In 1789, Ben Franklin infamously said, “In this world, nothing can be said to be certain except death and taxes.”
That mantra remains rock steady almost 230 years later.
And, seeing that you’re not dead yet, let’s talk taxes.
The Tax Cut and Jobs Act of 2017 — commonly known as the GOP tax reform bill — was signed into law on Dec. 22, 2017. While the legislation took many shapes and forms prior to its implementation, the bill is now officially law and up to the IRS to implement.
Those in the HVACR contracting sector largely celebrated many of the changes included in the bill. One of the most significant victories for contractors is a reduction in the pass-through tax rate. Many HVACR contractors operate as pass-through entities, meaning their business’s profits are passed through to them as the owners. The owners then report their compensation as personal income. Taxes are paid on this income based upon owners’ personal tax bracket designations, which historically registered as high as 39.6 percent.
The pass-through rate was effectively lowered to a static 20 percent rate through 2025. Additionally, the new bill provides pass-through owners a 20 percent across-the-board reduction of their business income. For example, a sole proprietor earning $400,000 would now be able to deduct $80,000 off the top. Instead of being taxed on an adjusted gross income of $400,000, he or she would only pay taxes on $320,000.
Congress is hopeful this saved money will allow business owners to hire new employees, increase wages and incentives, purchase inventory, pay down debt, etc.
While the pass-through tax reduction is a big win for contractors, there is a provision in the language that may prove problematic.
This language caps professional service owners filing as single and earning more than $157,500 (or jointly earning more than $315,000) per year. Businesses that surpass these earnings thresholds will have their deduction limited to 50 percent of the total wages paid or 25 percent of total wages paid plus 2.5 percent of the cost of tangible depreciable property (whichever is higher). This restriction tends to favor companies with fewer workers and more money tied into real estate or facilities.
While it’s unlikely HVAC contracting will fall under this cap, let’s assume, for the sake of this editorial, it does. This provision could have a major impact on service franchises and could lead to more businesses creating branch divisions.
Small HVAC contractors that set up their businesses as pass-through entities may structure their companies to earn less than $157,500 for tax purposes. Meanwhile, contractors opting to receive paychecks from franchises or umbrella companies may pay more in taxes. At face value, it’s largely unfair that two people could be taxed much differently for providing essentially the same services.
THE BENEFITS OF BENEFITS
While establishing yourself as an independent contractor or branch manager offers numerous tax benefits, there are some consequences, too.
Employees opting to go out on their own may be stepping away from company-sponsored health care, child care, and transportation benefits. Independent owners may also become responsible for the employer’s share of Social Security and Medicare taxes as well as taking on the much more burdensome accounting task of all the paperwork that comes with running their own business.
The most obvious way a contractor (or franchise) can protect itself from fleeing workers is to offer exemplary benefits. If your company offers top-of-the-line health care benefits, multiple weeks of vacation, profit-sharing bonuses, etc., odds are that your workers will be less likely to walk away from these perks.
Additionally, now’s the time to stress the advantages and gratuities your company or franchise framework offers workers. Be transparent. Show them how hard your receptionist works when it comes to scheduling appointments and facilitating calls, give employees a glimpse into the price tags of your trucks and the maintenance they require, and show them your utility bills. Demonstrate the value your organization affords, and ensure them they’ve got much more to gain by sticking with your company than they do by saving a few bucks in tax savings as independent contractors.
Publication date: 1/15/2018