Credits for providing health insurance, starting a retirement plan, providing child-care, improving access for the disabled, or providing work to disadvantaged individuals are among the credits that many small business owners may wish to explore.
While it's true that many tax credits are highly targeted and available (for all practical purposes) only to very large businesses, there are some that a small business should utilize, particularly if they have employees.
Among the credits that all small business employers should evaluate are the following:
Small employers that pay at least half of the premiums for single health insurance coverage for their employees are eligible to claim a tax credit. It is specifically targeted to help small businesses and tax-exempt organizations that primarily employ moderate- and lower-income workers.
The small business health care tax credit is designed to encourage both small businesses and small tax-exempt organizations to offer health insurance coverage to their employees for the first time or to maintain coverage they already have.
In 2010 through 2013, the maximum credit is 35 percent of the employer's eligible premium expenses.
Claiming this credit can result in a substantial tax savings. For example, if you paid $72,000 in health care premiums for your employees and you meet all the requirements for the full amount of the credit, you could claim a credit for $25,200 (35% x $72,000).
Health insurance premiums paid for an employee are deductible business expenses. However, a tax credit is almost always better than a deduction because a credit cuts your tax bill dollar-for-dollar, while the value of a deduction is tied to your marginal tax bracket. In order to maximize your tax savings, you should claim as large a tax credit as possible, and then deduct the remaining premiums.
There are two tests that you have to meet to qualify for this credit: you must be a "qualified employer" and you must pay the premiums under a "qualifying arrangement."
You can claim the credit for more than one type of plan (e.g., major medical and dental) but each plan must meet the qualifying arrangement test separately from the others--you can't aggregate the plan types to meet the "qualifying arrangement" requirements.
To be a qualified employer, you must have fewer than 25 full-time employees (FTE), regardless of whether or not they are enrolled in your health plan, and their average annual wages must be least then $50,000 per full-time employee.
How to Calculate Number of full-time employees. To find out how many FTEs you have, add the total number of hours of service for which you paid wages to employees during the year and, then, divide this number by 2080. If the result is a fraction, it gets rounded to the nearest whole number.
To determine the number of the employees, you consider the hours of service of all employees: both full and part-time. You can determine the number of hours your employees worked by any of the following methods:
During the year, you paid five employees wages for 2,080 hours each, three employees wages for 1,040 hours each, and one employee wages for 2,300 hours.
You are using the hours actually worked method to determine FTEs.
First you total the hours of all employees, not exceeding 2,080 per employee. This means that you only count 2,080 of the 2,300 hours worked by one employee. The total number of hours is 15,600 hours ((6 x 2,080)+(3 x 1,040).) This total is divided by 2,080, which equals 7.5. A fraction is rounded to the nearest whole number, in this case, 7.
This is tax law--so, of course, there are some caveats.
You can't count more than 2080 hours for an employee. Also, you aren't required to count more than 160 hours of service for any single continuous period of paid leave. Seasonal workers are disregarded in determining FTEs and average annual wages unless the seasonal worker works for the employer on more than 120 days during the tax year, although premiums paid on their behalf may be counted in determining the amount of credit.
Owners and family members are not employees. In addition, you probably will not be able to count yourself or your family members for any purpose related to the Health Care Tax Credit. You are not considered an employee--for purposes of this particular credit if you are:
Thus, your wages or hours are not counted in determining either the number of FTEs or the amount of average annual wages, and premiums paid on their behalf are not counted in determining the amount of the credit.
Similarly, the family member or member of the household of the business owners or partners is not considered an employee for purposes of the credit. Thus, neither their wages nor their hours are counted in determining the number of FTEs or the amount of average annual wages, and premiums paid on their behalf are not counted in determining the amount of the credit.
For this purpose, a family member is defined as:
Even if you qualify, the amount of your credit may be reduced if you have more than 10 full-time employees and/or the employees' average annual wages exceed $25,000. (See Limits on the Amount of Credit, below.)
How to determine average wages. You determine the amount of average annual wages by dividing (1) the total wages you paid during the year to employees whose hours are included in the FTE computation by (2) the number of your FTEs for the year. The result is then rounded down to the nearest $1,000 (if not otherwise a multiple of $1,000). Wages for this purpose means wages as defined for FICA purposes (without regard to the wage base limitation.)
Even if you are a qualifying employer and you pay premiums under a qualifying arrangement, the amount of the credit you can claim may be limited by three factors:
The amount of premium payments that can be counted toward the credit is limited to the smaller of:
The average premium for the small group market in a state (or an area within the state) is determined by the Department of Health and Human Services (HHS). The amounts are listed in the instructions for Form 8941 Credit for Small Employer Health Insurance Premiums.
This is a cap on the total amount. For purposes of this test, you can aggregate all your costs under all your qualifying plans.
For the 2013 tax year, you operate a business in Illinois and offer a health insurance plan with single and family coverage. You have nine full-time employees and their average annual wage is $23,000 per FTE. This means that you are considered a qualifying employer and you may be eligible for a credit for premiums paid if you meet the other tests.
Four of your employees are enrolled in single coverage and five are enrolled in family coverage. You pay 50% of the premiums for each employee, regardless of whether their coverage is single or family. The premiums are $4,000 a year for single coverage (of which you pay $2,000) and $10,000 a year for family coverage (of which you pay $5,000). Therefore, you meet the percentage and equality of payments tests.
To determine the amount of premiums that qualify for the credit, you need to compare the amount that you paid against the state average premium for the small group market in Illinois. The average premium for the small group market in Illinois is $5,565 for single coverage and $13,176 for family coverage. Because you are paying 50% of the premium, the cap is based on 50% of the state market premiums: $2,782.50 for single coverage and $6,588 for family coverage.
In this case, the premium amount you paid is less than the state limit, so you can include the entire amount to compute the credit.
Once you have determined the total amount of eligible premium costs, you may have to reduce that amount if you have more than 10 employees and/or the average wage is more than $25,000.
If the number of FTEs exceeds 10, the reduction is determined by multiplying the otherwise applicable credit amount by a fraction, the numerator of which is the number of FTEs in excess of 10 and the denominator of which is 15. If average annual wages exceed $25,000, the reduction is determined by multiplying the otherwise applicable credit amount by a fraction, the numerator of which is the amount by which average annual wages exceed $25,000 and the denominator of which is $25,000.
For an employer with both more than 10 FTEs and average annual wages exceeding $25,000, the reduction is the sum of the amount of the two reductions. Note that this sum may reduce the credit to zero for some employers with fewer than 25 FTEs and average annual wages of less than $50,000
For the 2012 tax year, you have 12 FTEs and average annual wages of $30,000. You paid $96,000 in health care premiums for those employees, which does not exceed the average premium for the small group market in your state, and otherwise meets the requirements for the credit.
The credit is calculated as follows:
Initial amount of credit determined before any reduction: (35% x $96,000) = $33,600
Credit reduction for FTEs in excess of 10: ($33,600 x 2/15) = $4,480
Credit reduction for average annual wages in excess of $25,000: ($33,600 x $5,000/$25,000) = $6,720
Total credit reduction: ($4,480 + $6,720) = $11,200
Total 2012 tax credit: ($33,600 - $11,200) = $22,400.
The amount of credit can only offset your actual income tax liability or AMT liability for the year, unless you are a tax-exempt employer (see Special Rules for Tax Exempt Employers, below.) However, any unused credit amount can generally be carried back one year and carried forward 20 years.
If you qualify for the credit, and you are not a tax-exempt employer, you claim the credit using Form 8941, which must be attached to your income tax return.
For tax years beginning in 2014 or later, there will be changes to the credit:
In the Business Tools is Form 8941, Credit for Small Employer Health Insurance Premiums. It is in Adobe Portable Document Format (.pdf), and you will need the free Acrobat Reader to view and print the file.. It is in Adobe Portable Document Format (.pdf), and you will need the free to view and print the file.
To stimulate greater retirement saving, small employers who establish new retirement plans are now entitled to a tax credit for doing so.
The credit is only available to employers
The credit amounts to 50 percent of the costs incurred in creating or maintaining a new qualified plan, up to a maximum of $500 in each of the first three years the plan is effective. Essentially, this means that you have to spend at least $1,000 per year to get the full credit.
Any set-up and administration costs not offset by the tax credit (i.e. those above $1,000 in the first three years and those incurred after the first three years) are deductible as ordinary and necessary business expenses.
Small and mid-sized businesses were eligible for a tax credit of 25 percent of the qualified child care expenses they provide and 10 percent of the cost of qualified child care resource and referral services they offer. The employer-provided credit is capped at $150,000 per tax year.
Expenses eligible for the credit include payments under a contract with a qualified child care facility to provide child care services to the business's employees. Qualified child care expenses also include the amounts paid or incurred by the employer to acquire, construct, establish, and operate a qualified child care facility for employees. The facility itself must meet any state and local government laws and regulations, like licensing requirements, that may apply for its location.
Under the Americans with Disabilities Act of 1990 (ADA), businesses that are open to the public ("public accommodations" in legal language) must accommodate or help persons with disabilities seeking to use their services.
This means that businesses must also remove physical barriers to the disabled, if removal is "readily achievable." For example, the regulations say that moving tables in a restaurant is "readily achievable," but widening a doorway is not. What's more, any renovations or new construction must include provisions for accessibility by the disabled, in accordance with certain very technical specifications.
Small businesses that are faced with making changes to obey the ADA have been given a "carrot," in the form of a tax credit, to encourage them to comply with the law.
What Businesses Are Eligible? For purposes of this credit, a small business is one that meets either of these tests:
In addition, this tax credit is available only to small businesses that furnish public accommodations. However, nearly every business that sells, gives or offers any type of product or service to the public is likely to be considered a "public accommodation."
The law specifically mentions 12 types of businesses, but notes that it not intended to be an exhaustive listing. The 12 specifically listed business categories are
What Expenses Qualify? For any year, the tax laws allow you to claim a credit for 50 percent of your eligible access expenditures that exceed $250 but don't exceed $10,250. So, you can't claim more than $5,000 in any one year.
The "eligible access expenditures" include not only expenses for removal of physical barriers (in renovations, but not new construction), but also expenses for deaf interpreters; readers for the blind; equipment or devices to make services available to the deaf, blind, or other disabled persons; or similar expenses.
If you anticipate that your disabled accommodation expenses will exceed $10,250, try to spread them over more than one year in order to take maximum advantage of the tax credit.
The disabled access credit is claimed on Form 8826,Disabled Access Credit, and is part of the general business credit. In addition to the dollar limit mentioned above, the total of all your general business credits can't reduce your current year's tax bill below the larger of (a) your tentative minimum tax or (b) 25 percent of the part of your regular tax bill that exceeds $25,000.
One of the worst tax situations to deal with is retroactive changes to the tax law. Just when you thought you knew what provisions applied, Congress steps in and changes the rules of the game. This is what happened with a number of credits as a result of the American Taxpayer Relief Act of 2012.
The Work Opportunity Tax Credit (WOTC) was one of those credits. The WOTC was designed to provide an incentive to hire persons from certain disadvantaged groups that have a particularly high unemployment rate, such as urban youths, government assistance recipients, ex-convicts, veterans, and vocational rehabilitation referrals. Although the WOTC expired at the end of 2011, except for certain veterans, it was resurrected for all the target groups and extended through the end of 2013.
State certification required. Before you can claim the WOTC for an employee, you must filed Form 8850, Pre-Screening Notice and Certification Request for the Work Opportunity Credit within 28 days after the eligible employee starts working for you. This form must be filed with the state workforce agency where the employee works.
Amount of credit. Employers can generally claim a maximum credit equal to 40 percent of the first $6,000 (i.e., $2,400) of qualified wages paid during an employee's first year of employment, provided the employee performs at least 400 hours of service. If an employee works less than 400 hours, but at least 120 hours, the credit is reduced to 25 percent. No credit is available for employees who work fewer than 120 hours.
Qualified Employees.Wages paid or incurred before 2014to members of the following groups may qualify for the WOTC credit:
Under special provisions, an employer's credit for hiring an eligible summer youth employee is only 40 percent of the first $3,000 of wages earned during the 90-day period. If the summer youth employee continues working for the employer after the 90-day period, the employer can get an additional credit until the employee earns $6,000 for the year if the employee qualifies as a member of another targeted group (e.g. part of a family receiving food stamps for six months).
Expanded Tax Credit for Hiring Unemployed Veterans. The work opportunity credit was expanded to provide employers with new incentives to hire certain unemployed veterans. The VOW to Hire Heroes Act of 2011 expanded the work opportunity tax credit to businesses that hire eligible unemployed veterans and for the first time also makes part of the credit available to tax-exempt organizations. Businesses claim the credit as part of the general business credit and tax-exempt organizations claim it against their payroll tax liability. The credit is available for eligible unemployed veterans who begin work on or after November 22, 2011, and before January 1, 2014.
How to Claim the Credit.The WOTC is claimed on Form 5884, Work Opportunity Credit and it is part of the general business credit. As noted earlier, the total of all your general business credits can't reduce your current year's tax bill below the larger of (a) your tentative minimum tax or (b) 25 percent of the part of your regular tax bill that exceeds $25,000.
An energy credit is allowed for 10 percent of the cost of the following types of business property placed in service during the year:
The property must be depreciable and it must be used in your business.
The energy credit is part of the investment tax credit, and must be recaptured (paid back to the IRS) if the qualifying property is sold or disposed of before the end of its recovery period. It is claimed on Form 3468, Investment Tax Credit.