The most recent M&A Shop Talk highlighted the major tax advantages of completing a leveraged ESOP buyout transaction as an exit strategy for S corporation structured small businesses with no liquidity except its workforce. Now, we’ll cover a parallel discussion in the context of a C corporation target.
Currently, IRC Section 1042 tax provisions allow owners with at least 30% ownership stake in a qualifying C corporation selling target to complete a leveraged ESOP transaction, and invest their entire net cash proceeds received from the transaction into a qualifying replacement property (QRP). Thereby deferring 100% of the underling gain until such QRP is subsequently liquidated. In order to carry out this exit strategy, the following criteria must be met.
In addition to the described IRC Section 1042 gain deferral provision, qualifying C corporation businesses can also take advantages of the following favorable tax provisions that are not available under an S corporation transaction format as discussed here.
First tax provision, dividend distributions received by the ESOP constitute an additional pension contribution fully deductible to arrive at the regular corporate taxable income. This is not deductible from the alternative minimum tax calculation by the qualifying C corporation target. Accordingly, this contribution is subject to the normal 25% aggregate employee compensation limitation and overall pension contribution ceiling limitation per eligible ESOP employee participant under IRC Section 415.
Second, the cash contribution portion used by the ESOP to satisfy the interest expense portion with respect to the leverage buyout loan is generally not subject to the aforementioned overall 25% aggregate employee compensation limitation. Further, it is not counted as an employer contribution for purposes of the aforementioned IRC Section 415 tax provisions provided that less than 1/3 of the current year employer contributions are credited to highly-compensated employees.
If you are a small business and your workforce is your most valuable asset, the described leverage buyout sales transaction via an ESOP might be the ideal exit strategy for you. If you have any questions or need additional information, please contact Jorge Rodriguez at 301-222-8220 or firstname.lastname@example.org.
Did you know that you might be eligible to receive a big tax credit for expenditures to make your business ADA-compliant?
The Americans with Disabilities Act of 1990 (ADA) prohibits discrimination against individuals with disabilities in everyday activities. The law requires that businesses offering public goods or services (including doctors’ offices) be accessible to individuals with disabilities.
To comply with ADA and to encourage private business facilities to be more accessible to disabled individuals, a Disabled Access Credit is available to eligible small businesses. For any tax year, the amount of the Disabled Access Credit equals 50% of the amount of the eligible access expenditures for the tax year that exceed $250 but do not exceed $10,250. Thus, the maximum amount of the Disabled Access Credit is $5,000.
For purposes of the Disabled Access Credit, an eligible small business is any business that has gross receipts for the preceding tax year of $1 million or less; or employed 30 or fewer full-time employees during the preceding tax year.
Eligible expenditures include amounts incurred or paid for the following:
In order to qualify for the Disabled Access Credit, the expenditures must be reasonable and necessary to accomplish the above purposes (e.g., accessible medical equipment used in doctors’ office such as adjustable-height exam tables and chairs, wheelchair-accessible scales, adjustable-height radiologic equipment, portable floor and overhead track lifts, and gurneys and stretchers). However, in another example, X-ray machines purchased by a dentist were not eligible access expenditures and did not qualify for the Disabled Access Credit because the dentist did not purchase the machines to comply with ADA requirement, but rather to provide better dental care for the dentist’s patients.
As small businesses work to keep up with the evolving state of healthcare in the U.S., recent tax changes may be a double-edged sword for employers. The good news is that the available tax credit, for plan years beginning after December 31, 2013, has increased from 35 percent up to 50 percent of premiums paid by small business employers. The bad news is that, to be eligible, plans must be offered through a Small Business Health Options Program Marketplace (i.e., through healthcare.gov or a state-run marketplace). A second new limitation is that the credit may only be taken for two consecutive years.
Other eligibility requirements remain the same. To qualify:
For small employers who qualify, the credit can be a significant tax savings. For “flow-through” businesses, like a small medical practice partnership, the credit would flow through to the individual owners’ tax returns.
If the credit exceeds the 2014 tax liability, it may be carried back to a prior year for a refund or carried forward to reduce next year’s taxes. For employers who missed the credit in 2012 or 2013, a quick calculation may help determine if amending a prior year return to claim the credit would be worthwhile.
For more information, please contact your Aronson tax advisor or Ellen Boulle-Lauria of Aronson’s Professional Services Industry Group at 301.231.6200.
Faris R. Fink, IRS commissioner of the Small Business and Self-Employed Division, announced that 2014 will be the year the IRS moves its examination focus from C corporations to flow-thru entities. A flow-thru entity is any business whose tax is imposed at the owners’ level, on their individual income tax returns. Such entities include partnerships, limited liability companies, and S corporations.
In 2011 the average audit rate for corporate and individual returns was about 1%. For flow-thru entities, it was about 0.4%, reflecting the IRS’s long-standing focus on corporations. Given the rising number and complexity of flow-thru entity returns, however, the IRS believes that the level of noncompliance, unintentional or otherwise, needs to be more formally addressed. Flow-thru returns also provide a gateway to examining the owners’ individual returns and related entities.
Past efforts at targeting the noncompliant, while not imposing exam-induced hardships on the innocent, has been a challenge for the IRS. Various TIGTA (Treasury Inspector General for Tax Administration) found that the incidences of no-change exams was over 50% for flow-thru entities, significantly higher than for individuals and corporations.
While the IRS works out how they are going to do a better job at selecting returns more likely to bear fruit, we expect agents to concentrate on the following, among other areas:
Submitting a tax return to the IRS is the first step in a potentially disastrous relationship. Investing the time necessary to prepare a return that will withstand IRS scrutiny is the best defense, not only to achieve a no-change audit but to also eliminate the risk that other returns will be pulled into the exam. At minimum, you should understand what aspects of the return carry risks of an adverse finding, and make an informed decision on those tax positions prior to filing.
For further information or to discuss your specific situation, please contact your Aronson tax advisor at 301.231.6200.