Pub. 17 2018-2019 Issue 2

N E W J E R S E Y C O A L I T I O N O F A U T O M O T I V E R E T A I L E R S 17 new jersey auto retailer W W W . N J C A R . O R G dealership can pay 21% as a C corporation? The problem with that is double taxation. The earnings of a C corporation are taxed a second time when the earnings are distributed to its shareholders in the form of a dividend. If you combine the federal tax rate paid by the corpora- tion, along with the individual tax paid by the C corporation shareholder on dividend distribu- tions, the double taxation can result in a tax burden close to 40%. SECTION 199A Section 199A of the new Federal tax law further reduces the individual tax paid by S corpo- ration shareholders. Generally, for tax years beginning after December 31, 2017 and before January 1, 2026, a non-corporate taxpayer (including a trust or estate) who has Qualified Business Income (QBI) from a partnership, S corporation, or sole proprietorship, is allowed a 20% deduc- tion from QBI, subject to certain complex regulations. This deduction could be a substantial savings to owners of auto dealerships. The deduction related to the pass-through income can reduce the effective tax rate paid for a dealership’s taxable income from 37% to 29.6%. The 20% taxable income deduction may also apply to real estate owned by the auto dealership that is held in an S corporation or partnership. The following example illustrates the difference in the Federal corporate tax rate changes for C and S corporations. Utilizing $1million in taxable income and assuming that the individual shareholders are subject to the maximum tax rate, the shareholders of an auto dealership that is structured as a C corporation will pay an additional 10.2% or $102,000 in federal tax, in 2018. The example also assumes that the auto dealership and its shareholders qualify for the Section 199A deduction of 20% on S corporation pass-through corporate income. ** State corporation taxes were not considered for the above example. NEW JERSEY STATE TAX CHANGES to C CORPORATIONS New Jersey has added twists and turns to the State corporate tax rate. Auto dealerships that are treated as a New Jersey C corporation have a temporary surtax imposed on New Jersey-al- located income in excess of $1,000,000 at a rate of 2.5% for tax years beginning on or after January 1, 2018 through December 31, 2019. The rate drops to 1.5% for tax years beginning on or after Jan- uary 1, 2020 through December 31, 2021. The surtax, added to the base corporate tax rate of 9%, increases the New Jersey corporate income tax rate to 11.5% for 2018 and 2019, making the New Jersey corporate tax rate one of the highest in the country. Shareholders of a New Jer- sey C corporation are also subject to double taxation on the distribution of C corporation earnings. NEW JERSEY STATE TAX CHANGES to S CORPORATIONS Auto dealerships that have elected to be treated as a New Jersey S corporation, for the most part, are not subject to the above mentioned New Jersey C corporation rates. A New Jersey S corporation is subject to an annual minimum tax that tops off at $2,000. Similar to Federal S corporations, the shareholders of a New Jersey S corporation person- ally bear the burden of the pass- through corporate income. New Jersey individual tax rates top off at 8.97% for income up to $5 million. Income exceeding $5 million is subject to a new tax rate of 10.75%. In addition, New Jersey decouples from providing any form of Fed- eral pass-through business income deduction under Section 199A and applies the Federal limitations on non-floor plan interest expense, increasing the income subject to New Jersey tax. The new Federal and New Jersey corporate tax rates, along with the other changes in the tax law, are complex and have a significant impact on the cash flow of an auto dealership. It is important that auto dealers study the changes and seek the advice of their CPA or tax advisor. Willfredo Fernandez, CPA is a partner and co-leader of Citrin Cooperman’s Automo- tive Dealerships Services practice. Will works closely with clients on dealership acquisitions, negotiations, manufacturing documentation and has developed strate- gies for year-end and ongoing tax issues. He can be reached at wfernandez@ citrincooperman.com All corporations start off as C corporations. The tax law allows corporations that meet certain requirements, to elect to be treated as an S corporation.