It can be a hard choice to make, but successful companies often have to make strategic decisions to “fix it or exit.” In other words, every element of a business must earn its keep, be fixed or let go. Companies must have a growth and profitability mentality that prompts them to maintain their winning profit centers and dump the marginal earners and losers.
Many businesses tend to avoid taking the time to identify their key profit centers and eliminate marginal products or services. During good economic times when sales are booming, problems tend to go unnoticed. But when business turns sour, earnings start to lag, or the economy takes a turn for the worst, weeding out the under-performers can be the key to a company’s success and even survival. The solution doesn’t necessarily mean selling off operations. Sometimes simple adjustments can do the trick. Here’s how the owner of a large chain of Italian restaurants developed and put the profit mentality to work. The restaurant’s menu was extensive, the food was delicious and the service excellent. But an analysis of the business showed that the menu prices weren’t always profitable. Some dishes were priced at or below the cost of their ingredients, while others were so complicated that their profits were wiped out by the cost of the time-consuming labor it took to execute them. The fixes were fairly simple:
- Raise prices on unprofitable dishes.
- Add mid-range selections that could be priced reasonably and still produce a good profit margin.
In the end, the menu offered a variety of choices and prices that ensured the business received a fair return no matter what the patrons ordered. But the turnaround required taking an objective look at the business, and making some changes after isolating the sources of profits and losses. In order to ensure that your company’s bottom line is enhanced by profitable sales, and not hurt by marginal or non-profitable sales, you must know your organization’s focus. This is where the Pareto Principle can help.
Also known as the 80/20 Rule, the Pareto Principle succinctly states that for many events, 80 per cent of the effects come from 20 per cent of the causes. So, for example, 80 per cent of your company’s profitable sales come from 20 per cent of your business’s customers, products or services. Once you understand the principle, you can start to determine the areas of your business that:
- Are running perfectly well.
- Need to be nurtured and fixed.
- Need to exit if profitable adjustments can’t be made.
As a first step toward identifying profit opportunities, set up a sales and customer profit matrix. Using the 80/20 Rule, sort your products, services and customers into a four quadrant matrix after asking:
- Which 20 percent of your business’s products and services contribute the most and the least margin?
- Which 20 per cent of your customers are responsible for the most high-margin and low-margin sales?
|1. High Margin Sales High Volume Customers||3. Low Margin Sales High Volume Customers|
|2. High Margin Sales Low Volume Customers||4. Low Margin Sales Low Volume Customers|
The goal is to then develop a strategy that:
- Maximizes the activity in quadrant one.
- Identifies how low volume customers in quadrant two can move up to high volume customers.
- Determines how low-margin sales in quadrant three can produce higher margins.
- Creates higher margin sales and higher volume customers from the information in quadrant four.
To a certain degree, this is the easy part. The hard part comes if you are unable to lay out a strategy to move sales and customers up to quadrants two or three from quadrant four. At that point, you must decide whether to continue selling low margin products and services to low volume customers — who may have been with your company for years. But bear in mind that in the end, fewer sales could mean greater profitability.
| Hone Your Company’s Profit Mentality Part of the success of your business depends on whether it has profit-driven management and employees who know the road to greater financial performance. To assess the profit mentality at your company, answer the following:|
If you and your management team answer “No” to any of these questions, the chances are your company’s profit mentality is not fully developed. Take steps to change all answers to “Yes.”
© Copyright 2016.
For years, people have questioned the long-term viability of the Social Security system. In June, the Social Security Board of Trustees released its annual report on the long-term financial status of the Social Security Trust Funds. It projects that the combined asset reserves of the Old-Age and Survivors Insurance and Disability Insurance (OASDI) Trust Funds will become depleted in 2034. Additionally, the Disability Insurance Trust Fund will become depleted in 2023.
More generally, people approaching retirement age often have other questions about benefits they may be eligible to receive from the Social Security Administration (SSA). Here are the answers to several common inquiries.
How Soon Can I Start Collecting Retirement Benefits?
If you want to receive full retirement benefits from the SSA, you must wait until you reach the so-called full retirement age (FRA). But you may apply for benefits as early as age 62. Starting early will reduce your monthly benefits by as much as 30%, but, of course, you’ll receive benefits for more years. Your tax adviser can help figure out the exact monthly benefit reduction and help you determine if you likely will be better off waiting until your FRA to start taking benefits.
What Is My FRA?
Your FRA depends on the year in which you were born.
|Year of Birth||Full Retirement Age|
|1937 or earlier||65|
|1938||65 and 2 months|
|1939||65 and 4 months|
|1940||65 and 6 months|
|1941||65 and 8 months|
|1942||65 and 10 months|
|1955||66 and 2 months|
|1956||66 and 4 months|
|1957||66 and 6 months|
|1958||66 and 8 months|
|1959||66 and 10 months|
|1960 and later||67|
If you were born on January 1 of any year, refer to the previous year. If you were born on the first of the month, the SSA figures your benefit (and your FRA) as if your birthday were in the previous month.
How and When Do I Apply for Social Security Retirement Benefits?
Apply for retirement benefits three months before you want your payments to start. The SSA may request certain documents in order to pay benefits, including:
- Your original birth certificate or other proof of birth,
- A marriage certificate or divorce decree when applying for spousal benefits,
- Proof of U.S. citizenship or lawful alien status if you were not born in the United States,
- A copy of your U.S. military service paper(s) if you performed military service before 1968, and
- A copy of your W-2 Form(s) and/or self-employment tax return for the prior year.
For most retirees, the easiest way to apply for benefits is by using the online application.
What Happens if I Receive Social Security Retirement Benefits While Still Working?
If you’re under FRA and earn more than the annual limit (subject to inflation indexing), your benefits will be reduced, as follows:
- If you’re under FRA for the entire year, you forfeit $1 in benefits for every $2 earned above the annual limit. For 2016, the limit is $15,720.
- In the year in which you reach FRA, you forfeit $1 in benefits for every $3 earned above a separate limit, but only for earnings before the month you reach FRA. The limit in 2016 is $41,880.
Beginning with the month in which you reach FRA, you can receive your benefits without regard to your earnings.
Can I Collect More Benefits if I Retire After My FRA?
You can receive increased monthly benefits by applying for Social Security after reaching FRA. The benefits may increase by as much as 32% if you wait until age 70, but of course you’ll receive benefits for fewer years. After age 70, there is no further increase. Your tax adviser can help calculate the payout for waiting to collect your retirement benefits and help you determine if you likely will be better off waiting beyond your FRA to start taking benefits.
Can I Manage Retirement Benefits for an Incapacitated Person?
If a Social Security recipient needs help managing his or her retirement benefits — perhaps an elderly parent — contact your local Social Security office. You must apply to become that person’s representative payee in order to assume responsibility for using the funds for the recipient’s benefit.
Do I Qualify for Social Security Survivors Benefits?
A spouse and children of a deceased person may be eligible for benefits based on the deceased’s earnings record as follows:
A widow or widower can receive benefits:
- At age 60 or older,
- At age 50 or older if disabled, or
- At any age if she or he takes care of a child of the deceased who is younger than age 16 or disabled.
A surviving ex-spouse might also be eligible for benefits under certain circumstances. In addition, unmarried children can receive benefits if they’re:
- Younger than age 18 (or up to age 19 if they are attending elementary or secondary school full-time), or
- Any age and were disabled before age 22 and remain disabled.
Under certain circumstances, benefits also can be paid to stepchildren, grandchildren, stepgrandchildren or adopted children. In addition, dependent parents age 62 or older who received at least one-half support from the deceased may be eligible to receive benefits.
A one-time payment of $255 may be made only to a spouse or child if he or she meets certain requirements. Survivors must apply for this payment within two years of the date of death.
Are Social Security Benefits Subject to Income Tax?
You’ll be taxed on Social Security benefits if your provisional income (PI) exceeds the thresholds within a two-tier system.
PI between $32,000 and $44,000 ($25,000 and $34,000 for single filers). Recipients in this range are taxed on the lesser of 1) one-half of their benefits or 2) 50% of the amount by which PI exceeds $32,000 ($25,000 for single filers).
PI above $44,000 ($34,000 for single filers). Recipients above this threshold are taxed on 85% of the amount by which PI exceeds $44,000 ($34,000 for single filers) plus the lesser of 1) the amount determined under the first tier or 2) $6,000 ($4,500 for single filers).
PI equals the sum of 1) your adjusted gross income, 2) your tax-exempt interest income, and 3) one-half of the Social Security benefits received.
If you have additional questions about receiving Social Security retirement benefits, contact a WFY tax advisor here. He or she can help you navigate the application process and understand tax issues related to receiving retirement benefits.
|Highlights of New Trustees Report|
In its annual report to Congress, the Social Security Board of Trustees announced that the asset reserves of the combined Old-Age and Survivors Insurance and Disability Insurance (OASDI) Trust Funds increased by $23 billion in 2015. The combined trust fund reserves are still growing and will continue to do so through 2019.
Here are some other highlights from the report:
· Total income, including interest, to the combined OASDI Trust Funds amounted to $920 billion in 2015.
· Total expenditures from the combined OASDI Trust Funds amounted to $897 billion in 2015.
· The SSA paid benefits of $886 billion in calendar year 2015. There were about 60 million beneficiaries at the end of the calendar year.
· During 2015, an estimated 169 million people had earnings covered by Social Security and paid payroll taxes.
· The combined Trust Fund asset reserves earned interest at an effective annual rate of 3.4% in 2015.
Even though the income exceeded expenses from the OASDI Trust Funds and asset reserves increased in 2015, the reserves are projected to be gradually depleted over the next 18 years. Unless Congress takes action to reverse the situation, the OASDI Trust Funds are expected to be insolvent by 2034.
This underscores the importance of saving for retirement while you’re working. Social Security benefits should be viewed only as a supplement to your other assets.
© Copyright 2016.
Data protection has become an increasing challenge at many organizations. Events such as the loss or theft of customer records, the accidental forwarding of sensitive e-mails, and violations of corporate policies have pushed information-loss prevention to the top of the agenda.
Critical issues facing most businesses include:
- Ensuring regulatory compliance.
- Enforcing appropriate data use and access policies.
- Protecting intellectual property.
The consequences can be enormous, and include:
- Disclosure of trade secrets.
- Loss of customers and their trust.
- Charges of fraud.
Regulatory compliance alone is a particularly critical issue. There are complex laws governing the collection, storage and use of customer data and personal information that could potentially be used to identify, contact, locate or impersonate a customer, employee, patient or other individual who interacts electronically with your organization.
Depending on the type of data your company collects and retains, you may need to hire dedicated information security specialists who are certifiably qualified to protect electronic data. There are a number of qualifications that can provide your data security staff with invaluable information on how to best protect information, including designations as a Certified Information Systems Auditor (CISA) and classification as a Certified Information Systems Security Professional (CISSP).
But even with these certifications, some protection issues may require specialists. For example, if your organization operates abroad, it would more than likely need to engage a qualified firm that knows the protection and privacy laws of the countries in which your organization operate.
With so much at stake, robust data privacy and protection policies are crucial. Evaluate the safeguards your company has in place to protect both its own proprietary information as well as data about the public it deals with. To help in this assessment, here is a checklist of substantial issues to address:
|Privacy and Protection Policies|
|Does your company have data privacy and protection policies in place?|
|Are the policies owned and updated by suitably knowledgeable data protection specialists within your organization?|
|Does your code of conduct include a section dedicated to the privacy and protection of data?|
|Is there a significant incident response planin place if large volumes of data are lost or stolen?|
|Does the plan include how and when to engage a professional services firm to help respond to a data breach?|
|Should your business choose a qualified firm prepared to assist with potential breaches instead of being forced to find a firm after a breach?|
|Employee Communication and Awareness|
|Does your business have an information security awareness program that trains employees in ways to be more secure in handling electronic assets?|
|If yes, how is the program delivered?|
|Do employees receive refresher training courses?|
|Does the organization track employees to ensure they complete the required training?|
|Does your enterprise limit access to data based on job requirements?|
|Does your organization have the ability to track and monitor employee use of data?|
|Does the monitoring system identify and alert your organization to unusual activity involving employee use of data?|
|Does your company conduct background checks — including criminal and credit — for new employees?|
|Are the results of those investigations shared on a “need to know” basis?|
|Are background checks applied consistently, regardless of the level of position for which the candidate is applying?|
|Customer Web Site Access|
|Does your organization validate that individuals attempting to conduct business through your Web site are legitimate?|
|Does your password system create and reset robust customer log-on credentials?|
|If your organization provides customer data to vendors, is the information exchange covered by strong levels of security?|
|Does your enterprise have a response plan for recovering lost or misplaced data?|
|Do your vendors have robust data protection plans to protect your company’s data?|
|Should your enterprise encrypt data and install remote data destruction (RDD) technology on laptops and other mobile devices to be able to remotely wipe data if a device is lost or stolen?|
|Does your organization have a system in place to ensure the name of each laptop user is listed and that the list is frequently updated to reflect equipment renewals and staff changes?|
|Do your termination procedures include a checklist for noting the return of company-owned laptops and other mobile devices?|
Data privacy and protection requires a well thought out and highly structured program. By considering the information on this checklist, your organization can take crucial steps toward securing data. Without a data privacy and protection system in place, your organization runs the risk of losing data that, once lost or stolen, can be exceptionally difficult to recover or replace.
Contact a WFY advisor here to learn more about data security.
© Copyright 2016.
Many small businesses prepare — and regularly update — a strategic plan, but many overlook this important task.
Whether your business falls into the “have” or a “have-not” category,
The Anatomy of a Strategic Plan
First, let’s review some basics about strategic planning. Fundamentally, it is an activity that helps:
- Set priorities;
- Focus energy and resources;
- Strengthen operations;
- Ensure that employees and management work toward common goals;
- Establish agreement around intended outcomes; and
- Adjust direction as the business environment changes.
The best way to start is to skip to the ultimate goal: What do you want your business to accomplish? This amounts to your company’s mission statement. Once that is clear, flip the process around to the beginning and ask: What steps will help my company achieve its goal(s)?
You don’t need a large number of goals in a strategic plan. You could have ten or more, but you also may have only four or five. For a strategic plan to have the most impact, the goals should be clear and concise. Setting goals outlines the course your business will take. If the goals miss the mark, other efforts will probably be useless.
Once you set the goals and management is on board, you must set objectives for reaching each goal. Objectives are rather broad in nature and should be concise. They guide employees toward making decisions that are in line with helping your business achieve its goals.
Under each objective list a series of action steps. These are more specific than the objectives they support and should note who is responsible for the action and when it should be completed.
The final step is to regularly evaluate the status of each action step, noting:
- When it is completed;
- Whether it resulted in reaching the objective; and
- If the cumulative completion of objectives resulted in reaching the goal.
There are many variations to this scheme, but this is a common format in strategic planning. Keep in mind that goals are likely to change over time to account for the economy, the industry and other factors involved with the business.
A Road Map for Succession
Developing a succession plan should be a part of your strategic plan. Successful succession is one of the most important goals for any business. Other goals might deal with profitability, expansion or operational issues, but none is more important than succession. Think about it — is any other goal genuinely valid without a road map for succession?
A succession plan or exit strategy typically begins by establishing a team to focus on it. While the team will deal with the broad issues of the strategic plan, it will not be involved with how that plan is accomplished. Instead it focuses on the steps needed to position you and your partners for the ultimate succession. This may include assessing health issues — especially related to senior managers.
In effect, the business will get its marching orders from the succession planning or exit strategy team. That is where the business and its managers take the ball and kick it across the goal line. All existing goals should be reviewed to ensure they support the overarching succession or exit goal.
It is often helpful to have a facilitator. Your CPA is likely to be on the succession planning team and is often a good choice to play this role.
© Copyright 2016.
Few people enjoy giving money to the IRS, but some types of taxes are viewed more unfavorably than others. Here are three worthy candidates vying for the title of most-hated tax.
Penalty Tax on Individuals without Health Insurance
As you probably know, the Affordable Care Act (ACA) imposes a penalty on individuals who fail to have so-called minimum essential health insurance coverage for any month of the year. This requirement is commonly called the “individual mandate,” and individuals must pay a penalty for noncompliance with the mandate.
You may be exempt from paying the penalty, however, if you fit into one of these categories for 2016:
- Your household income is below the federal income tax return filing threshold, which is generally $10,350 for singles, $20,700 for married joint-filing couples and $13,350 for heads of households.
- You lack access to affordable minimum essential coverage.
- You suffered a hardship in obtaining coverage.
- You have only a short-term coverage gap.
- You qualify for an exception on religious grounds or have coverage through a health care sharing ministry.
- You’re not a U.S. citizen or national.
- You’re incarcerated.
- You’re a member of a Native American tribe.
How much can the penalty cost? That’s a tricky question. If you owe the penalty, the tentative amount equals the greater of the following two prongs:
- The applicable percentage of your household income above the applicable federal income tax return filing threshold, or
- The applicable dollar amount times the number of uninsured individuals in your household, limited to 300% of the applicable dollar amount.
In terms of the percentage-of-income prong of the penalty, the applicable percentage of income is 2.5% for 2016 and beyond.
In terms of the dollar-amount prong of the penalty, the applicable dollar amount for each uninsured household member is $695 for 2016. This amount will be adjusted for inflation for 2017 and beyond. For a household member who’s under age 18, the applicable dollar amounts are cut by 50%.
The final penalty amount can’t exceed the national average cost of “bronze coverage” (the cheapest category of ACA-compliant coverage) for your household. For 2015, the national average cost for bronze coverage was $207 per person, per month or $1,035 per month for a family of five or more. Numbers currently aren’t available for 2016, but they’ll probably be somewhat higher. Meanwhile, the important thing to know is that a high-income person or household could owe more than 300% of the applicable dollar amount but not more than the cost of bronze coverage.
Important note: If you have minimum essential coverage for only part of the year, the final penalty is calculated on a monthly basis using pro-rated annual figures.
|Example: You’re unmarried and live alone. During all of 2016, you have no health coverage. Your income for the year is $100,000. Your tax return filing threshold for the year is $10,350. Assume the monthly national average premium for bronze coverage for one person is $215 for 2016, which amounts to $2,580 for the entire year (12 × $215).|
In this example, the percentage-of-income prong for 2016 is $2,241. That’s 2.5% of the difference between $100,000 and $10,350.
The dollar-amount prong is $695.
The tentative penalty amount is $2,241 (the greater of $2,241 or $695).
In this example, the annual national average cost of bronze coverage is assumed to be $2,580 for one person who’s uncovered for all of 2016. Therefore, the final penalty amount for failing to comply with the individual mandate is $2,241 (the lesser of $2,241 or $2,580).
Penalty Tax on Employers that Pay Employee Health Insurance Premiums
The ACA also established a number of so-called “market reform restrictions” on employer-provided group health plans. These restrictions generally apply to all employer-provided group health plans, including those furnished by small employers with fewer than 50 workers.
The penalty for running afoul of the market reform restrictions is $100 per employee, per day. This penalty can amount to $36,500 per employee over the course of a full year. Even worse, the penalty can be assessed on employers who offer an employer payment arrangement in which the company’s health plan simply reimburses employees for premiums paid for individual health insurance policies or pays premiums directly on behalf of employees.
This penalty doesn’t apply to employer payment arrangements that have only one participating employee. Therefore, a business can still use such an arrangement to reimburse or pay for individual health policy premiums for one employee (such as the owner’s spouse) without triggering this expensive penalty.
Many S corporations have set up employer payment arrangements to cover individual health policy premiums for employees who also own more than 2% of the company stock. Under long-standing IRS rules, amounts paid under such plans are treated as additional wages that are subject to federal income tax but exempt from Social Security and Medicare taxes. Qualifying shareholder-employees can deduct the premiums on their individual federal income tax returns under the provision for self-employed health premiums. These plans are also exempt from the $100 per-employee-per-day penalty. But S corporation employer payment arrangements that benefit other employees are still exposed to the penalty.
Medicare Surtax on Net Investment Income
The 3.8% Medicare surtax on net investment income was also enacted as part of the ACA. Taxpayers who are hit with the net investment income tax (NIIT) can have a marginal federal tax rate as high as 43.4% (39.6% top federal income tax rate plus 3.8% NIIT). The NIIT can potentially affect anyone with consistently high income or anyone with a major one-time shot of income or gain, say, from selling some highly appreciated company stock or a highly appreciated personal residence. For purposes of the NIIT, net investment income includes the following after subtracting related expenses:
- Capital gains, including the taxable portion of gain from selling a personal residence and capital gains distributions from mutual funds,
- Interest, excluding tax-free interest (such as municipal bond interest),
- Most royalties,
- The taxable portion of annuity payments,
- Income and gains from passive business activities (in other words, activities in which you don’t spend a significant amount of time),
- Rental income,
- Gain from selling a passive ownership interest in a partnership, limited liability company, or S corporation, and
- Income and gains from the business of trading in financial instruments or commodities.
You’re exposed to the NIIT only if your modified adjusted gross income (MAGI) exceeds the applicable threshold of:
- $200,000 if you are unmarried,
- $250,000 if you are a married joint-filer, or
- $125,000 if you use married filing separate status.
The amount hit by the NIIT is the lesser of: 1) your net investment income, or 2) the amount by which MAGI exceeds the applicable threshold. MAGI is defined as regular adjusted gross income plus certain excluded foreign-source income net of certain deductions and exclusions. (Most individuals are unaffected by this addback, however.)
Focus on the Positive
There’s some good news about these three most-hated taxes: With thoughtful advance planning, they can often be avoided or significantly reduced. For more information about these taxes, consult a WFY tax advisor here.
© Copyright 2016.
Are you feeling charitable? High-net–worth individuals over age 70 1/2 can replace taxable required minimum distributions from their IRAs with qualified charitable distributions. In other words, instead of paying taxes on distributions, you can donate money to your favorite IRS-approved charity and avoid those taxes. Here’s more on how this strategy works and guidelines for whom it might benefit.
You can make cash donations to IRS-approved charities out of your IRA using so-called “qualified charitable distributions” (QCDs). This strategy may be advantageous for high-net-worth individuals who have reached age 70 1/2. It expired at the end of 2014, but QCDs were made permanent for 2015 and beyond under the Protecting Americans from Tax Hikes (PATH) Act of 2015.
To take maximum advantage of this strategy for 2016, you’ll need to replace some or all of this year’s IRA required minimum distributions (RMDs) with tax-advantaged QCDs. Here are more details.
QCDs can be taken out of traditional IRAs, and they’re exempt from federal income taxes. In contrast, other traditional IRA distributions are taxable (either wholly or partially depending on whether you’ve made any nondeductible contributions over the years).
Unlike regular charitable donations, QCDs can’t be claimed as itemized deductions. That’s OK, because the tax-free treatment of QCDs equates to a 100% deduction — because you’ll never be taxed on those amounts. Additionally, you don’t have to worry about any of the restrictions that apply to itemized charitable write-offs under the federal tax code.
A QCD must meet the following requirements:
- It must be distributed from an IRA.
- The distribution can’t occur before the IRA owner or beneficiary reaches age 70 1/2.
- It must meet the IRS requirements for a 100% deductible charitable donation. If you receive any benefits that would be subtracted from a donation under the regular charitable deduction rules — such as free tickets to an event — the distribution can’t be a QCD. This is an important pitfall to watch out for.
- It must be a distribution that would otherwise be taxable. A distribution from a Roth IRA can meet this requirement if it’s not a qualified (meaning tax-free) distribution. However, making QCDs out of Roth IRAs is generally not advisable for reasons explained later.
Important note: You can also use the QCD strategy on an IRA inherited from the deceased original account owner if you’ve reached age 70 1/2.
There’s a $100,000 limit on total QCDs for any one year. But if you and your spouse both have IRAs set up in your respective names, each of you is entitled to a separate $100,000 annual QCD limit, for a combined total of $200,000.
QCDs offer several potential tax-saving advantages:
- They’re not included in your adjusted gross income (AGI). This lowers the odds that you’ll be affected by various unfavorable AGI-based rules. For example, a higher AGI can cause more of your Social Security benefits to be taxed, less of your rental estate losses to be deductible and more of your investment income to be hit with the 3.8% net investment income tax. QCDs are also exempt from the rule that says your itemized charitable write-offs can’t exceed 50% of your AGI. (Any itemized charitable deductions that are donations disallowed by the 50%-of-AGI limitation can be carried forward for up to five years.)
- They qualify as RMDs if they’re taken from traditional IRAs. So, you can arrange to donate all or part of your 2016 RMDs (up to the $100,000 limit) that you would otherwise be forced to receive before year end and pay taxes on.
- They reduce your taxable estate, though this is less of an issue for most folks now that the federal estate tax exemption has been permanently increased. (The inflation-adjusted exemption for 2016 is $5.45 million.)
In addition, suppose you’ve made nondeductible contributions to one or more of your traditional IRAs over the years. If so, your IRA balances consist of a taxable layer (from deductible contributions and account earnings) and a nontaxable layer (from those nondeductible contributions). QCDs are treated as coming first from the taxable layer. Any nontaxable amounts remain in your accounts. In subsequent tax years, those nontaxable amounts can be withdrawn tax-free by you or your heirs.
QCDs from Roth IRAs
Should you make QCDs from Roth IRAs? Generally, the answer is no. That’s because you (and your heirs) can withdraw funds from a Roth IRA without owing federal income taxes. The catch is that at least one of your Roth accounts must have been open for five years or more.
Also, for original account owners (as opposed to account beneficiaries), Roth IRAs aren’t subject to the RMD rules until after you die. The bottom line: It’s generally best to leave your Roth balances untouched rather than taking money out for QCDs, because the tax rules for Roth IRAs are so favorable.
The QCD strategy can be a smart tax move for high-net-worth individuals over 70 1/2 years old. If you’re interested in this opportunity, don’t wait until year end to act. Summer is time for mid-year tax planning, including arranging with your IRA trustee or custodian for QCDs to replace your 2016 RMDs.
For family business owners, estate planning can be a challenge. Often, most if not all of their wealth is tied up in their companies, which creates a conflict between the desire to transfer ownership to the next generation and the desire to stay in control. One potential solution is to recapitalize the business into voting and nonvoting shares. It allows you to separate ownership succession from management succession.
Reaping the Benefits
From an estate planning perspective, the sooner you transfer ownership of your business to the next generation, the better. That way, future appreciation and income are removed from your estate and avoid gift and estate taxes.
Transferring ownership may be particularly tax-efficient this year, because the gift tax exemption is at an all-time high ($5.45 million).
Recapitalization can allow you to reap the tax benefits of gifting without ceding control of your business to your children.
For example, you might retain 10% of the company in the form of a voting interest and allocate the remaining 90% among your children in the form of nonvoting shares. You continue to manage the business while removing a large portion of its value from your taxable estate.
Plus, nonvoting shares typically are entitled to valuation discounts for lack of control and marketability. So for gift tax purposes, their value would likely be substantially less than 90% of the company’s value.
When the time is right, you can begin the management succession process by transferring your voting shares to your children. But what if you have some children who are involved in the business and some who aren’t?
Usually, the best option is to transfer your voting stock to children who are active in the business. But this can create tension between them and the nonparticipating children. The latter will likely be looking for cash distributions while the former may want to reinvest earnings to grow the company.
To avoid this sort of conflict, carefully design a buy-sell agreement that provides for a buyout — at a fair price — of the children who aren’t involved in the business. To avoid placing a financial strain on the business, the agreement should call for the purchase price to be paid in installments over a reasonable period of time.
Not Just for Corporations
Recapitalization is an option for most types of businesses, including corporations, partnerships and limited liability companies. Even S corporations can have voting and nonvoting stock without running afoul of the rule that prohibits S corporations from having more than one class of stock.
If you’re considering recapitalizing your business into voting and nonvoting shares, be sure to consult your legal and tax advisors. Generally, a properly structured recapitalization is not a taxable event for the company or its shareholders. But careful planning is required to ensure the desired tax treatment.
In today’s environment, some business owners may head back to the classroom to pursue work-related education. They may even decide to pursue a degree, such as a Masters in Business Administration. When can you deduct education costs as work-related business expenses? This article explains the rules.
If you’re headed back in the classroom, or thinking about it, you might be wondering if the tuition expenses are tax deductible. To be considered work-related education for business deduction purposes, the training must meet one or both of the following standards:
Standard No. 1: The education is expressly required by applicable law or regulations in order for you to retain your current professional status.
Standard No. 2: The education maintains or improves skills required in your current profession or business.
Example 1: A self-employed radiologist runs his business as a single-member LLC. He is treated as a sole proprietor for tax purposes. To retain his state license, the radiologist must take professional education courses each year. The courses count as work-related education because they meet Standard No. 1. So he can deduct the costs as business expenses. The deductions reduce his federal income tax bill, his SE tax bill, and his state income tax bill (if applicable).
Education Cannot Train You for a New Profession or Business
To qualify as work-related education, training cannot prepare you for a new profession or business. This rule applies even if you have no intention of actually entering the new field. In one case, an accountant was not allowed to deduct expenses to obtain a law degree even though he did not intend on becoming a practicing attorney. While the law school education undoubtedly improved skills used in his current work as an accountant, it also trained him for the new profession of being a lawyer, and that was a no-no. (O’Donnell, 62 TC 781, 1974)
Undergraduate Program Cannot Be Work-Related Education
The IRS has stated an undergraduate degree automatically trains you for a new profession or business. Therefore costs to obtain a BA or BS cannot be deducted as business expenses (presumably the same is true for a community college associates degree). The Tax Court has repeatedly agreed with the IRS on this issue. (Cases include Malek, TC Memo 1985-428; Meredith, TC Memo 1993-250; and Fields, TC Summary Opinion 2001-35.)
But an MBA Program Might Be Work-Related Education
The IRS has also taken the position that an MBA degree automatically trains you for a new profession or business. So, according to the government, you cannot deduct MBA costs as business expenses. Thankfully, a number of Tax Court decisions have ruled that deductions are allowed when the MBA training maintains or improves skills used in your current profession or business. In this case, the MBA program counts as work-related education because it meets Standard No. 2.
If the MBA degree also happens to enhance your resume, accelerate your career path and increase your earnings, that is not a problem, according to the Tax Court. (Cases include Allemeier, TC Memo 2005-207; Beatty, TC Memo 1980-196; Blair, TC Memo 1980-488; and Singleton-Clarke, TC Summary Opinion 2009-182.)
However you cannot deduct MBA costs as business expenses if the education does, in fact, train you for a new profession.
Example 2: A self-employed graphic designer is pursuing an MBA at night in order to become a marketing consultant. She cannot deduct the costs as business expenses, because the MBA trains her for a new profession.
How Self-Employed Individuals Deduct Work-Related Education
If your business is unincorporated, you are considered self-employed for most tax purposes. As such, you can claim deductions for business expenses, including work-related education expenses, on Schedule C of Form 1040 if you are a sole proprietor, on Schedule E if you are a partner or rental property owner, or on Schedule F for farming or ranching activities. This amounts to favorable treatment because Schedule C, E and F deductions reduce both your federal income tax bill and your self-employment (SE) tax bill (if you pay the SE tax). They also reduce your state income tax bill (if applicable).
Key Point: Make sure to keep proof that the expenses are business-related (course descriptions) and the amounts (receipts or credit card statements) with your tax records.
Employees: Your Corporation Can Deduct Work-Related Education Expenses
If you are an employee of your own C or S corporation, you should turn in work-related education expenses to the company for reimbursement. The reimbursements are a tax-free fringe benefit to you (no income or employment taxes), and the company can deduct them as business expenses.
If you pay the costs yourself and are not reimbursed, you can only write them off as itemized unreimbursed employee business expenses. Then you can only deduct them to the extent they exceed 2 percent of your adjusted gross income (AGI) when combined with other miscellaneous itemized deduction items such as investment expenses and fees for personal tax advice and return preparation. The 2 percent-of-AGI rule often precludes any actual tax savings. One more thing: under the AMT rules, no write-off is allowed for miscellaneous itemized deduction items. So if you are in the AMT zone, you may not get any tax savings from work-related education expenses.
Bottom Line: For the best tax outcome, turn in work-related education expenses to your company for reimbursement, and make sure to keep proof of the expenses with the company’s tax records.
Other Education Tax Breaks
There is also a non-business deduction and two non-business tax credits for education expenses. Sometimes, these breaks can also be claimed for work-related education expenses, and they may be worth more than the business deductions explained in this article. Consult with your tax professional about the best way to proceed in your situation.
When it comes to structuring a successful M&A transaction, existing trademarks play an important role for both parties involved. Valuing trademark and creating a strategic vision for them can lead to success down the line. Click “Full Article” for details about the importance of trademark due diligence.
When companies merge in the 21st Century, it is often to add value through intellectual capital rather than adding additional office space or factories. This is due to the fact that, increasingly, intellectual assets can be worth more than fixed assets when it comes to a company’s value.
Consequently, it is no surprise that valuing intellectual property has become an increasingly important part of due diligence in mergers and acquisitions. And devising a strategy for existing and future trademark integration is an important task for both parties of a potential merger or acquisition.
Some trademarks carry more weight than others. Generally, trademarks that are widely commercialized hold the most value. Valuing a trademark can be a somewhat subjective process although there are a few methodologies that tend to be used, including:
1. Market Valuation, where the value of the trademark is assessed through comparisons of sales of similar assets between competitive companies.
2. Income Valuation, which bases the worth of the trademark upon the future income it is expected to generate.
3. Cost Valuation, which is determined by assessing the costs associated with creating and maintaining the trademark.
Assessing Rights and Infringements
Many trademark assessments are not definitive black-and-white situations with regard to trademark rights. As such, due diligence must involve a thorough assessment of the trademark rights of both companies involved in a potential merger or acquisition. Just as the value of some trademarks is higher than others, trademark rights may be stronger or weaker depending upon a number of circumstances that may weaken the value or power of a trademark.
A trademark search is generally conducted to determine if any third parties have rights to the trademark. In addition to third parties potentially having an outright right to use a trademark, third parties may also acquire licensed rights, which may expire after a period of time. Both of these scenarios, however, have the potential to lower the value of the trademark and may restrict the rights an acquiring company might have with regard to utilizing the trademark.
Other potential red flags with regard to value include third parties infringing upon a trademark. Companies must be vigilant with regard to third parties infringing upon trademark rights. How successful a firm has been in ‘policing’ such infringements impacts the value of the trademark. Additionally, an acquiring company, for example, must calculate the ongoing costs of continuing to be vigilant with regard to trademark infringement when doing due diligence.
Another intellectual property issue to consider when doing due diligence with regard to trademarks is an international trademark assessment. If an acquiring company, for example, plans to expand a product market abroad, an extensive search must be done to determine if the product can be trademarked in those offshore markets. If the company set to be acquired, in this example, has not registered the trademark in the countries targeted for possible expansion, the process for doing so and the availability of that particular trademark must be investigated thoroughly. If, however, the company has planned ahead by laying the groundwork for offshore expansion, this factor increases the value of the trademark.
Finalizing a Trademark Strategy
Once the trademarks for both companies have been valued, a post-merger or acquisition brand strategy is often established. This is an important step in the due diligence process that, if overlooked, may cause integration problems down the line. Trademarks play an important role in brand strategy and it is vital to establish a vision with regard to which trademarks will survive past the post-merger or acquisition phase.
The valuation of the respective trademarks often affects the decisions about which trademarks should be chosen to survive. Those with the highest value tend to be the ones that are carried forward in the newly formed company. A detailed plan, however, is still established that specifically lays out how these trademarks will be utilized with regard to brand strategy.
Often, in determining a brand strategy for the future, new slogans and logos are also established. Brainstorming this path early in a merger or acquisition deal process gives both sides of the table a firmer set of expectations for the future.
All is Well that Ends Well. While there are no guarantees when it comes to M&A deals, placing a high importance upon intellectual property due diligence — in general — and trademarks, specifically, may bode well for a successful transaction down the line.
Contact your WFY tax advisor here for more information.