Business year-end planning tips

The Inflation Reduction Act of 2022 greatly complicates tax filing and planning in the near future. While most small businesses will still benefit from the usual practices—accelerating and bunching deductions to minimize taxes while deferring income—higher-income businesses that expect increased revenue next year may find these strategies ineffective.

Generally speaking, these businesses can benefit from the opposite strategy: pulling 2023 income to be taxed at lower rates while deferring deductible expenses into 2024. Tax professionals should consider the following procedures:

Cash method accounting

More businesses are now allowed to use cash method accounting, rather than the accrual method, allowing for greater flexibility in accelerating or holding off payments. Any taxpayer can qualify as a small business if they satisfy a gross receipts test; however, for 2023, this requirement is satisfied if average annual gross receipts do not exceed $26 million over a three-year testing period. The benefits of being a cash basis taxpayer is that you only pay taxes on the money that you actually receive as income and actually pay out as expenses.

Accrual method accounting

On an accrual basis, you pay taxes on the money that is owed to you, whether you received it. On a similar note, you are able to get a deduction for amounts you are due to pay out.

There are some businesses that may benefit from the accrual method of accounting. Some circumstances where this could be applicable are businesses that do not have large accounts receivables, but could have large accounts payables. For example, restaurant clients do not have a large amount of accounts receivable because a majority of the income comes from customers who walk in the door on a daily basis. However, these clients will have a lot of bills they can defer to pay after the close of a tax year. They are also able to claim a tax deduction for when the bills are received.

You choose an accounting method when you file the initial tax return. If a change is to be made in the future, you must generally get IRS approval by filing Form 3115, Application for Change in Accounting Method.

Expenditures and asset purchases

Businesses should consider purchasing certain items before the end of 2023, especially depreciable property that falls under Section 179 business property expensing. This includes computer software, interior renovation (but not enlargement), elevators, escalators, roofs, HVAC, fire protection, alarms, or security systems. Beginning in 2023, the Section 179 expensing limit is $1.16 million and the investment ceiling limit is $2.89 million. In addition, if machinery and equipment were purchased and placed in service this year, businesses can also claim an 80% first-year depreciation deduction.

The de minimis safe harbor election (or book-tax conformity election) can also be used to expense lower­ cost supplies or materials if they are not capitalized under UNICAP regulations. If you have an applicable financial statement (AFS) you may use a safe harbor to deduct amounts paid for tangible property up to $5,000 per invoice or item (as substantiated by invoice). Or if you don’t have an AFS, you may use the safe harbor to deduct amounts up to $2,500 per invoice or item. To claim the de minimis safe harbor election, you must attach a statement titled “Section 1.263(a)-1 (f) de minimis safe harbor election” to the timely filed original federal tax return, including extensions for the taxable year in which the de minimis amounts are paid.

Timing debt cancellation, NOLs, and disposition of passive activity

Depending on the proportion of income and losses between 2023 and 2024, corporations should employ strategic timing. For example, delaying debt-cancellation events until 2024 can reduce 2023 taxable income, while 2024 income can be accelerated to create smaller net income in 2023 in anticipation of a small net operating loss (NOL). This avoids taxation on 100% of increased income the following year.

The disposition of any passive activities and the resulting suspended losses-should also be timed properly. For example, 2023 income can be reduced by disposing of the passive activity before year-end. On the other hand, delaying the same disposition until 2024 can help offset potential top rate increases.

Editor’s note: Check out a similar article focusing on individual year-end planning tips.