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Tax

How Much Tax Will You Owe When You Sell Your Company, And How to Optimize

November 24, 2022 by keystone

This article was originally published on TechCrunch.com on November 18, 2022. Written by Peyton Carr.

When a founder sells their company, valuation gets a lot of attention. But too much emphasis on valuation often leads to too little consideration for what stockholders and stakeholders pay in taxes post-sale. Personal tax planning can ultimately impact the take-home proceeds for a founder as much as exit-level valuation changes can. And with the pullback in both public and private market valuations this year, and fewer exits occurring, optimizing on the personal planning front now can make a meaningful difference in the future.

After an exit, some founders may pay a 0% tax rate while others pay over 50% of their sale proceeds. Some founders can walk away with as much as two times the take-home as other founders at the same sale price—purely due to circumstances and tax planning.

How does this happen? Taxes owed will ultimately depend on the type of equity owned, how long it’s been held, where the shareholder lives, potential tax rate changes in the future, and tax planning strategies. If you’re at least thinking about taxes now, chances are you’re ahead of the game. But determining how much you’ll owe doesn’t come with a simple answer.

In this article, I’ll provide a simplified overview of how founders can think about taxes and an easy way to estimate what they will owe in tax upon selling their company. I’ll also touch on advanced tax planning and optimization strategies, state tax, and future tax risks. Of course, it goes without saying that this is not tax advice. Prior to making any tax decisions, you should consult with your CPA or tax advisor.

How Shareholders Are Taxed

Let’s assume you’re a founder and own equity or options in a typical venture-backed C-Corp. A number of factors will come into play to determine whether you will be taxed at short-term capital gains or ordinary income tax rates versus long-term capital gains or Qualified Small Business Stock (QSBS) rates. It’s essential to understand the differences and the areas for optimization.

Below is a chart summarizing the different types of taxation and when each applies. I further break this down to show the combined “all in” federal + state + city taxation, if applicable. Founders with $10mn+ exits on the horizon should explore some of the  Advanced tax strategies I covered in one of my previous articles since there are opportunities to multiply or “stack” the $10mn QSBS exclusion and to minimize taxation further.

Founder Taxation Upon Exit

As you can see above, some of the more common levers that influence how much tax a founder owes after an exit will be QSBS, trust creation, the state in which you live, how long you’ve held your shares, and the decision of whether or not to exercise your options. 

Charitable planning is not shown in the chart above but can produce excellent tax outcomes for those with large exits. Typically, when an exit involves an IPO or public stock, the founder can donate a portion of that stock to a foundation or donor-advised fund to get the fair market value deduction of the stock without realizing the gain.

QSBS and Risk to QSBS Tax Rates

When it comes to minimizing capital gains tax, QSBS can be a game changer for those that qualify. In case you’re not already familiar with QSBS, here is an overview, including the qualifications. 

If you qualify for QSBS and meet the holding period requirements by the time you sell in the future, you could be in great shape. QSBS is the most significant personal tax savings lever in most transactions.

Currently, a taxpayer can exclude up to $10mn, or 10x basis, whichever is greater. There are some advanced tax planning opportunities to exclude more than $10mn, depending on your situation.

However, there’s a possibility that the QSBS exclusion could change, and founders should be familiar with the history of QSBS and what could happen in the future. QSBS has only been at the 100% exclusion rate since the end of 2010, which has worked out favorably for many tech founders. However, some current lawmakers are looking to cut the exclusion in half. The first version of the Build Back Better Bill included a reduction from 100% to 50%. The legislation was killed, but looking forward, there is a possibility this could happen. 

QSBS Historical Exclusion Rate

So, what would it mean for you if the QSBS exclusion decreases to 75% or 50% in the future? To understand how this would impact a founder upon an exit, look at the graphic below, which shows estimates of the total tax due (federal + state + city) based on the state where you may live after an exit.

Tax due if QSBS is reduced in the future

Common Questions Regarding Tax on Selling a Company

As you can see in the table, California founders, in particular, stand to face the most significantly pronounced outcomes. Additionally, California recently quietly increased the top marginal income tax rate from 13.3% to 14.4%, starting in 2024. California-domiciled founders and key shareholders throughout the state understandably should be thinking in advance about this.

We often hear questions such as:

  • What is the difference in tax if I wait the full five years to get QSBS versus selling now?
  • Should I move to another state before my transaction?
  • Should I set up a trust before my transaction?
  • How can I optimize for tax before my transaction?

The answer to all of the above is: it depends.

You can use the charts in this article to run through various hypothetical situations that might be similar to your own situation.

For example, on one end of the spectrum, a founder in New York City (NYC), Florida (FL), or Texas (TX) that waits to sell until meeting the QSBS qualifications and holding period requirements could see a big after-tax difference. Assuming 100% QSBS exclusion, a founder in NYC who waits would pay essentially 0% in tax. Without waiting, the NY founder would pay 38.6%, and the FL or TX founder would pay 23.8%. So, waiting to sell could be advantageous, considering all else equal.

On the other end of the spectrum, a founder might not see that material of a difference. For example, if the QSBS exclusion is cut in half from 100% to 50%, a California (CA) founder who waits for the five-year mark instead of immediately selling would pay 31.3% instead of 38.2%—probably not worth a multi-year wait since the tax benefit may not be material enough to influence the timing of the transaction. 

However, state relocation may be worth consideration. If the same CA founder in the same scenario (QSBS at 50%) were to relocate permanently to FL and sell after they reached the five-year mark, they would pay 16.9%. That said, we don’t think upending one’s life to another state solely for tax purposes is the best qualitative decision. But, if there was already an intention to move to a state tax-friendly state like FL or TX, as an example, it might be worth accelerating the timeline on the move.

If a CA-based founder doesn’t plan to move to a state tax-friendly state, they do have other options, such as trust creation in some scenarios, although this needs to be carefully thought through and planned in advance. I cover some of those considerations here; however, depending on where the QSBS exclusion is in the future, they may ultimately yield a different set of answers over time. 

The Bottom Line

As a founder, you’ll need to plan for your personal tax situation to optimize the opportunity set that is presented to you. The framework I’ve outlined in this article will help you think strategically about taxes, run through some hypothetical scenarios, both now and in the future, and have a more informed conversation with your tax advisor or CPA.

 

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.

This information is not intended to be a substitute for specific individualized tax advice. We suggest that you discuss your specific tax issues with a qualified tax advisor.

California Quietly Increases Marginal Income-Tax Rate

November 1, 2022 by crystal

High earners in California will be in for a surprise come 2024. Governor Gavin Newsom recently signed SB 951 into law, effectively increasing the top marginal income-tax rate to 14.4% for some high-income earners. 

If you didn’t know a tax increase was on the table, you’re not alone. It was part of a bill designed to increase paid family leave. Currently, employees can receive 60% to 70% wage replacement to take up to eight weeks off should they need to care for a new baby or sick family member. Under the new law, starting in 2025, that increases to 70% to 90% – the higher amount being for lower wage earners. 

Paid family leave in California is funded via a 1.1% payroll tax. Previously, earnings over $145,600 were shielded from this tax. But starting in 2024, individuals earning over $1 million per year will see their marginal income-tax rate increase 1.1%, from 13.3% to 14.4%. Those making between $61,214 and $312,686 will see their rate go up to 10.4%. (1)

SB 951 allows for the rate to be adjusted annually based on need, currently authorizing it to go as high as 1.5%. 

Sources: 

  1. https://www.wsj.com/articles/gavin-newsoms-stealth-tax-increase-california-marginal-tax-rate-11664921470

 

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.

Advanced Tax Strategies for Company Founders

June 1, 2021 by eric

This article was originally published on TechCrunch.com on May 13, 2021. Written by Peyton Carr.

As an entrepreneur, you started your business to create value—both in what you deliver to your customers and what you build for yourself. You have a lot going on, but if building personal wealth matters to you, the assets you’re creating deserve your attention.

There are numerous advanced planning strategies available that you can implement to minimize capital gains tax, minimize future estate tax, and increase asset protection from creditors and lawsuits. Capital Gains tax can reduce your gains by up to 35%+, and estate taxes can cost up to 50%+ on assets you leave to your heirs. Careful proactive planning can minimize your exposure and actually save you millions.

Smart founders and early employees should closely examine their equity ownership, even in the early stages of their company’s life cycle. Different strategies should be used at different times and for different reasons. The following are a few key considerations when determining what, if any, advanced strategies you might consider:

  1. Your company’s life cycle – early, mid, or late stage.
  2. The value of your shares – What are they worth now, what do you expect them to be worth in the future, and when?
  3. Your own circumstances and goals – What do you need now, and what will you need in the future?

Some additional items to consider include issues related to Qualified Small Business Stock (QSBS), gift and estate taxes, state and local income taxes, liquidity, asset protection, and whether you and your family will retain control and manage the assets over time.

Here are some advanced planning strategies for your equity to implement at different stages of your company life cycle to reduce tax and optimize wealth for you and your family.

Irrevocable Non-Grantor Trust

QSBS allows you to exclude tax on $10mn of capital gains (tax of up to 35%+) upon an exit/sale. This is a benefit every individual and some trusts have. There is a significant opportunity to multiply the QSBS tax exclusion well beyond $10mn.

The founder can gift QSBS eligible stock to an irrevocable non-grantor trust, let’s say for the benefit of a child, so that the trust will qualify for its own $10mn exclusion. The founder owning the shares would be the grantor in this case. Typically, these trusts are set up for children or unborn children. It is important to note that the founder/grantor will have to gift the shares to accomplish this because gifted shares will retain the QSBS eligibility. If the shares are sold into the trust, the shares lose QSBS status.

graphic

In addition to the savings on federal taxes, founders may also save on state taxes. State tax can be avoided if the trust is structured properly and in a tax-exempt state like Delaware or Nevada. Otherwise, even if the trust is subject to state tax, some states, like New York, conform and follow the federal tax treatment of the QSBS rules, while others, like California, do not. For example, if you are a New York State resident, you will also avoid the 8.82% state tax, which amounts to another $2.6mn in tax savings if applied to the example above. This brings the total tax savings to almost $10mn, a material savings in the context of a $40mn gain. Notably, California does not conform, but California residents can still capture the state tax savings if their trust is structured properly, and in a state like Delaware or Nevada.

Currently, each person has a limited lifetime gift tax exemption, and any gifted amount beyond this will generate up to a 40% gift tax that has to be paid. Because of this, there is a tradeoff between gifting the shares early while the company valuation is low and using less of your gift tax exemption vs. gifting the shares later and using more of the lifetime gift exemption. The reason to wait is that it takes time, energy, and money to set up these trusts, so ideally, you are using your lifetime gift exemption and trust creation costs to capture a benefit that will be realized. However, not every company has a successful exit; therefore, it is sometimes better to wait until there is a certain degree of confidence that the benefit will be realized.

Parent-Seeded Trust

One way for the founder to plan for future generations while minimizing estate taxes and high state taxes, such as California or New York, is through a parent-seeded trust. This trust is created by the founder’s parents, with the founder as the beneficiary. Then the founder can sell the shares to this trust. This does not involve the use of any lifetime gift exemption and eliminates any gift tax, but it also disqualifies the ability to claim QSBS. The benefit is that all the future appreciation of the asset is transferred out of the founder’s and the parent’s estate and is not subject to potential estate taxes in the future.

The trust can be located in a tax-exempt state such as Delaware or Nevada to also eliminate home state-level taxes. This can translate up to 10%+ in state-level tax savings. The trustee, an individual selected by the founder, can make distributions to the founder as a beneficiary if desired.

Further, this trust can be used for the benefit of multiple generations. Distributions can be made at the discretion of the trustee, and this skips the estate tax liability as assets are passed from generation to generation.

Grantor Retained Annuity Trust (GRAT)

This strategy enables the founder to minimize their estate tax exposure by transferring wealth outside of their estate, specifically without using any lifetime gift exemption or being subject to gift tax. It’s particularly helpful when an individual has used up all their lifetime gift tax exemption. This is a powerful strategy for very large “unicorn” position sizes to reduce a founder’s future gift/estate tax exposure.

For the GRAT, the founder (grantor) transfers assets into the GRAT and receives back a stream of annuity payments. The IRS 7520 rate, which is currently very low, is a factor in calculating these annuity payments. If the assets transferred into the trust grow faster than the IRS 7520 rate, there will be an excess remainder amount in GRAT after all the annuity payments are paid back to the founder (grantor.) This remainder amount will be excluded from the founder’s estate and can transfer to beneficiaries or remain in the trust estate tax-free. Over time this remainder amount can be multiples of the initial contributed value. If you have company stock that you expect will pop in value, it can be very beneficial to transfer those shares into a GRAT and have the pop in value occur inside the trust. This way you can transfer all the upside gift and estate tax-free out of your estate and to your beneficiaries.

Additionally, because this trust is structured as a grantor trust, the founder can pay the taxes incurred by the trust, making the strategy even more powerful.

One thing to note is that the grantor must survive the GRAT’s term for the strategy to work. If the grantor dies before the end of the term, the strategy unravels and some or all the assets remain in his estate as if the strategy never existed.

Intentionally Defective Grantor Trust (IDGT)

This is similar to the GRAT in that it also enables the Founder to minimize their estate tax exposure by transferring wealth outside of their estate, but has some key differences. The grantor must ‘seed’ the trust by gifting 10% of the asset value intended to be transferred, so this approach requires the use of some lifetime gift exemption or gift tax. The remaining 90% of the value to be transferred is sold to the trust in exchange for a promissory note. This sale is not taxable for income tax or QSBS purposes. The main benefits are that, instead of receiving annuity payments back, which requires larger payments, the grantor transfers assets into the trust and can receive back an interest-only note. The payments received back are far lower because it is interest-only (rather than an annuity).

tax savings graphic

Another key distinction is that the IDGT strategy has more flexibility than the GRAT and can be generation-skipping.

If the goal is to avoid generation-skipping transfer tax (GSTT) the IDGT also is superior to the GRAT because assets are measured for GSTT purposes when they are contributed to the trust prior to appreciation rather than being measured at the end of the term for a GRAT after the assets have appreciated.

The Bottom Line

Depending on each founder’s situation, we may use some combination of the above strategies or others depending on the circumstances and goals. Every founder, their company life cycle, and their personal situation is different. Many of these strategies are most effective when planning in advance; waiting until after the fact will limit the benefits you can extract. When considering advanced strategies for protecting wealth and minimizing taxes as it relates to your company stock, there’s a lot to take into account—the above is only a summary. We recommend you seek proper counsel and choose wealth transfer and tax savings strategies based on your unique situation and individual appetite for complexity.

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.

What You Need to Know About Selling Your Company Stock

July 31, 2020 by eric

What You Need to Know About Selling Your Company Stock

Part 3: The Founder’s Guide to Managing Your IPO Stock

This article was originally published on TECHCRUNCH.COM on July 22, 2020. Written By: Peyton Carr

In a recent article, I covered all of the reasons you might be tempted to hold a highly-concentrated position in your company stock as a tech founder and how it fits into your portfolio. I then followed up with a rundown on why resisting diversification is generally a bad idea and the subconscious biases that hold us back from selling.

So now that you understand the benefits of diversification and have taken inventory of your portfolio, what is the most effective way for you to move forward? I will share with you what to keep in mind before selling, how to decide when to sell, and strategies to execute sales such as options, exchange funds, prepaid variable forward contracts, qualified small business stock, and tax considerations. Now, let’s take a deep dive into strategic approaches to take as a shareholder and important tax implications to consider.

Keep in Mind: Lockups and Blackout Periods

Most tech companies that IPO have a 180-day lockup period that prevents insiders, employees, and VC funds from selling immediately. There is usually language that also prohibits hedging with derivatives (options) during that period. Lockups are intended to help prevent insider trading and provide the company with additional post-IPO price stability.

It is also important to abide by the company’s blackout periods, which prohibit transactions during more share-price-sensitive times, such as earnings or material non-public information releases.

Concentrated Stock Strategies

Ad-hoc Selling – This is the most straightforward and involves the outright sale of your shares. However, this can be difficult for various reasons such as selling restrictions, the perception by others that you are unloading stock, and many psychological biases that act as internal mental obstacles.

Scheduled Selling – Selling all your stock at once could be both emotionally challenging and tax-inefficient. Scheduled selling involves the selling of a set number of shares over a specific period. This selling strategy can help by spreading the tax impact over a few years. It also provides an advantage from a psychological standpoint since the plan is determined upfront, then mechanically executed.

As an example, a founder might plan to sell 500,000 shares over 18 months. The founder is comfortable selling quarterly, which equals six selling periods of 83,333 shares per quarter. In a scenario where a founder is subject to blackout periods, a 10b5-1 trading plan can be implemented and set on autopilot. The company may even allow you to sell your shares during blackout periods with a 10b5-1 trading plan. See the example of scheduled selling below.

graphic

Hedging with Options – Multiple hedging strategies can be implemented to protect your downside; however, some of the more common approaches used are the protective put and the protective collar. Below are basic examples of how these strategies are executed, for illustrative purposes.

graphic

Protective Put– Buying protection against the downside
Collar – Give up some upside, to limit some downside

Each strategy allows the owner to continue holding the stock while providing some downside protection against a stock’s decline. However, these strategies are not tax-efficient and are complicated, so working with an expert is essential. Both puts and certain types of collars would have been extremely expensive to implement during the recent market crisis because market volatility is a factor in options prices. See the below chart of the VIX (volatility index) during peak crisis. However, in some instances, these strategies can make sense.

graphic

Exchange Funds –This strategy allows an investor to contribute their concentrated stock position into an exchange fund partnership alongside other investors who also contribute their stock positions. In return, each investor receives a diversified stock portfolio, selected by an investment manager. This strategy allows the investor to achieve immediate diversification while deferring the taxes that they would have otherwise paid in most situations.

At the end, usually seven or more years out, each investor receives a basket of stocks. They pay zero tax if they hold the stocks forever, but if you sell, your aggregate cost basis is equal to the cost basis of the original shares contributed. Some downsides of using exchange funds to consider are lockups, expenses, and sometimes not achieving the desired level of diversification. Below I detail some high-level positives and considerations.

graphic

Prepaid Variable Forward Contract – This strategy enables a shareholder to synthetically diversify their equity exposure by entering into an agreement (contract) with a bank or brokerage firm to receive a loan now, and sell their stock at a future date. The reason it is ‘variable’ is because the amount of stock the shareholder delivers in the future depends on share value upon expiration. The shareholder can also decide in the future to cash-settle (deliver cash) instead of delivering (selling) stock.

This strategy is essentially a combination of a type of equity collar, described in the options section above, and a loan. Because this is an option, pricing varies based on market conditions and the stock involved. If structured correctly, the shareholder does not pay tax until the future sale date.

Fun fact is, recently, it was disclosed in an SEC filing that Vince McMahon had entered one of these covering approximately 3.5 million shares, or $80 million of WWE stock. Many perceived this as him effectively selling about 15% of his shares and questioned whether he was ready to “tap out” for good.

Below is a hypothetical example of a prepaid variable forward.

graphic

When Should You Sell IPO Stock?

Based on an analysis of 258 IPOs, it is usually the most beneficial for shareholders to sell their stock as soon as possible after the lockup period expires. If you look at the performance of holding IPO stocks for the long term versus selling immediately and diversifying, the results may surprise you.

graphic

This chart shows a sample of 258 IPOs from 1990 to 2012, and the four years following their lockup expiration. The data illustrates that the median tech IPO underperforms the S&P 500 index by around 20% after the first year following lockup expiration. Even the best IPOs that fall into the top quartile, still barely keep up with the S&P 500. You must be very confident that your company is an exception to this.

These findings are also consistent with the underperformance of IPO stocks relative to the S&P 500, as reported by Professor Jay Ritter, an academic authority on IPOs. If you’d like to dig deeper like I do, you can download his full data set here.

Consider Taxes Before You Sell

When deciding to sell, it’s important to consider taxes. We realize that concentrated stock often comes with a very low cost basis, which can be another obstacle for investors to overcome before selling.

How you own your stock and how long you have owned it will ultimately determine how you are taxed. Below is a chart showing the different types of taxation on various forms of equity compensation.

graphic

Two important things to consider are whether you will be taxed at long-term or short-term capital gains rates and whether you qualify for the qualified small business stock (QSBS) exclusion. Your income will impact the rates at which you are taxed. Please consult with your advisor before making any decisions.

Generally, we suggest making investment decisions and then optimizing for tax. I always tell my clients not to let the tax tail wag the investment dog. However, there are scenarios where it can make sense to hold your stock for slightly longer to minimize taxes owed.

For example, short-term capital gains (holding period < 1 year) can be far more expensive than paying taxes on a long-term capital gain (holding period > 1 year).

Let’s say you own $1 million of XYZ, a $100 stock, with one month to go before it qualifies for long-term capital gains treatment. In the example below, if the stock maintains the same price for the next month, you can net 27% more in after-tax profits; you get to keep an extra $170,000. Even if the stock price drops 21%, you would still net the same profits as if you had sold it at the previous higher price but subject to the higher short-term capital gains rate. See the example below.

graphic

Careful planning is required, as IPOs can have very volatile share prices. If XYZ sells off significantly over the next month, it is possible you can be in a far worse scenario than having just sold it outright and paying the short-term capital gains. Nobody has a crystal ball, but understanding the tradeoffs is helpful in the decision-making process.

graphic

graphic

Qualified Small Business Stock (QSBS)

If your shares qualify for the QSBS exclusion, you could potentially sidestep up to 100% of your capital gains taxes upon sale. That is not a typo, this is arguably one of the most significant tax opportunities out there. If you are a founder or early employee and you have held your shares for over five years, this is something you should look into.

You can reference the table below to determine the QSBS qualification holding period for different types of equity. This is one of the most valuable and significant tax incentives for founders and early employees, but not everyone will qualify.

graphic

Some further clarification on determining whether or not your shares qualify is below. For a more in-depth discussion on QSBS, you can reference the guide I wrote.

  1. Your company is a Domestic C Corporation.
  2. Stock is acquired directly from the company.
  3. Stock has been held for over five years.
  4. Stock was issued after August 10th, 1993, and ideally, after September 27th, 2010, for a full 100% exclusion.
  5. Aggregate gross assets of the company must have been $50 million or less when the stock was acquired.
  6. The business must be active, with 80% of its assets being used to run the business. It cannot be an investment entity.
  7. The business cannot be an excluded business type such as, but not limited to: finance, professional services, mining/natural resources, hotels/restaurants, farming, or any other business where the business reputation is a skill of one or more of the employees.

graphic

Deciding whether or not to sell your company stock or when to sell it, is not a decision to enter into lightly. Rather than simply cashing in your stock for a quick payday or holding it in a highly concentrated position, dreaming of a potentially huge payday in the future, I encourage you to look deeper — at your big-picture financial goals, your overall investment portfolio, details and strategies specific to employee shareholders, and important tax implications. A rational, evidence-based approach will produce the best path forward.

Want to learn how to handle your stake in company stock with a sharp focus on achieving your personal financial goals? Download our In-Depth Guide, The Founder’s Guide to Managing Your IPO Stock.

Information in this article does not constitute personalized financial or legal advice. The contents of this article are for informational purposes only and should not be relied upon without specific professional legal or financial advice.

2020 Tax Code Changes: What You Need to Know

June 18, 2020 by eric

WRITTEN BY: CALVIN LO
Tax season is officially in full swing and while you’re probably focused on filing your 2019 tax return by the recently extended deadline of July 15, 2020, it’s never too early to begin preparing for next year.1

There are some cases in which the deduction amounts remain the same as 2019. For instance, medical and dental expenses, as well as state and local sales, are not changing in the new year.

However, standard deductions, income thresholds for tax brackets, certain tax credits and retirement savings limits have increased and may be important for you to keep in mind.

Brackets & Rates

For individual taxpayers filing as single and with income greater than $518,400, the top tax rate remains 37 percent for the 2020 tax year. This is an increase from $510,300 in 2019. For MFJ, or married couples filing jointly, this rate will be $622,050 and for MFS, or married individuals filing separately, it will now be $311,025 per person.2 Income ranges of other rates are as follows:

  • 35% for single and MFS incomes over $207,350 ($414,700 for MFJ)
  • 32% for single and MFS incomes over $163,300 ($326,600 for MFJ)
  • 24% for single and MFS incomes over $85,525 ($171,050 for MFJ)
  • 22% for single and MFS incomes over $40,125 ($80,250 for MFJ)
  • 12% for single and MFS incomes over $9,875 ($19,750 for MFJ)2

The lowest rate is 10 percent for single individuals and MFS, whose income is $9,875 or less. Alternatively, married individuals filing jointly, or MFJ, can expect this rate if their combined income does not exceed $19,750.2

You may be filing as head of household, or HOH, in which case the income thresholds are the same as the rates for singles in the 37, 35 and 32 percent brackets. In alternative head of household brackets, the income thresholds are now:

  • $85,501 – $163,300 in the 24 percent bracket
  • $53,701 – $85,500 in the 22 percent bracket
  • $14,101 – $53,700 in the 12 percent bracket
  • Up to $14,100 in the 10 percent bracket3

Capital Gains

The 2020 tax year also includes increases in long-term capital gains rates for particular income thresholds including:

  • Zero percent for single and married individuals, filing separately, with incomes up to $40,000; up to $80,000 for married couples, filing jointly; and up to $53,600 for heads of households.
  • 15 percent for single income $40,001 to $441,450; $80,001 to $496,600 for married couples, filing jointly; $40,001 to $248,300 for married individuals, filing separately; and $53,601 to $469,050 for heads of households.
  • 20 percent for single income exceeding $441,450; exceeding $496,600 for married couples, filing jointly; exceeding $248,300 for married individuals, filing separately; and exceeding $469,050 for heads of households.4

Standard Deductions

When it comes to standard deductions a few differences apply. Married couples filing jointly can expect an increase to $24,800 for the 2020 tax year, which is up $400 from 2019. Single taxpayers and married individuals filing separately will notice the standard deduction rise to $12,400 for 2020 (up $200 from 2019). Lastly, heads of households can expect an increase to $18,650 for the 2020 tax year, which is up $300 from 2019.2

For single individuals, the alternative minimum tax, or AMT, exemption amount for 2020 is $72,900 and begins phasing out at $518,400. Married couples filing jointly can expect the AMT exemption amount to be $113,400, which begins to phase out at $1,036,800.2

Retirement Plans

For employees participating in employer retirement plans including 401(k)s, 403(b)s, most 457 plans and the federal government’s Thrift Savings Plan (TSP), the contribution limit has increased to $19,500.5 The catch-up contribution limit, which is geared towards employees age 50 and older, has increased to $6,500 and the limit for SIMPLE retirement accounts has been raised to $13,500 for the 2020 tax year.6

If taxpayers meet certain conditions, they can deduct contributions to a traditional IRA. For instance, if either the taxpayer or their spouse was covered by an employer’s retirement plan, the deduction may be reduced or phased out. If neither the taxpayer or their spouse is covered, the phase-out of the deduction does not apply.7 These ranges for 2020 are as follows:

  • For single taxpayers covered by a workplace retirement plan, the phase-out range is $65,000 to $75,000.
  • For married couples filing jointly, where the spouse making the IRA contribution is covered by a workplace retirement plan, the phase-out range is $104,000 to $124,000.
  • For an IRA contributor who is not covered by a workplace retirement plan, but who is married to someone who is covered, the deduction is phased out if the couple’s income is between $196,000 and $206,000.7

Health Spending

The dollar limit for employee salary reductions for contributions to a health flexible spending account, or FSA, has increased $50 from 2019 to $2,750. Also in 2020, participants who have self-only coverage in an HSA, or health savings account, must have a plan in which the annual deductible is not less than $2,350 and no more than $3,550. Additionally, for self-only coverage, the maximum out-of-pocket expense amount of $4,750, which is an increase of $100 from 2019.2

For participants with family health coverage, the base for the annual deductible is now $4,750 for the year 2020. The deductible cannot exceed $7,100 and the out-of-pocket expense limit is $8,650, which is an increase of $100 from 2019.2

Estates & Gifts

Inheritances are also experiencing changes in the coming tax year. For instance, estates of descendants who pass during 2020 have a basic exclusion amount of $11.58 million, which is up from $11.4 million for estates in 2019. The annual exclusion for individual gifts is $15,000 for the 2020 tax year, the same as it was for 2019.2

Regardless of your circumstances, the inflation adjustments of the IRS are meant to ease taxes, which means it pays to be aware of changes and the latest amounts. With preparedness in mind, you’ll be able to thoughtfully plan for the 2020 tax year ahead.

1https://www.thune.senate.gov/public/index.cfm/2020/3/thune-daines-and-king-introduce-bill-to-extend-the-tax-filing-deadline-provide-additional-relief-to-middle-income-americans
2https://www.irs.gov/newsroom/irs-provides-tax-inflation-adjustments-for-tax-year-2020
3https://www.debt.org/tax/brackets/
4https://www.forbes.com/sites/davidrae/2020/01/13/new-capital-gains-rates-for-2020/#5144871143eb
5https://www.tsp.gov/PlanParticipation/EligibilityAndContributions/contributionLimits.html
6https://www.irs.gov/pub/irs-pdf/p560.pdf
7https://www.irs.gov/retirement-plans/ira-deduction-limits

This content is developed from sources believed to be providing accurate information. It may not be used for the purpose of avoiding any federal tax penalties. Please consult legal or tax professionals for specific information regarding your individual situation. The opinions expressed and material provided are for general information, and should not be considered a solicitation for the purchase or sale of any security.

The Paycheck Protection Program: A Guide for Business Owners and Startup Companies

April 1, 2020 by eric

WRITTEN BY: CALVIN LO

Quick Take

There has been a tremendous amount of data regarding the stimulus, but I wanted to highlight the following information on the Paycheck Protection Program (PPP) available for business owners and self-employed since it may be very valuable to you or others you know. This is a government package to support all employers (and the self-employed) in retaining staff by offering a loan that may be forgiven if used on payroll, rent, or utilities. Details are still developing on the program, but we recommend that if you are eligible to apply as soon as you are able. Although this package is for $349bn, we believe there will likely not be enough capacity to adequately serve all eligible businesses. There are 30mn+ small businesses alone in the US and loan amounts will be granted on a first-come, first-serve basis. Treasury also urged those in need of funding to apply quickly, noting that the program has a cap and demand is likely to be high.

Application Start Dates

  • April 3, 2020, small businesses and sole proprietorships
  • April 10, 2020, independent contractors and self-employed individuals

Who can apply? All businesses with 500 or fewer employees can apply. This includes nonprofits, sole proprietorships, self-employed individuals, and independent contractors.

How large can my loan be? Loans can be for up to 2.5x of your average monthly payroll costs from the last year ($100k/employee cap). Subject to an overall $10 million cap.

How much of my loan will be forgiven? The loan amount you use for payroll costs, mortgage interest, rent, and utility payments over the eight weeks after getting the loan.

Do I need to pledge any collateral for these loans? No. No collateral is required.

Do I need to personally guarantee this loan? No. There is no personal guarantee requirement.

Background Info

Small businesses, startups, and self-employed individuals account for a significant portion of our country’s economy. During a global pandemic, like the one we’re experiencing now, this group suffer some of the hardest hits. On March 27, 2020, President Donald Trump signed the Coronavirus Aid, Relief, and Economic Security (CARES) Act into law, allocating funding to support the U.S. economy and workers through the coronavirus outbreak. The legislation includes a number of proposals aimed at supporting small businesses. For those hit hard due to forced closures and a sharp downturn in foot traffic, this bill may provide some relief.

Bear in mind this is a $2 trillion dollar stimulus program, equal to 10% of GDP, that was compiled and passed in the government in the matter of a few weeks. Broad guidelines were provided but more specific clarifications are being released every couple days. The Treasury has announced one thing then pivoted and revised their statement 48 hours later. It is a fluid situation and banks are doing their best to be compliant yet approve applications under the program. We recommend operating under the most current rules from the official websites in the links below and the guidance of your bank.

In times of concern, it’s important to know your options, including what the recently passed stimulus package includes and how to protect your assets moving forward.

What Does the Package Include?

American small businesses are supported by the recently passed CARES Act in the following ways:

  • A $350 billion forgivable loan program (The Paycheck Protection Program) designed to encourage small businesses from laying off employees.
  • A delay in employer-side payroll taxes for Social Security until 2021 and 2022.
  • 50 percent refundable payroll tax credit on worker wages to incentivize businesses, including those with fewer than 500 employees, to retain their current workforce.
  • Sole proprietors and other self-employed workers may be eligible for the expanded unemployment insurance benefits the bill provides.
  • A portion of the $425 billion in funds appropriated for the Federal Reserve’s credit facilities will target small businesses.

How Does the $350 Billion Paycheck Protection Program Work?

Under the stimulus package, the Small Business Administration (SBA) will oversee the Paycheck Protection Program. This program will distribute $350 billion to small businesses that meet certain requirements, and the loans will be made available to companies with 500 or fewer employees.

Businesses can receive loans up to $10 million, and these loans will be administered by banks and other lenders. Additionally, the Paycheck Protection loans will carry a 1% interest rate.

Currently, the SBA guarantees small business loans that are distributed by a network of more than 800 lenders across the country. The program creates a form of emergency loan that has the potential to be forgiven when used to maintain payroll through June of 2020. In order for the above amounts to be forgiven, the business must maintain the same number of employees (equivalents) in the eight weeks following the date of origination of the loan as it did from either February 15, 2019 through June 30, 2019, or from January 1, 2020 through February 29, 2020.1 The program also expands the network beyond the SBA so that more banks, credit unions and lenders can issue the appropriate loans.

If your business uses the loan funds for the approved purposes and maintains the average size of your full-time workforce based on when you received the loan, the principal loan will be forgiven, meaning you will only need to pay back the interest accrued.2 The primary purpose of these loans is to incentivize small businesses to refrain from laying off workers and ultimately rehire laid-off employees that have already lost jobs due to COVID-19.

What Types of Businesses Are Eligible For The Paycheck Protection Program?

The Paycheck Protection Program offers loans for small businesses with fewer than 500 employees, 501(c)(3) nonprofits with fewer than 500 workers and some 501(c)(19) veteran organizations. Food service businesses are also eligible if they employ fewer than 500 people per physical location.

Self-employed individuals, sole proprietors and freelance or gig economy workers are also eligible to apply for financial assistance during this time. Even without a personal guarantee or collateral, businesses that are struggling can receive a loan as long as they were operational on February 15, 2020.

Eligible borrowers are required to make a good-faith certification that the loan is necessary due to the uncertainty of current economic conditions caused by COVID-19.

How Do I Get a Payroll Protection Loan?

The loan program will provide loans through SBA-approved private lenders. As banks are currently working on implementing this program, it’s important to check with your current banking relationship to see where they’re at in the process. Those that are already approved by the Small Business Association may be quicker to put the loan program into place.

As a small business owner or self-employed individual, it’s always important to be aware of your options in prosperous times and those of hardship. With some assistance and the promise of keeping your workers employed, your small business can continue to thrive.

https://www.sba.gov/funding-programs/loans/coronavirus-relief-options/paycheck-protection-program-ppp
https://home.treasury.gov/policy-issues/top-priorities/cares-act/assistance-for-small-businesses

This content is developed from sources believed to be providing accurate information. It may not be used for the purpose of avoiding any federal tax penalties. Please consult legal or tax professionals for specific information regarding your individual situation. The opinions expressed and material provided are for general information, and should not be considered a solicitation for the purchase or sale of any security.

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We work specifically with tech founders.

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A relationship with Keystone involves comprehensive financial planning around retirement, insurance, estate planning, tax planning, and investment management.

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At Keystone, we do not use proprietary products. We do not receive commissions or backend fees from any third parties. We do not earn compensation for recommending one fund vs. another. We believe this allows us to have the most unbiased framework to select the best investments for you and to provide advice tailored to your needs, not ours.

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