Friday, December 11, 2015

Year-End Tax Planning Strategies for Solo and Small Firm Practitioners


In 1916, the famed legal scholar Julius Henry Cohen asked the question of whether the practice of law was a business or a profession.1 While the degree to which a legal practice resembles (or should resemble) other commercial enterprises has been debated before and since, there is no debating that solo and small law firms are taxpayers, just like every other small business.
As such, lawyers running solo and small firms should be mindful of the year-end tax planning practices and tips that apply to other kinds of small businesses.
There is still time this year to take some simple yet crucial actions regarding your firm’s finances that will have a direct relation to the size of your tax bill come April. By no means is this article intended to be a comprehensive list of those actions. However, being mindful of a few basic strategies may provide an outsized benefit if you haven’t paid attention to these issues previously.

Before You Do Anything, Talk to an Accountant

If you have not yet developed a relationship with an accountant, now is the time. There is no substitute for the advice of a qualified tax planning professional, even if you think your practice is too small to warrant hiring one. A good accountant will not only be a valuable resource for advice regarding your practice’s finances, he or she will also likely be an essential networking and referral source.
That said, below are some of the basic strategies and issues to consider when working with an accountant to minimize your 2015 tax bill.

Deferring or Accelerating Income

One of the most basic tax-planning strategies is to proactively determine the year in which you recognize income for tax purposes.
Generally, “accelerating” income means recognizing it in the current tax year, while “deferring” income means recognizing it in the next. Your expectation regarding the rate at which your 2016 income will be taxed has a direct bearing on your decision whether to accelerate or defer the recognition of income.2
If you expect to be in the same or lower tax bracket next year it generally makes sense to defer the recognition of income. Most small firms and solo practices use cash-method accounting for tax purposes. Under the cash method, you must recognize “all items of income you actually or constructively receive during [a] tax year.”3 “Constructive” receipt of income generally means that income has either been credited to your account, or has been made available to you, or your agent, without restriction.4 In other words, if you receive a check in 2015, merely waiting until 2016 to deposit it will not act to defer the income because you have already “constructively” received the income.5
To effectively defer income until next year, you can simply wait to send out invoices until after the first of the year. However, this strategy should only be employed with clients that have solid payment prospects. It’s better to pay income tax sooner than to never receive the income at all!
Conversely, if your practice is booming, you might expect to be in a significantly higher tax bracket next year. If that’s the case, congratulations. Also, you may want to consider recognizing as much income as possible this year as opposed to next in order to avoid paying more tax upon that income. Take the opposite approach to end-of-the -year billing in that case – bill early and often in the hope of getting as many checks in the door before December 31 as possible.

Deferring or Accelerating Expenses

Deferring or accelerating expenses will have the same net effect upon your tax bill as deferring or accelerating income.
By incurring expenses this year rather than next, you will effectively lower the amount of income you recognize for tax purposes. Delaying expense recognition until next year will have the opposite effect and increase the amount of income you recognize this year and potentially lower the amount you declare in 2016.
There are some basic end-of-the-year strategies that you can employ to affect the time that you incur certain expenses related to your practice.
First, you can charge a necessary expense on a credit card at the end of the year, or pay with a check that you mail a few days before year end. Although you won’t actually incur any cash outlay until next year, you can claim the expense as a 2015 deduction. Subject to certain rules that your tax professional can explain, you can also prepay certain 2016 expenses (such as rent and insurance) this year and claim a 2015 deduction.6
Examples of generally deductible expenses that you may want to take sooner (or possibly later) include setting up and/or contributing to a retirement plan, contributions to charity, paying bonuses to your employees, and throwing a holiday party for your employees, clients, and referral sources.
Even travel over the upcoming holidays can be deductible to the extent the travel can be attributed to business purposes.
A last-minute development in this area relates to Internal Revenue Code (IRC) Section 179, which allows businesses to deduct the full cost of certain types of property on their income taxes as an expense in the current tax year, rather than requiring the cost of the property to be capitalized and depreciated over several years.7 Between 2010 and 2014 the dollar limit for section 179 deductions was $500,000.8 However, after 2014 the limit dropped to $25,000.9
In February 2015, the U.S. House of Representatives passed a measure that would permanently reinstate the $500,000 limit on section 179 deductions that was available from 2010 through 2014.10However, as of this writing, the fate of that bill is uncertain, another good reason to consult a tax professional, as the outcome could have a significant impact on your 2015 tax bill.

Keep Up with the Latest in Tax Law

The strategies discussed above just scratch the surface of the proactive decisions a small firm operator or solo practitioner can make before the end of the year to minimize their firm’s tax liability. A qualified tax professional will be able to advise you on the latest developments in tax law that are of particular interest to small firms and solo practitioners.
For instance, although solo and small firms in Wisconsin commonly practice in the area of personal injury, many aren’t aware that the Wisconsin Tax Appeals Commission held this year that the purchase of paper copies of medical records for clients is not subject to Wisconsin sales and use tax.11
This may have been a significant expense incurred by many such firms over the last few years. A qualified tax professional can help you apply for a refund of any such tax paid by your firm within the statute of limitations.12
Also, many solo practitioners work out of their homes but aren’t aware that, starting in 2013, the IRS simplified the rules for deducting expenses related to the business use of your home.13 However, the choice of whether to use the simplified deduction is, once again, one that you should discuss with a qualified tax professional.


Perhaps most importantly, consulting with an accountant or other qualified tax professional allows you to take the stress and guesswork out of tax time.
Doing so can help smooth out the financial peaks and valleys often incurred in small firm and solo practice. It also allows you to concentrate your efforts towards growing your practice so that 2016 can be your firm’s best year yet.