Aside from those who filed extensions, the 2017 individual tax return filing season is over, and not without a few hiccups. As some close to the present administration have conveyed, this was the last year that taxes are filed under the present system, with most of the aspects of the Tax Cuts and Jobs Act going into effect in 2018.
Calendar year C-Corps are one group that has already seen a direct effect from the Act, as their 2017 reported earnings were adjusted due to changes in future rates influencing the calculation of deferred taxes. Those with timing differences that deferred tax into future periods saw an increase to their bottom line because the tax they will pay in the future is at a lower rate than the rate in place originally. Other companies with deferred tax assets, including many banks, had to take a significant earnings hit under the new law.
Otherwise, the biggest impact so far in 2018 has been for individuals who may have seen adjustments to their withholdings per the new IRS withholding tables. However, fiscal year businesses will be the next to see the changes of the tax act.
C-Corporations that have a fiscal year end (i.e. anything other than December) will be able to blend their tax rate for each month of their fiscal year that falls outside of 2017. So, a March year-end C-Corp will have nine months under the old rates, where the highest bracket was 34%, and three months at the new rate of 21%. Their effective rate will be 30.75%. These corporations may have been able to reduce their final estimated tax payment due to the lowered blended rate. June year-end corporations will have an effective tax rate of 27.5 percent. Therefore, in addition to a deferred tax adjustment, these corporations will see lower taxes for their upcoming year ends.
Although C-Corporations have the most immediate application of the tax law, fiscal year S-Corps (which typically must have year-ends of September or later) will also see an impact. Yet there is some discussion in tax circles about when shareholders of S-Corporations will reap the benefits of the 20% QBI deduction.
Generally speaking, S-Corp shareholders (with some exceptions) will get a deduction on their 2018 individual returns equal to 20% of the net income of the S-Corp. A fiscal year S-Corp, however, has some months in 2017 and some months in 2018. Let’s take a September year-end S-Corp as an example. They have nine months in 2018 and three months in 2017.
Some experts are in the camp that the 20% deduction only applies to those months in 2018. So, if the corporation nets $120,000 and $30,000 of that is in the first three months of their fiscal year and the remaining $90,000 is in the 2018 months, the shareholder would only get a 20% deduction on the 2018 income. Others believe that, since the deduction is for the individual, and the individual is filing a 2018 return, the taxpayer is subject to the 20% deduction on the entirety of the fiscal year S-Corp earnings.
Any owner of a fiscal year S-Corp should discuss with their tax preparer how they ought to prepare for next year’s 1040 filing, as different interpretations could result in large variances in the amount of individual estimated tax one must pay during 2018. Likewise, fiscal year C-Corps should consult their professionals see if they can reduce their final quarterly estimates of their upcoming year-end.
By Dan Massey, CPA, Principal