What does the new tax law mean for dealerships?
Expanded breaks, new credits and lower rates are among the pluses
The legislation commonly known as the Tax Cuts and Jobs Act (TCJA) creates a new playing field on which dealerships can execute future tax strategies. Significantly, a flat corporate rate of 21% replaces the graduated corporate tax of 15% to 35%, beginning with the 2018 tax year.
Owners of dealerships structured as pass-throughs also will generally see tax cuts due to lower individual rates and the new pass-through deduction. And there’s more to smile about — but there are some downsides, too.
Attention: Pass-through dealerships
Under previous law, net taxable income from pass-through entities, such as S corporations, partnerships and sole proprietors, simply flowed through to owners. It was then taxed at the owners’ standard rates. In other words, no special treatment applied to pass-through income recognized by business owners.
But, for tax years beginning in 2018 through 2025, the TCJA establishes a new deduction based on a noncorporate owner’s qualified business income (QBI). This new tax break is available to individuals, estates and trusts that own interests in pass-through business entities. The deduction generally equals 20% of QBI, subject to restrictions that can apply at higher income levels.
Section 179 gets better
Section 179 expensing allows eligible taxpayers to deduct the entire cost of qualifying new or used depreciable property and most software in Year 1, subject to various limitations.
Under pre-TCJA law, for tax year 2017, the maximum Sec. 179 depreciation deduction was $510,000. This maximum was phased out dollar for dollar to the extent the cost of eligible property placed in service during the tax year exceeded the phaseout threshold of $2.03 million.
Qualified real property improvement costs also were eligible for the Sec. 179 deduction. This real estate break applied to certain improvements to interiors of retail and leased nonresidential buildings (such as dealerships, in both cases).
The TCJA permanently enhances the Sec. 179 deduction. Under the new law, for qualifying property placed in service in tax years beginning in 2018, the maximum Sec. 179 deduction is increased to $1 million. And the phaseout threshold amount is bumped up to $2.5 million.
For later tax years, these amounts will be indexed for inflation. To determine eligibility for these higher limits, property is treated as acquired on the date on which a written, binding contract for the acquisition is signed.
The TCJA also expands the definition of qualified real property eligible for the Sec. 179 deduction to include the following improvements to nonresidential real property: roofs, HVAC equipment, fire protection and alarm systems, and security systems.
Floor-plan interest and bonus depreciation
Subject to some restrictions and exceptions, under pre-TCJA law interest paid or accrued by a business generally was fully deductible. Beginning with the 2018 tax year, the TCJA generally prohibits businesses from deducting interest expenses in excess of 30% of adjusted taxable income. Fortunately, floor-plan interest is excluded from the interest limitation, so it’s still generally 100% deductible. But there is a tradeoff for dealerships.
The TCJA temporarily increases bonus depreciation for qualifying property, plant and equipment purchases to 100%. However, beginning with the 2018 tax year, bonus depreciation is not available to auto dealerships that have floor-plan financing, unless they have average annual gross receipts of $25 million or less for the three previous tax years.
Under pre-TCJA law, businesses (including dealerships) could claim a 50% first-year bonus depreciation deduction for the cost of qualified new assets placed in service in 2017. These included computer systems, purchased software, vehicles, machinery, equipment, office furniture and so forth. Also, bonus depreciation could be claimed for qualified improvement property under certain parameters.
Under the TCJA, for qualified property placed in service between September 28, 2017, and December 31, 2022 (or by December 31, 2023, for certain property with longer production periods), the first-year bonus depreciation percentage is increased to 100%. In addition, the 100% deduction is allowed for eligible new and used property.
Bonus depreciation is scheduled to be reduced in later years, eventually down to 20% in 2026. However, as stated above, if your dealership has floor plan financing, it isn’t eligible for bonus depreciation after January 1, 2018, unless its average gross receipts are $25 million or less.
More TCJA highlights for business owners
Here are some other significant changes resulting from the Tax Cuts and Jobs Act:
Limits and disallowances. There are new limits on net operating loss deductions. And the law created a new rule that limits like-kind exchanges to real property that’s not held primarily for sale.
Employee benefits. The law created a new tax credit for employer-paid family and medical leave — through 2019. There also are new limits on deductions for employee fringe benefits, such as entertainment and, in certain circumstances, meals and transportation. Additionally, look for new caps on excessive employee compensation.
Your tax advisor can help explain how these and other changes may affect your dealership.
Charting a new course
Formulating new tax strategies is serious business that depends on the particulars of your situation. Plan to sit down with your tax advisor to chart your dealership’s course for the years ahead.
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