Month: August 2021

Preface: Millions and millions of people don’t pay an income tax, because they don’t earn enough to pay on one, but you pay a land tax whether it ever did or ever will earn you a penny. You should pay on things that you buy outside of bare necessities. I think this sales tax is the best tax we have had in years. –Will Rogers

Navigating the Labyrinth of Sales Tax Compliance

Credit: Matthew P. Glick

So, you’re a small business owner, or you’re thinking of becoming one in the near future. You’ve taken the plunge, and you’re starting to see the return on your investment. But now, you just started researching sales tax (Or just started reading this article), and all of the sudden, your head is spinning a million details, and you’re just trying to figure out where you’re supposed to start. Sales tax is intimidating, and it can be difficult to know where to start. First of all, there are fifty states in the US (not to mention five additional territories), each with the power to levy a tax on the sale of items in that state/territory. Compounding the issue, is that each county and city can also impose an additional tax on sales that happen within the county/city. In all, that brings the total number of sales tax jurisdictions in the US to well over 10,000. To further complicate matters, each jurisdiction can have its own rules on what is considered taxable, and can also set its own tax rate. Is your head spinning yet?

While sales tax compliance is a very tedious process, I hope this article will help you understand where your business stands in this area, and give you a good starting point to do some additional research. If in doubt, you will want to pull in the advice of a qualified CPA or tax attorney to help you through the process.

Some of you may be thinking “Yeah, that’s a lot of stuff to keep track of if you’re managing a large enterprise like Walmart, but how does this apply to me?” Excellent question, the reasoning is simple: I don’t have a presence in any of these other jurisdictions, so why do I need to worry about their laws?

This reasoning was true once upon a time, until 2018, when the United States Supreme Court ruled in South Dakota v. Wayfair, Inc. that a physical presence was not necessary in a state to give that state the power to tax sales into that state. This overturned the decision also made by the Supreme Court in Quill Corp. v. North Dakota, which ruled that a physical presence was necessary in order for the state to levy a tax on the sale.

So what happened that caused the Supreme Court to overturn its prior decision? The most obvious factor is changes due to technological advances. To put this in perspective, the Quill decision was based on the presence of floppy discs being shipped into the state.

The Supreme Court ruled that a shipment of floppy discs did not constitute a physical presence in the state. Since then, with the advent of the internet, ecommerce is a booming industry, and thanks to solutions such as Shopify and Americommerce, it is now available to small and large businesses alike. Previously, states had to levy a tax on the use (Use tax) of items within their state to recoup lost sales tax dollars due to online sales, which would be the buyer’s responsibility to pay to the state, rather than the seller’s. As buyer’s compliance with use tax reporting is astronomically low, South Dakota sought to pass a law that would overturn the physical presence rule for collecting sales tax, and did so successfully.

So, we just established that if you are a small business, and your sell items or services out of state, you may need to comply with over 10,000 individual laws. Now what? The answer will vary depending on the way your business is structured, and how you market your products or services. The first thing to consider is the volume of out-of-state sales that you deal with. If your gross receipts for sales within a certain state are under $100,000 and less than 100 transactions, chances are low that additional research is required.

Keep in mind that each state measures sales differently. Some use gross receipts, others use net sales; some measure it over the calendar year, and others measure it on a continuous basis over the past twelve months, but a quick look at gross receipts should be good indicator if more research is required.

Then of course you need to research the products and services you offer, and find out if those items or services are taxable. Again, each jurisdiction has different rules regarding what is taxable. As a general rule of thumb, tangible personal property is taxed, and necessary items such as food and medication are exempt.

Again be sure to verify, as each state has different nuances to their exemptions, but this rule of thumb can help you understand what to expect. Services are much more tricky, as some states tend to tax services, while others do not.

The good news is that most online ecommerce platforms are equipped to handle these challenges by integrating with services that will automate sales tax compliance for a fee. These services may calculate sales tax, and allow you to file it on your own, or may even file the appropriate returns for you, depending on the level of service you subscribe to. Searching “Sales tax compliance software” into a search engine should help you locate a provider.

If you only offer your products from a brick-and-mortar location, and only do local deliveries if any, your job is even easier. Simply research to verify your state’s sales tax rate, and confirm to make sure your county and city don’t also levy a sales tax. You can take advantage of this free tool by Avalara to look up sales tax rates by typing in the address.

If this seems like a lot, it’s because it is. The good news is that there is software out there to help you stay compliant, and these solutions tend to scale with your company, making the investment palatable even in the beginning stages of your company. While it’s not a perfect solution, it is better than no solution, and noncompliance can be costly, as back taxes, along with penalties and interest can stack up quickly.

Our team at Sauder & Stoltzfus is willing to help. Get in touch with us to see how we may be able to assist you in becoming or staying compliant with sales tax regulations.

Preface: We will ensure that associates continue to possess unsurpassed product knowledge and maintain their dedication to customer service and respect for their colleagues and for the communities in which they work and live. — Arthur Blank

Home Depot: Two Good Guys Success

“Bernie Marcus and Arthur Blank dreamed up The Home Depot from a coffee shop in Los Angeles in 1978. Avid DIYers, they envisioned a superstore that would offer a huge variety of merchandise at great prices and with a highly-trained staff. Employees would not only be able to sell, but they would also be able to walk customers at every skill level through most any home repair or improvement.

With help from investment banker Ken Langone and merchandising guru Pat Farrah, Marcus and Blank opened the first two Home Depot stores in Atlanta the following year. The 60,000-square-foot warehouses dwarfed the competition with more items than any other hardware store. But the heart of Home Depot was the expertly trained floor associates who could teach customers how to handle a power tool, change a fill valve or lay tile. It wasn’t enough to sell or even tell — associates also had to be able to show. Soon, The Home Depot began offering DIY clinics, customer workshops and one-on-one sessions with customers.

Marcus and Blank implemented a customer “bill of rights,” which stated that customers should always expect the best assortment, quantity and price, as well as the help of a trained sales associate, when they visit a Home Depot store. These commitments were an extension of the company’s “whatever it takes” philosophy.” [i]

Bernie Marcus was the son of a poor Russian Orthodox Jewish immigrants. With ambitions to be a psychiatrist during his high school years, but unable to afford college or medical school, he faced his career realities and obtained a job in discount retail. His map to the entrepreneurial launch point began at United Shirt Shops eventually leading him to Two Guys discount Store in New Jersey. With a sharp-eye towards making the journey count, he was soon in charge of more than $1.0B in business at Two Guys. That position gave him the visibility for an opportunity to obtain an executive position with Handy Dan Home Improvements Centers where he was chairman and CEO.

Arthur Blank was raised in Queens New York. He learned the accounting trade and obtained a job at Arthur Young & Company following his formal education. Blank then joined his family’s pharmaceutical business that was purchased by Daylin Corporation. Daylin was an investor in Handy Dan Home Improvements Centers.

Bernie offered Arthur a job at Handy Dan and the two enterprising future business partners soon became best friends. Soon the Daylin Corporation CEO set the two free to pursue their dreams from that coffee shop conversation in 1978, by firing them both. As Bernie and Arthur made their way out the door, the CEO Mr. Langone told them to “open up that store you talked about!”

They initially considered such names as MB Warehouse and Bad Bernie’s Buildall, and then an investor suggested the name Home Depot.  Working business connections with Ken Langone a New York investment banker who organized the initial group of investors, and merchandising consultant Farrah helped that coffee shop dream to bud into a very successful enterprise.

When they opened the first store, Home Depot had so few customers that if Bernie or Arthur saw someone leaving their store empty-handed, they took it personally. The legacy of Home Depot is build on the tenet that they are in the training business, and that they are the college for learning flooring installation, kitchen and bath remodeling, millwork and even computerized registers.

Bernie and Arthur summarize the impressive ascension from humble beginnings to entrepreneurial  success as learning how important the folks are with whom they surrounded themselves, and that is their secret — they surrounded themselves with people at the Depot who were better, smarter, and more talented than they were, and invited them along on the Home Depot train.

[i] https://corporate.homedepot.com/about/history

Preface: Taxes are not good things, but if you want services, somebody’s got to pay them so they’re a necessary evil. –Michael Bloomberg.

Historical Individual Income Tax Trends

Credit: Benuel B. Glick, EA

Overview

It has been said that death and taxes are two unavoidable facts of life. While it may not be quite that simple, there may be some truth to it. And, as the humorist Will Rogers said a century ago, “The difference between death and taxes is death doesn’t get worse every time Congress meets.” In fact, death is a much-anticipated liberation for the follower of Jesus.

In this article, we’ll briefly explore the history of America’s individual federal income tax rates. We will not look at all the shades or governmental motives for taxation. Nor will we get into excise, tariff, sales and use, corporate, investment, real estate, payroll, social security, estate and inheritance, gift, capital gains, tangible personal property, or state and local taxes. “Taxes” and “tax rates” will be referring to “individual income taxes” and “individual income tax rates” respectively.

Trying to cover all the nuances of calculating the tax rates would quickly turn this article into a book, and the graph shown above only highlights overall trends since 1913. It does not reflect exemptions, phase-outs, credits, blended rates, etc. However, excluding many additional factors, it does reflect the highest and lowest marginal individual tax brackets for given time periods.

Background

With some exceptions, the American government collected the majority of its revenues from duties, tariffs and excise taxes prior to 1913. In 1913 the 16^th Amendment to the U.S. Constitution was ratified by the states – albeit with much resistance – and a new era of taxation was born. In strong opposition of the 16^th amendment, speaker of the Virginia House of Delegates Richard E. Byrd warned: “A hand from Washington will be stretched out and placed upon every man’s business; the eye of the Federal inspector will be in every man’s counting house.…” Sound prophetically accurate?

Included in the 16^th Amendment is the following: “The Congress shall have the power to lay and collect taxes on incomes, from whatever source derived, without apportionment among the several States, and without regard to any census or enumeration.” In short, the United States Congress was finally allowed to directly assess income taxes on individuals without permission from the states, or anyone else for that matter. It’s not difficult to guess what Congress did next.

Modest Beginnings

Initially, the tax rates appeared modest enough with taxable income under $20,000 taxed at 1%, and the highest bracket of over $500,000 taxed at 7%. That didn’t last long. In October of 1917, shortly after declaring war on Germany (WWI), Congress passed the War Revenue Act which drastically increased the tax rates. In 1918 the top bracket for income over $1M was taxed at a whopping 77%! As the saying goes, strike while the iron is hot.

The 1920’s are often referred to as the ‘roaring 20s’. World War 1 ended in 1918, and Congress nimbly lowered the top tax rates in subsequent years. The 1920’s saw a significant top rate reduction; however, it was accompanied by much lower thresholds. By 1925 the top rate was at 25%, but that included all taxable income over $100,000.

New Era of Taxation

Black Tuesday crashed onto the financial stage on October 29, 1929, and decades of high taxation followed suit. By 1940, the top tax rate was at 81.1% on income over $5M. Not satisfied with the current state of affairs, president Roosevelt actually pushed for a top tax rate of 100% and is quoted as saying to Congress in April 1942, “…I therefore believe that in time of this grave national danger, when all excess income should go to win the war, no American citizen ought to have a net income, after he has paid his taxes, of more than $25,000 a year.” In addition to his New Deal, he was calling for more funds to alleviate the WWII financial burdens. You might say he reached 94% of his goal by 1944 when tax rates had reached 94% on taxable income over $200,000!

Taxes remained high During the rest of the ‘40s and all through the ‘50s with a marginal top rate of 91% on income over $400,000 from 1954 through 1963. It’s important to maintain perspective though, an estimated fewer than 10,000 households would have reached the top bracket in 1950 per a Wall Street Journal article.

In 1964, president Lyndon B. Johnson signed the largest pre-Reagan-era tax cuts into law. A top marginal rate of 77% on income over $400,000 might sound ridiculous to the current generation, but it was a welcome relief for wealthy earners in 1964. The top rate dropped to 70% in 1965, accompanied by a threshold drop from $400,000 to $200,000. The top marginal rates bounced around within the 70-77% range during the remainder of the ‘60s and for all of the ‘70s, and were generally triggered by the top tier income over $200,000.

Modern Era of Taxation

When America’s 40^th president, Ronald Reagan, was inaugurated on January 20, 1981, the economic climate was ripe for a legislative revolution of sorts. During Reagan’s tenure in office – from 1981 to 1989 – he incrementally slashed the top marginal tax rate for individuals from 70% down to 28%. It is important to note that this top rate of 28% was triggered by taxable income of approximately $30,000.

In 1993, newly elected president Bill Clinton proposed an ambitious budget to cut the national deficit in half by 1997, and signed the Omnibus Budget Reconciliation Act into law. Among many other things, this bill increased the top marginal rate to 39.6%, accompanied by a $250,000 threshold.

From 1991 through 2018 we see a consistent top rate in the 35 – 40 percent range. The top marginal rate remained at 35% with a threshold of $311,950 from 2003 to 2012. In 2013 it increased to 39.6% accompanied with a $450,000 threshold. In 2018 the top marginal rate decreased to 37% with a $600,000 threshold.

In this article we glimpsed into the historical tax trends for American individuals over a 105 year span. I’ll refrain from making a prediction for the next 105, but I am reminded of a wise saying from millennia ago: “The thing that hath been, it is that which shall be; and that which is done is that which shall be done: and there is no new thing under the sun” (Ecclesiastes 1:9 KJV).

 

Preface: In the long run we shall have to pay our debts at a time that may be very inconvenient for our survival. — Norbert W.

Business and Nonbusiness Bad Debts

It is virtually inevitable that at one time or another some taxpayers will incur financial investment losses either in business or personal lives. One frequently occurring type of loss is a bad debt. Whether made in the course of business, or to a friend or relative, sometimes a loan simply cannot be repaid despite the best intentions of the debtor, and if there is little or no prospect that repayment can be made in the future.  In those cases, a “bad debt” may exist for tax purposes. The issue then becomes whether you can salvage some tax benefit from not being repaid.  Although this subject is fraught with complexities, we have outlined the basic tax principles below so you may consider your options.

The first step is ascertaining that a real debt exists. There must be a valid and legally enforceable obligation to pay you a fixed or “determinable” sum of money. Loans between family members, or other related parties such as corporations and their shareholders, are particularly scrutinized to make sure that they are really debts rather than disguised gifts, dividends, or contributions to the corporation’s capital. Therefore, if you are contemplating a loan to a related party, you must ensure that you treat the transaction as a true loan by taking the steps that an arm’s-length lender would take, such as putting it in writing and charging a reasonable rate of interest.

Secondly, it then must be determined if, and when, the debt has become totally or partially worthless. If so, that is a bad debt. One problem, however, is that the IRS often requires taxpayers to play a guessing game. A taxpayer might claim a bad debt loss when nonpayment is only probable, rather than a virtual certainty, and then the IRS may disallow the loss as premature because there is some possibility of repayment in a later year. On the other hand, if the taxpayer waits until repayment is clearly hopeless, the IRS may maintain that the debt was really worthless in a prior tax year and determine that the loss should have been taken then. Because of potential statute of limitations problems, we generally recommend that the loss be claimed in the earliest possible year that it can reasonably be argued to be worthless. There are a number of facts which might indicate worthlessness, including the debtor’s bankruptcy, but no one of them is decisive; it is the totality of circumstances that is determinative.

Once you have established that a bad debt exists, you must also determine whether that debt had a business or nonbusiness nature. The specific tax deduction to which you may be entitled often hinges upon this characterization. As you might expect, a business bad debt must be created or acquired, or become worthless, in the course of your trade or business. If you conduct a business in the form of a corporation, generally any debt held by the corporation is a business debt. Any debt not falling into the business category is a nonbusiness debt. A nonbusiness debt must be completely worthless before a loss can be taken, whereas a loss on a business bad debt can be taken when partial worthlessness can be established. Furthermore, nonbusiness bad debts are subject to the limitations on capital losses. Business bad debts, on the other hand, are deductible as ordinary losses in full against your other income.

As we said above, this is a complex topic and the preceding discussion can give only a rudimentary overview of all of the tax rules involved. If you are, or may be in a situation where these rules could affect you, please do not hesitate to contact us.