Posted by: Coto Legal Services, PLC | April 3, 2011

Commonly Missed Business Deduction

A commonly missed business deduction….

Make sure your tax preparer reduces your taxes by taking advantage of the Domestic Production Activity Deduction.   Businesses with qualified production activities can take a tax deduction of 9% from net income in 2010. Also, review your last 3 tax returns to make sure that you took this deduction.  If not, you can amend your prior returns to receive a refund.   The Domestic Production Activity Deduction can yield substantial tax savings.

Types of business that may qualify for the Domestic Production Activities Deduction:

  • Manufacturing based in the United States,
  • Selling, leasing, or licensing items that have been manufactured in the United States,
  • Selling, leasing or licensing motion pictures that have been produce4d in the United States
  • Construction services in the United States, including building and renovation of residential and commercial properties,
  • Engineering and architectural services relating to US based construction project.
  • Software development in the United States, including the development of video games.

Note, however, that construction services that are merely cosmetic, such as painting do not qualify for this deduction.

The deduction is subject to some limitations.  The deduction cannot exceed adjusted gross income for sole proprietorships, partnerships, S corporations or limited liability companies or taxable income for C corporations.  Furthermore, the deduction cannot exceed 50% of wages.

 

Contact Coto Legal Services, PLC if you have any questions about this deduction or any other tax strategy.  Please visit our website at http://www.cotolegal.com or write to us at:  rcoto@cotolegal. Com

Information on this blog is not intended to be legal advice and visiting this blog does not establish an attorney-client relationship.

Posted by: Coto Legal Services, PLC | April 1, 2011

New Estate Tax Law Changes

New Estate Tax Changes:

  1. Raises each individual’s lifetime exemption from federal estate and gift tax for transfers to non-spouse heirs to 5 million dollars.  Therefore,  if fair market value of your net assets is less than 5 million dollars or 10 million dollars, if married, then no estate taxes are owed.
  2. It makes the exemption portable between spouses, meaning a surviving spouse can add any unused exemption of her just deceased spouse to her own 5 million dollar exemption.  So a widow or widower can pass on as much as 10 million dollars, untaxed, through either lifetime gifts or bequests.
  3. Key Portability Points:
    1. Portability is not automatic.  The executor of the estate of the first spouse to die must file an estate tax return, even if no tax is due.   Surviving spouses should get this return filed even if they have nowhere near 5 million dollars of their own.
    2. Portability is not retroactive.
    3. Portability does not apply to the 5million dollars per person exemption from the Generation Skipping Transfer Tax- the extra tax imposed on gifts to grandchildren whose parents are still alive.
    4. Estate law expires at end of 2012.  If legislature does not change estate tax law, then portability lapses and the exemption amount will revert to 1 million dollars and the estate tax rate will increase to 55%, from the current rate of 35%.
    5. Why still have Trusts if assets are valued well below estate tax exemption amounts of 5 million dollars or 10 million dollars, if married):
      1. Primarily for non-tax reasons:
        1. i.      When there are blended marriages (i.e. a spouse or both spouses have children from a previous marriage.  Family trusts are important to ensure that children from a previous marriage do not get disinherited.
        2. ii.       Creditor protection for the trust beneficiaries.
        3. iii.      Avoid Probate, which could be costly, time consuming, and create potential family disputes.

      Please Contact Coto Legal Services, PLC for any questions regarding estate planning techniques and strategies.  Our firm will customize an estate plan that will meet your objectives and goals.   We welcome you to visit our website at cotolegal.com and e-mail us at rcoto@cotolegal.com

      Information contained on this blog is not intended to be legal advice, and visiting this blog does not establish an attorney-client relationship.

Posted by: Coto Legal Services, PLC | March 21, 2011

Joint Property- Estate Planning Strategy

Although understandable, most people do not want to think about their death or the possibility that they may become disabled.  Nevertheless, most people are aware that they should have a plan for these events.   Therefore, a comprehensive estate plan is critical to protect you and your family.

Most people only start to consider estate planning when they have children.  They ask themselves who is going to take care of my children when I die or become disabled- and rightly so, but tragically some people just think about estate planning, never implementing the plan. However, just as tragic are people without children who never consider estate planning at all.   These people often believe that estate planning is only for individuals who have children.  Unfortunately, these people forget to ask the question- who is going to take care of them in the event they become disabled, and what happens to their property upon their death.   Simply put, all people need an estate plan.

A comprehensive estate plan is simply a set of legally enforceable instructions that ensure that you and your family’s physical, mental, and financial needs will be met when you are unable to make an informed decision about these matters.  Additionally, upon your death, your property will be distributed according to your own wishes, not by state law.

As we all know, a comprehensive estate plan tools includes health and financial power of attorneys, wills, and trusts.  Of course, only a licensed attorney who focuses on estate planning should be consulted to determine what specific estate planning tools you and your family require to effectively protect you and your family.

In this post, I wanted to address a common estate planning device that people use to distribute their property without going to probate court.  That is, establishing joint ownership of property.

Upon death the property is automatically transferred to the surviving co-owners by handing out death certificates to banks, stock brokers, and register of deeds.    However, this technique has the following potential disadvantages:

  • The individual must get the consent (signatures) of the joint owners if he or she wants to dispose of stock or real estate (in case of real estate,  must get the wives of mail joint owners)
  • Each joint owner of a bank account has the right to withdraw money from the account.  Therefore, all the money can be gone without your consent.
  • A creditor of one of the joint owner’s could claim these assets.
  • Jointly owned property passing to the surviving joint owner belongs solely to that owner, who cannot be forced to share it with other intended beneficiaries.
  • Joint property can be disadvantageous for people who need Medicaid.

Therefore, jointly owned property has potential significant disadvantages, which can be eliminated by using other estate planning strategies.

Please Contact Coto Legal Services, PLC for any questions regarding estate planning techniques and strategies.  Our firm will customize an estate plan that will meet your objectives and goals.   We welcome you to visit our website at cotolegal.com and e-mail us at rcoto@cotolegal.com

Information contained on this blog is not intended to be legal advice, and visiting this blog does not establish an attorney-client relationship.

Posted by: Coto Legal Services, PLC | March 17, 2011

Reducing Payroll Taxes- S Corporations

One commonly used tax planning technique used for S corporations is to reduce the owner’s compensation amount, and then increase the owner’s distribution amount.   This technique can be effective in reducing the company’s payroll tax liability because compensation is subject to payroll taxes and S corporation distributions are not.

However, the Internal Revenue Service is aware of this tax planning technique and consequently scrutinizes compensation paid to S corporation employee-shareholders.  If the employee-shareholder’s compensation is unreasonably low, (which is a major audit red flag), and there are S corporate distributions, the IRS will likely re-characterize the S corporation distributions as compensation ( See how S corporation compensation compares to C corporation compensation by reading the previous post).  If the S corporation distribution are re-characterized as compensation,, the company may be subject to substantial taxes, interest and penalty charges.

Compensation must be reasonable, which allows the IRS to determine if the compensation of an employee is reasonable for the personal services that were actually rendered.   The courts have considered the following principal factors to determine the reasonableness of a salary: 1) the qualifications of the employee; 2) the employee’s contribution to the success of the business and 3) how the employee’s salary compares to the salaries of similar employee positions in the same industry.

Additionally,   state tax implications must be analyzed to determine if this payroll reducing technique is effective.  The Michigan Business Tax allows corporations to deduct compensation, but will not allow an S corporation distribution deduction.  So, by reducing compensation to the employee-shareholder, while increasing S corporation distributions, may increase your Michigan tax lax liability.

Consequently, for Michigan S corporations, reducing compensation, while increasing S corporation distributions, may not be effective, considering the state tax implications.

Coto Legal Services, PLC would love to discuss if this strategy is right for you.  Our office will customize strategies to minimize your taxes and protect your assets.  Email us at rcoto@cotolegal.com.  Visit us at our website at cotolegal.com

Information on this blog is not intended to be legal advice.  Visiting this blog does not establish an attorney-client relationship.

Posted by: Coto Legal Services, PLC | March 12, 2011

Year End Bonuses for C Corp

Year End Bonuses- is this really effective tax planning?

In a C corporation that declares dividends, the profit is taxed twice.  Once when  the corporations earns the profit at the entity level and reports the profits on the corporate tax return (Form 1120), then when these  profits are distributed to its shareholders in the form of a dividend, the share holder is again taxed on this dividend income on his personal return.    Corporations are not allowed a deduction for a dividend distribution, so dividend income is subject to double taxation.

Many advisors attempting to avoid double taxation, advise their clients to distribute this income as deductible bonuses or additional compensation, not as non-deductible dividends.

Consequently, in a C corporation, the IRS scrutinizes owner salaries to determine if any of this compensation is excessive and the excessive compensation should be reclassified as a dividend.  If the IRS does reclassify the excessive compensation as dividends, the excessive compensation deduction, along with the associated payroll taxes deduction will be disallowed, resulting in significant interest and penalties.

Tax law requires compensation to be reasonable, which allows the IRS to determine if the compensation of an employee is reasonable for the personal services that were actually rendered.   The courts have considered the following principal factors to determine the reasonableness of a salary: 1) the qualifications of the employee; 2) the employee’s contribution to the success of the business and 3) how the employee’s salary compares to the salaries of similar employee positions in the same industry.

Therefore,  we believe that generally  bonuses are an ineffective tax planning device.  If these bonuses are excessive and unreasonable, this compensation will be re-classified as dividends which may result in an assessment of substantial interest and penalty charges.   Furthermore,  even if these bonuses are  not considered to be excessive, this compensation is subject to payroll taxes, which results in substantial payroll taxes.

Isn’t the idea of tax planning  is to reduce all types of taxes, including payroll taxes?  So, instead of bonuses or compensation, we believe that there are other ideas that will save you taxes when taking money out of the company which will benefit the owners.

In a future post, I will discuss compensation issues for an S corporation.

Coto Legal Services, PLC focuses on estate, probate, tax and busisness law matters.  Contact us if you have any questions or need a consultation.  We will save you taxes ! Website:  cotolegal@com;  E-mail: rcoto@cotolegal.com.

This information on this blog is not intended to be legal advice and viewing this blog does not create an attorney-client relationship.

Posted by: Coto Legal Services, PLC | March 11, 2011

Asset Protection

Entity Structure – Asset Protection

As many people start their own business, one must decide what type of entity structure to form.   The form of business or entity choice significantly determines the extent your assets will be protected and the amount of taxes you must pay.

Before I begin, let me mention that there is a distinction among tort, contract liability and all other types of liability.  No entity structure will protect assets from tort and contract liability.  Tort liability  addresses  owner’s negligent  acts, which can only be protected by malpractice insurance.  Contract liability occurs when parties, such as banks, landlords and suppliers require business owners to personally guarantee the entity’s obligations.

Therefore entity structure is critical to protect one’s assets from liabilities, other than tort and contract liabilities.   Although you may think that insurance covers these liabilities, but what happens if lawsuits exceed your insurance coverage, or the insurance company informs you that it will not pay your claim according to the fine print.

Unfortunately many people do not even think about entity choice until long after they start their business, but this could be disastrous in terms of protecting one’s assets. You can lose all or a significant portion of your assets by not structuring your business correctly.   Consequently, by default, a solo person finds himself or herself in a sole proprietorship or if there are two or more people starting the business, then in a partnership.    These business forms offer no limited liability protection and its owners will be personally liable for their businesses obligations so creditors can reach the personal assets of the business owners.

So, for asset protection reasons alone, most people decide or are advised to incorporate or form a limited liability company.   However, a lot of people are under the wrong impression that just incorporating or forming a limited liability company will achieve limited liability.  A court may “pierce the corporate veil” if the court believes that you are not treating the corporation or limited liability company as a separate entity.   If the corporate veil is pierced,  the owner will be personally liable for the entity’s obligations and the IRS may recharacterize corporate income and expenses as owner income and expenses. Therefore, it is critical that you treat the business as a separate entity and observe corporate formalities.

What about business asset protection?   Many businesses, incorporated or not,  employ a single entity structure,  so the business assets are not protected against lawsuits or its creditors.  These business assets are not segregated from the operating activities of the business and are therefore exposed.  Additionally, if you incorporate, the creditor may gain access to your business assets, which could be prevented by choosing another form of entity structure.

This post  focuses on asset protection issues when adopting a business structure, but there are other major issues, including tax implications, that will affect what entity structure is best for you.  A professional tax and business law professional should be consulted.

Coto Legal Services, PLC will be happy to answer any questions or assist you and your company with asset protection matters. We will protect all of your assets!  Please visit our website at http://www.cotolegal.com for information about our law firm.  Email: rcoto@cotolegal.com; telephone: 734-634-7271.

This information on this blog is not intended to be legal advice and viewing this blog does not create an attorney-client relationship.

Posted by: Coto Legal Services, PLC | March 9, 2011

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