Every tax season, business owners must familiarize themselves with tax law changes that went into effect for that tax year. Fortunately, businesses don't have to contend with sweeping changes in 2022. But three major ones could affect business taxpayers as they file federal income tax returns this year for 2022.
- Reduced Cap on Deducting Business Interest Expense
Starting in 2018, there have been limits on how much business interest expense corporate and noncorporate taxpayers can deduct for the tax year. In general, under the Tax Cuts and Jobs Act (TCJA), a taxpayer's deduction for business interest expense for the year is limited to the sum of:
- Business interest income,
- 30% of adjusted taxable income (ATI), and
- Floor plan financing interest paid by certain vehicle dealers.
Interest expense disallowed under the limitation rules is carried forward to future tax years indefinitely and treated as business interest expense incurred in the carry-forward year.
- To calculate ATI, businesses will need to adjust their taxable income for:
- Items of income, gain, deduction, or loss that aren't allocable to a business,
- Any business interest income or business interest expense,
- Any net operating loss deduction,
- The deduction for up to 20% of qualified business income from a pass-through business entity,
- Any allowable depreciation, amortization, or depletion deductions for tax years beginning before 2022, and
- Other adjustments listed in the proposed regulations.
Deductions for depreciation, amortization, and depletion were added back when calculating ATI for tax years beginning before 2022. For tax years beginning in 2022 and beyond, the deductions for depreciation, amortization, and depletion aren't added back. This could result in a lower interest expense limitation, increasing taxable income. Important: Small businesses with average annual gross receipts of $27 million or less for the three-tax-year period ending with the preceding tax year are exempt from the interest expense limitation rules for 2022. This threshold is indexed annually for inflation. The interest expense deduction limitation rules get more complicated for businesses operating as partnerships, limited liability companies (LLCs) treated as partnerships for tax purposes, and S corporations. The limitation is calculated at both the entity level and the owner level. Special rules prevent double income counting when calculating an owner's ATI to apply the limitation at the owner level. Contact your tax advisor for more information.
- New Requirement to Capitalize Research Costs
Under the TCJA, starting in 2022, Internal Revenue Code Section 174, "research and experimental" expenditures must be capitalized and amortized over five years (15 years for research conducted outside the United States). Previously, businesses could deduct these costs immediately as current expenses. The TCJA also expands the types of activities that are considered R&D for purposes of Sec. 174. For example, software development costs are now considered R&D expenses subject to the amortization requirement. Before capitalizing R&D expenses for 2022, businesses should analyze costs carefully to identify those that constitute R&D expenses and those properly characterized as other types of expenses (such as general business expenses under Sec. 162) that continue to qualify for the immediate deduction. Businesses with significant R&D expenditures also should discuss eligibility for the R&D credit for 2022 with their tax advisors.
- Reduced Limit on Deducting Corporate Cash Donations
C Corporations are subject to an annual deduction limit for monetary contributions to qualified charitable organizations. Before 2020, the limit was generally 10% of the corporation's taxable income for the year, subject to a five-year carryover. Pandemic-related relief upped the ante for monetary contributions to 25% of taxable income for 2020 and 2021. In addition, the limit was increased to 100% for qualified disaster relief contributions made in cash from January 1, 2020, through February 25, 2021. The 25% limit on qualified contributions made in cash for 2020 and 2021 was applied first without regard to any qualified disaster relief contribution. Excess contributions above the 25% limit could be carried forward for up to five years. Under current law, the rule has reverted to 10% of taxable income for 2022 and thereafter. It's essential to keep detailed records of charitable donations. Your business should retain the records for at least three years if the IRS challenges a write-off. Important: Pass-through entities, including S corporations, partnerships, and LLCs, can claim charitable contribution deductions. But write-offs for pass-through entities are claimed by the individual owners on their tax returns. Individuals may deduct monetary contributions of up to 60% of adjusted gross income (AGI). The excess above the 60%-of-AGI limit may be carried over for up to five years.
Ready, Set, File The countdown to Tax Day has begun. This year, corporate and individual taxpayers must file their 2022 returns by April 18, and S corporations and partnerships must file by March 15. Contact a Reynolds + Rowella tax professional for more information on these and other tax law changes.
Reynolds + Rowella is a regional accounting and consulting firm known for a team approach to financial problem solving. As Certified Public Accountants, our partners foster a personal touch with our clients. As members of DFK International/USA, an association of accountants and advisors, our professional network is international, yet many of our clients have known us for years through the local communities we serve. Our mission is to operate as a financial services firm of outstanding quality. Our efforts are directed at serving our clients in the most efficient and responsive manner possible, delivering services that exceed the expectations of those we serve. The firm has offices at 90 Grove St., Ridgefield, Conn., and 51 Locust Ave., New Canaan, Conn. For more information, please contact Elizabeth Bresnan at 203.438.0161 or email.
