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If you operate a small business as a sole proprietorship or are preparing to launch a new business, you may consider protecting your assets by forming a limited liability company, or LLC. Here’s a quick guide to what operating as an LLC entails—and how you can decide if it’s right for your business.

LLCs are flexible and function like a hybrid entity in that they can be structured to resemble a partnership for federal tax purposes or to resemble a corporation for owner liability purposes. As such, LLCs may allow owners to experience the best of both worlds. 

Protecting your personal assets

The owners (or “members”) of an LLC resemble the shareholders of a corporation in that they aren’t typically liable for the debts of the business beyond the extent of their investment. As such, an LLC can help protect the owner’s personal assets against the business’s creditors. 

The protection offered by an LLC is also much more effective than the protection offered by a partnership, since the general partners in a partnership are still personally liable for the business’s debts. Even limited partners who actively participate in managing the business may be personally liable.

Potential tax benefits

Under the “check-the-box” rules, the owners of an LLC can elect to have their business treated as a partnership for federal tax purposes—and doing so can provide the owners with a number of significant tax benefits. 

For instance, partnership earnings aren’t subject to entity-level taxes and instead “flow through” to the owners in proportion to their respective interests in profits. As such, these earnings are reported on the individual returns of the owners and are only taxed once.

Owners of LLCs that are taxable as partnerships can also take the Code Section 199A pass-through deduction, subject to various limitations, to the extent that the income passed through to them is qualified business income. Since they’re actively managing the business, they can also deduct their ratable shares of any losses the business generates on their individual tax return. This can allow owners to shelter any other income that they or their spouse may earn.

LLCs that are taxable as partnerships can also provide specific partners with special allocations of tax benefits, which can be a major benefit of forming an LLC rather than an S corporation. And while S corporations are subject to certain federal tax code restrictions regarding the number of owners and which types of ownership interests can be issued, LLCs are not subject to these restrictions.

Contact us for help

As you can see, operating your business as an LLC can offer you protection from creditors but still provide you with the tax benefits of a partnership. If you have questions about how forming an LLC might benefit you and your business, contact us.

Probate can be expensive and time consuming, but one of the biggest issues with probate is that it’s public. During probate, the assets you owned and the way they’re being distributed after your death become publicly available knowledge for anyone who’s interested. Probate’s public nature may also draw undesired attention from disgruntled family members or other unscrupulous parties looking for ways to challenge the disposition of your assets.

Here’s a quick guide to some estate planning strategies you can use to keep most (or possibly all) of your estate out of probate.

What is probate?

Probate is the legal procedure through which a court confirms the validity of the deceased’s will, determines what the value of their estate is, provides for the payment of taxes and other debts, resolves creditors’ claims, and transfers their assets to their heirs.

Under certain circumstances, probate may actually be desirable—for example, if you’re more comfortable with having a court resolve issues involving your creditors and heirs.  Probate also places strict time limits on creditor claims and ensures that claims are settled quickly, which may be an advantage in some cases.

Strategies for avoiding probate

However, if you’d like to keep your family matters private by avoiding probate, there are several strategies that can help you avoid or minimize the process (disposition of personal property, guardianship of minor children, and certain other matters will still require a will—and probate—to deal with).

The simplest way to keep your assets out of probate is to designate beneficiaries or title assets in such a way that they can be transferred directly to your beneficiaries outside of your will. For instance, you’ll want to be sure that you have valid, appropriate beneficiary designations for assets like life insurance policies, retirement plans, and annuities.

“Payable on death” (POD) or “transfer on death” (TOD) designations may also be available for assets like bank and brokerage accounts—these designations allow these assets to pass directly to your designated beneficiaries and thus avoid probate. However, it’s worth noting that while most states allow POD or TOD designations, not all financial firms and institutions make these options available.

Some people also avoid probate for homes or other real estate (in addition to bank and brokerage accounts or other assets) by holding title as “joint tenants with rights of survivorship” or as “tenants by the entirety” with either a spouse or child. 

However, there are three significant drawbacks to this approach: 

1. Once the property is retitled, the asset owner can’t change their mind
2. When titles are held jointly, the joint owner has some control over the asset, and the asset is exposed to the joint owner’s creditors
3. There may be unwanted consequences for taxes

A small number of states permit TOD deeds. Using a TOD deed, you can designate a beneficiary who succeeds to ownership of your real estate after your death. This allows you to avoid probate but doesn’t require you to make an irrevocable gift or expose your property to the beneficiary’s creditors. 

Contact us for help

Because probate is a public process, many estate plans aim to avoid the process to whatever extent is possible. If you have questions or would like to discuss your options, contact us. We can help you implement the right strategies in your plan so you can save your family time and money and protect your privacy.

According to the EducationData.org research group, there are more than 43 million student borrowers in debt, with an average debt of $39,351 each. If you’re one of these borrowers, you may want to know if the interest you pay can be deducted. 

Generally speaking, the answer is yes (although subject to certain limits)—but if your adjusted gross income exceeds certain levels, the deduction is phased out, and these levels aren’t as high as they are for many other deductions.

Deducting student loan interest

$2,500 is the maximum amount of student loan interest that a borrower can deduct each year, and only interest from “qualified education loans” can be deducted.

“Qualified education loans” are debts incurred to pay for the borrower’s tuition, room and board, and other expenses related to attending a post-secondary educational institution, including some vocational schools. Certain post-graduate programs also qualify, such as internships or residency programs offering post-graduate training at institutions of higher education, hospitals, or health care facilities and leading to a degree or certificate.

Deductions can be claimed regardless of when the loan was originally taken out and whether or not interest payments made on the loan in earlier years were deductible.

For 2021, the deduction is phased out for single borrowers with an adjusted gross income between $70,000 and $85,000 (for married couples filing jointly, this amount is between $140,000 and $170,000). Single taxpayers with adjusted gross income of more than $85,000 and jointly-filing couples with an adjusted gross income of more than $170,000 cannot claim the deduction.

In order to claim this deduction, married taxpayers must file jointly.

Deductions of student loan interest are taken “above the line,” meaning that they’re subtracted from gross income to determine adjusted gross income. As such, these deductions are available even for borrowers who don’t itemize their deductions.

Ineligible borrowers

Taxpayers who can be claimed as a dependent on another person’s tax return cannot claim these deductions. 

If, for example, a parent is paying for the college education of their child and is claiming this child as a dependent, the interest deduction will only be available for interest paid by the parent on a qualifying loan—any interest the child may pay on a loan they’ve taken out cannot be deducted.

However, the child will be able to deduct any student loan interest they pay in later years once they’re no longer a dependent.

Additional rules and requirements

To be deductible, interest must be on funds that are borrowed to cover the qualified education costs of either the taxpayer or their spouse or dependent, and the student must be a degree candidate who is carrying at least half the normal full-time workload. In addition, the education expenses for which the funds are borrowed must be paid or incurred within a reasonable time of the loan being taken out.

In order to verify qualifying expenditures, taxpayers need to keep records. While documenting tuition expenses doesn’t usually pose a problem, taxpayers looking to deduct student loan interest should carefully document other qualifying education-related expenses, such as books, fees, transportation, and equipment.

For students that are living and dining on campus, documenting room and board expenses should be relatively simple—but students who are living away from campus should maintain records of their room and board expenses, especially when complicating factors such as roommates are involved.

If you have questions about this deduction or need help determining if you qualify, contact us.

Those who are estate planning and have recently inherited assets may not be sure of the “cost” (or “basis”) for tax purposes—here’s a quick guide to get you up to speed. 

Current fair market value basis rules

Current fair market (or “step-up and step-down”) value basis rules hold that an heir receives a basis in inherited property that is equal to its date-of-death value. This means that if an heir’s grandmother bought stock in 1950 for $200 and that stock is worth $2 million at the time of her death, the basis is stepped up to $2 million in the hands of the heir. All of this gain is also exempt from federal income tax.

These rules apply both to any inherited property that’s includible in the deceased’s gross estate and to property that’s inherited from non-U.S. citizens who aren’t subject to U.S. estate tax. Whether or not a federal estate tax return is filed doesn’t matter for these purposes. 

The value basis rules apply to the inherited portion of property that is jointly owned by the inheriting taxpayer and the deceased, but don’t apply to the portion of jointly held property that was owned by the inheriting taxpayer before they received their inheritance. These rules are also not applicable to reinvestments of estate assets by fiduciaries.

Making the most of the current rules

Understanding the current fair market value basis rules is crucial if you’re looking to avoid paying more tax than you’re legally obligated to.

For example, the “step-up” in basis (from $200 to $2 million) would be lost if the grandmother mentioned earlier decided to make a gift of the stock during her lifetime instead of passing it on as an inheritance when she died. This is because property that has gone up in value and is acquired by gift falls under the “carryover” basis rules (rather than “step-up” rules)—meaning that whoever recieves the gift will take same basis the donor had in it (in this example, $200), plus a portion of any gift tax paid on the gift by the donor.

If someone dies owning property that’s declined in value, a “step-down” occurs. In the case of a “step-down,” the basis is lowered to the value at the date of death. As such, you should make a plan to avoid this loss of basis—and simply giving the property away before your death won’t help you to avoid the step-down. 

When a gift is made of property that has gone down in value, the person receiving the gift is required to take the date-of-gift value as their basis for the purposes of determining their loss on a later sale. Because of this, the owners of property that has declined in value should plan to sell it before death so that they can enjoy the tax benefits from the loss.

Be prepared for possible changes

It’s worth noting that President Biden has proposed a change to the rules for stepping-up basis. Under this proposed change, inheritors will no longer be able to step-up the basis for any gains in value over $1 million. The change would include exemptions for farms and family-owned businesses. However, this proposal would have to be approved by Congress before it can be enacted.

Although these are the basic rules, there are other limits and rules that may apply. For example, a deceased person’s executor might be able to make an alternate valuation election in some cases. If you’re estate planning or have received an inheritance, contact us—we can help you stay up to date on any tax law changes.

If you play an executive role in a closely held corporation and you’ve personally spent money on corporate expenses, these costs might end up being nondeductible unless you take the right steps. This is especially likely to be an issue in connection with financially troubled corporations.

Most expenses won’t be deductible

Generally speaking, expenses you incur on behalf of your corporation aren’t deductible, even if they’re legitimate “trade or business” expenses and even if the corporation you incurred expenses for is financially troubled. This is because taxpayers are only allowed to deduct expenses that are their own. Since your corporation exists as a legally separate entity, the corporation’s costs don’t count as your own and aren’t deductible by you even if you paid them.

And in most cases, the corporation won’t be able to deduct them either, since the corporation didn’t pay these expenses itself. As such, it isn’t advisable for a corporation’s major shareholders or officers to cover corporate costs.

When you may be able to deduct expenses

There are, however, certain circumstances under which these expenses may be deductible.

Costs incurred by a corporate executive that are related to an essential part of their executive duties may be deductible if they’re considered ordinary and necessary expenses related to their “trade or business” as an executive. 

Executives who wish to ensure the deductibility of expenses they incur on behalf of their company should include a provision in their employment contract that states the types of expenses that are part of their duties and authorizes the executive to incur them. For example, the employment contract may authorize the executive to incur expenses on the corporation’s behalf while attending out-of-town business conferences.

Executives can also arrange to avoid the loss of any deductions by themselves and the corporation by putting an arrangement in place under which the corporation reimburses them for expenses they incur. If the receipts are turned over to the corporation and an expense reimbursement claim form or system is used, it will at least allow the corporation to make a deduction for the amount of the reimbursement.

If you have questions about these issues or need assistance with deducting corporate expenses, contact us.

Ted Dudek, Smolin’s very first Managing Partner, took this leadership role eighteen years ago. In that time, he’s overseen Smolin’s steady growth to include a team of over 100 people with three offices and revenues exceeding $21 million annually.

Ted didn’t always know that he’d be an accountant. Instead, a great opportunity in the form of a job offer from the prestigious Arthur Andersen LLP made Ted change his college major at the last minute. And with that, Ted was on his way to a career that’s spanned more than 40 years and has let him dedicate his professional life to doing what he loves most—mentoring, building and fixing. 

Ted has focused a large part of his accounting practice on bankruptcy and business restructuring and manufacturing and wholesale industries. For Ted, accounting isn’t just “tax and accounting services”—it’s about the business as a whole, including succession planning and ongoing consulting.

Ted’s experience raising four children, coaching sports for over 22 years, and participating in local politics as a member of Lyndhurst town council have all been a part of that same passion—using his leadership skills to help others and show them just how much they’re capable of.

In addition to his many professional and managerial achievements at Smolin, Ted served for many years on the Large Firms Managing Partner Roundtable of the BDO USA Alliance. Ted has also been qualified as an expert witness ands a former member of the Eastern Association of Equipment Lessors, the American Association of Equipment Lessors, the Bankruptcy Committee, and the Cooperation with Bankers committees of the New Jersey Society of Certified Public Accountants.

Many estate plans incorporate an irrevocable trust as a key component. But if the trust no longer serves your purposes, you may be wondering if it’s too late to change it. The good news is that, depending on applicable state law, there may be several possible ways to fix a “broken” trust.

How and why trusts “break”

Trusts can fail to serve their intended purposes for a number of reasons, including:

Changing circumstances in the family

If your family circumstances change, a trust that was working fine when you established it may no longer serve its original goals. Divorce, a second marriage, or the birth of a child can all cause a trust to stop functioning as intended.

Changing tax laws

For 2021, gift, estate, and generation-skipping transfer (GST) tax exemption amounts have risen to $11.7 million, which means that trusts designed to minimize these taxes when exemption amounts were relatively low may no longer be necessary. And with transfer taxes no longer as significant, the higher income taxes often associated with irrevocable trusts become more important by comparison.

Accidents

Mistakes such as naming the wrong beneficiary, failing to allocate your GST tax exemption properly, omitting a necessary clause from the trust document, or including a clause that isn’t fully consistent with your intent can also cause a trust not to work properly.

These are just a few examples—there are also many other ways that a trust might fail to achieve your goals for estate planning.

Fixing broken trusts

Depending on applicable law in the state where you live (or in the state where the trust is located), several methods for repairing a broken trust may be available to you. Potential fixes include:

Modifying the trust

If unanticipated circumstances arise that require a trust to change in order to achieve its purposes, this remedy may be available through court proceedings. In some states, modification is permitted with the consent of the grantor and the beneficiaries even if it’s inconsistent with the trust’s original purposes.

Reforming the trust 

More than half the states have adopted the Uniform Trust Code (UTC), which provides several options for fixing broken trusts. Similar remedies may also be provided by non-UTC states. During the process of reformation, you may ask a court to rewrite a trust’s terms to better align with the grantor’s intent. Trust reformation is available as an option if the original terms of the trust were based on a factual or legal mistake.

Decanting trust funds

Many states also have decanting laws. Under decanting laws, a trustee may “pour” funds from one trust into another according to his or her distribution powers, even if the new trust has different terms or is in a different location. Although it depends on applicable state law and your specific circumstances, decanting may allow trustees to correct errors, add or eliminate beneficiaries, or take advantage of new tax laws or asset protection laws in another state. In many cases, decanting does not require court approval.

Contact us for assistance

There are many complex rules regarding the modification of irrevocable trusts, and rules can vary dramatically between states. Revising or moving a trust also comes with certain risks, such as uncertainty about how the IRS may view the changes. If you’re considering trying to fix a broken trust, contact us and let us help you understand the potential risks and benefits.

Businesses use internal controls to prevent fraud, waste, and abuse, and to ensure the accuracy and integrity of their financial statements. Internal and external auditors place a lot of specific focus on internal controls because of their high importance.

In order to ensure a comprehensive assessment, many auditors use detailed internal control questionnaires to evaluate the internal control environment. While some still use paper-based questionnaires, many audit teams now prefer an electronic format. Here’s a quick guide to the kinds of questions an audit team might include and how they might use the questionnaire during an audit.

Typical contents

The contents of internal control questionnaires can be customized for a particular industry or business and may vary between different audit firms. However, most include general questions about the company’s mission, compliance situation, and control environment. The questionnaire may also have sections dealing with fraud-prone or mission-critical elements of the company’s operations, including:

• Inventory
• Property, plant, and equipment
• Accounts receivable
• Intellectual property inlcuding copyrights, patents, and customer lists
• Payroll
• Trade payables
• Related party transactions

Since most questions require only yes-or-no answers, questionnaires don’t typically take very long to complete. However, some questions may also leave space for open-ended responses, such as asking for a list of controls limiting physical access to a company’s inventory.

Three methods for administering the internal control questionnaire

Internal control questionnaires are usually completed according to one the following three methods:

Completed by company personnel

In these cases, the questionnaire is completed independently by management. In order to ensure that the right individuals are selected to participate, the audit team might ask for the company’s organization chart. Before assigning the questionnaire, the audit team may also conduct preliminary interviews to confirm their selections.

Completed by the auditor based on inquiry

When this method is used, the auditor meets with company personnel and discusses a particular aspect of the company’s internal control environment. The auditor then completes the relevant section of the questionnaire before asking those interviewed to review and validate their own responses.

Completed by the auditor after testing 

In these cases, the questionnaire is completed by the auditor after they’ve observed and tested the internal control environment. Auditors typically ask management to review and validate responses after they complete the questionnaire.

Ensuring accurate reports

The internal control questionnaire is designed to help audit teams understand your company’s internal control system. When combined with your audit team’s expertise, training, and analysis, the questionnaire assists auditors in producing accurate, useful audit reports. 

Your business can benefit from the questionnaire by gaining insight into holes in your control system that may be vulnerable to fraud, abuse, and waste. For more information, contact us today.

As the economy recovers from the COVID-19 pandemic, the number of new businesses being launched has increased significantly. In fact, the U.S. Census Bureau reports that business applications are up 18.6% from June 2020 through June 2021, based on the number of businesses applying for an Employer Identification Number.

Unfortunately, many of the expenses incurred by start-ups aren’t currently deductible. If you’re starting a new business, the way you handle some of your initial expenses might make a significant difference in how much tax you owe this year.

Three tax rules to know 

Here are three rules to keep in mind if you’re starting (or are planning to start) a new business:

1. Start-up costs include the costs incurred or paid while creating an active trade or business, or while investigating the creation or acquisition of an active trade or business. 
2. In the year a new business begins, taxpayers can elect to deduct up to $5,000 of business start-up and $5,000 of organizational costs under current tax code. This $5,000 deduction is also reduced dollar-for-dollar by the amount by which your total organizational or start-up costs exceed $50,000—and any remaining costs must be amortized on a straight-line basis over 180 months.
3. New businesses are not allowed to make deductions or amortization deductions until the year the business begins “active conduct”. Typically, this is the year when a new business has all of the pieces it needs to start earning revenue in place. The IRS and courts generally ask the following questions in order to determine if a taxpayer meets this test: 
   1. Was the activity undertaken by the taxpayer with the intent to earn a profit? 
   2. Was the taxpayer actively and regularly involved in the activity? 
   3. Did the activity actually begin?

What expenses are eligible?

Eligible start-up expenses are generally defined as expenses incurred to:

• Create a business
• Investigate the creation or acquisition of a business
• Engage in a for-profit activity with the expectation that the activity will become an active business.

Only expenses that would be also deductible if they were incurred after a business began qualify for the election. Money you spend analyzing potential markets for a new service or product is one example.

Expenses that are related to establishing a corporation or partnership are eligible as “organization expenses”. Filing fees paid to the state of incorporation and legal and accounting fees for services related to organizing a new business are eligible as organization expenses, for example. 

Make a plan today

If you’re planning to start a new business this year and have expenses you’d like to deduct, you’ll need to decide whether you’re going to take the election we described above—and good recordkeeping will be critical. If you need help with the tax or other aspects of your new business, contact us about your start-up plans. 

Companies looking to survive and thrive in today’s competitive landscape will need agility, or the ability to react quickly. Although they were originally used in software development, agile techniques have many applications in the world of modern business, and can be useful to companies approaching their internal audits. Here’s a quick guide to agile auditing and a few reasons many internal audit teams are adopting these practices.

What is agile auditing?

Agile audits move at a faster pace than traditional audits, which require extensive planning, fieldwork, and reporting. Agile audits also allow for audit teams to quickly refocus their attention and efforts as needed.

Agile auditing utilizes the following key practices:

Maintaining audit backlogs

Audit teams using agile auditing keep a backlog of audit programs that have been reviewed and approved. The audit team then adds, removes, or reprioritizes the programs in the backlog as the auditing environment evolves. Taking this approach allows the audit team to focus on only the most pressing issues at any given time. It also reduces the likelihood of wasting time on an issue from a previous audit plan that’s now become irrelevant.

Creating user stories

Agile auditing teams create user stories consisting of a user, an action, and an outcome, with each story corresponding to a particular unit of work related to the audit. 

In these user stories, the user is the person responsible for performing critical tasks in the unit of work, while the action is whatever the user needs to do to generate the desired outcome.

For instance, a retailer (or user) might want to process credit card payments from online customers (the critical action), so that these customers can order online (the desired outcome). These user stories give the auditing team an understanding of the user’s desired outcome and the requirements to achieve that outcome.

Working in sprints

Once the audit team has a defined story, they can conduct their work in sprints, with each sprint typically completed in one to four weeks. Audit sprints often include both defined tasks and regular check-ins with stakeholders. A sprint has a planning phase in addition to daily “scrums”—short meetings between stakeholders and the audit team. The daily agenda during an audit sprint includes yesterday’s progress, today’s game plan, and any possible challenges going forward.

An audit sprint is concluded when preliminary results are delivered to stakeholders. Since the results of each sprint are reviewed regularly over the course of the audit, there’s less of a chance for unwanted surprises when the team submits the final audit report to stakeholders.

Questions? Contact us

Agile auditing fosters more robust partnerships and helps to improve the accuracy and integrity of an audit’s findings by facilitating timelier and more frequent communications between auditors and stakeholders. Agile auditing can also allow your audit team and your business to quickly identify and solve problems.

If you’re trying to decide if you’re ready to transition to agile auditing practices or need help guiding your internal audit team through implementation, we’re happy to help. Contact us for more information.