Tax Reform Update Series - Professional Service Companies Implications

On November 2, the U.S. House of Representatives released the draft Tax Cuts and Jobs Act (H.R. 1) (Act) which includes many provisions that could have a significant impact on taxpayers in the professional services space. The majority of these provisions will be effective for the 2018 tax year and future tax years.

Specifically, the Act reduces the corporate tax rate from a series of graduated rates based on income to a flat rate of 20 %.  However, this rate does not apply to Personal Service Corporation (PSC’s) most of which are professional services trades and businesses.  Pass-through businesses will be afforded a tax rate relative to pass-through income of 25 % for 30 % of the pass-through income with the remaining 70 % of pass-through income being taxed at the individual’s effective tax rate for all other ordinary income.  Again, this reduced tax rate for pass-through entities would not apply to personal services businesses (i.e. businesses involving the performance of services in the fields of law, accounting, consulting, engineering, financial services, or performing arts).

Under the existing law, entertainment deductions are deductible in most cases up to 50% of the expense amount. According to the Act, the 50% limitation under the existing law would continue to apply only to expenses for food or beverages and to qualifying business meals under the Act, not entertainment expenses. In addition, there would be no deduction allowed for transportation fringe benefits, except to the extent that the employee has included the cost of these benefits in income as taxable compensation.

One other provision in the Act involves employees receiving nonqualified deferred compensation.  Any employees who have nonqualified deferred compensation benefits that have not been paid to the employee, but have no substantial risk of forfeiture will be taxed on these benefits as soon as the benefits have no substantial risk of forfeiture.  This provision would be effective for amounts attributable to services performed after 2017.  The current rules would continue to apply to existing non-qualified deferred compensation arrangements until the last tax year beginning before 2026.  These plans would then become subject to this new provision if tax had not been paid prior to that date.

Finally, one additional proposed provision that will impact nearly all businesses is the disallowance of a deduction for net interest expense in excess of 30 % of the business’s adjusted taxable income.  It is important to note that the net interest expense disallowance would be determined at the tax filer level.  In the case of pass-through entities it would be determined at the partnership or corporation level in the case of S Corporations.  Adjusted taxable income for this purpose is a business’s taxable income computed by adding back depreciation, depletion and amortization, interest expense, interest income, net operating losses essentially an adjusted EBITDA amount.  Any interest expense amounts disallowed under this provision would be carried forward to the succeeding five taxable years.  Any amount of the 30 % of adjusted taxable income threshold that is not used at the business level can be passed through to the underlying partners and shareholders.

As you can see from the selected proposed provisions outlined above this tax reform will be anything but tax simplification.  Please stay tuned because this draft bill will be ever-evolving.  The day after the draft Act was released, there were amendments proposed to revise specific provisions.

Please return to the Our Thoughts On…Tax Reform blog for updates as they become available.

You’ve heard our thoughts… We’d like to hear yours

The Schneider Downs Our Thoughts On blog exists to create a dialogue on issues that are important to organizations and individuals. While we enjoy sharing our ideas and insights, we’re especially interested in what you may have to say. If you have a question or a comment about this article – or any article from the Our Thoughts On blog – we hope you’ll share it with us. After all, a dialogue is an exchange of ideas, and we’d like to hear from you. Email us at [email protected].

Material discussed is meant for informational purposes only, and it is not to be construed as investment, tax, or legal advice. Please note that individual situations can vary. Therefore, this information should be relied upon when coordinated with individual professional advice.

© 2024 Schneider Downs. All rights-reserved. All content on this site is property of Schneider Downs unless otherwise noted and should not be used without written permission.

our thoughts on
Planning Considerations for Business Transitions
Proposed Tax Legislation for 2023?
EV Tax Credit Overview and Reference Guide
Research and Development Tax Capitalization Rules: Are You Ready?
Accelerating Charitable Efforts Act Under Consideration
Superfund Excise Taxes Are Back Under the Infrastructure Investment and Jobs Act Effective July 1, 2022
Register to receive our weekly newsletter with our most recent columns and insights.
Have a question? Ask us!

We’d love to hear from you. Drop us a note, and we’ll respond to you as quickly as possible.

Ask us
contact us
Pittsburgh

This site uses cookies to ensure that we give you the best user experience. Cookies assist in navigation, analyzing traffic and in our marketing efforts as described in our Privacy Policy.

×