017 reverses a Tax Court decision from earlier in the same year, which, at that time, represented one of the most significant changes in international taxation in nearly 30 years.
In in July 2017 ruling in the matter of Grecian Magnesite Mining, Industrial & Shipping Co. v. Commissioner of Internal Revenue, the tax court held that the gain a foreign partner yielded from the sale of its interest in a U.S. trade or business was not considered effectively connect income (ECI) and was therefore exempt from U.S. income tax treatment. Prior to this decision, the tax laws followed Revenue Ruling 91-32, which treated such gains as taxable U.S. income.
The passage of the Tax Cuts and Jobs Act, however, revives Revenue Ruling 92-32 and codifies under new section 1446(f) a foreign partner’s gain from the disposition of U.S. partnership assets as taxable U.S. trade or business income, effective for all sales or exchanges occurring on or after Nov. 27, 2017. Moreover, the new law introduces a 10 percent withholding tax to the amount a foreign person realizes from the sale of the partnership interest that occurs after Dec. 31, 2017.
A partner’s actual tax liability could actually be greater than the 10 percent withheld, especially when also considering the partner’s sale of partnership interest as well as a separate, 15 percent withholding tax on sales of U.S. property as required under the Foreign Investment in Real Property Tax Act of 1980 (FIRPTA).
It is critical that foreign partners stay abreast of developments on this matter, especially as the IRS issues technical guidance to help taxpayers apply the new Code Section 1446(f). For example, in January 2018, the IRS issued guidance temporarily suspending the withholding tax from foreign investors dispositions of interests in publicly traded partnerships. In addition, because the IRS has appealed the court’s decision in Grecian Magnesite, it is possible that foreign investors will be required to pay taxes retroactively on gains they may have reaped from sales of interests in a U.S. trade or business that occurred during the fourth month period between July and November 2017.
About the Author: James W. Spencer, CPA, is a director of International Tax Services with Berkowitz Pollack Brant, where he focuses on a wide range of pre-immigration, IC-DISC, transfer pricing and international tax consulting issues for individuals and businesses. He can be reached at the CPA firm’s Ft. Lauderdale, Fla., office at (954) 712-7000 or via email at jspencer@bpbcpa.com.
Information contained in this article is subject to change based on further interpretation of tax laws and subsequent guidance issued by the Internal Revenue Service.
Included in Florida’s budget for fiscal year 2018 is an expansion of the state’s Sales Tax Credit Scholarship Program. Under the program, eligible businesses may receive a tax credit when they redirect their sales tax on commercial real estate leases to approved organizations that fund scholarships and job-training programs for eligible students throughout the state. The Department of Revenue (DOR) has already begun accepting applications from businesses, for which the state will allocate $57 million in available credits.
Tenants that occupy, use or are entitled to use commercial property may apply to the state to receive a dollar-for-dollar credit against the real estate rental tax they paid to a landlord when they make monetary contributions to an eligible scholarship-fund organization in the state that is exempt from federal income tax. Eligible organizations may include scholarship-funding organizations, such as Step Up For Students and Gardner Scholarships; private schools with students in grades K through 12; and accredited facilities that provide job-training services to persons who have low income, workplace disadvantages or other barriers to employment.
Timing is critical for businesses that wish to apply to allocate their tax credits to qualifying scholarship-funding organizations. While the DOR expects to receive numerous applications, it will allocate the $57 million in available credits on a first-come-first-served basis. Upon the DOR’s approval of an application, the agency will send a certificate of contribution to the business’s landlord, who will then reduce the tax that he or she collects from the business’s lease payments beginning on October 1, 2018.
With advance planning under the direction of experienced state and local tax advisors, businesses that pay commercial rent can apply to the Florida Sales Tax Credit Scholarship Program and realize potential tax savings while helping underprivileged children get the education they deserve.
About the Author: Karen A. Lake, CPA, is SALT (state and local tax) specialist and an associate director of Tax Services with Berkowitz Pollack Brant, where she helps individuals and businesses navigate complex federal, state and local tax laws, and credits and incentives. She can be reached at the firm’s Miami office at (305) 379-7000 or via email at info@bpbcpa.com.
About the Author: Karen A. Lake, CPA, is SALT (state and local tax) specialist and an associate director of Tax Services with Berkowitz Pollack Brant, where she helps individuals and businesses navigate complex federal, state and local tax laws, and credits and incentives. She can be reached at the firm’s Miami office at (305) 379-7000 or via email at info@bpbcpa.com.
Cost segregation studies have proven to be valuable tools for helping taxpayers who have constructed, purchased, expanded or remodeled any kind of real estate to increase cash flow by accelerating depreciation deductions and deferring federal and state income taxes. However, a recent Memorandum issued by the IRS highlights the fact that relying on a third party to perform a cost segregation study does not release taxpayers from potential negligence penalties associated with the underpayment of tax.
In the matter before the IRS Chief Counsel, a small business hired an engineer to conduct a cost segregation study, which the business ultimately used to accelerate depreciation deductions over five years, rather than 39, and create a significant tax loss for the years at issue. Nonetheless, the IRS determined that the business understated its tax liabilities by claiming excessive deductions based upon the engineer’s report, which the IRS characterized as “the most egregious misrepresentation” of the useful life of a building’s components. Ultimately, the IRS found the taxpayer to be negligent in meeting its tax burden while imposing penalties on the engineer for “aiding and abetting” the tax underpayment.
While it is true that the engineer will pay for his aggressive cost segregation study, it is important for real estate professionals to remember that just because they paid a licensed engineer to develop a report, does not mean that the report is accurate. Nor does it alleviate taxpayers of their responsibilities to substantiate all claims of income and deductions. This is especially true when considering the nuances in the tax laws relating to bonus depreciation, including appropriate allocations made between land and buildings, the definition of units of property (UoP) and the decision to capitalize or expense repairs and improvements.
With this in mind, it is critical that real estate professionals engage tax advisors and accountants to review cost segregation studies in order to identify potential inaccuracies and ensure that depreciation deductions and reclassifications of building components make sense. Having another professional agree that a cost segregation study is valid will help to reassure taxpayers that their claims have a better chance against a potential IRS audit.
About the Author: Angie Adames, CPA, is an associate director of Tax Services with Berkowitz Pollack Brant, where she provides tax and consulting services to real estate companies, manufacturers and closely held business. She can be reached at the firm’s Miami office at (305) 379-7000 or via email at info@bpbcpa.com.
Taxpayers have until Sept. 28, 2018, to avoid criminal prosecution and steep penalties when they coming forward voluntarily and share with the IRS previously undisclosed foreign financial assets. The IRS announced that on that date it will end the Offshore Voluntary Disclosure Program (OVDP) that it implemented to encourage reticent taxpayers to come into compliance with U.S. laws and pay their fair share of U.S. taxes.
The IRS first introduced an OVDP in 2009 to allow noncompliant taxpayers to come forward voluntarily to resolve their unreported income and assets. Consequently, more than 56,000 taxpayers have participated in the program and paid taxes, interest and penalties in excess of $11 billion. The agency reissued and updated the program several times, as recently as 2014, when the penalty for unreported assets held in certain foreign financial institutions investigated by the Justice Department was substantially increased.
Eligible taxpayers who unwillingly and unintentionally failed to disclose their foreign income and foreign assets may continue to use the Streamlined Filing Compliance Procedures (SFCP) as well as Delinquent International Information Return and Delinquent Foreign Bank and Financial Account (FBAR) Filing Procedures to meet their tax reporting obligations. For now, these programs remain in effect indefinitely. However, the IRS may choose to terminate them at any time.
The advisors and accountants with Berkowitz Pollack Brant work with domestic and foreign individuals and businesses to comply with international tax laws, maximize tax efficiency and reduce unnecessary compliance costs.
About the Author: Arthur Dichter, JD, is a director of International Tax Services with Berkowitz Pollack Brant, where he works with multi-national businesses and high-net worth foreign individuals to structure their assets and build wealth in compliance with U.S. and foreign income, estate and gift tax laws. He can be reached at the CPA firm’s Miami office at (305) 379-7000 or via email at info@bpbcpa.com.
Information contained in this article is subject to change based on further interpretation of tax laws and subsequent guidance issued by the Internal Revenue Service.
U.S. businesses owned by foreign persons or multinational corporations have an obligation every five years to complete the Bureau of Economic Analysis’s Benchmark Survey of Foreign Direct Investment in the United States (BE-12). Taxpayers are responsible for providing their financial and operational data on the BE-12 regardless of whether or not they actually receive a survey or are contacted by the Bureau.
BE-12 reports covering fiscal year 2017 are due May 31, 2018. Taxpayers who did not receive a notice via postal mail may access the survey online at www.bea.gov/efile.
Who must file a BE-12?
The B-12 is mandatory for each U.S affiliate of an entity for which a foreign person or entity owns or controls, directly or indirectly, 10 percent or more of the U.S. enterprise’s voting securities, or an equivalent interest if an unincorporated U.S. business enterprise, at the end of the enterprise’s fiscal year that ended in calendar-year 2017. Businesses that are unsure if they meet the filing requirements should contact their accountants as soon as possible.
What if I need more time to file?
Applicable businesses may request a filing deadline extension when they submit such requests before May 31, 2018.
How does the government use the information I provide?
The BEA uses information provided by BE-12 respondents to understand the state of foreign-owned business activities in the United States and make informed decisions regarding U.S. jobs, wages, productivity and taxes. Business leaders may use the census data to make hiring and investment decisions. All respondents are protected by federal privacy laws.
If you received a survey from the BEA or if believe you may be required to file a BE-12, please contact your tax professional. The advisors and accountants with Berkowitz Pollack Brant work with domestic and foreign individuals and businesses to comply with international tax laws, maximize tax efficiency and reduce unnecessary compliance costs.
About the Author: Andrew Leonard, CPA, is an associate director with Berkowitz Pollack Brant’s International Tax Services practice, where he focuses on pre- and post-immigration tax planning for individuals from South America, Asia and Europe and helps U.S. residents with foreign interests meet their filing disclosure requirements. He can be reached at the CPA firm’s Boca Raton, Fla., office at (561) 361-2000 or via email at info@bpbcpa.com.
The Tax Cuts and Jobs Act (TCJA) that reforms the U.S. Tax Code will have a significant impact on Canadians with businesses, investments, and residency in the United States beginning in the 2018 tax year. With these policy changes come a new way of thinking and a call for affected individuals and businesses to plan appropriately in an effort to minimize their tax liabilities going forward.
First, it is important to understand how the U.S. imposes tax on foreign individuals, regardless of their immigration status.
In most cases, the U.S. presumes foreign citizens to be nonresident aliens (NRAs), who are required to pay U.S. income taxes only on earnings that come from U.S. sources. Once foreign citizens apply for a green card or exceed the requisite days considered to have a substantial physical presence in the U.S., they will be considered resident aliens (RAs), who, like U.S. citizens, are required to report and pay taxes on their worldwide income. Conversely, foreign individuals’ exposure to the U.S. gift and estate taxes depends upon their domicile, or physical presence and intent to stay in the U.S. for an indefinite period.
Enhanced Estate Tax Unified Credit and Marital Deduction
The TCJA doubles the amount that U.S. taxpayers may exclude from gift and estate taxes, from US$5.49 million in 2017 to US$11.18 million in 2018 and through 2025. Therefore, Canadian domiciliaries who own U.S. situs assets (assets legally located in the U.S.), such as U.S. real property or shares in U.S. corporations, can now claim a larger pro-rated unified tax credit against U.S. estate tax. This combined with a larger marital deduction for the estates of married Canadian domiciliaries who own U.S. situs assets can result in an estate being subject to zero U.S. estate tax when the worldwide estate is no more than US$ 22.36 million. Previously, the threshold was US$ 10.98 million.
Reduced Individual Income Tax Rates for Nonresident Aliens
The TCJA reduces the top income tax rate on ordinary income from 39.6 percent in 2017 to 37 percent in 2018. These lower rates apply to nonresident aliens, such as Canadians who are neither U.S. citizens nor green card holders and who do not spend excessive days in the U.S. during a calendar year. For U.S. citizens and resident aliens, such as Canadians who are dual citizens or green card holders, the TCJA decreases the top tax rate on ordinary income (which includes the Net Investment Income Tax of 3.8 percent) from 43.4 percent to 40.8 percent. The long-term capital gains tax rate of 23.8 percent has not changed.
Personal Exemptions
The TCJA eliminates the use of personal exemptions that U.S. citizens, RAs and NRAs could previously claim for themselves, their spouses or their dependents. However, the law nearly doubles the standard deduction that taxpayers may claim to reduce their taxable income from US$6,500 for individuals (US$13,000 for married couples) to US$12,000 (US$24,000 for married couples) starting in 2018.
Home Mortgage Interest
The TCJA limits the deduction that Canadians who are U.S. tax residents and have a principal residence located in the U.S. may claim for the interest paid on their home mortgage from US$1 million in 2017 to US$ 750,000 in 2018. This limit applies only to mortgage loans entered into after December 15, 2017; interest on loans that were entered into before this date can continue to be deductible up to the US$1 million limit.
In addition, the law puts a US$10,000 limit on the amount that Canadians and U.S. taxpayers may deduct for property taxes on their U.S. homes along with other deductible taxes (such as state income taxes and state sales tax).
Moving Expenses
Under the TCJA, Canadians who move to the U.S. beginning in 2018 will no longer be able to claim a deduction for any of their moving expenses, including the costs they incur to transport their belongings.
U.S. Real Estate Investment
Canadians who earn profits from renting U.S. real estate may be able to claim a deduction as high as 20 percent of their rental profits when they are organized as pass-through entities, such as partnerships, LLCs, S corporations and sole proprietorships, and their adjusted gross income (AGI) is below US$ 157,500 (US$ 315,000 for married couples). This would essentially reduce the highest tax rate for qualifying taxpayers from 37 percent to 29.6 percent. If AGI is above these limits, taxpayers may be able to claim a deduction up to the sum of 25 percent of paid W-2 wages plus 2.5 percent of their unadjusted investment basis in qualifying property, which includes tangible property subject to depreciation, held by a qualified trade or business, and used in the production of qualified business income.
Upon selling U.S. property after a holding period of more than one year, the highest tax rate that would apply to the gain from the sale would be the maximum long-term capital gains tax rate of 20 percent plus the Net Investment Income Tax of 3.8 percent.
Two additional tax benefits for real estate investors survived the negotiations of the new law, including the tax-deferred treatment of Section 1031 exchanges of like-kind real property that meet the requisite holding period restrictions. The law also preserves the preferential 20 percent long-term tax capital gains treatment of carried interest, or management fees and other forms of compensation paid to partners, managers and developers for a share of a business or project’s future profits, but limits it to apply solely to assets held for more than three years or sold after three years.
In addition, the TCJA calls for qualifying tangible property, including used property, acquired and put into service after Sept. 27, 2017, and before Jan. 1, 2023, to receive 100 percent bonus depreciation in the year of purchase. Without the new law, bonus depreciation would have been limited to 40 percent in 2018 and 30 percent in 2019.
Ownership of U.S. Corporations
With the passage of the TCJA, Canadian individuals and businesses that own shares in U.S. corporations will enjoy more after-tax profits, which may translate to higher dividends from those corporations. This is due to the law’s reduction of the corporate tax rate from 35 percent to 21 percent. When including state taxes, the rate drops from approximately 38 percent to approximately 25 percent.
However, to the extent that such U.S. corporations generate Net Operating Losses (NOLs) in years after 2017, those loss carryforwards will only be available to offset 80 percent of future corporate taxable income. This means that U.S. corporations will always pay U.S. tax on at least 20 percent of their taxable income, despite the magnitude of their post-2017 NOL carryforwards. Pre-2018 NOLs are not subject to this limitation.
Business Interest Deductions
Under the new tax law, corporations and other businesses will generally be able to deduct business interest expense up to a limit of 30 percent of EBITDA (Earnings before Interest, Taxes, Depreciation and Amortization) for years 2018 through 2021. In 2022, the deduction will be limited to 30 percent of EBIT (Earnings before Interest and Taxes).
Controlled Foreign Corporations (CFCs)
For many years, the U.S. has had a CFC Regime somewhat similar to the Canadian Controlled Foreign Affiliate (CFA) Regime, and the U.S.’s Subpart F rules have been somewhat similar to Canada’s Foreign Accrual Property Income (FAPI) rules. However, up until 2018, the U.S. has not had anything remotely similar to Canada’s Exempt Surplus Regime. With the passage of the TCJA, U.S. corporations (but not individuals) that own CFCs will be able to claim a Participation Exemption for dividends from those CFCs up to a certain level. The Participation Exemption Regime may be equated somewhat to Canada’s Exempt Surplus Regime.
However, in order to transition to the Participation Exemption Regime, U.S. corporations and individuals (including Canadians who are also U.S. citizens or U.S. RAs) that have direct or indirect ownership in CFCs will have to pay a one-time toll charge tax on all of the earnings they have accumulated from 1987 until 2017 (Pre-1987 Earnings are not subject to the tax).
To ease the burden of this one-time toll-charge tax, the U.S. provides affected taxpayers with two benefits:
(1) pay a favorable tax rate of between 17.5 percent and 8 percent depending on (a) the type of taxpayer and (b) how much of the CFC’s earnings have been reinvested in liquid vs. non-liquid assets, and
(2) the ability to elect to spread the payment of the one-time tax over an eight-year period with no interest charges on the deferred tax liability.
The first installment of the tax payments, which is due on or before April 17, 2018, is equal to 8 percent of the toll charge. Once taxpayers make the election and pay the first installment, they may take all of the pre-2018 earnings out of the CFC in the form of dividends, even though much of the payment of the toll charge tax has been deferred to subsequent years.
Canadian individuals who are also U.S. citizens or U.S. Resident Aliens may want to consider transferring their CFCs to a U.S. corporation to take advantage of the participation exemption for a certain amount of dividends received from the CFC as well as a 50 percent deduction for profits attributed to Global Low Taxed Income. However, this strategy should not be employed without consulting with a U.S. International Tax advisor.
About the Authors: Jeffrey M. Mutnik, CPA/PFS, is a director of Taxation and Financial Services with Berkowitz Pollack Brant Advisors and Accountants, where he provides tax- and estate-planning counsel to high-net-worth families, closely held businesses and professional services firms. He can be reached at the CPA firm’s Ft. Lauderdale, Fla., office at (954) 712-7000 or via email at jmutnik@bpbcpa.com. James W. Spencer, CPA, is a director of International Tax Services with Berkowitz Pollack Brant, where he focuses on a wide range of pre-immigration, IC-DISC, transfer pricing and international tax consulting issues for individuals and businesses. He can be reached at the CPA firm’s Ft. Lauderdale, Fla., office at (954) 712-7000 or via email at jspencer@bpbcpa.com.
There is no doubt that the Tax Code is made up of a complex set of rules with often-conflicting provisions that are subject to different interpretations. Making this understanding of the law even more difficult is the tax reform legislation that went into effect beginning on Jan. 1, 2018.
Take, for example, the recent tax court case involving Lender Management, a family office with employees and outside consultants providing investment advice and financial planning services to three separate investment LLCs owned by members of the Lender’s frozen-bagel empire. Each LLC has an operating agreement that names Lender Management as its sole manager with the exclusive right to direct its business affairs. In exchange for its services, Lender Management receives a profits interest in each LLC based on a percentage of each’s investment net asset value, a percentage of any increase in net asset value, a percentage of trading profits and other factors.
The issue before the court centered on the more than $1 million in deductions the family office claimed each year from 2010 to 2012 as ordinary and necessary business expenses under Tax Code Section 162. The IRS disagreed with the taxpayer’s interpretation of the law, stating that Lender Management’s activities do not qualify as a business eligible to deduct expenses for items such as rent, depreciation, salaries and wages under Section 162. Instead, the IRS argued that absent a trade or business, the family office could deduct some of its expenses that qualify as miscellaneous income- or profit-oriented activities Section 212 of the code.
The tax court ruled in favor of Lender Management, affirming that the family office qualifies as an operational business that can use business-related expenses to reduce its gross income. In weighing the facts and circumstances of this particular case, the court explained that the family office’s activities “went far beyond those of an investor.” Not only did the family office consider the business needs of non-family investors, most of the family members did not have an ownership interest in Lender Management. In addition, the court viewed favorably the fact that the management company had a full-time staff of financial professionals performing high-level functions and earned a fee in exchange for the services the family office provided.
The significance of this ruling is more important than ever in light of the Tax Cuts and Jobs Act of 2017. Under the new tax law, deductions for trade or business expenses under Section 162 remain available to qualifying taxpayers whereas miscellaneous itemized deductions for investment expenses are no longer available to help individuals reduce their taxable income in 2018 through 2025. With this in mind, it is critical that family offices review their operations and existing structures to ensure they avoid the restrictions of the new tax law and instead receive the ongoing benefit of deducting business expenses in the future.
The accountants and advisors with Berkowitz Pollack Brant have extensive experience providing family office administrative services and managing the various details of high-net-worth families’ businesses, investments and other financial interests across the globe.
About the Author: Lewis Kevelson, CPA, is a director with Berkowitz Pollack Brant’s International Tax practice, where he assists cross-border families and their advisors with family office services, personal financial planning and wealth management strategies. He can be reached at the CPA firm’s West Palm Beach, Fla., office at (561) 361-2050 or via email at info@bpbcpa.com.
Information contained in this article is subject to change based on further interpretation of tax laws and subsequent guidance issued by the Internal Revenue Service.
Despite governmental efforts to repeal or limit taxpayer use of 1031 exchanges, a robust real estate market is continuing to drive demand for this powerful tax-planning tool. Under Section 1031 of the Internal Revenue Code, individuals may defer taxes on the sale of certain commercial real estate property when they reinvest the profits into new, similar property of equal or greater value. Essentially, money that taxpayers would have paid to cover taxes on the gain from a sale of one asset are instead reinvested in a similar asset, or assets, and treated by the IRS as a reinvestment of capital that is not subject to taxation. As a result, taxpayers may sell a long-held, low-tax-basis investment property that has appreciated in value without incurring significant federal and state income taxes, and they may change the form of the “like-kind” asset to allow their original investment dollars to continue to grow tax-free.
Yet, taking advantage of 1031 exchanges requires careful planning and understanding of a complex set of rules.
Definition of Like-Kind Property
To qualify for 1031 treatment, both the real estate sold and the real estate acquired must be “held for either productive use in a trade or business or for investment.” Because the law requires the properties for exchange to be of similar nature but not of the same quality, investors, developers or builders may swap a residential condo building for an office building or a retail complex for unimproved land. They may also exchange investment property for real estate used in their business or trade.
The Importance of Intent
To determine whether a transaction qualifies for 1031 treatment, the IRS looks at the property holder’s intent to use the real estate in a trade or business or for investment purposes by considering the following factors:
Frequency of Taxpayer’s Real Estate Transactions
The tax code allows taxpayers to engage in multiple 1031 exchanges in a year. However, the more property sales a taxpayer has, the more likely the IRS will consider he or she to be real estate “dealers” who must hold assets for sale. In most cases, this restriction will not meet the qualified-use test required for 1031 treatment.
Taxpayer’s Development Activity
A property may be disqualified from 1031 treatment when the taxpayer makes efforts to improve the asset through the addition of utility services, roads or other activities that can influence the gain on the sale of the property.
Taxpayer’s Efforts to Sell the Property
The IRS looks at the amount of time, effort and involvement a taxpayer expends to control the sale of property to determine the applicability of a 1031 exchange.
Length of Time Taxpayer Holds the Property
While there are no specific rules detailing how long a taxpayer must hold real estate for investment or business purposes to qualify for a 1031 exchange, the IRS generally accepts a period of two years. “Flippers” and other investors who purchase a property immediately prior to a 1031 sale or who sell a property soon after a 1031 transaction can be disqualified from claiming the benefit of tax deferral.
Purpose for which Taxpayer Holds the Property
The IRS considers the purpose for which the property is held at the time of sale to determine application of 1031 exchange tax benefits. The purpose for which the property was originally acquired may have no influence on the decision. Therefore, a developer may purchase raw land with the intent to build single-family homes and then, later build rental units or sell portions of the land. Similarly, a homeowner who purchases a primary residence may later decide to rent out the home for investment purposes and subsequently sell the property as part of a 1031 exchange.
The Tax Cuts and Jobs Act that overhauls the U.S. Tax Code beginning in 2018 preserves the use of 1031 exchanges to help investors extend the value of their real estate holdings. Yet, the tax code remains a complicated maze of provisions for which individuals should meet with tax professionals to assess relevant planning opportunities and take advantage of their ability to reinvest profits rather than paying capital gains tax.
About the Author: John G. Ebenger, CPA, is a director in the Real Estate Tax Services practice of Berkowitz Pollack Brant, where he works closely with developers, landholders, investment funds and other real estate professionals as well as high-net-worth entrepreneurs with complex holdings. He can be reached in the CPA firm’s Boca Raton, Fla., office at (561) 361-2000 or via email at jebenger@bpbcpa.com.
