Year End Accounting & Tax Issues
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1 End of Year Accounting & Tax Issues November 7, 2014 Jeff Solis & Brandon Ernat UHY LLP 1
2 YEAR-END AUDIT & ACCOUTING ISSUES 2
3 Presentation Outline Introduction Audit Overview Auditor Selection Year-End Audit Prep Best Practices 3
4 What is an Audit? Highest level of assurance Auditor attests to the material accuracy of the financial statements Snapshot in time Deep dive into the PEO s accounting records and processes Prepared in accordance with Generally Accepted Accounting Principles (GAAP) 4
5 Why do we even want an audit? Required for Compliance by: Banks and other lenders Worker s compensation insurance National health insurance plans PEO licensing in many states (almost 30) ESAC accreditation M&A transaction 5
6 Why do we even want an audit? Added Benefits: Banks and other lenders Worker s compensation insurance National health insurance plans PEO licensing in many states (almost 30) ESAC accreditation M&A transaction 6
7 Auditor Selection How are they involved in the PEO industry? How long have they been in the PEO space? Do they have other PEO clients? What other services do they provide to PEOs? PEO client references that you can contact? 7
8 Auditor Selection Consider Firm Size Too small or too large? Audit Fees Added value Cost should not be the primary deciding factor You get what you pay for Low audit fees does not necessarily translate to a good deal 8
9 Other Attestation Services Internal Control Assessment: Identify areas of exposure or concern Vendor additions Cash cycle Internal payroll process CPA to maintain high level of professional skepticism Determine risk tolerance of owners and investors Agreed Upon Procedures: Testing management s assertion on specified elements including: Payroll tax accuracy Insurance compliance 401k Compliance ESAC/State quarterly payroll testing 9
10 Other Attestation Services SSAE 16 Engagements: Tests the PEO s controls most relevant to their clients (ex. privacy of data, timely and accurate payroll tax payments, and payroll processing) Report is issued by CPA with the auditor s opinion regarding operational effectiveness of the controls that management indicated are in place 10
11 Year-End Preparation Prior to Year-End Consider Q4 shareholder tax distributions Pull year end work ahead where applicable: Asset activity Internal controls Significant accounting events Internal/External Structure Reconcile accounts monthly Review prior year audit requests Audit planning meeting with CPA 11
12 Year-End Preparation Post Year-End Extend month-end close to capture all 2014 activity Contact service providers for unbilled fee accruals Prepare schedules for all significant accounts Inquire with legal team regarding outstanding litigation Obtain document request list from auditor Archive items needed for audit during the closing process Review prior year adjusting entries made by the auditor 12
13 Recent Tax Developments and Tax Strategies 13
14 2014 Federal Tax Update Section 179 Deduction is limited to $25,000 Hired Reservists Tax Credits Expired 12/31/2013 Work Opportunity Tax Credit expired 12/31/2013 Research and Development Tax Credit expired 12/31/2013 Sales tax deduction on Schedule A Expired 12/31/2013 Contributions from an IRA directly to charity expired 12/31/2013 Bonus Depreciation of 50% expired 12/31/2013 Residential Energy Tax Credits expired on 12/31/2013 Accelerated Depreciation for Leasehold Improvements expired 12/31/
15 Corporate Income Tax Taxable income over Not over Tax rate $ 0 $ 50,000 15% 50,000 75,000 25% 75, ,000 34% 100, ,000 39% 335,000 10,000,000 34% 10,000,000 15,000,000 35% 15,000,000 18,333,333 38% 18,333, % Corporate income tax rates have remained unchanged since
16 Personal Income Tax 2013 Married Filing Joint 2014 Married Filing Joint Taxable income under Tax Rate $ 17,850 10% 72,500 15% 146,400 25% 223,050 28% 398,350 33% 450,000 35% > 450, % Taxable income under Tax Rate $ 18,150 10% 73,800 15% 148,850 25% 226,850 28% 405,100 33% 457,600 35% > 457, % 16
17 Corporate Tax Considerations Cost to Acquire Tangible Property Taxpayers that have a written accounting policy in place at the beginning of the taxable year may elect to expense otherwise capitalizable expenditures that are below current thresholds. Thresholds Taxpayers with an Applicable Financial Statement (AFS) - $5,000 per invoice (or per items as substantiated by an invoice) Taxpayers without an Applicable Financial Statement (AFS) - $500 per invoice (or per items as substantiated by an invoice) 17
18 Corporate Tax Considerations Cost to Acquire Tangible Property An applicable financial statement (AFS) is: A financial statement required to be filed with the Securities and Exchange Commission A certified audited financial statement that is accompanied by the report of an independent certified public accountant that is used for Credit Purposes Reporting to shareholders, partners or similar partners Any other substantial non-tax purpose A financial statement (other than a tax return) required to be provided to a federal or state government or agency 18
19 Corporate Tax Considerations De Minimis Safe Harbor Example Facts: Taxpayer has accounting policy in place to expense amounts less than $5,000 Purchases 1,000 printers for a total of $250,000 ($250 each) Purchases 1,000 computers for a total cost of $600,000 ($600 each) Results: With AFS Expense both printers and computers Without AFS Expense printers Capitalize computers 19
20 Corporate Tax Considerations Corporate Election/Revocation? Increased personal income tax rates may lead to C-Corp structure being more favorable Excessive compensation; C-Corp issue Dividend tax rate at 20%. Still a good deal? BIG (built-in-gain) holding period is 10 years (Starting Jan. 1, 2014) 20
21 C Corporation Advantages: Limited liability of shareholders No shareholder-level tax on undistributed income. No ownership restrictions apply Multiple classes of stock permitted Disadvantages: Double taxation No capital gains rate differential Distributions of appreciated property usually triggers gain at the corporate level Shareholders do not benefit from corporate losses 21
22 C Corporation (cont.) Indicators that C Corp is Entity of Choice Real estate will not be owned by company The company operates a trade or business (not rental real estate or investment portfolio) The company is highly unlikely to create capital gains as part of its operations 22
23 S Corporation Advantages: Shareholder limited liability. An S corporation can easily convert to a C corporation Corporate losses flow through, which shareholders may be able to use to offset other income. Not subject to self employment taxes Disadvantages: Cannot have more than 100 members Cannot have as a shareholder a person who is not an individual other than an estate, trust or certain tax-exempt organizations. Cannot have a nonresident alien as a shareholder. Cannot have more than one class of stock. Do not allow for special allocations as do LLCs taxed as partnerships Built-in-gains tax Passive Investment Income Tax 23
24 S Corporation (cont.) Indicators that S Corp is Entity of Choice The company will incur several years of start up losses Shareholder s qualify to be a shareholder of an S corporation The company is in a service industry where major capital investments are not required Shareholders have ability to loan company funds in down years (to increase basis) Company is projected to be able to make cash distributions to cover passthrough taxable income to shareholders 24
25 Limited Liability Company Advantages: Provides limited liability for its members. No limitations on the number of members, as is the case for the S corporation. Allows for varying classes of membership. An LLC is permitted to specially allocate income and losses among its members. Losses of an LLC flow through to the members Tax-free distributions of appreciated property Disadvantages: Limitations imposed on contributions and distributions pursuant to Section 704(c) Transfer of 50% or more of the membership interests terminates the LLC Disposition of an LLC interest can result in taxation at ordinary income rates. Members of an LLC will owe tax on the LLC s income regardless of whether the LLC makes a distribution to the member Self-employment taxes may be due on pass-through income 25
26 Limited Liability Company (cont.) Indicators that LLC is Entity of Choice The company will incur several years of start up losses The company will hold real estate or marketable securities Member s want ability to share in profits differently than ownership percentages Members don t have ability to contribute cash but can contribute assets that can be used as collateral for bank loans that may provide tax basis for deducting losses 26
27 Entity Summary C Corporation S Corporation Limited Liability Company Levels of Tax At corporate and shareholder level. At shareholder level, except for former C- corps that distributes E&P, has a built-ingain, or excessive net passive income. At member level only. Tax Base Corporate Level: Taxable Income Shareholder level: Distributions Pro rate share of income, whether distributed or not. Allocable share of income, whether distributed or not. Self-Employment (SE) Taxes No. A shareholder will not be subject to SE taxes on compensation for services rendered. No. A shareholders distributive share of earnings will be subject to SE taxes only to the extent re-characterized as compensation for services rendered. Yes, if not treated as a limited partner. Additionally, all members must pay SE taxes on guaranteed payments. Deductibility of Losses N/A because losses deductible only at corporate level. Subject to basis limitations, at risk limitations, and passive activity limitations. Subject to basis limitations, at risk limitations, and passive activity limitations. 27
28 Entity Summary C Corporation S Corporation Limited Liability Company Number of Owners 1 or more shareholders shareholders (spouses counted as 1 shareholder). If number of shareholders exceeds 100, loss of S status. Type of Owners No Restrictions May not include corporations, nonresident aliens, partnerships, or certain trusts. 1 member allowed but disregarded for federal tax purposes. At least 2 members required to be taxed as a partnership. No Restrictions. Classes of Ownership interest Permitted One class only, may have differences in voting rights. Permitted Special allocations N/A Not permitted. Income/expense items are allocated pro rata according to stock ownership. Permitted. Certain allocations required if a member contributes property to the LLC or of the LLC has nonrecourse debt. 28
29 SMALL BUSINESS HEALTH CREDIT SMALL BUSINESS TAX CREDIT: In order for Small Employers to qualify: 1. Starting in 2014, must purchase coverage through the Small Business Health Options Program (SHOP), 2. Have fewer than 25 FTEs, 3. Pay average annual wages of less than $50,800 (2014) per FTE, 4. Pay at least half of single coverage health premiums. HOW MUCH: 2014 and later years: Up to 50% of Taxable Small Employer premium contributions Up to 35% of Tax-Exempt Small Employer premium contributions Can only be claimed for any two consecutive taxable years. 29
30 HI Medicare Tax Beginning Jan 1, 2013, an additional 0.9% tax applies to wages, other compensation and to self-employment income for the tax year in excess of: $250,000 for joint filers, $125,000 for married individuals filing separately, and $200,000 for all others 30
31 HI Medicare Tax Once an employee s wage reaches $200,000 for the year, the employer must begin withholding the additional 0.9% tax from their wages without regards to the employee s filing status or income from other sources The 0.9% tax applies only to employees, not to employers 31
32 Net Investment Income Tax (NIIT) (3.8%) NIIT is generally equal to 3.8% of net investment income Investment income includes, interest, dividends, other forms of passive income The IRS recently issued guidance regarding owneroccupied rental real-estate (self-rentals) which states that the income derived from such activities is not subject to the 3.8% tax Self-Charged Interest is also not subject to NIIT 32
33 Severance Pay & FICA Tax (Quality Stores, Inc. v. United States) Quality Stores, Inc. laid off thousands of workers and argued that their severance pay should not be subject to severance tax Supreme court ruled recently (3/25/2014) against Quality Stores and held that severance pay is subject to FICA taxes This reversed decisions in favor of Quality Stores made by 6 th Circuit court (KY, MI, OH, TN): that severance pay is not subject to FICA 33
34 State Tax Issues Nexus: to bind; a connection or link (Webster s Dictionary) - state s ability to tax out-of-state businesses having activity within it. PL : stop-gap measure passed in 1959 (so much for temporary legislation) to give guidance on multi-state taxation. Unitary Group: commonly owned or controlled group of companies allowed/required to file one tax return. Composite Return: flow-thru entity tax filing made on behalf of the partners/members/shareholders. 34
35 State Taxes - Nexus Physical Presence a. Property b. Payroll (PEO vs. ASO) Protected Activities (PL ) Multi-State Tax Commission Apportionment Single-factor [CA, CO, CT, GA, MI, NY, SC, TX, etc.] Three factors 35
36 State Taxes Composite Filings Most states permit composite filings; some differences for Partnership and S- corporation filers [AK, DC, FL, NC, NE, NV, SD, TX, UT, WA, TN, WY do not] Some states require a minimum number of nonresident shareholders in order to file composite [AZ & NY] Allows corporate deduction of taxes paid on behalf of owners Applies to non-resident owners (usually) that have no other activity for that state No personal filing requirement for owners 36
37 State Taxes Compliance Issues MD Personal Property Tax Returns- If your company is registered to do business in Maryland, you are required to file an annual personal property tax return regardless of physical presence. California Franchise Tax If your company is registered to do business in California, you are required to pay an $800 minimum tax regardless of the level of activity or physical presence you have in the state. Nonresident withholding may also apply. S-Elections Some states (including AR, NJ and NY) require separate state election forms to be filed in order to obtain S-Corporation status. State tax law is constantly changing and these requirements should be reviewed before finalizing an S-election. S-Revocations Must be filed within 2.5 months after start of tax year. 37
38 California Apportionment (Gillette case) Beginning January 1, 2013, California mandated that most taxpayer (with very few exceptions) must use single sales factor apportionment Gillette challenged contesting that taxpayers should have the option to use 3 factor apportionment versus single sales factor California Appellate Court ruled in favor of the taxpayer Case is now being heard in the California Supreme Court 38
39 Ohio Small Business Investor Deduction Allows individuals to deduct 75% of Ohio Small business income subject to certain limitations Ohio business income defined as: Income arising from transactions, activities and sources in the regular course of trade or business operations Ordinary trade or business income can include: Interest Dividends Capital Gains Rents and Royalties Wages paid to 20% or more shareholder 39
40 Ohio Small Business Investor Income Deduction (Cont.) Available for : Non-Residents who have OH business income, OH Residents and OH Part Year Residents For 2014: Maximum deduction $93,750 Claimed on individual return even if composite return filed at corporate level 40
41 Questions? Jeff Solis Manager UHY (586) Brandon Ernat Manager UHY (586) Jared Schroeder Sr. Accountant UHY Advisors MI, Inc. (586)
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