Making the Partnership Work – Partnership Basis and Distributions

Making the Partnership Work – Partnership Basis and Distributions

by | Aug 3, 2018 | Business Tax

In our previous article, we looked at how partnerships are formed. Now, we are looking at the basis and distributions features of a partnership. Ownership in a partnership is determined by a partner’s basis, which can be similar to how shareholders have stock in a corporation.

Partner’s Basis

When establishing a partnership, partners contribute capital through cash or assets like an office. The combined value of the adjusted basis of assets and cash contributed is considered a partner’s basis in the partnership. The basis determines a partner’s percentage share in a partnership. For example:

Dan contributes to the “TruFriends” partnership $4000 in cash and a 1998 Honda Civic worth $2300. Jon contributes 3 desktop computers with desks and chairs, all worth $6000 plus $2000 in cash. Dan’s basis in the partnership is $6300. Jon’s basis is $8000. The total basis of “TruFriends” is $14,300, with Jon having a 56% basis and Dan having a 44% basis.

A partner’s basis can increase or decrease (but never below zero) through events such as additional contributions to the partnership or distributions paid out to a partner.

 

Partner Distributions

Partners are paid out in distributions that affect their adjusted basis in a partnership. This can include withdrawals, distributions based on partnership earnings from the year, or even guaranteed payments from a partnership agreement.

Distributions decrease a partner’s adjusted basis in a partnership. However, unless it is a liquidating distribution to disassociate a partner, the partner’s basis cannot go below zero. For example:

After a year of running “TruFriends”, the partners get a guaranteed payment of $1000 per their partnership agreement plus 50% of the year’s profits of $3000. Given the facts from the previous example, Dan’s adjusted basis in the firm changes from $6,300 to $3,800. Jon’s basis changes from $8,000 to $5,500.

 

Partnership Filings

Even as a pass-through entity, partnerships still must file with the IRS by using Form 1065. Form 1065 informs the IRS on a partnership’s distributions, assets, revenues, and other information.

 

While this is just a general snapshot of partnership operations, each partnership has its own circumstances and questions to handle. Contact us at MiklosCPA if you have a specific question! We are an accounting and tax firm that has helped many small and mid-sized businesses with partnership questions. If you enjoyed this article, please follow us on our social media pages for future updates.

Profit Sharing Plans for Small Business – Investing In Your Team

Profit Sharing Plans for Small Business – Investing In Your Team

by | Jul 23, 2018 | Business Tax

Employers offer various retirement savings plans as an incentive to retain solid talent. The types of plans can vary from  rare pension plans to more common 401k plans.

Profit sharing plans are an increasingly popular form of savings plans that give employers and employees flexibility with their contributions. They also offer some corporate tax benefits. Employers can set how and how much to contribute to a plan, such as a certain percentage of profits. Profit sharing plans are also available for employers of any size, unlike certain 401k plans or Savings Incentive Matching Plans for Employees (SIMPLE), which are restricted by the number of employees participating.

Setting up a Profit-Sharing Plan

Much like 401k plans, profit sharing plans require 4 initial steps:

  • Adopt a written plan document.
  • Arrange a trust for the plan’s assets.
  • Develop a record keeping system.
  • Provide plan information to employees eligible to participate.

Employers can set up their own plans, or can obtain pre-set plans from financial companies like Charles Schwab or TD Ameritrade.

Running a Profit-sharing plan

Again, just like with 401k plans, owners have certain responsibilities in operating a profit sharing plan:

  • Participation – Profit sharing plans offered must include rank & file employees and management/owners. Some exclusions may apply, such as those for staff under 21 years old or resident aliens.
  • Contributions – Participants can contribute to a plan through salary deductions. Businesses have flexibility to determine how much to contribute to participants’ plans each year. This can be useful for small businesses who go through boom and bust years but wish to have a retirement plan for employees. The contribution limits remain virtually the same to 401ks (100% of a participant’s compensation OR $54,000 for 2017).
  • Vesting – Vesting schedules can also be set by the business, and can have employees be fully vested immediately to encourage retention.
  • Nondiscrimination – The profit sharing plan must offer substantial benefits to both regular employees and management. Plans are subject to annual tests to ensure benefits are offered appropriately.
  • Investing Profit Sharing Money – Owners have the option of considering a variety of investment options on behalf of employees, or let the employees determine where to direct the investments.
  • Fiduciary Responsibilities – Responsibilities include a plethora of duties to uphold, such as acting solely in the interest of the plan participants and beneficiaries, following plan documents, and diversifying plan investments. Owners can hire a service provider to uphold the fiduciary responsibilities in place of the owner.

Terminating a Profit Sharing Plan

While it’s understood profit sharing plans should operate indefinitely, business conditions may change and employers may need to terminate their profit sharing plans. To do so, amend the plan document and file a final Form 5500. Also consult with your plan’s financial institution for any additional actions needed to seamlessly terminate the plan.

Profit sharing plans are useful benefits to offer employees that require appropriate accounting practices. Tax benefits are available for establishing and maintaining plans too. Contact us at MiklosCPA if you would like to learn more of the tax benefits, as well as learn more of the services we offer in tax and accounting for businesses. Also, follow us at our social media pages for future tax tip articles like this one!

Forming Partnerships – Two (or more) Heads are Better than One

Forming Partnerships – Two (or more) Heads are Better than One

by | Jul 10, 2018 | Business Tax

Ever thought of running your own business, but don’t want to be the sole owner or go through the red tape in forming a corporation or LLC? Consider starting a partnership! Partnerships are a common form of business organization due to the ease in starting them up and maintaining them. Their simplicity appeals to small businesses especially. Unlike corporations that are taxed twice (the corporation itself, and its shareholders), partnership taxes “pass through” the partnership entity and are shared by the partners.

Who can form a partnership?

Individuals who join a partnership become partners who proportionally share in the profits and losses the partnership will experience. Usually, a formal Partnership Agreement document is established to spell out any specific arrangements, be it written or oral. Certain kinds of organizations (formed after 1996) are NOT allowed to become partnerships. For example:

  • Insurance Companies
  • Joint-Stock Companies
  • Real Estate Trusts
  • Tax-exempt entities
  • Certain banks
  • Organizations wholly owned by state, local or foreign governments
  • Organizations specifically required to be taxed as a corporation

A partner’s “basis” in a partnership can be determined by how much capital a partner contributes, be it through cash or assets like a car or an office space.

Ending a partnership

Partnerships cease to exist when one of these two events occur:

  1. The organization discontinues all operations and partners no longer carry out any business.
  2. When 50% or more of a partnership’s total interest is sold or exchanged within a 12 month period. This includes any sales or transfers between partners, and even the death of a partner.

For example, Jon, Mark, Dan, and Dave are members of the “TruFriends” partnership and have a basis of 20%, 20%, 25%, and 35% respectively.  Jon and Dave decide to sell off their shares in the partnership to 4 different investors, but this totals 55% of “TruFriends” being sold within a year. Therefore “TruFriends” as a partnership ceases to exist and a new partnership will need to be established with the remaining and new partners.

Interested in learning more about partnerships? Follow our social media for future partnership articles. Or if you may happen to have a pressing tax or accounting question, contact us at MiklosCPA. We are a California accounting firm that helps small to medium businesses with their accounting and tax needs.

Taxpayer Rights – Your Foundation When Dealing With The IRS

Taxpayer Rights – Your Foundation When Dealing With The IRS

by | Jun 21, 2018 | Business Tax, Expat Tax, Individual Tax

Much like the often-invoked “Bill of Rights” in the United States Constitution conveying the rights of its citizens, the IRS conveys to taxpayers a “Taxpayer Bill of Rights” that sets across the unalienable rights taxpayers have when dealing with the IRS.

“The Right to Be Informed”

The IRS makes available volumes of publications that are intended to inform taxpayers about tax rules and what they need to do to be in compliance with the law. Filing Instructions are attached to all IRS forms. However, sometimes a person’s particular tax situation may require more research.

“The Right to Quality Service”

The IRS serves taxpayers with the utmost in professional, prompt, and courteous service. Separate from any opinions and anecdotal experiences, this is something all government agencies strive for.

“The Right to Pay No More than the Correct Amount of Tax”

Taxpayers have a right to pay only the correct amount of tax that is legally due, once all factors surrounding a taxpayer’s situation has been properly assessed.

“The Right to Challenge the IRS’s position and Be Heard”

Taxpayers have a right to object to IRS rulings on their tax circumstances. For example, the IRS determining after an audit that an independent contractor working closely with a business is actually an employee and should be taxed as such. The business owner has the right to challenge such a determination.

“The Right to Appeal to an IRS Decision in an Independent Forum”

Related to the previously mentioned right, taxpayers have a right to appeal any determination made by the IRS in an independent forum. Basically, the taxpayer has the option to go as far as taking their cases to court.

“The Right to Finality”

Taxpayers are entitled a certain amount of time to challenge the IRS on its determinations of taxpayer situations. For example, going back to the previous example of an independent contractor/employee, the business has up to 90 days to file a petition for Tax court.

“The Right to Privacy”

Taxpayers have a right to privacy that basically means that the IRS cannot be more intrusive than necessary for their investigations within their jurisdiction.

“The Right to Confidentiality”

Taxpayers have a right to confidentiality with their information. The IRS is expected to not disclose information unless authorized by the taxpayer or by law. This right also extends to any third parties that may wrongfully disclose confidential information.

“The Right to Retain Representation”

Taxpayers have a right to designate an authorized representative of their choice when dealing with the IRS. Taxpayers who cannot afford representation have the right to seek assistance from the Low Income Taxpayer Clinic.

“The Right to a Fair and Just Tax System”

Taxpayers have a right to expect a tax system that considers all facts and circumstances that affect taxpayer’s ability to pay and provide information in a timely manner. For example, the IRS makes filing extensions available to taxpayers who may have trouble paying, however there is an expectation that the taxpayer files the proper paperwork.

 

While the IRS spells outs the rights of taxpayers, sometimes a particular business tax issue may not be immediately clear. Having a team, like us here at MiklosCPA, clarify such ambiguities in light of changing IRS tax rules can save a business owner from much headache and save some money from any penalties. Contact us if you would like to learn more of our services. Also, if you enjoyed this article, follow us on our social media pages for future updates.

Alimony and Child Support Payments – Divorce Fallout

Alimony and Child Support Payments – Divorce Fallout

by | May 25, 2018 | Individual Tax

Divorce is a life-changing event, but the further headaches and stress from tax complications is something that everyone wants to minimize.  At MiklosCPA, a California-based CPA firm, we understand that there are many important issues to consider which can come out of a decree or a settlement agreement.  Two costs that that may often get mistaken interchangeably are alimony and child support.

Alimony payments

First, it is important to know what is considered alimony.  Alimony is a court-ordered payment from one spouse to another for financial support. For example, a court orders a payment from one spouse to the other for $500 a month as a part of a divorce decree. If there is no court decree, and a spouse simply provides $500 a month to the other spouse during divorce, this is NOT alimony, but a voluntary payment.

Alimony can make a huge difference on your tax bill depending if you are the payer or the recipient. What’s the difference and what should you do?

Alimony payments are deductible to the payer and are included in the gross income for the former spouse. For example:

You pay $15,000 a year in alimony to your former spouse to support him/her living in Encino. You REDUCE your gross income by $15,000.  In effect, you don’t pay taxes on that money. Instead, your ex-spouse will pay that tax bill.

If you receive $15,000 in alimony for maintenance of a household in Encino, you ADD it to your gross income and pay that tax burden.

 

Child support payments

Child support, unlike alimony, is NOT deducted from your gross income and is not included in gross income of the ex-spouse. If you pay $15,000 in child support, you will pay taxes on that money before transferring it to your former spouse. Your former spouse will not pay taxes on the money received from you.

Any payment that is contingent upon a child’s event will be considered child support.  For example, a payment that continues until a child turns 18 will be considered child support, even if it is not explicitly defined as such.  It can be as simple as a wording of “$300 a month for clothing for John Jr living with mom in Arcadia”. As you complete your divorce settlement, it is important to make sure to pay special attention to the distinction between alimony and child support.

 

Determining Alimony Payments 

Understanding what counts as alimony can be a complicated process. California is a community property state, which means, some things are considered alimony, others are not, depending on the final division of assets and property at the time of the divorce.  Cash payments going to a third party and not your former spouse can even be considered alimony, even though your spouse did not receive it. For example:

You have a court-ordered mortgage payments for a house in San Marino owned by the ex-spouse, these are considered alimony payments. If the house is jointly owned and used by the ex-spouse and you, half of your mortgage payments may be considered alimony payments. If you own the house, then none of the payment will be considered alimony.

Keeping these tips in mind for alimony and child support payments and how they are classified can help you manage your annual tax filings and ultimately get a better tax return.

Beginning in 2019, alimony payments will no longer be deductible by the payer on their federal tax return, and the person receiving the payments will not pay taxes on the money received. The new rules will only apply to divorce settlements taking place after 2018, and the current rules will remain for settlements taking place prior January 1, 2019.

Individual tax tips are knowledge we enjoying sharing with the community. Follow MiklosCPA on our social media pages for future posts and check our blog for previous articles! MiklosCPA is a CPA firm focused on helping business clients with their accounting and taxation needs. We utilize contemporary “virtual office” services with the personal touch of regular, periodic communication. If you want to learn more of our services, feel free to reach out.

 

 

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