Business Decision Tax Planning Guide the tax implications of your business decisions Businesses change. They change over time and they change every day. And at every point in the process, key decisions are made that guide those changes and determine success. Your last decision may have been about people. Your next one may be about money. The one after that may be about technology. All of these decisions have tax implications. This guide will help you better understand the tax implications of your business decisions. It’s based on the experience of RSM McGladrey tax advisors who are used to working with businesses like yours, and know the kinds of decisions you have to make every day. It will help you determine if your tax strategies are keeping up with the changes in your business. It offers suggestions that come into play at several common business decision points. Any one of these suggestions could save you thousands, even hundreds of thousands of dollars. Taken together, they can help you know if you’re getting the kind of tax planning advice that lets you integrate your tax strategies with your business plan. RSM McGladrey tax advisors take an integrated approach, focusing on your total business picture not just your next return. We know your industry and invest time in getting to know your business as well. That helps us anticipate the kinds of business decisions you make so we can help you plan for tax consequences in advance and foresee opportunities that others might miss. Introducing a new product When you introduce a new product or service you are faced with several key questions. How will you structure funding? How will you handle accounting for R&D expenses? Will you need a new facility to handle production? If you’re adding staff, what is the most tax-advantageous way to structure compensation packages? Every decision you make has tax implications for your business. An entrepreneurial company was developing parachute simulator software. The software simulated parachute jumps from aircraft under a variety of conditions and terrain, and the company had determined it could be useful in a wide range of applications. But the company’s managers were using an accounting method that didn’t allow them to take full advantage of R&D tax credits. RSM McGladrey tax advisors showed them how to maximize their R&D credits and increase their cash flow by more than $150,000 over three years. The money was put back into the company to help market the new product. When you engage in R&D activities to develop a new product it’s important to establish a systematic approach for tracking expenses. You can get both federal and state tax credits for certain R&D expenses. Capturing these credits — obtaining refunds of prior taxes paid and reducing current taxes — can be compared to getting a subsidy to support innovation and job creation. As you develop new products you are faced with decisions about how to account for inventory. If the cost of materials used in the manufacturing of new products fluctuates, the use of an accounting method such as FIFO (first in, first out) or LIFO (last in, first out) may save you tax dollars. If you build, or redesign a new facility to handle production of a new product, a cost-segregation study can reveal ways to reduce current taxes and increase cash flow. If handled the right way, some of your capital expenditures can be depreciated over a fiveor seven-year time span, instead of the usual 39-year period. A new product may need a new sales force and field support. Hiring sales employees or independent sales representatives, as well as handling warranty issues, installations or support in other states, may expose you to unexpected tax consequences. You need to have the right information so you can make the right strategic decisions. When you need funding to support a new product development effort consider the tax implications of the source of funding. Should you borrow money or issue stock to raise capital? Want more information about the tax implications of decisions related to new product activities? Call 800.274.3978. Succession planning If you plan to transfer ownership of your business, now or in the future, the tax implications can be very important. Will you sell your own shares or use stock options or stock awards or some other method to transfer ownership? What kind of business entity or ownership structure will best facilitate succession? How will you protect your own interests before, during and after the succession takes place? Are there ways to minimize income and/or estate taxes? Decisions about succession and estate planning can be complicated and need to be considered well in advance. The owner of a farming business died unexpectedly as the business was in the process of selling a major asset. The owner’s heirs, who inherited the business, were faced with an estate tax liability. RSM McGladrey advisors did an analysis of the tax situation and determined that the estate tax attributable to the part of the business being sold could be treated as an income deduction against the capital gain from the sale of the asset. The heirs realized $65,000 in income tax savings. S-corporations offer important tax advantages to their owners. But they can be fragile entities when it comes to succession planning. There are limits to the number of owners, the classes of stock and the kinds of owners who qualify. Inadvertent violations of any of these requirements resulting from the transfer or sale of shares to individuals or trusts can cause the business to lose its S-corporation status, with serious tax consequences. Some business assets can be passed on to future owners through a variety of trusts. But the kinds of trusts established can affect tax liabilities, both to the new owners and to the estate of the original owner. In some cases, transferring assets to a trust requires a special election to preserve the integrity of the business structure. Holding some assets in a separate entity can result in both income and estate tax savings. For instance, holding real estate in a separate limited liability entity and leasing it back to the operating business entity may allow increased tax deductions against the income generated by business operations and a means for transferring wealth to another generation. If one shareholder of a closely-held business dies, how will the corporation and/or the surviving shareholders handle the transfer of ownership? A well-designed buy-sell agreement should include provisions for succession planning so taxes are minimized and the business entity is protected. Buy-sell agreements may also need to be funded — for example, with life insurance. In some cases, buy-sell agreements should be reviewed on an annual basis. Want more information about the tax implications of decisions related to succession planning? Call 800.274.3978. Start-ups, acquisitions and divestitures Starting a new business, acquiring a business or selling one are important decisions and the tax implications can play a major role. The most important decision you may have to make is the kind of structure under which you choose to operate. Should you incorporate? If so, what kind of corporate structure makes the most sense from a tax perspective? Should you borrow money for an acquisition or sell equity to raise funds? Will you need to change or adjust compensation plans? How you decide to handle these tax issues can impact your success. A newly formed restaurant holding company purchased an existing restaurant chain. RSM McGladrey was engaged after the parties had initially agreed to a stock purchase. RSM McGladrey advisors assisted the purchaser in structuring the sale for tax purposes as an asset purchase. This allowed the purchaser to recover a significant portion of the purchase price through depreciation and amortization resulting in a tax benefit in excess of $3,000,000. When you acquire a business is it better to buy the assets or the stock? If you acquire assets, the cost of the assets (including goodwill) can be depreciated or amortized over the life of the assets. If you buy the stock, the cost is added to the books and is generally only recovered when you sell stock in the future. In addition, if you acquire a business by purchasing its stock, you may assume its existing and contingent tax liabilities. If you plan to sell all or part of a business, its entity structure can have important tax consequences. Profits for a C-corporation are taxed as corporate income and as personal income when distributed to shareholders. If the entity is an S-corporation, only the individual shareholders are taxed, but there are limits to the number and qualifications of shareholders. If those limits are obstacles to your goals, a limited liability company (also know as an LLC) might be the answer. These offer flexibility in the number and the nature of the owners, but can offer a single level of tax, like the S-corporation. If you acquire a business and plan to merge it with your current operations, you may have to change your compensation structure. If you sponsor a qualified retirement plan, how are you going to bring the employees of the acquired company into that plan? Will you treat them as new hires subject to your plan’s waiting period and vesting schedules? Or will you recognize their employment history with the acquired company, so they are immediately eligible to participate and their past service counts for vesting? Do you even have to make them eligible for your plan or could you wait a while before adding them? These choices — all of which reflect bona fide options — emphasize how strategic issues have tax consequences. Don’t put the tax planning ahead of good business judgement, but don’t leave it out of consideration either. Where you incorporate a business can make a difference in the company’s ongoing state tax liability. The impact of state and local taxes for a start-up, acquisition or divestiture can be significant, and each jurisdiction has its own set of rules. Both the buyer and seller of a business need to consider the tax consequences of where they choose to incorporate. Want more information about the tax implications of decisions related to start-ups, acquisitions or divestitures? Call 800.274.3978. Daily Operations The operations of your business are often anything but routine. Your day-to-day decisions may be driven by short-term circumstances, but they can have long-term consequences. Do you consider the tax implications of your decisions? Are there situations where tax considerations might change your decision? Are you confident that you know when to contact your tax advisor? Tax consequences should not drive all business decisions, but it is healthy to know how to keep them in the mix. A U.S. manufacturer of automatic door closers was selling some of its product overseas. The managers were uncertain about how to get the full benefit of tax provisions allowed under the tax code for these international activities (which has changed with the passage of the American Jobs Creation Act). RSM McGladrey advisors reviewed their records and found the company could claim significant tax deductions and reduce the income taxes related to these sales outside the U.S. By filing amended returns back to the year 2000, the company saved over $60,000. When you choose to put new equipment in service can have important tax consequences. The rules are complex, but generally an increased depreciation is available on certain kinds of equipment placed in service before the fourth quarter of the tax year. Compensation payments to employees who are shareholders must be reasonably based upon the value of the shareholder’s contribution to the company — what the shareholder would be paid by an independent third party for the same activities. Taxing authorities may examine these payments closely to determine if they should be deductible as a compensation expense or nondeductible as a shareholder dividend payment. Profit sharing plan contributions can reduce taxes. If you have accrued contributions to a plan before the end of the year you can take the tax deduction in that year, even if you don’t make the contribution until the following year. Many service business firms pay bonuses to retain and motivate employees. Generally if these bonuses are accrued in a tax year a deduction can be taken for them even though the bonuses are not paid out until the following year. But this is a quirky rule with some unexpected requirements — a good example of when you need to check with your tax advisor. Companies that operate in multiple state jurisdictions may be able to reduce their state taxes by shifting income to a state with lower tax rates. California, for instance, has an 8.84% corporate tax rate, while Nevada has none. If a firm has a physical presence in Nevada it may be able to allocate more of its income to that state and reduce California taxes. Want more information about the tax implications of decisions related to daily operations? Call 800.274.3978. RSM McGladrey tax advisors understand your business fundamentals. We can work with you throughout the life of your business to provide an objective perspective on the tax implications of your business decisions. You’ll find that our broad and deep understanding of your industry, and our focus on midsized companies like yours help us provide innovative solutions that increase your chances for success. For more information, go to www.rsmmcgladrey.com or call us at 800.274.3978.
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