Year-End Planning for Manufacturers
10 Tips for Manufacturers
Proactive steps can help you save tax dollars and get ahead on your tax returns for 2019. Review these tips below to make sure you are aware of all the potential deductions available to you. If you have any questions or concerns about your year-end planning, reach out to your trusted Cherry Bekaert advisor.
1. R&D Tax Credit
The tax credit for increasing research and development activities (“R&D tax credit”) is available for manufacturers that develop new and innovative products and improve their production processes. The R&D tax credit provides a tax incentive for companies already engaged in R&D activities and covers more activities within a company than just the “lab coat” team. An IRS directive issued in late 2017 provides a safe harbor for certain large organizations to follow the accounting for R&D expenses as they are reported in the company’s financial statements.
The R&D Credit is one of the most overlooked tax credits, and is an integral part to every manufacturer’s 2020 tax planning strategy. Watch this video on R&D Credit with Ron Wainwright for more information:
2. IRC §263A, Uniform Capitalization of Costs to Inventory (“UNICAP”)
There are two potential money-saving items with UNICAP for 2019. First, small companies with average gross receipts under $26,000,000 can take advantage of the simplified accounting methods included in the Tax Cuts and Jobs Act (“TCJA”). Qualifying companies are no longer subject to UNICAP and can change their accounting method. Any UNICAP reserves from prior years may be written off and deducted. Second, large companies can review the final UNICAP regulations to see if changes can be made to their current method of calculating the UNICAP reserve and reduce the amounts required to be capitalized each year.
3. Historic Absorption Ratio (“HAR”)
Related to UNICAP is a method entitled the Historic Absorption Ratio (“HAR”). This method allows a manufacturer or distributer to analyze its UNICAP costs over the prior few years and, if criteria are met, elect to fix the capitalization rate to a percentage based on the prior year’s average. The fixed rate stays in effect for a number of years. Using HAR can eliminate the detailed UNICAP calculations every year and provide more predictability for projecting and estimating tax liabilities.
4. Disallowed Deductions
TCJA instituted lower tax rates and many tax incentives. But, to pay for these rates and incentives, TCJA also disallowed certain business deductions and limited others. Year end is an excellent time to consider the impact of interest expense limitations, entertainment expenses, and cost of providing employee parking. Make sure you consider these limitations when reviewing your year-end planning.
5. ASC 606 – Accounting Method Changes
For 2019, many companies will adopt the financial accounting standard on revenue recognition (“ASC 606”). This change in accounting for income will influence a company’s tax situation and could trigger additional income for tax purposes. In addition, the IRS has released proposed regulations that apply the tax law of §451 to revenue and advance payments. All of these changes to when a company recognizes revenue can significantly impact accrual basis taxpayers. For these changes, companies will likely need to file Form 3115 and consider the cumulative change to taxable income from the old methods to the new methods.
6. Corporate Tax Planning Strategies
TCJA reduced the corporate tax rate to 21 percent, and for pass-through businesses, the qualified business income deduction (“QBI”), effectively dropped the maximum tax rate of owners to 30 percent or less. Now that we have worked with the complex QBI rules for a year and the new corporate tax rate, this may be an opportunity to again consider the entity choice for operating the business. Is a C corporation a good choice? Should the company operate as an S corporation or as a partnership? We can assist the company’s owners with this discussion by applying our Business Entity Analysis Model to various “what if” scenarios.
7. Capital Expenditure Expensing under §179
In addition to the 100 percent bonus depreciation, there is a higher §179 expensing election available for 2019. The threshold has been increased to $1,020,000 and the point at which qualify purchases are phased out is $2,550,000 for 2019. As noted earlier, there are certain real property improvements that can qualify for this expensing election that are not available for bonus depreciation.
8. Maximize Deductions with Asset Capitalization Policy
The tangible property regulations issued a few years ago instituted one more opportunity for deducting equipment costs. Manufacturers with established capitalization policies can expense small purchases of equipment and supplies up to $2,500 per item or per invoice when the company does not have an applicable financial statement and up to $5,000 if the company does have an applicable financial statement. These purchases can be directly deducted if set rules are followed for both financial accounting and tax return reporting.
9. LIFO Inventory
The LIFO inventory method should be evaluated for any manufacturer or distributor that is encountering rising prices. Inflation has picked up in several industries and markets in impacted by tariffs or the threat of tariffs. LIFO is still available and is most beneficial when a company is experiencing increasing prices or costs its inventory. There are many considerations in choosing and applying a LIFO method, but tax savings can be significant.
10. Foreign Derived Intangible Income Deduction (“FDII”)
The Foreign Derived Intangible Income Deduction (“FDII”) is a new incentive from TCJA for corporations that export goods. For corporations, the FDII deduction has the effect of cutting the net tax rate on foreign source income companies to as low as 13 percent. This tax incentive is not available for businesses operating as partnerships and S corporations, which is another reason to consider the choice of entity for operating the company. Cherry Bekaert’s International Tax team can assist in evaluating whether the FDII incentive is available and practical in your situation.
*Bonus Tip for Exporters
100 percent bonus depreciation is available for both new and used machinery and equipment placed in service in 2019. Final regulations were issued this year which address some unusual situations for bonus depreciation. For real property improvements, the law still requires an update to make Qualified Improvement Property eligible for bonus depreciation, but Section 179 expensing is now available.