Author: Leon Clinton

Let’s say you’re considering converting your partnership into an S corporation. The reason might be to reduce exposure for you and the other owners to Social Security and Medicare taxes, which come in the form of the self-employment tax for partners.

Specifically, each partner’s share of net partnership income is usually fully exposed to the self-employment tax. For 2022, the self-employment tax rate is a painful 15.3 percent on the first $147,000 of net self-employment income. On net self-employment income above $147,000, the self-employment tax rate drops to 2.9 percent.

For a shareholder-employee of an S corporation, the Social Security and Medicare taxes come in the form of the FICA tax. But for shareholder-employees, the FICA tax hits only amounts paid as salaries. Distributions of the remaining corporate cash flow are FICA-tax-free.

Whatever the reason for wanting to convert your partnership into an S corporation, here’s an explanation and a summary of the key federal income tax implications.

Good news: You can transfer the business assets, liabilities, and operations of your partnership to a C corporation by incorporating the partnership. This can potentially be a totally federal-income-tax-free transaction under Section 351 of our beloved Internal Revenue Code. Or it can be mostly tax-free.

Then you can turn the C corporation into an S corporation.

Section 351 treatment for the incorporation of a partnership is allowed when all the following requirements are met.

1. One or more persons (which can include the partnership itself or its partners) transfer property (assets, which can include cash) to the corporation.
2. The transfer is solely in exchange for stock of the corporation.
3. The person or persons (the partnership itself or its partners) are in control of the corporation immediately following the transfer. Control means owning at least 80 percent of the stock.
4. The transaction has a business purpose. The IRS created this additional requirement, but meeting it should not be a problem. For instance, incorporating to take advantage of the liability protection offered by the corporate form of doing business would be an acceptable purpose. So would providing for the orderly transfer of ownership of a business from one generation to the next.

The tax results when Section 351 applies are not elective. When you meet the Section 351 requirements, the tax results are what they are. One result is that there cannot be any taxable loss in a Section 351 incorporation.

If you would like to talk about converting your partnership to an S corporation, please call me on my direct line at 408-778-9651.

• By Leon Clinton
• September 19, 2022

I was perusing the Internal Revenue Code (it’s one of the things I do) and started to think about the various sources of tax-free income.

Here are the 11 that jumped out at me:

1. Roth IRAs
2. Social Security benefits up to the taxable limits
3. Tax-free IRA withdrawals (on top of tax-free Social Security)
4. Home sale gains of up to $250,000 ($500,000 if married, filing jointly)
5. Tax-free capital gains and dividends when you hit the sweet spot
6. Capital gains sheltered with capital losses
7. Stepped-up inherited assets
8. Section 1031 real estate exchanges when held until death
9. Qualified small business tax gains
10. Section 529 college savings plans
11. Coverdell Education Savings Accounts

When it comes to tax planning, tax-free tops the list.

If you would like to discuss tax-free income, please call me on my direct line at 408-778-9651.

• By Leon Clinton
• September 17, 2022

New Law: Business Tax Credits for Your Electric Vehicle Purchases

You may have heard that the newly enacted Inflation Reduction Act includes an expanded tax credit for electric vehicles.

Although this personal credit has gotten most of the publicity, the new law launched a new commercial clean vehicle credit—specifically for business-use electric vehicles. And it’s much better than the credit for personal-use electric vehicles.

The new law’s personal-use electric vehicle credit is now called the clean vehicle credit. It comes with many new restrictions:

• It is available only if your adjusted gross income is no more than $300,000 (married, filing jointly) or $150,000 (single).
• It applies only to electric vehicles with a manufacturer’s suggested retail price below $80,000 for vans, SUVs, and pickup trucks, or $55,000 for other vehicles.
• It must pass complex tax-law-defined North American assembly and sourcing requirements that prevent many electric vehicles from qualifying.

Luckily, if you purchase or lease an electric vehicle for business use in 2023 or later, none of the clean vehicle credit restrictions apply.

Instead, you can qualify for the business-use electric vehicle credit. The credit is available for fully electric cars, plug-in hybrid electric vehicles, and fuel cell vehicles.

The maximum credit is $7,500 for electric vehicles with a gross vehicle weight rating of less than 14,000 pounds and a whopping $40,000 for electric vehicles with a GVWR of 14,000 pounds or more.

If you want to discuss electric vehicles, please call me on my direct line at 408-778-9651.

• By Leon Clinton
• September 15, 2022