IRS highlights tax reform changes that affect businesses

FS-2019-3, March 2019

The Tax Cuts and Jobs Act (TCJA) included a few dozen tax law changes that affect businesses. Most of the changes in the new law took effect in 2018 and will impact tax returns filed in 2019.

This fact sheet summarizes some of the changes for businesses and gives resources to help business owners find more details.

Business taxpayers should recalculate estimated tax payments

The TCJA changed the way most taxpayers calculate tax, including those with income not subject to withholding, such as small business owners and self-employed individuals. The new law changed tax rates and brackets, revised business expense deductions, increased the standard deduction, removed personal exemptions, increased the Child Tax Credit and limited or discontinued certain deductions. As a result, many taxpayers may need to raise or lower the amount of estimated tax they pay each quarter.

Because of these far-reaching tax changes, the IRS urges all employees, including those with other sources of income such as self-employment, to do a Paycheck Checkup. This will help them avoid an unexpected year-end tax bill and possibly a penalty in the future. The easiest way to do this is to use the Withholding Calculator on IRS.gov.

A companion publication, Publication 505, Tax Withholding and Estimated Tax , has more details, including worksheets and examples, to help taxpayers figure out whether they should pay estimated tax. Among the taxpayers who should consult Publication 505 are those who have dividend or capital gains income, owe alternative minimum tax or have other special situations.

Form 1040-ES, Estimated Tax for Individuals, can also help taxpayers figure these payments simply and accurately. The estimated tax package includes a quick rundown of key tax changes, income tax rate schedules for 2019 and a useful worksheet for figuring the right amount to pay.

Estimated tax penalty relief. The IRS is generally waiving the estimated tax penalty for any taxpayer who paid at least 85 percent of their total tax liability during 2018 through federal income tax withholding, quarterly estimated tax payments or a combination of the two. Usually, taxpayers need to pay 90 percent of their total tax liability to avoid a penalty.

Commercial tax software normally includes the waiver computation. It’s also in the latest version of Form 2210, Underpayment of Estimated Tax by Individuals, Estates, and Trusts, and instructions.

This relief helps taxpayers who didn’t properly adjust their withholding and estimated tax payments as needed for TCJA changes.

Under separate relief, the IRS is also waiving the estimated tax penalty for farmers and fishermen who file returns and pay tax by April 15. See Form 2210-F, Underpayment of Estimated Tax by Farmers and Fishermen, and its instructions for details. 

Find more information about tax withholding and estimated tax on the Pay As You Go webpage.

New or revised deductions for businesses

Qualified business income deduction. Many individuals, including owners of businesses operated through sole proprietorships, partnerships, S corporations, trusts, and estates may be eligible for a qualified business income deduction, also called the section 199A deduction.  Some trusts and estates may also claim the deduction directly. The deduction allows them to deduct up to 20 percent of their qualified business income (QBI), plus 20% of qualified real estate investment trust (REIT) dividends and qualified publicly traded partnership (PTP) income. Income earned by a C corporation or by providing services as an employee isn’t eligible for the deduction. The deduction is available for tax years beginning after Dec. 31, 2017. Eligible taxpayers can claim it for the first time on their 2018 federal income tax returns filed in 2019.

The deduction has two components.

  1. QBI Component. This component of the deduction equals 20 percent of QBI from a domestic business operated as a sole proprietorship or through a partnership, S corporation, trust or estate. Depending on the taxpayer's taxable income, the QBI Component is subject to limitations including:

a. The type of trade or business,
b. The amount of W-2 wages paid by the qualified trade or business, and
c. The unadjusted basis immediately after acquisition (UBIA) of qualified property held by the trade or business.

These limitations do not apply to taxpayers with taxable income at or below a certain threshold. For 2018, the threshold amount is $315,000 for a married couple filing a joint return, and $157,500 for all other taxpayers.

It may also be reduced by the patron reduction if the taxpayer is a patron of an agricultural or horticultural cooperative.

2.  REIT/PTP Component. This component of the deduction equals 20 percent of qualified REIT dividends and qualified PTP income. This component is not limited by W-2 wages or the UBIA of qualified property. Depending on the taxpayer’s taxable income, the amount of PTP income that qualifies may be limited if the PTP is engaged in a specified service trade or business.

The deduction is limited to the lesser of the QBI component plus the REIT/PTP component or 20 percent of the taxable income minus net capital gain. The deduction is available regardless of whether an individual itemizes their deductions on Schedule A or takes the standard deduction.

A qualified trade or business is any section 162 trade or business, with three exceptions:

  1.  A trade or business conducted by a C corporation.
     
  2. For taxpayers with taxable income that exceeds the threshold amount, specified services trades or business (SSTBs).  An SSTB is a trade or business involving the performance of services in the fields of health, law, accounting, actuarial science, performing arts, consulting, athletics, financial services, investing and investment management, trading, dealing in certain assets or any trade or business principal asset is the reputation or skill of one or more of its employees or owners.

    The principal asset of a trade or business is the reputation or skill of its employees or owners if the trade or business consists of the receipt of income from endorsing products or services, the use of an individual’s image, likeness, voice, or other symbols associated with the individual’s identity, or appearance at events or on radio, television, and other media outlets.

    For 2018, the threshold amount is $315,000 for a married couple filing a joint return, and $157,500 for all other taxpayers. The SSTB limitations don’t apply for taxpayers with taxable income at or below the threshold amount. Limitations are phased in for joint filers with taxable income between $315,000 and $415,000, and all other taxpayers with taxable income between $157,500 and $207,500. For later years, the threshold amounts and phase-in range will be adjusted for inflation.
     
  3. Performing services as an employee.

    For more information on what qualifies as a trade or business, see Determining your qualified trades or businesses in Publication 535.

QBI is the net amount of qualified items of income, gain, deduction and loss from any qualified trade or business, including income from partnerships, S corporations, sole proprietorships, and certain trusts. These includable items must be effectively connected with the conduct of a trade or business within the United States. Count only items in taxable income. Generally, in computing QBI, account for any deduction attributable to the trade or business. This includes, but is not limited to, the deductible part of self-employment tax, self-employed health insurance, and deductions for contributions to qualified retirement plans (such as SEP, SIMPLE and qualified plan deductions),
QBI doesn’t include any of the following.

  • Items not properly includible in income, such as losses or deductions disallowed under the basis, at-risk, passive loss or excess business loss rules.
  • Investment items such as capital gains or losses, or dividends.
  • Interest income not properly allocable to a trade or business.
  • Wage income.
  • Income not effectively connected with the conduct of business within the U.S. (For more information, go to IRS.gov/ECI.)
  • Commodities transactions or foreign currency gains or losses.
  • Income, loss, or deductions from notional principal contracts.
  • Annuities (unless received in connection with the trade or business).
  • Amounts received as reasonable compensation from an S corporation.
  • Amounts received as guaranteed payments from a partnership.
  • Payments received by a partner for services other than in a capacity as a partner.
  • Qualified REIT dividends.
  • Qualified PTP income

Excess business losses. Noncorporate taxpayers may be subject to excess business loss limitations. They need to apply at-risk and passive activity limits before calculating the amount of any excess business loss. An excess business loss is the amount by which total deductions, attributable to all their trades or businesses, exceed their total gross income and gains, attributable to those trades or businesses, plus $250,000 (or $500,000 in the case of a joint return). A “trade or business” can include the activity of being an employee and activities reported on Schedules E, F and Schedule C and Form 4835. Taxpayers can include business gains and losses reported on Forms 4797 and 8949 in the excess business loss calculation. They also include pass-through income and losses attributable to a trade or business. This includes farming losses from casualty or because of disease or drought. Treat disallowed excess business losses as a net operating loss carryover to the following taxable year. See Form 461 and instructions for details.

Net operating losses. Most taxpayers no longer have the option to carryback a net operating loss (NOL). They can only carry forward NOLs arising in tax years ending after 2017. The two-year carryback rule in effect before 2018, generally, doesn’t apply to NOLs arising in tax years ending after Dec. 31, 2017. Exceptions apply to certain farming losses and NOLs of insurance companies other than a life insurance company. Also, for losses arising in taxable years beginning after Dec. 31, 2017, the law limits the NOL deduction to 80 percent of taxable income (figured without regard to the deduction).

Meal and entertainment expenses. The new law generally eliminated the deduction for entertainment, amusement or recreation expenses. But, taxpayers can continue to deduct 50 percent of the cost of business meals if the taxpayer -- or an employee of the taxpayer -- is present and the food or beverages aren’t lavish or extravagant. These include meals for a current or potential business customer, client, consultant or similar business contact. The law doesn’t allow food and beverages purchased or consumed during entertainment events as an entertainment expense, if they’re purchased separately from the entertainment, or stated separately from the entertainment on one or more bills, invoices or receipts.

Fines and penalties paid to a government. Taxpayers can’t deduct certain fines and penalties for violation of the law. See Notice 2018-23 for more details.

Payments made in sexual harassment or sexual abuse cases. Taxpayers can’t deduct certain payments made in sexual harassment or sexual abuse cases. Section 162(q) does not preclude the recipient of such settlements or payments from deducting related attorney’s fees, however, if otherwise deductible.  See FAQ.

Payments under state or local tax credit programs. Certain business taxpayers that make payments to charities or government entities for which the taxpayers receive state or local tax credits can generally deduct the payments.

  • Proposed regulations under section 170 provide that taxpayers who make payments or transfer property to an entity eligible to receive tax deductible contributions must reduce their charitable contribution deductions by the amount of any state or local tax credit the taxpayers receive or expect to receive.
  • Under the safe harbors in Revenue Procedure 2019-12 (PDF), corporations or specified passthrough entities that make payments in return for a state or local tax credit may treat the payments as ordinary and necessary business expenses for purposes of section 162(a) to the extent of the credit received or expected to be received.

Changes to fringe benefit deductions

Employers need to know about important changes to fringe benefit deductions. These changes can affect a business’s bottom line and its employees’ deductions.

  • Transportation fringe benefits. The new law disallows the deduction of expenses for qualified transportation fringe benefits to employees for commuting (except as necessary for employee safety).
  • Bicycle commuting reimbursements. Under the new tax law, employers can deduct qualified bicycle commuting reimbursements as a business expense for 2018 through 2025. The new tax law suspends the exclusion of qualified bicycle commuting reimbursements from an employee’s income for 2018 through 2025. Employers must now include these reimbursements in the employee’s wages.
  • Moving expenses. Employers must now include moving expense reimbursements in employees’ wages. The new tax law suspends the former exclusion for qualified moving expense reimbursements. One exception: Active duty members of the U.S. Armed Forces can still exclude moving expenses from their income. Notice 2018-75 offers guidance on 2018 reimbursements for employees’ 2017 moves. Generally, these reimbursements aren’t taxed.
  • Achievement awards. Special rules allow an employee to exclude achievement awards from wages if the awards are tangible personal property. An employer also may deduct awards that are tangible personal property, subject to certain deduction limits. The new law clarifies the definition of tangible personal property.

See the Employer Update on IRS.gov for more details.

Changes to depreciation and expensing for businesses

The Tax Cuts and Jobs Act changed some laws on depreciation and expensing. These changes can affect a business’s tax situation. Here are the highlights:

  • Businesses can immediately expense more under the new law.
  • Temporary 100 percent expensing for certain business assets (first year bonus depreciation).
  • Changes to depreciation limitations on luxury automobiles and personal use property.
  • The treatment of certain farm property changed.
  • Applicable recovery period for real property.
  • Use of alternative depreciation system for farming businesses.

Taxpayers can use a safe harbor method to figure depreciation deductions for passenger automobiles qualifying for the 100-percent additional first year depreciation deduction and subject to depreciation limitations. The safe harbor allows depreciation deductions for the excess amount during the recovery period subject to depreciation limitations applicable to passenger automobiles. To apply the safe-harbor method, the taxpayers must use the applicable depreciation table in Appendix A of Publication 946, How to Depreciate Property. The safe harbor method doesn’t apply to a passenger automobile for which the taxpayer elected out of the 100-percent additional first year depreciation deduction or elected to expense all or a portion of the cost of the passenger automobile. 

Find more details in FS-2018-9, New rules and limitations for depreciation and expensing under the Tax Cuts and Jobs Act, and Additional First Year Depreciation Deduction (Bonus) - FAQ.

New and revised tax credits for businesses

  • New employer credit for paid family and medical leave. This general business credit is a percentage of the amount of wages paid to a qualifying employee while on family and medical leave for up to 12 weeks per taxable year. The credit is generally effective for wages paid in taxable years beginning after Dec. 31, 2017, and before Jan. 1, 2020. For more information, see the Frequently Asked Questions about the Employer Credit for Paid Family and Medical Leave and Notice 2018-71 (PDF).
  • Rehabilitation Tax Credit. The new law affects the Rehabilitation Tax Credit for amounts that taxpayers pay or incur for qualified expenditures after Dec. 31, 2017. It repeals the 10 percent credit for buildings placed in service before 1936. It keeps the 20 percent credit for expenses to rehabilitate a certified historic structure, but requires taxpayers to prorate the 20 percent credit over five years instead of in the year they placed the building into service.

A transition rule gives relief to owners of either a certified historic structure or a pre-1936 building by allowing owners to use the prior law if the project meets these conditions:

  • The taxpayer owns or leases the building on Jan. 1, 2018, and at all times thereafter, and
  • The 24- or 60-month period selected for the substantial rehabilitation test begins by June 20, 2018.

Accounting methods

Small businesses. The new tax law allows small business taxpayers with average annual gross receipts of $25 million or less in the prior three-year period to use the cash method of accounting. The law expands the number of small business taxpayers eligible to use the cash method of accounting and exempts these small businesses from certain accounting rules for inventories, cost capitalization and long-term contracts. As a result, more small business taxpayers can change to the cash method of accounting starting after Dec. 31, 2017.

S corporation to C corporation. An eligible terminated S corporation that needs to change from the overall cash method to an overall accrual method of accounting for its first year as a C corporation (due to revocation of S corporation election) must use a six-year adjustment period, per IRC Section 481(a). See Revenue Procedure 2018-44 (PDF) for details.

Like-kind exchanges. Under the new law, deferral of gain or loss now applies only to exchanges of real property and not to exchanges of personal or intangible property. An exchange of real property held primarily for sale still doesn’t qualify as a like-kind exchange. To qualify as a like-kind exchange, a taxpayer must hold the real property for productive use in a trade or business or for investment. Per a transition rule in the new law, an exchange of personal or intangible property may qualify as a like-kind exchange if the taxpayer began the exchange by transferring property or receiving replacement property on or before Dec. 31, 2017. See more details on the Like-Kind Exchanges – Real Estate Tax Tips page on IRS.gov.

International business

The Tax Cuts and Jobs Act changed some things related to international businesses. Learn more on the tax reform page for international taxpayers and businesses.

Wrongful IRS levy

Individuals and businesses have more time to file an administrative claim or to bring a civil action for wrongful levy or seizure. The new law extended the time limit for filing an administrative claim and for bringing a suit for wrongful levy from nine months to two years. For more information, see news release 2018-126

Other resources