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Should your C corp reverse itself?

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in Small Business Tax,Small Business Tax Deduction Strategies

In the usual course of events, a C corporation will try to shift taxable income into 2014 while accelerating deductions into 2013. But that’s not always the best approach.

Strategy: Review and react to your company’s tax situation at year-end. For instance, if your corporation is “on the bubble,” it may do the exact opposite of the conventional wisdom.

In other words, there are times when it makes sense to pull more income into 2013 and push deductions into 2014.

Here’s the whole story: Unlike the graduated tax rate structure for individuals, the corporate tax rate structure includes two bubbles. Corporate taxable income between $100,000 and $335,000 is taxed at the rate of 39% to phase out the benefits of the 15% and 25% brackets applicable to a corporation’s first $75,000 of taxable income. A corporation’s income between $75,000 and $100,000, and between $335,000 and $10 million, is taxed at 34%. Taxable income above $10 million is taxed at 35%, but a 38% “bubble” applies to taxable income between $15 million and $18,333,333 to eliminate the benefit of the 34% rate.

Example: Say your start-up C corporation expects to realize taxable income of only $90,000 for 2013, but projects income to soar well into six figures in 2014. By accelerating $10,000 in income from 2014 to 2013, the company saves $500 in taxes, because the $10,000 will be taxed at only a 34% rate instead of 39% ($10,000 times the 5% rate differential).

Note that the same basic principles apply if pushing income into the current year will prevent the corporation from moving into a higher tax bracket next year—perhaps from the 15% bracket to the 25% bracket or from the 35% bracket into the 38% “bubble.”

Nevertheless, this decision should not be made in a vacuum. There are other implications to the reverse year-end strategy.

Key point: The tentative alternative minimum tax (AMT) of a corporation is zero for any tax year the corporation’s average annual gross receipts for the three previous tax years doesn’t exceed $7.5 million. The gross receipts test is applied by substituting $5 million for $7.5 million for the first three-tax-year period of the corporation taken into account under this test. If your corporation is in this situation, it might defer income to 2014 to preserve the AMT exemption for 2013.

Yet another consideration involves payment of estimated tax. A small corporation (i.e., taxable income of less than $1 million) may avoid a penalty for underpayment of estimated taxes if it pays installments based on 100% of the tax for the preceding year. Otherwise, the corporation  must pay estimated taxes based on 100% of the current year’s tax.

However, the safe harbor based on 100% of the prior year’s tax isn’t available unless the corporation filed a return for the preceding year showing a tax liability.

Thus, a small corporation may accelerate income into 2013 just to show a small tax liability for 2013 to minimize estimated tax payments for 2014.

Tip: Don’t rely on a knee-jerk reaction. Base your decision on all the relevant factors.

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