Q:

Subject: C and S corporations

Hello,

Thank you very much for the informative C vs. S Corporations comparison.  Two friends of mine and I are thinking of becoming a corporation (IT Consulting) and are in the process of deciding which type would be best for us.  Based on your article, it is apparent that you are more in favor of the C type because of its’ flexibilities to be at a lower tax bracket.  I have an question which I hope you can shed some light on.  To be honest, mine and my friends’ main interest of becoming a corporation is to write off the “expenses” from our “corporation” in our current W2s.  Because we are planning to continue our day-time employment, we want to minimize the taxable incomes on our W2s by write-off our “corporate expenses”.  This is why we originally are leaning toward the LLC since we were told that it would allow us to deduct “corporate’s expenses” on the W2.  We later found out that this would also be the case for S corporation status.  I would appreciate your feedback on our thinking process.

 

Kind Regards,

A:

 As I have to warn everybody, you should be working with a tax pro who can help you fine tune everything to fit your particular circumstances.

However, a couple of points in your email warrant further scrutiny.  It sounds as if your corp won’t be generating any actual income, just expenses; and that you are going to continue to be a W-2 employee.  That has the inherent problem of whether your corp has an actual profit motive, which would be crucial in determining whether you would be entitled to deduct the pass-through losses from an S corp or LLC.  IRS frowns on the use of business entities just to generate paper losses.

What you may want to consider is to terminate your status as a W-2 employee and have our employer pay your new corp instead.  I have seen that technique save thousands of people huge amounts in taxes, including payroll taxes.  What is also possible is to do it both ways.  Some of your compensation is on W-2 and some through your corp.  There are various reasons to maintain some employee relationship, such as eligibility for the employer’s benefit plans. 

If your corp generates income, my earlier conclusion that a C corp has less tax than an S will apply for all of the reasons that I spelled out in my article.  As I mentioned in there, in terms of what kinds of expenses can be deducted, the C corp allows much more, especially in the area of fringe benefits and the Section 179 expensing election.

Good luck.

Kerry Kerstetter

Follow-Up:

Kerry,

 

Thank you very much for your insightful feedback.  We will definitely look more into Section 179 expensing election.  Again, thank you for your time and have a great weekend.

 

Q:

I read on your website that equipment acquired through $1.00 purchase option capital leases qualify for Section 179 treatment exactly the same as a cash purchase.  Would the tax treatment be any different if the lease had a mandatory 25% purchase requirement?  The purchase requirement is considered a put (balloon).  The Lessee must purchase the equipment at lease maturity and cannot return the equipment.

A:

It depends on how the buyer/lessee records the acquisition on his books.  If he sets it up as a purchase with the present value of the loan as the offsetting credit, and posts subsequent payments to principal and interest instead of lease expense, he would have a good case to claim the Section 179 in the first year.  The value to be used would not be the sum total of the lease payments because the obligation to the lessor would have to be discounted for the interest rate that is built into the monthly payments.

If, as many lessees want to do, he doesn’t show the debt on his balance sheet, and wants to expense the monthly lease payments, no Section 179 or depreciation would be appropriate.

IRS actually addresses this issue on its website:
http://www.irs.gov/businesses/small/article/0,,id=135485,00.html

Kerry Kerstetter

I received this from a reader regarding my Section 179 info.

Hello,

I’m on your website and for 2006 & 2007 you have “+ COLA”. What exactly is cola?

Thanks,

My Reply:

COLA = Cost Of Living Adjustment

This is a standard term to designate adjusting something for inflation, usually based on something like the Consumer Price Index (CPI).

Kerry Kerstetter

Q:

Subject: nother sextuin 179 question

 

This is one of those questions that almost afraid to ask because the answer seems so simple that I must be missing something REALLYobvious. However, I havent been able to find a definate answer or anytthing suggestive. Ive spent 2 or 3 hours searching for some kind of answer with no luck, so here it is-

 

Is the section 179 only good for two items which space is provided for on the form? Is there an item number limit for this deduction?

 

Thanks for your time.

A:

I have seen plenty of people, including some tax pros, with the mistaken belief that the number of blank lines on an IRS form dictates how many items can be listed.  That is absolutely not the case.  Whenever you have more items than blank lines available, enter “See Attached” and have a detailed listing.  This is done automatically by most tax prep software.

For Section 179, there is no numeric limit to the number of new business assets for which it can be claimed on each year’s tax return.  All that matters are the dollar values.  I have prepared returns where we had two and three full pages of small dollar items listed, totaling up to the maximum available, or even lower.

Good luck.

Kerry Kerstetter

Q:

Subject: Sec. 179 question

 A “Sec. 179” Google search got me to your website and since you’re the Tax Guru I was wondering if you might answer a (hopefully) quick question.  I’ve read that the 50% Sec. 168 deduction is optional and that sometimes it is favorable to take it at 30% and other times not take it at all.  I take it 168 deductions can not be carried forward like 179 deductions so taking it in a loss year would be like throwing it away?  Can you affirm or clarify this issue for me?  Also, is it ever unfavorable to take the entire allowable 179 deduction.  Why would it be if one can carry forward the deduction?

Okay, I know, that’s two questions.  Any feedback would be appreciated.

Thx,

A:

 You don’t lose anything if you opt not to claim any or all of the Section 179 or first year bonus depreciation.  That just leaves more cost basis to be claimed in future years either as depreciation or as cost basis when the asset is sold.  I frequently choose not to claim any of those extra first year deductions if we already have plenty of other deductions. This saves more for future deductions.

I hope this helps you understand.  Any good tax pro should be able to help you fine-tune the depreciation & Sec. 179 deductions you claim in order to give you the overall best tax savings.

Good luck.

Kerry Kerstetter

Q:

kerry,  i am a traveling physical therapist (i work for a company that finds contracts in different states…..i’ve been back and forth from florid to connecticut…… and those contracts are 3 months at a time).  can i take a section 179 deduction for my vehicle since i drive over 50% it’s total miles in 2004 for work? thank you

A:

As has long been the case for business vehicle usage, you have the option of claiming the IRS standard per mile rate or the actual expenses of operating your vehicle (including Section 179 and normal depreciation), prorated to the business percentage. 

I have always believed it’s a good idea to calculate the deduction both ways and then use the method that gives you the best tax savings.  However, if you do choose to take the actual expense method and claim the Sec. 179, you will need to continue using that method for future years for that particular vehicle.

This is standard tax info, that any competent tax pro can help you with.

Good luck.

Kerry Kerstetter

Q:

Enjoyed reading your work on the site.  What is your opinion(sole propreitor) if you buy an SUV in December, 2004, weighs more than 6,000 pounds and you take the section 179 without knowing what percent you will use it for business over the period of years you own the vechicle.  Suppose I used it 80% for business in 2004(Dec only)and take section 179 for 80% of the cost.  Assume the cost is 25,000, so I take 80% or 20,000 section 179.  What happens if in 2005 if I use the vehicle 60% for business or increased it to 90%. Any adjustments needed for the years in question because of the change in persoanl use. Thanks in advance.

A:

You only need to recapture part of the Sec. 179 deduction if the business usage slips below 50%.

I discussed this earlier:
www.taxguru.net/2004/11/section-179-sales-recapture.html

Good luck.

Kerry Kerstetter

 

Q:

Subject: Section 179

Hi Ken,

Can you tell me if a sailboat put into charter or as a rental qualifies for section 179 deductions.  I have inherited a large sum of money of which some is taxable.  I read that aquistion of property through inhertance does not qualify, but in fact I could use other monies to purchase the boat.  I need to find a way to write off up to 140K, can you help me?

Thanks in advance,

 A:

Paul:

If you are going to be providing services along with the rental of the boat, its purchase should qualify for the Section 179 expensing election, which is up to $105,000 for 2005 purchases. 

Where the money comes from for the purchase doesn’t affect the Section 179 deduction.  As I’ve mentioned several times before, the deduction is the same whether the asset is paid for with cash or financed completely with a loan. 

What you may be referring to is the limit on the Section 179 deduction to your taxable income.   In most cases, this limit does include income from other trades and businesses, including W-2 wages, in addition to the one for which the asset was acquired.  Depending on what kind of income is being passed through to you via the estate, it may or may not raise that eligible deduction.   Any Sec. 179 amount that can’t be claimed for the current year because of this limit can be carried forward to the next year’s tax return via Form 4562.

When dealing with large amounts of money, you would be well advised to consult with a tax pro who can give you more specific advice based on your circumstances.   There are also ways to double the potential Sec. 179 deduction with the use of a C Corporation, which you should discuss with your personal tax advisor.

Good luck.

Kerry Kerstetter

Q:

Hi Kerry –

 

Section 179 deduction :

 

Purchase price of SUV (over 6000 lbs) $50,892. minus trade-in of 17,892.  total sales price is 33K which was purchased 12/2004. 

 

I use my vehicle 80% for real estate.  Does this mean I can deduct 80% of 33K up to 25K (or 80% of 25K)?

 

Also when calculating basis for future years deductions would that be $4000. (half of the difference between 33-25K)?

 

Thank you for your time!

A:

First, my standard admonition that anyone in the real estate profession, who is serious about minimizing their taxes, should be working with a tax pro, who would be able to answer questions such as these very easily.

In the example you gave, there are a few different things to consider. 

First is the amount that is eligible for the Section 179 deduction. For this, you can only count the additional cost paid for the vehicle, without counting the trade-in value.  In this case, it would be the $33,000 figure you mentioned (50,892 – 17,892).

Next is the maximum Section 179 which you may claim.  As you stated it was used 80% for business miles during 2004, we multiply $33,000 by 80% to arrive at $26,400.  Since you bought it after the law regarding SUVs changed in October, you may claim only $25,000 of the cost.

Next is the issue of the remaining cost basis for depreciation purposes.  You were on the right track, but you forgot to add in the adjusted cost basis of your trade-in vehicle.  Whenever there is a trade, the cost basis of the previous vehicle is added to the additional amount you pay for the new one to arrive at its cost basis.  You will need to refer to the depreciation schedule for your old vehicle to determine its adjusted cost basis at the time of the trade.  From that total, you will subtract the $25,000 Sec. 179 to arrive at the remaining cost for depreciation purposes.  From the other direction, that would give your new SUV a cost basis of $8,000 (33 – 25) plus the adjusted basis of the traded in one.

I hope this helps.  I also hope this illustrates why you need to use the services of a tax pro.

Good luck.

Kerry Kerstetter

Follow-up Q:

Thank you!!!

Do you know of good tax professional in the Boston (Billerica/Burlington) area?  I don’t even know where to start……

A:

Unfortunately, we don’t have anyone else to whom we could refer you. If you haven’t already done so, you should check out my tips on how to select the right tax preparer for you at:
http://taxguru.org/incometax/prepare.htm

Good luck.

Kerry Kerstetter

Q:

I bought a 2004 Chev Suburban loaded to the max in December 2003, took a huge section 179 writeoff, 100 pc.  We can call that purchase price ‘X’.
Unfortunately I have had to file Chapter 13 and the truck will be turned in this year (2005), probably
being sold at auction in the 20s…you say on tax guru the following
‘If you sell the previously deducted vehicles, you need to report the sales on Form 4797 and show
anything that you get for it above its depreciated book value as depreciation recapture ordinary income.
 A sale only makes sense tax wise if the price you can get for it is less than the adjusted depreciated book value, so that you can claim the loss on Form 4797.’
I think I sound safe but and way you can clarify would be greatly appreciated…

 A:

From what you have said, you will need to report the sale of the Suburban on your 2005 1040 via Form 4797.  If you did write off its total cost on your 2003 1040, its book value is zero; which means that whatever you receive for it is taxable recapture gain. 

If you are in bad enough financial shape that you had to file for bankruptcy protection, odds are that you have other losses that will more than offset the 4797 gain; which will make the actual tax hit on the disposal of the Suburban zero.

I’m sorry I can’t be of more assistance.  Good luck.

Kerry Kerstetter