Guest Post – Range of Tax Issues for Manufacturers

I have a guest blog here from Whirlwind Steel.  It lays out various state, federal and international tax matters for manufacturers. The timing is good as we are likely to soon see a tax reform bill (11/1/17 perhaps). What issues will remain, what might disappear, and what new issues might arise? Let’s start with Steve’s overview of taxation for manufacturers.

Range of Tax Issues for Manufacturers

By Steve Wright of Whirlwind Steel*

Taxes. Just the word can make manufacturers shudder. Trying to navigate the US tax rules makes your brain hurt. However, since taxes are a necessary evil, we put together a list of common tax issues manufacturers face and a few tips to help you through the jungle of tax regulations.

Tax time doesn’t just roll around; it jumps right out at you. Let's see about making it a little less stressful.

The Rapidly Changing State Tax Nexus

Businesses are putting more resources into sales tax compliance as the rules change and become less transparent. One of the biggest issues facing companies is the definition of a state tax nexus. Nexus complicates multi-state taxation for sellers and faces increasing legislation, litigation, and regulatory activity.

• Nexus is defined as the threshold of activity a company must have with a state before a tax liability is imposed, requiring compliance responsibility.
• The concept is not completely settled and differs from state to state.
• States are facing a great deal of fiscal pressure and are casting about for more sources of revenue making nexus a target for constant change.
• Not only is the requirement to file ambiguous, but other nexus problems can also impact the amount of total state income and franchise tax due; for example, whether you have the right to apportion or disregard sales from your sales tax factor.

With nexus defined and treated differently in each state, the burden of compliance grows exponentially with each state in which a company does business. There is a potential for a company to create a nexus in a state merely by selling to people there.

Confusion over Incentives, Credits, and Deductions

Federal, state, and local governments offer a variety of incentives, deductions, and tax credits, which are designed to encourage certain types of activity that impacts the economy, environment, or another sector. In some cases, the deductions, incentives, and credits are temporary, lasting until a certain tax year and then disappearing. Manufacturers may not have taken advantage due to confusion about eligibility or qualification.

One tax credit that is highly beneficial for manufacturers is the R&D tax credit. 

• This credit became a permanent part of the tax code in 2015.
• It is a mechanism for capturing the costs of R&D activity to provide a credit on taxes for R&D activity.
• Small businesses may be able to use this credit in place of the alternative minimum tax (AMT).
• Several new projects and investments qualify you for this incentive, reducing risk and costs.

Other opportunities to reduce taxes include the following:

·       Work Opportunity Tax Credit (WOTC) - reduces an employer’s tax liability up to a certain limit for each new hire from a qualified group such as veterans and people in the SNAP program. The credit is available through 2019.

·       S-Corporation Tax Adjustment - if your business is organized as an S-corporation you can take advantage of a stock basis adjustment for charitable contributions of property and exemption from corporate tax on built-in gains assets.

·       Capital Expenditure Expensing - Small businesses and some 39-year property qualify for the 15-year recovery under the federal PATH Act and bonus depreciation.

Business tax advisers and tax attorneys keep up with these changes and have the experience to determine whether or not a manufacturer qualifies.

International Taxes: Section 987, BEPS, and CbCR

Running a global manufacturing company becomes even more complicated, tax-wise, when dealing with a foreign country.

• Section 987 Regulations - governs the recognition of exchange gain and loss for US remittances for multinational companies with disregarded or flow-through entities and use something other than US dollars for currency. The adoption deadline is 2018 for these regulations.
• Base Erosion and Profit Shifting (BEPS) - world governments seek to ensure all companies pay tax on revenue in the country in which it was created. Not all countries will implement BEPS, but many have or will. For manufacturers, the chief concern is that BEPS will change the commissionaire structures.
• Country by Country Reporting (CbCR) - the US federal government issued final regulations that require some US taxpayers that are the ultimate parent [Deloitte newsletter] of a multinational enterprise group to begin CbCR. The filing requirement applies to businesses with $850 million or more in global group revenues.

Multinational manufacturers will need to invest more in compliance with international taxes as changes come fast and furious from governments starved for revenues.

See a February 2017 RSM newsletter on tax and manufacturing for more details of some of these items.

Tips for Tax Time

• Analyze how your tax accounting method for income and expenses affects your tax planning. Most manufacturers use either income deferral or expense acceleration.

•  Did you know that fringe benefits are taxable because they are forms of pay for the performance of services? The provider of the service does not have to be an employee. Fringe benefits are also subject to numerous exclusion rules.

•  The value of your inventory is a significant factor in taxable income. Match the method you use to value inventory to your type of business. Common methods include the Cost Method, Lower of Cost or Market Method, and UNICAP (Uniform Capitalization Rules).

• You may be liable for both manufacturer excise taxes and the federal highway vehicle use tax. To counter this liability, check your eligibility for an income tax credit or refund for gasoline, diesel fuel, or kerosene used for nontaxable activities.

Paying taxes is a requirement for operating a manufacturing business. Tax regulations change often and require near-constant monitoring to ensure you remain compliant, another regulatory burden you, as a business, must shoulder. However, if you and your tax adviser or attorney pay close attention, you may be able to counter some of your tax liability with available incentives, credits, and deductions.

If you are multinational, you will need to invest in services to help you keep up with international tax law and its impact on your US taxes. The IRS website contains valuable resources to help you navigate through the thicket of regulations while an experienced tax attorney can help you determine the best method of valuing your inventory, tracking excise taxes, and file timely returns.

All manufacturers are in the same tax boat. Consider the tips we offer and take advantage of every possible resource to help you comply yet remain a profitable business.

*Whirlwind Steel designs and manufactures Sturdi-Storage metal self-storage buildings.

President Obama and Tax Reform

White House website; speech of 7/30/13

On July 30, 2013, President Obama laid out some items he would like to see as part of tax reform. A lot of pieces are missing, but given some of the things he said, such as lowering the corporate tax rate, bringing jobs back to the US, helping manufacturers, and simplification, I think he is likely talking about parts of the revenue items in his budget proposals of recent years and his tax reform frameworks.  I have these items laid out in a table that I assembled in May 2012 - here. I need to update it for his FY2014 budget proposals released in April, but many of the tax items are similar to his FY2013 budget (other than the need to address the Bush tax cuts).

Here is a summary from the White House website:

"Simplify the tax code for business

• End incentives to ship jobs overseas
• Lower tax rates for businesses that create jobs in the U.S.
• Lower tax rates for manufacturers
• Cut taxes for small businesses

Create good jobs

• Put construction workers on the job rebuilding our infrastructure
• Expand our network of high-tech manufacturing hubs
• Strengthen job training at community colleges
• Raise the minimum wage"

President Obama stated he would like to see tax reform paired with funds for spending to improve our infrastructure.  It is not clear how he will lower the corporate tax rate and generate funds - at least from what he said on July 30.  If you look at his FY2013 and FY2014 budgets, you'll see he can generate a lot of funds from increasing taxes of high income taxpayers (over $250K).  That includes cutting back on the tax benefit of itemized deductions and some exclusions, as well as implementing the "Buffett rule." The first item is the biggest revenue generator - about $40 billion per year. That's a lot compared to about $7 billion per year for repealing LIFO. And repeal of LIFO is really a timing difference, the other is a permanent tax increase.  (See page 343-344 of the Administration's FY2014 Greenbook.)

We need more details. I'll offer a few things to think about for now:

• Does he plan to lower only the corporate tax rates or also those for individuals? Most businesses operate outside of the corporate form. Also, to pay for the lower corporate tax rate, he'd have to reduce business breaks and that would affect all businesses (probably).
• It looks like he still wants to lower the corporate tax rate in a complex and not fully transparetn way - by increasing the Section 199 manfuacturing deduction for certain industries.
• Does everyone want a lower rate? Remember that only the top 1% of individuals are in the top rates. Even many large corporations today use existing tax rules to reduce their effective tax rate to below 25%.  A recent poll of small businesses by the US Chamber of Commerce found that 56% wanted a simpler tax law and only 22% wanted lower rates.
• Revenue neutral reform to lower corporate and individual rates to 25% which many Republicans are talking about will be hard pressed to find revenue unless they go after the bigger tax expenditures, such as the one President Obama has suggested about capping the benefit of certain deductions and exclusions at 28% and reducing the mortgage interest deduction.

President Obama says he will lay out more details over the next few months.  Sounds like a good strategy so he can gauge responses along the way and slowly try to build support.

What do you think?