November 19, 2015

© 2015 Rehmann

Presented by: Tia Bonkowski, CPA

© 2015 Rehmann

Tia Bonkowski, CPA

Senior Manager

• Services provided include accounting, consulting and tax services.

• Works with closely held businesses, not-for-profit organizations and high net worth clients

tia.bonkowski@rehmann.com 248.579.1127

© 2015 Rehmann

Objectives

• Key concepts

• Key employer requirements

• 2015 reporting requirements and deadlines

• 2016 Affordable Care Act (ACA) changes and current legislation

• 2015 and 2016 potential penalties

© 2015 Rehmann

ACA key concepts

• Applicable large employer (ALE): 50+ full-time and/or full-time equivalent (FTE) employees.

• Full-time equivalent (FTE): FTE, part-time and variable-hour employees combined using various measurement options to determine the number of equivalent full-time employees. The calculation can be very complicated.

© 2015 Rehmann

ACA key concepts - continued

• Control groups: Businesses with common ownership must combine employees to determine if they are considered ALEs. Even if each business individually has less than 50 full-time and FTE employees, they must offer minimal essential coverage with minimum value to full-time employees if the combined total full-time + FTE employees is =>50.

• Requirement to provide insurance is based on full-time + FTE employees. You must offer insurance to full-time employees (even if you have less than 50 full-time employees) if you have a total of 50 or more full-time + FTE employees.

• Please contact me if you would like Rehmann to assist with determining if your businesses are a control group and/or to assist with the calculation of full-time and FTE employees.

• Tia Bonkowski 248.579.1127 or tia.bonkowski@rehmann.com

© 2015 Rehmann

Key employer requirements at a glance

• Employee notice requirements: At time of hire, employers must notify employees whether or not they offer health insurance and whether or not the employee is eligible.

• ALE must offer affordable coverage that provides minimum value to full-time employees and their dependents.

• Eligible employees must be offered insurance within 90 days of start date.

© 2015 Rehmann

Key employer requirements at a glance

• ALEs are required to file annual reports providing information to IRS and employees regarding employee health coverage.

• Self-funded group health plans of any size must file annual reports to IRS and employees regarding health coverage.

© 2015 Rehmann

Key employer requirements at a glance continued

• For 2016, health insurance coverage must meet cost-sharing minimums. An employee’s in-network, out-of-pocket maximum costs (copays, coinsurance, deductibles) cannot exceed $6,850 for individuals and $13,700 for families.

• If employers are required to file forms 1094 and 1095: – Forms are due to IRS by February 28 if filing on paper

or March 31 if filing electronically. – Forms are due to employees by January 31.

© 2015 Rehmann

© 2015 Rehmann

2015 employer 1094/1095 filing requirements

ACA Reporting Decision Tree

• Employers with < 50 FTE employees do not have a filing requirement unless they offer health insurance through a self-insured, employer-sponsored health plan. Employers with self-insured plans must:

– file Forms 1094-B and 1095-B with the IRS.

– issue Form 1095-B to responsible individuals.

© 2015 Rehmann

2015 employer 1094/1095 filing requirements

ACA Reporting Decision Tree

• ALE: Employers with ≥ 50 FTE employees

– Self-insured plans: File Forms 1094-B and 1095-B with the IRS and file Form 1095-B to responsible individuals. There are additional filing requirements for non-employees (directors) and former employees.

– Employer-sponsored health plan: File Forms 1094-C and 1095-C (Parts I and III) with IRS and file Form 1095-C or a simplified statement to employees. There are additional filing requirements for non-employees (directors) and former employees.

– Employers with no health plans: File Forms 1094-C and 1095-C (Parts I and II) with IRS and provide Form 1095-C (Parts I and II) to employees.

– Rehmann has a solution for employers that need assistance with determining filing requirements and preparing filings. If you need assistance, please contact me as soon as possible as preparing the information for filing the reports is extensive and time consuming.

© 2015 Rehmann

6 ACA changes for 2016

1. New definition of “small employer” for insuring purposes only:

– Until 12/31/15 small employer defined as 50 or fewer FTE employees.

– As of 1/1/16, the definition changes to include 1-100 FTE employees.

– What does this mean?

• Employers with 50-100 FTE employees will now have to meet requirements for small group employers, unless the employer offers grandfathered plans (plans that cover essential health benefits and meet rating requirements).

• This could increase premiums approximately 18%, which could cause many employers to go to self-funded plans, further increasing premiums to others.

– The Senate and House passed “The Protecting Affordable Coverage for Employees Act” (PACE), which is expected to be signed by the president.

• This amends the definition of small businesses and protects then from possible increases in healthcare premiums under the Patient Protection and Affordable Care Act (PPACA). However, states would have the option of expanding the definition to cover up to 100 employees.

© 2015 Rehmann

6 ACA changes for 2016

2. Employers with 50-99 FTE employees will still be considered ALEs for employer mandate penalty.

– Required to offer minimum essential health coverage that is affordable and provides minimum value to 95% of its full-time employees and the dependents (up to age 26).

– For 2015, the requirement was applicable to employers with 100+ FTE employees.

© 2015 Rehmann

6 ACA changes for 2016

3. In 2016, ALE (50+ FTE employees) must offer to 95% of full-time employees compared to the 70% required in 2015 to avoid penalties.

– These employers must pay a penalty if a full-time employee receives a tax credit or subsidy through the Marketplace if the employer provided insurance was unaffordable or did not meet the minimum value requirements.

– ALE will receive IRS notices if an employee receives a Marketplace subsidy or credit.

– Penalty calculation changes:

• In 2015, the first 80 full-time employees were excludable from counting toward the fee.

• In 2016, only the first 30 full-time employees will be excluded.

© 2015 Rehmann

6 ACA changes for 2016

4. Starting November 15, 2015, employers with 51-100 FTE employees can use SHOP (Small Business Health Options Program) Marketplace.

– SHOP was previously only open to employers with 50 or less FTE employees.

5. In 2016, the annual in-network, out-of-pocket maximum costs (deductibles, copays, coinsurance) allowed before health coverage starts increases:

– Individual coverage is $6,850.

– Family coverage is $13,700. Maximum for each individual, employee or dependent is $6,850 before family coverage starts.

© 2015 Rehmann

6 ACA changes for 2016

6. 2015 and 2016 penalties for failing to meet ALE reporting requirements will go up, as will caps. – “Pay or play” penalty (the employer mandate)

• ALE must offer affordable and adequate insurance coverage (minimal essential coverage and minimum value) to their full-time employees and their dependents.

• <50 FTE: No penalty for failing to offer coverage. • 50-100 FTE: No penalty for failing to offer coverage in 2015 (if

requirements of transition rule are met), but will be subject to “pay or play” penalty in 2016.

• 100+ FTE employees: Subject to pay or play penalty in 2015. Must offer coverage to 70% of full-time employees in 2015 and 95% in 2016 and future years. One employee going to the Marketplace and receiving a subsidy or credit triggers the pay or play penalty.

© 2015 Rehmann

6 ACA changes for 2016

6. 2015 and 2016 penalties for failing to meet ALE reporting requirements will go up as will caps. – “Pay or play” penalty (the employer mandate)

• The big penalty: For not offering coverage to required number of full-time employees, the penalty is $2,000/year ($166.67/month) multiplied by the number of full-time employees in excess of 80 employees for 2015 (in excess of 30 employees in 2016 and future years).

• The small penalty: For offering coverage to required employees but not affordable and/or minimum value, the penalty is $3000/year ($250/month) multiplied by the number of full-time employees who obtain a premium tax credit from the exchange (not to exceed the big penalty).

• Coverage must be offered by the 1st day of the 4th full calendar month of employment.

© 2015 Rehmann

Thank you!

© 2015 Rehmann

Presented by: Ryan Whitman, CPA, CGMA

© 2015 Rehmann

Ryan A. Whitman, CPA, CGMA

Senior Manager

• Experience includes serving closely held business clients in real estate and construction

• Areas of service – Tax consulting

– Partnership taxation

– Closely held businesses

– Individual income tax

ryan.whitman@rehmann.com 419.867.2313

© 2015 Rehmann

Where are we at?

• Regulations effective for tax years 1/1/14

• 2014 work

– Reviewed prior year assets being depreciated

– Reviewed 2014 activity for proper treatment

– Change of accounting method forms were filed

– Appropriate elections filed

© 2015 Rehmann

Small taxpayer exclusion

• Revenue procedure 2015 - 2020

• Adopt TPR w/o filing 3115s

• Adopted on a prospective basis

• Missed opportunities?

• Applies to small taxpayers – Gross receipts < 10M (three-year average)

– OR

– Total assets < 10M

© 2015 Rehmann

Why is this still important?

• 2015 additions

– Review for capitalization or expense

• Consistent with book as required

• Annual elections

• Partial asset disposition

© 2015 Rehmann

Capitalize or expense?

• Three-part test

– What is the unit of property?

• Betterment

• Adaptation

• Restoration

© 2015 Rehmann

Determining unit of property (UOP)

• Step 1: Apply the “functional interdependence” standard unless a special rule applies – all components that are functionally interdependent comprise a single UOP. – Components of property are functionally interdependent if the

placing in service of one component is dependent on the placing in service of the other component.

• Step 2: Apply special rules for: 1) buildings; 2) leased property; 3) plant property (separate if performs a discrete and major function or operation); 4) condominiums; 5) co-ops and 6) network assets.

• Step 3: Determine if components of the UOP are treated differently for tax depreciation.

© 2015 Rehmann

UOP – Buildings

• Special rules apply to buildings.

• Unit of property = building and its structural components.

• Expenditures restore UOP if they restore the building structure or 1 of 9 defined “building systems.”

• A roof is considered part of the building structure (shell).

© 2015 Rehmann

UOP – Buildings

• Apply repairs standards separately to the building structure and the nine defined “building systems.” 1. HVAC 2. Plumbing systems 3. Electrical systems 4. Escalators 5. Elevators 6. Fire protection and alarm systems 7. Security systems for protection of building and occupants 8. Gas distribution system 9. Any other system defined in published guidance

© 2015 Rehmann

UOP – Building “repairs” may need to be

capitalized

• If a building constitutes up to 9 UOPs, it appears likely that some repairs will require capitalization.

– Whether replacement of roof components are capitalized improvement is determined by considering the effect on the building structure, rather than the effect on the entire building (as was the case under prior law).

– Whether maintenance costs on building’s restrooms are capitalized improvement is determined by considering the effect on the building’s plumbing system, not the effect on the entire building.

© 2015 Rehmann

Betterment

• An amount paid results in a betterment only if it: 1. Ameliorates (fixes) a pre-existing material

condition or defect at the time you acquired the property (regardless of whether the taxpayer was aware of the defect),

2. Results in a material addition, or 3. Results in a material increase in capacity,

productivity, efficiency, strength, quality or output.

© 2015 Rehmann

Betterment

• Replacements due to technological improvements or product enhancements do not necessarily require capitalization.

• Key is to compare the condition of the property

after the expenditure to the condition of the property when initially placed in service.

• Taxpayer’s treatment of the expenditure on its

financial statements is not a factor to be considered.

© 2015 Rehmann

Example 1: Building refresh is not a betterment

• Replacing and reconfiguring display tables and racks to provide better exposure of the merchandise.

• Make corresponding lighting relocations and flooring repairs.

• Move one wall to accommodate the reconfiguration of tables and racks.

• Patch holes in walls.

• Repaint the interior structure with a new color scheme to coordinate with new signage.

• Replace damaged ceiling tiles.

• Clean and repair wood flooring throughout the store building and

power wash building exteriors.

© 2015 Rehmann

Example 2: Building remodel is a

betterment*

• Replace large parts of the exterior walls with windows.

• Replace the escalators with a monumental staircase.

• Add a new glass-enclosed elevator.

• Rebuild the interior and exterior facades.

• Replace vinyl floors with ceramic flooring.

• Replace ceiling tiles with acoustical tiles. * Because the refresh occurred at the same time as the remodel, Treasury requires the refresh expenses to also be capitalized because “… while not betterments by themselves, [the costs] directly benefitted and were incurred by reason of the improvement to the buildings’ structures …”

© 2015 Rehmann

Example 2: Building remodel is a

betterment* • Remove and rebuild walls to move changing rooms and create

specialty departments.

• Upgrade the electrical system.

• Remodel all bathrooms by replacing contractor-grade plumbing fixtures with designer-grade fixtures that conserve water and energy.

• Clean debris, patch holes in walls, repaint existing walls with a new color scheme to match the new interior construction, and power wash building exteriors to enhance the new exterior façade.

* Because the refresh occurred at the same time as the remodel, Treasury requires the refresh expenses to also be capitalized because “… while not betterments by themselves, [the costs] directly benefitted and were incurred by reason of the improvement to the buildings’ structures …”

© 2015 Rehmann

Summary of conclusions from the 23

betterment examples

Not a betterment (expense) • Replacement of asbestos insulation with similar non-asbestos

insulation. • Minor repairs and maintenance shortly after purchase. • Retail refresh limited to cosmetic and layout changes. • Relocate cash registers. • Add concrete lining to meat plant. • Replace the roof membrane. • Removal of drop ceiling. • Replace 2 of 10 HVAC units that are 10% more efficient.

© 2015 Rehmann

Summary of conclusions from the 23

betterment examples

Betterment (capitalize) • Remediation of soil by previous owner. • Bring assisted living building up to higher standards. • Retail refresh along with increased storage and second loading dock. • Major remodel of retail. • Relocate machines to increase capacity. • Doubling depth of channel. • 25% increase in depth of channel. • 50% reduction in energy or power costs. • Add restaurant drive-through.

© 2015 Rehmann

Adaptation to new or different use

• Capitalizable improvement if paid to adapt a UOP to a new or different use.

• Capitalizable improvement if the adaptation is not consistent with the taxpayer’s ordinary use of the UOP at the time originally placed in service by the taxpayer.

© 2015 Rehmann

Summary of adaptation examples

Not a change in use (expense) • Combine 3 leased retail spaces

into 1 leased retail space. • Implement minor refresh of

building in anticipation of sale. • Clean up contamination after

closing manufacturing plant. • Convert a portion of grocery

store space to a sushi bar. • Convert a portion of hospital

emergency room to an outpatient surgery center.

Change in use (capitalize) • Convert manufacturing

plant to showroom space. • Regrade land to

accommodate sale of land for residential development.

• Reconfigure part of a retail pharmacy to a walk-in clinic.

© 2015 Rehmann

Restoration

• Amount is paid to restore UOP if it:

1. Returns the UOP to its ordinarily efficient operating condition if the property has deteriorated to a state of disrepair and is no longer functional for its intended use;

2. Results in the rebuilding of the UOP to a like-new condition after the end of its ADS class life; or

3. Is for the replacement of a part or a combination of parts that comprise a major component or a substantial structural part of a UOP.

© 2015 Rehmann

Restoration

4. Is a replacement of a UOP and the taxpayer has properly deducted a loss for that component;

5. Is for the replacement of a component of a UOP and taxpayer has properly taken into account the adjusted basis of the component in realizing gain or loss resulting from the sale or exchange of the component.

6. Is for the repair of damage to a UOP for which the taxpayer has properly taken a basis adjustment as a result of a casualty loss or casualty event (but only to the extent of the claimed casualty loss).

– It is this provision the IRS uses to say roof replacements now must be capitalized.

© 2015 Rehmann

UOP – Major component or substantial structural

part

• Capitalization required for an amount paid for the replacement of a major component or substantial structural part:

• Major component: Part or combination of parts that perform a discrete and critical function in the operation of the UOP.

• Substantial structural part: A part or combination of parts that comprise a large portion of the physical structure of the UOP or that perform a discrete and critical function in the operation of the UOP.

© 2015 Rehmann

UOP – Major component or substantial

structural part

• The final regulations continue with a highly subjective facts-and-circumstances approach, but clarify the approach by adding new definitions.

• Incidental component, even though it performs discrete function, is not restoration.

© 2015 Rehmann

Summary of conclusions from 31 restoration

examples

Not a restoration (expense) • Replace power switch. • Replace roof membrane. • Replace 1 of 3 furnaces in HVAC system. • Replace of 3 of 10 roof-mounted HVAC units. • Replace 30% of electrical. • Replace 8 of 20 sinks. • Replace 100 of 300 exterior windows comprising 8.3% surface area. • Replace lobby floors which comprise <10% square footage. • Replace 1 of 4 elevators.

© 2015 Rehmann

Summary of conclusions from 31 restoration

examples Restoration (capitalize) • Replace entire roof. • Replace single chiller in HVAC. • Replace sprinkler system. • Replace entire electrical system. • Replace all toilets and sinks with similar quality and function. • Replace 200 of 300 exterior windows comprising 16.67% surface area. • Replace 100 of 300 exterior windows comprising 30% of surface area. • Replace floors in all public areas comprising 40% of square footage. • Replace 1 of 4 elevators and claim partial disposition loss.

© 2015 Rehmann

Materials and supplies

• Defined as tangible property that is used or consumed in the taxpayer’s operations that is not inventory and that are:

1. Components acquired to maintain, repair or improve a UOP;

2. Comprised of fuel, lubricants, water and similar items that are reasonably expected to be consumed in 12 months of less;

3. A UOP with an economic useful life of 12 months or less;

4. A UOP costing $200 or less; OR

5. Identified as such in guidance.

© 2015 Rehmann

Materials and supplies

• General rule for when deducted: • Incidental (not inventoried) – deduct when paid (provided it

clearly reflects income).

• Non-incidental (inventoried or track consumption) – deduct when first used or consumed in taxpayer’s operations.

• Rotable, temporary, emergency spare parts – deduct when part is disposed; deduct when used (and include in income when removed from service); treat as depreciable property.

© 2015 Rehmann

Annual elections

• De minimis safe harbor

• Routine maintenance

• Capitalize repairs

© 2015 Rehmann

De minimis safe harbor (DMSH) election

• Annual election made in tax return.

• Allows taxpayer to deduct expenditures below a set threshold.

• Threshold is $500 per invoice or per item unless the taxpayer has an applicable financial statement (AFS). If AFS, threshold is $5,000.

• AFS = audited or government-required financial statement.

• Taxpayer must maintain a written accounting policy.

© 2015 Rehmann

De minimis safe harbor (DMSH) election

• Book treatment must match tax treatment.

• Applies to property with a useful life of 12 months or less if the amount per invoice (or item) does not exceed the $500/$5,000 threshold.

• The $500/$5,000 threshold are safe harbor amounts – taxpayers may elect a higher capitalization threshold if they can justify the amount.

• Threshold is $200 if the taxpayer does not have an accounting policy or if the annual election is not made.

© 2015 Rehmann

Routine maintenance safe harbor

• Routine maintenance consists of recurring activities that are expected to be performed on a building or other UOP as a result of its use to keep the asset in its ordinary, efficient operating condition.

• Taxpayer must reasonably expect to perform the activities more than once during the useful life of the asset (or a 10-year period for a building) beginning at the time the asset is placed in service.

© 2015 Rehmann

Routine maintenance safe harbor

• Routine maintenance includes inspections, cleanings and replacement of damaged or worn parts with comparable parts.

• The safe harbor does not apply to any expenditure that would be considered betterment, restoration or adaptation.

• Must file an automatic change in accounting method (Form 3115) to adopt the safe harbor method.

© 2015 Rehmann

Election to capitalize repairs

• Taxpayer may elect to capitalize repair and maintenance costs on an annual basis. – Costs must be incurred in the taxpayer’s trade or business. – Book and tax treatment must be the same.

• Taxpayer is not required to capitalize ALL repairs and maintenance. – Election only applies to those repairs and maintenance costs treated

as capital expenditures by the taxpayer for books.

• Annual election attached to tax return. • Election may be beneficial if the taxpayer capitalizes certain

expenditures which potentially could be classified as repairs and maintenance. A backup plan should be provided in the event of IRS auditor attempts to disallow depreciation claiming the asset should have been expensed as a repair.

© 2015 Rehmann

Partial asset disposition (PAD) rule • New regulations provide that the disposition rules apply to a partial

disposition of an asset.

• This rule allows taxpayers to elect to claim a loss upon the disposition of a structural component of a building or upon the disposition of a component of any other asset (properly included in one of the asset classes 00.11 through 00.4 of Rev. Proc. 87-56) without identifying the component as an asset before the disposition event.

© 2015 Rehmann

What is “any reasonable method”?

• Taxpayer uses the information that is available and extrapolates to determine some reasonable allocation.

• Determine replacement cost and use CPI to determine estimated costs in year originally placed in service.

• Taxpayer performs a study to determine the original cost of the roof based on standard cost estimating procedures.

© 2015 Rehmann

What is “any reasonable method”?

• Taxpayer has records of the original costs from when the building was purchased.

• Taxpayer has records of the original cost from when the building was built and then extrapolates that cost to the price paid by the taxpayer upon purchase.

• Taxpayer uses a relative percentage method based on the cost of the new roof/the FMV of the entire building after the new roof was completed.

• Some other form of comparative allocation.

© 2015 Rehmann

Partial asset disposition landlord/tenant

issues

• An LLC owns a building.

• An operating company rents from LLC.

• The building needs a new roof.

• Who pays for it?

© 2015 Rehmann

Thank you!

© 2015 Rehmann

Presented by: Tracy S. Marrin, CPA

© 2015 Rehmann

Tracy Marrin, CPA

Principal

• Specializes in international taxation, as well as tax planning and compliance for businesses and individuals

• Leader of Rehmann’s Southeast Region Tax department

tracy.marrin@rehmann.com 734.761.2005

© 2015 Rehmann

• Delinquent International Information Forms

• FATCA: Documentation for payments by U.S. payers.

• Entity structure: Planning for timely elections.

© 2015 Rehmann

Delinquent International Information returns (5471, 5472 etc.) may still be filed under current program without penalty if:

• Delinquency is due to reasonable cause.

• Not under IRS investigation (civil or criminal).

• Have not been notified by the IRS regarding delinquent forms.

© 2015 Rehmann

File Information Returns along with a statement of facts regarding the reasonable cause. Attach statement and form to an amended return and file according to amended return instructions.

© 2015 Rehmann

Foreign Account Tax Compliance Act

(FATCA)

• Came into law March 18, 2010 (HIRE Act)

• Creation of chapter 4 of IRS Code

• Objective is to improve reporting for foreign financial assets – the result of non-compliance is withholding.

© 2015 Rehmann

U.S. withholding agents are required to withhold 30% on:

1. Certain payments to foreign financial institutions (FFI) that do not agree to report the required information to the IRS regarding their U.S. accounts.

2. Certain payments to certain nonfinancial foreign entities (NFFE) that do not provide information on their substantial U.S. owners to the withholding agent. (Withholding effective starting 06/30/14.)

© 2015 Rehmann

A withholding agent under chapter 4 is any person, U.S. or foreign, in whatever capacity acting, having the control, receipt, custody, disposal or payment of any withholdable payment.

© 2015 Rehmann

FATCA – Documentation for withholding by

U.S. payers

• U.S. payers (withholding agents) need documentation regarding payees. Get the documentation before payment is made.

• U.S. person – W-9

• Non-U.S. person – W-8 series of forms

© 2015 Rehmann

W-8BEN-E – Certificate of Entities Status of Beneficial Owner for United States Tax Withholding and Reporting (Entities)

• Replaces form W-8BEN for entities.

• Covers chapter 3 and chapter 4 withholding

(W-8BEN is now used only for individuals.)

© 2015 Rehmann

When investing in a foreign entity it is important to understand at the onset:

• Tax treatment in U.S.

– Corporate

– Flow through

• U.S. filing requirements

– Corporate – form 5471

– Flow through – form 8865 or 8858

© 2015 Rehmann

• U.S. structure is not based on foreign treatment, it is based on U.S. default and check-the-box rules.

• U.S. default rules for foreign entities are different than for domestic (U.S.) entities.

© 2015 Rehmann

Default rules:

• Taxed as a corporation if all members have limited liability.

• Taxed as a partnership if two or members and at least one member do not have limited liability.

• Taxed as a disregarded entity if one member and that member does not have limited liability.

© 2015 Rehmann

Electing out of the default rules

• Form 8832

• In general, the election cannot take effect more than 75 days prior to the date the election is filed.

• The election cannot take effect later than 12 months after the election is filed.

• Late election relief is available in some circumstances.

© 2015 Rehmann

• Per Se corporations are not eligible to elect out of corporate status.

• New status or out of status can be elected once every 60 months.

© 2015 Rehmann

Take aways

• File delinquent international informational forms to avoid potential penalties.

• Acquire documentation (W-9 or W-8 Series) to verify status of payees.

• Consider entity elections based on U.S. tax treatment of foreign entities.

© 2015 Rehmann

Thank you!

© 2015 Rehmann

Q&A session

© 2015 Rehmann

Net investment income tax planning

Presented by: Diane Ferris, CPA, CGMA, MST

© 2015 Rehmann

Diane Ferris, CPA, CGMA, MST

Principal

• Background in public accounting and private industry

• Experience in tax, consulting and planning

• Qualified to service clients in a variety of industries, such as real estate, construction, equipment leasing, manufacturing and professional services

diane.ferris@rehmann.com 616.975.2888

© 2015 Rehmann

© 2015 Rehmann

Session objectives:

1. Overview: Briefly review the 3.8% Medicare Surtax (better known as the Net Investment Income Tax or NIIT) as it pertains to individual taxpayers.

2. Opportunities: Discuss planning ideas for reducing MAGI (Modified Adjusted Gross Income) or reducing Investment Income to reduce the NIIT.

3. Planning: Discuss planning for the individual who owns various and multiple business interests.

4. Conclusion

© 2015 Rehmann

NIIT – Individual taxpayers overview

• Investment income – Effective 1-1-2013, IRC Section 1411 imposes a 3.8%

Medicare “surtax” to all taxpayers whose income exceeds a certain “threshold amount.” This surtax raises the marginal income tax rate for certain taxpayers. The tax is imposed on the taxpayer’s NII.

– For example, a taxpayer in the 39.6% tax bracket (currently the highest marginal income tax rate) would have an increased marginal rate of 43.4% if subject to the NIIT.

© 2015 Rehmann

NIIT – Overview

• The NIIT and the additional Medicare taxes on compensation income may apply to the same taxpayer in the same tax year, but not to the same items of income.

– NIIT only applies to net investment income.

– The additional Medicare tax applies only to wage and self-employment income.

© 2015 Rehmann

NIIT – Overview

• The NIIT is equal to:

1. Net Investment Income

3.8% X OR

the lesser of

2. The excess (if any) of

- Modified Adjusted Gross Income (MAGI) over the …

- Threshold amount

© 2015 Rehmann

NIIT – Overview

• Three terms to become acquainted with regarding the NIIT are – Net Investment Income; – Threshold amount; or – Modified Adjusted Gross Income (MAGI)

Meaning – There are just two ways to reduce the NIIT: 1) Reduce the amount of NII; or 2) Reduce the amount of MAGI.

© 2015 Rehmann

NIIT – Overview

Includes: • Taxable interest • Dividends • Annuity income/distributions • Rents • Passive royalties • Income derived from a passive

activity • Net capital gain derived from the

disposition of property

Does NOT include: • Wages or any form of compensation • Distributions from IRAs or qualified

plans(401(k), pension); RMDs or Social Security income.

• Any income subject to self-employment tax.

• Gain on the sale of an active interest in a Partnership or S Corporation.

• Items which are otherwise excluded or exempt from income under the income tax law, such as interest from tax-exempt bonds, capital gains excluded under IRC 121, active royalties, veterans benefits, etc.

First: Net Investment Income

© 2015 Rehmann

NIIT – Overview

Second: Threshold amount

• The key factor in determining the “lesser of” formula for purposes of calculating the surtax.

Threshold amounts:

• Single taxpayers - $200,000

• Married taxpayers & surviving spouses - $250,000

• Married filing separate taxpayers - $125,000

© 2015 Rehmann

NIIT – Overview

Third: Modified Adjusted Gross Income (MAGI) • MAGI is the amount that is compared to the “threshold amount” to

determine the “net investment income” that is subject to the surtax.

MAGI equals: • Adjusted gross income (from Form 1040); and • Net foreign-earned income exclusion (i.e., gross income excluded under

the foreign-earned income exclusion less certain deductions or exclusions that were disallowed due to the foreign-earned income exclusion).

This means for the majority of taxpayers, MAGI equals: • AGI (Adjusted Gross Income)

© 2015 Rehmann

NIIT – Overview

Example 1

Heniit Wit

• Single taxpayer

• $100,000 of wage income

• $50,000 of net investment income

MAGI is $150,000

3.8 surtax would NOT apply

MAGI is less than threshold $200,000 for a single taxpayer

© 2015 Rehmann

NIIT – Overview

Example 2

Sheniit Wit

• Single taxpayer

• $0 of wage income

• $225,000 of net investment income

MAGI $225,000

Threshold - $200,000

Excess of MAGI over threshold

= $25,000

3.8% surtax would apply to $25,000

NIIT does not apply to the entire amount of MAGI or the

total amount of Net Investment Income

© 2015 Rehmann

NIIT – Overview

Example 3

Spender & Saver

• Married filing joint tax return

• $400,000 combined wages

• $50,000 of net investment income

3.8% surtax would apply to $50,000

MAGI $450,000

Threshold - $250,000

= $200,000

Lesser of $200,000 or NII of $50,000

© 2015 Rehmann

NIIT – Overview

Example 4

Balanced & Budget

• Married filing joint tax return

• $200,000 combined wages

• $150,000 of net investment income

3.8% surtax would apply to $100,000

MAGI $350,000

Threshold - $250,000

= $100,000

Lesser of $100,000 or NIT of $150,000

© 2015 Rehmann

NIIT – Overview

Example 5 Irene Renee Smith (IRS to her friends) • Single taxpayer • $200,000 of net investment

income • $125,000 RMD from an IRA or

pension income or tax-exempt interest income

3.8% surtax would apply to $125,000

MAGI $325,000

Threshold - $200,000

= $125,000

Lesser of $125,000 or NII of $200,000

© 2015 Rehmann

Opportunities – Reduce MAGI

• Roth IRA Conversions lower taxable income long term. • Charitable Remainder Trusts (CRTs): Split-interest trusts

consisting of an income interest and a remainder interest that goes to charity.

• Non-grantor Charitable Lead Trusts (CLTs): Split-interest trusts consisting of an income interest and a remainder interest with the income going to charity.

• Installment Sales: A sale of an asset in exchange for a promissory note paid over a period of time.

• Maximize contributions to retirement plans (401K, SEPs, etc.).

• IRC Section 1031 Exchange (Like-kind exchange).

© 2015 Rehmann

Opportunities – Reduce NII

Investments that do not produce income subject to the NIIT.

If the income is not subject to federal income tax, then it is not subject to NIIT:

• Municipal bonds

• Tax-deferred annuities

• Life insurance

• Rental real estate

• Oil & gas working interests (special rules apply)

• Non-passive business income …

– Income derived from an active trade or business

• Non-passive gain …

– Net gain from the disposition of property that is held in an active trade or business

© 2015 Rehmann

Planning opportunities for the business owner

• Income from a “passive” trade or business is NII subject to the NIIT.

• If a taxpayer “materially participates” in the “ordinary course of a trade or business,” the income is not subject to the NIIT.

© 2015 Rehmann

Ordinary course of a trade or business

• Where business is conducted through a partnership or S corporation, determination of a trade or business is made at the entity level.

• Trade or business has the same meaning for section 1411 (the NIIT) as for section 162 (deduction of ordinary and necessary business expenses).

• A “rental activity” is automatically treated as a passive activity under the Passive Activity Loss (PALs) rules. Generally, for purposes of the NIIT, it is necessary to determine if the rental activity constitutes a trade or business under section 162.

© 2015 Rehmann

Example –

Portfolio income (i.e. interest) derived in

the ordinary course of a trade or business

• Partnership or S corp has two partners/shareholders, Niit and Wit.

• The entity operates a retail store and collects interest on customer receivables outstanding in the normal course of business.

• Niit is active in the business.

– Interest income is not included in NII.

• Wit is not active in the business.

– Interest income might be included in NII, depending on whether Wit is subject to SET (self-employment tax) on the income.

Ptshp or S Corp

Partner/shareholder Partner/shareholder

Retail business

Interest on customer

receivables

© 2015 Rehmann

Materially participates

Key terms: active and passive

• Where business is conducted through a partnership or S corporation, determination of whether the business is “active” or “passive” to the taxpayer is made at the partner or shareholder level.

© 2015 Rehmann

Material participation defined:

For individuals, satisfy 1 of 7 tests: 1. Participate more than 500 hours per year. 2. Participation is substantially all of the activity of all individuals. 3. Participate more than 100 hours per year and no other individual

participates more. 4. Activity is a significant participation activity (SPA) and the individual’s

aggregate participation in all significant participation activities exceeds 500 hours in a year.

5. Individual materially participated in the activity for 5 of past 10 taxable years.

6. Activity is a personal service activity and the individual materially participated in the activity for any 3 preceding taxable years.

7. Based on all facts and circumstances, the individual participates in the activity on a regular, continuous and substantial basis during the year.

© 2015 Rehmann

Material participation – activity grouping

• Grouping of activities to meet a material participation test

• Activities may generally be aggregated if they constitute an “appropriate economic unit.” – Determination depends on relevant facts and circumstances

– Taxpayer may generally use any reasonable method to group activities

– However, five factors are given greatest weight in determining whether or not the multiple activities constitute an appropriate economic unit:

Geographic Location

Common Ownership

Common Control

Similarities and

Differences in Type of Business

Business Interdepen-

dencies

© 2015 Rehmann

Identifying income not subject to NIIT

Self-charged and incidental rental income • If rental income is treated as non-passive because:

– Re-characterization of what otherwise would be passive rental income from a taxpayer’s property as non-passive when the taxpayer rents the property for use in an activity in which the taxpayer materially participates; or

– Because the rental activity is properly grouped with a trade or business activity and the grouped activity is a non-passive activity.

Then, the gross rental income is deemed to be derived in the ordinary course of a trade or business and therefore not subject to NIIT. • Final regulations for treatment of gains and losses on assets associated with the

rental activity: – Those that are treated as non-passive gain or loss will also be treated as gain or loss

attributable to the disposition of property held in a non-passive trade or business.

© 2015 Rehmann

Example – self rental rules

• Taxpayer (Member 2) is a member of A and is active in the business. • Taxpayer is also a member in B, which owns a building and rents space to

various tenants. One of those tenants is A. • Taxpayer does not participate at all in the B rental activity.

– The general rules would treat taxpayer's share of B’s rental income as NII. – However, due to the “self rental rule,” the taxpayer’s share of rental income

received from the taxpayer’s activity is treated as active.

A B

Member 1 Member 3 Member 2

Trade or Business Activity Building

Building

Rent

© 2015 Rehmann

Identifying income not subject to NIIT

Self-charged interest:

• A taxpayer who lends money to a pass-through entity in which the taxpayer materially participates is only subject to NIIT on the interest payable by the portion of the entity allocated to other investors.

• In the case of self-charged interest received from a non-passive entity, the amount of interest income excluded from NII will be the taxpayer’s allocable share of the non-passive deduction.

© 2015 Rehmann

Example – Self-charged interest rules

• TP owns 60% of an LLC which operates a trade or business. • TP is active in the trade or business of LLC. • LLC paid TP $10,000 in interest on a loan made to the LLC. Solution … • TP will owe NIIT on $4,000.

($10,000 x (100%-60%) = $4,000)

LLC

Other members

40%

Trade or business

$10,000 Interest

TP 60%

Loan

© 2015 Rehmann

Identifying income not subject to NIIT

Investment in real estate

• Rents from real estate are “per se” passive under section 469 for most taxpayers, as such, the rents are subject to NIIT.

© 2015 Rehmann

Identifying income not subject to NIIT

Safe Harbor for real estate professionals

• If: – More than 50% of the taxpayer’s work is in real estate

trades or business; and

– The taxpayer performs more than 750 hours of service during the year in those real estate trades or business;

• Then: – Per the IRS, you are considered a real estate

professional.

© 2015 Rehmann

Identifying income not subject to NIIT

Safe Harbor for real estate professionals • If:

– You are a real estate professional; and – At least 500 of those 750 hours are in rental activities (or

500 hours for any 5 of the preceding 10 years);

• Then: – The rental income associated with that activity is deemed

to be derived in the ordinary course of a trade or business. As such, the rental income and any subsequent gain from the sale of the rental property will be excluded from NII and not subject to NII tax.

© 2015 Rehmann

Example - Real estate professional

Scenario Are the

Rents NII?

The investor is not a real estate professional:

A. And the income is not derived from a trade of business. YES

B. But the income is paid from an active trade or business of the investor (self-charged rule), to the extent of their share of such trade or business.

NO

C. But the rents are properly grouped with an active trade or business of the investor (incidental rents).

NO

The investor is a real estate professional:

A. But does not qualify for the safe harbor nor is the income derived from a trade or business.

YES

B. But the investor qualifies for the 500-hour safe harbor. NO

C. And the income is derived from a trade or business. NO

© 2015 Rehmann

Identifying income not subject to NIIT

Significant participation activities (SPA) For purposes of meeting the material participation test • A “significant participation activity” is a trade or business in which the taxpayer

participates for more than 100 hours in the year but less than 500 hours. • MP Test #4: Activity is a significant participation activity and individual’s aggregate

participation in all significant participation activities exceeds 500 hours in a year. • Assume 3 significant participation activities – activities in which the taxpayer

participates 101-500 hours a year in each. – Activity 1 175 hours per year – Activity 2 200 hours per year – Activity 3 150 hours per year

525 hours

• Together, the taxpayer meets the material participation requirement for all 3 significant participation activities. All income and losses are non-passive and not subject to NIIT.

© 2015 Rehmann

Identifying income not subject to NIIT

Re-characterization of Income –SPAs

• The passive loss rules include a special rule for significant participation activities which re-characterizes income, but not losses, from a significant participation activity as “not from a passive activity.”

• A taxpayer participates for 101-500 hours a year in an activity, the income is re-characterized to non-passive (cannot offset passive losses against non-passive income) and… the re-characterized income is not subject to NIIT.

© 2015 Rehmann

Participation - Summary

Material participation (more than 500 hours) Income is non-passive; not subject to NII tax.

Losses are non-passive.

Significant participation (101-500 hours) Income is non-passive; not subject to NII tax.

Losses are passive.

Neither (100 hours or less) Income is passive and subject to NII tax.

Losses are passive.

© 2015 Rehmann

Re-characterization of income – SPAs

Example – special rule

Activity 1 Income $500

Deductions ($100)

Net $400

Activity 2 Income $200

Deductions ($500)

Net ($300)

© 2015 Rehmann

Calculate what portion of each activity’s income is re-characterized to non-passive. The numerator is the total net income for all significant participation activities. The denominator is the total of the gain for all significant participation activities that had net gains. Activity 1 had a net gain of $400 – included Activity 2 had a net loss of ($300) – not included $100 is the numerator and $400 is the denominator. The fraction is 100/400 or 25%. So 25% of each activity’s net income is re-characterized as non-passive. #1 – 25% of 400 = $100 and is not subject to NIIT #2 – The entire loss remains passive

Re-characterization of income – SPAs

Example – special rule

© 2015 Rehmann

Planning opportunities for the business owner

Entity structuring to avoid the NII tax

• Regulations provide that if income is subject to self-employment tax, it is not subject to NII tax, and vice versa.

© 2015 Rehmann

• S Corp – Flow through income from an S Corp is not subject to self-

employment tax, as long as the owner receives “reasonable compensation.”

• Partnership – A partner’s distributive share of trade or business income is

subject to self-employment tax, but there is an exception for a limited partner in a limited partnership.

• LLC – Income flowing through to an LLC member who participates in

management will most likely be subject to self-employment tax. Planning opportunities exist for a manager-managed LLC if the LLC owner is not a manger.

© 2015 Rehmann

Conclusions

1. Be aware of the amounts of your NII & MAGI 2. Know your investments and what type of income they produce 3. Business ownership – know if you are active or what it takes to be

active in the trade or business • Do you have self-rentals? Can you increase your rent? • Do you have self-charged interest? • Look at the Schedule K-1s you receive – do they provide the

information for your CPA to accurately prepare your tax return?

4. Are you a REP (real estate professional)? Does the Safe Harbor apply?

5. Do you have SPAs (significant participation activities)? 6. Entity restructuring possibilities? 7. Keep your wits about you – your CPA can help!

© 2015 Rehmann

Thank you!

© 2015 Rehmann

© 2015 Rehmann

Presented by: Jessica Dore, CISA

Jessica Dore, CISA

Senior Manager

• Technology risk management

• Specializes in technology consulting & security

• Experience in leading teams and performing IT security assessments for clients

jessica.dore@rehmann.com 989.797.8391

© 2015 Rehmann

The pace of change is picking up

© 2015 Rehmann

Data is exploding

Source: spotfire.tibco.com

© 2015 Rehmann

Communication is changing …

www.bates-communications.com

© 2015 Rehmann

The way we interact is changing …

pafamilylaw.foxrothschild.com

© 2015 Rehmann

Processes are changing …

siliconangle.com

© 2015 Rehmann

We are connected 24 x 365 x 7

Source: www.innovata-llc.com

© 2015 Rehmann

With all of this connectivity comes

Source: news.hitb.org

© 2015 Rehmann

Fraud, cyber crime and the bottom line

$400 billion lost annually to fraud and misappropriation

by U.S. organizations

6% of annual revenue lost to fraud and abuse by the

average organization

$5.4 million to resolve the average data breach, not including liability issues

© 2015 Rehmann

Source: progressbangladesh.com

Cyber crime is here to stay

• Cyber warrior ‘mercenaries’ for hire worldwide

• Cyber crime is a multi-billion dollar underground economy

• Cyber crime is an industry of suppliers, distributors and manufacturers

• Information is the commodity

© 2015 Rehmann

60% of organizations FAIL within 6 months

of being hacked

• Loss of cash from bank accounts

• Cost of breach repair and recovery

• Cost of notification

• Cost of compliance

• Cost of lost clients

• Cost of reputation loss

Source: www.greenskyproductions.co.uk

© 2015 Rehmann

Small organizations: A big target

• Don’t believe they will be attacked

• Cybersecurity not a priority

• Weak cybersecurity/outdated tools

• Poor employee training

• Poor or no data breach response plan

• Lead to bigger fish

Source: ameriscope.com

© 2015 Rehmann

Major cyber attacks

• 80 million identities – Anthem

• 47,000 SSNs + threats – Sony

• 76 million bank records – J.P. Morgan

• 56 million credit cards – Home Depot

• 100 million credit/debit cards – Target

• 145 million or more emails – eBay

© 2015 Rehmann

Cost of average cyber breach

• Average cost of a breach $5.4 million

• Each lost record costs $188 average

• ($188 x 10,000 records = $1,880,000)

• Disruption alone costs $937,000 per breach

• Plus: Liability issues for identity theft, etc.

© 2015 Rehmann

The cyber crime toolkit

Spyware Malware

Phishing/

Pharming

Skimming

Trojans/

Viruses

Watering Hole

Keylogging

Ransomware

Social

Engineering

Dumpster

Diving

Bot Bot

DDOS

© 2015 Rehmann

Social engineering scams

• Email from you

• Email from your internal staff

• Message from friend overseas and in trouble

• Nigerian email scam

• “Your tax refund is already taken care of”

© 2015 Rehmann

Social engineering

© 2015 Rehmann

Ransomware

• Your data taken “hostage”

• Ransom email

• Today $300

• Tomorrow more

• If you don’t pay, they destroy your data

© 2015 Rehmann

What do they do with the information?

• Cyber criminals sell personal identifying information or use it to:

– Open false bank accounts

– File false IRS returns

– Open false credit cards

– Steal from bank accounts

– Hack into other accounts/businesses

© 2015 Rehmann

Employees are the weakest link

• Negligent insiders are the top cause of data breaches

• Clicking on links in emails

• Sending work email to personal accounts

• Using data on insecure lines

• Not following corporate policies

• Not securing mobile devices

© 2015 Rehmann

Vulnerability: Weak IT security

• Poor access controls

• Poor patch management

• Improper device configuration

• Lack of security audits

• Weak enforcement of remote login policies

© 2015 Rehmann

Where should you focus?

• Data

• Perimeter

• Access

• Governance

• Vendor

• Mobile

• Human

Source: www.lifehack.org

© 2015 Rehmann

Data management

• Data: What is it and where is it?

• Risks: What is it worth?

• Access paths: How can you get to the data and what are the control points?

• Access: Who can get to your data?

www.intelymind.com

© 2015 Rehmann

Perimeter management

• Do you have a firewall?

• Do you have a DMZ?

Source: www.linklogger.com

© 2015 Rehmann

Segregate the network

www.automation.comwww.automation.com

• Is the network

virtualized?

• Do you leverage

VLANs to segregate

the network?

© 2015 Rehmann

IDS/IPS: Alerts

infosecprimer.wordpress.com

• Do you have an intrusion

detection system?

• Do you have an intrusion

prevention system?

• Are alerts turned on?

• Are they monitored?

© 2015 Rehmann

Monitor

• Conduct:

– External vulnerability test

– Internal vulnerability test

– Social engineering test

dstudio.ubc.ca

© 2015 Rehmann

Access management

Source: blog.lookout.com

• Access control

• Restrict administrative access

• Perform access reviews

• Leverage least privilege

© 2015 Rehmann

Software patching

• How often do you patch?

• Best practice = 30 Days

Source: www.gfi.com

© 2015 Rehmann

Backups

• Daily backups

• Rotated off-site

• Testing

www.itservicesalbuquerquenm.com

© 2015 Rehmann

Vendor management

• Selection due diligence

• Contract reviews

• Annual due diligence

www.questproductsinc.com

© 2015 Rehmann

Cloud

www.data-hive.com

How do you know you are making the right decision?

© 2015 Rehmann

Security

uspsafe.net

Who is responsible?

© 2015 Rehmann

Storage

mr2solutions.com

Where is the data stored?

© 2015 Rehmann

Mobile

Source: mobileappbuilders.co

• Mobile device strategy

• Acceptable use agreements

• Authentication & encryption

• Secure transmission

• Device management

• Employee training

© 2015 Rehmann

Training

• Train users on:

– Information security program

– Incident response plans

– Business continuity plans

– Security threats

afgenvac.org

© 2015 Rehmann

Close the loopholes

Create and enforce security policies

Educate employees

Update security software

Backup and encrypt data

Secure devices

Purchase cyber insurance

Have an IT security assessment performed

© 2015 Rehmann

Source: blog.zopim.com

In the end …

© 2015 Rehmann

Q&A session

© 2015 Rehmann

Thank you!

Tia Bonkowski, CPA

Phone: 248.579.1127

Email: tia.bonkowski@rehmann.com

Ryan Whitman, CPA

Phone: 419.867.2313

Email: ryan.whitman@rehmann.com

Tracy Marrin, CPA

Phone: 734.761.2005

Email: tracy.marrin@rehmann.com

Diane Ferris, CPA, CGMA, MST

Phone: 616.975.2888

Email: diane.ferris@rehmann.com

Jessica Dore, CISA

Phone: 989.797.8391

Email: jessica.dore@rehmann.com

© 2015 Rehmann