The Tax Cuts and Jobs Act (TCJA), signed into law on December 22, 2017, was one of the largest overhauls of the Internal Revenue Code in more than 30 years. Pre-TCJA, the hospitality industry benefited from certain preferential tax laws. How does the TCJA affect those laws and how can businesses in the hospitality industry restructure their tax planning strategies accordingly?
- Corporate Tax Rate – The corporate tax rate was restructured from a progressive tax bracket, which ranged from 15 percent to 35 percent, to a flat 21 percent tax rate. This is a benefit to businesses in the hospitality industry organized as C corporations that have approximately $90,000 or more in annual taxable income. Previously, taxable income below that amount resulted in a tax rate less than 21 percent.
- Pass-Through Section 199A Deduction – A new tax deduction of 20 percent of qualified business income is allowed for eligible partnerships, S corporations and sole proprietorships. This is a benefit to businesses in the hospitality industry organized as pass-through entities. The new deduction will flow through to the partner’s, shareholder’s or sole proprietor’s tax return and be tested for eligibility at the ultimate taxpayer’s level and is subject to certain limitations.
- Elimination of Domestic Production Activities Deduction (DPAD) – DPAD was a 9 percent deduction of domestic (U.S.) manufactured goods. Within the hospitality industry, food producers will be mostly affected by this rule. Many businesses in the industry wouldn’t have been eligible for this deduction.
- Net Operating Losses (NOL) – NOLs created after December 31, 2017, will be subject to an 80 percent limit of taxable income going forward and no longer eligible for a two-year carryback to offset prior-period tax. Losses created after December 31, 2017, will carry forward indefinitely, as opposed to only 20 years under previous law. Losses created before January 1, 2018, will still be eligible to offset 100 percent of taxable income.
- Alternative Minimum Tax (AMT) – The AMT is repealed for corporate taxpayers. The AMT was typically an unfavorable separate calculation of tax that reduced tax deductions and required taxpayers to pay more tax if subject to the provision. The elimination of this will benefit businesses in the hospitality industry structured as C corps. The AMT still applies at the individual taxpayer level, so pass-through entities (partnerships, S corps and sole proprietorships) will still need to track AMT items.
- Bonus Depreciation – Certain assets placed into service after September 27, 2017, and before January 1, 2023, are eligible for 100 percent expensing in the year of acquisition via bonus depreciation. Under previous law, to qualify for bonus depreciation, assets were required to be new assets. Under new law, bonus depreciation can be taken on new or used assets. Bonus depreciation will begin phasing out for assets placed into service after December 31, 2022. The increase in bonus depreciation encourages businesses in the hospitality industry to increase their capital expenditures budget.
- §179 Expense – Certain assets placed into service after December 31, 2017, are eligible for 100 percent expensing in the year of acquisition via §179 expense. The annual §179 expense limitation is increased from $500,000 to $1 million per year. The annual spending cap on purchases is increased from $2 million to $2.5 million, with the allowable expense phasing out dollar-for-dollar for amounts above $2.5 million. The increase in §179 limits also encourages businesses in the hospitality industry to increase their capital expenditures budget.
- Depreciation of Leasehold Improvements – It’s believed the TCJA’s intention was to simplify the depreciation deduction of leasehold improvements by reducing the number of tax categories it can fall into while allowing qualifying improvements to be depreciated over 15 years and subject to bonus depreciation. However, due to a drafting error, leasehold improvements are assigned a 39-year tax life and are ineligible for bonus. Under previous law, qualified restaurant improvement property and qualified retail improvement property allowed those in the industry to depreciate leasehold improvements over 15 years and the assets, if qualified, were eligible for bonus depreciation. Under the TCJA, qualified restaurant improvement property and qualified retail improvement property were combined with other leasehold improvements as qualified improvement property. Such property is to be depreciated over 39 years and isn’t eligible for bonus depreciation. Many anticipate a correction to the drafting error, but it requires congressional action, so timing is unknown.
What Isn’t Changing?
- Work Opportunity Tax Credit (WOTC) – WOTC is a tax credit available to employers that employ persons from one or more of eight targeted groups. Previous drafts of the TCJA eliminated this credit, but the credit was ultimately kept in the final bill.
- Federal Insurance Contributions Act (FICA) Tip Credit – The FICA tip credit is a credit resulting from tip wages above the minimum wage rate. The minimum wage rate in determining the credit was $5.15 under pre-TCJA law. Some drafts of the tax reform bill proposed to increase the minimum wage rate in determining the credit to $7.25. Under the final bill, the minimum wage rate was kept at $5.15.
Tax Planning Strategies
Since corporate and personal income tax rates are being reduced, it’s important to ensure that expenses are being accelerated and revenue is being deferred in 2017, where possible. Any accelerated expenses or deferred revenue pushed into 2017 can result in permanent tax savings because income is being reduced at a higher tax rate than it would be in 2018. Consider double-checking previously filed tax returns and amending those returns to take advantage of this one-time permanent tax savings opportunity. Even if your business had net taxable losses in previous years, consider the option of amending to increase that loss in tax years before 2018 so it can offset 100 percent of future income, as opposed to 80 percent of future income under TCJA. Deferring income and accelerating expenses can be beneficial in any year, so staying on top of the new tax reform rules for tax year 2018 and forward is just as important.
Contact Nik or your trusted BKD tax advisor to discuss a tax planning strategy to help your business succeed under new tax laws.
Hospitality - Resturants