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• Accounting for Long Term Contracts
•Motor Vehicle Expenses
•Meals and Entertainment
• Employee and Independent Contractors
Chapter 11 Intro and learning objectives
p. 415
2
• 680,000 employers, 7 million employees
• Grow by 15.6%
• 1.3 trillion in construction
• Huge private companies, publicly traded and sole proprietors
Chapter focuses on common issues and hot topics
Chapter 11 Intro
p. 415
3
Issue #1 Accounting for Long term contractsp. 416
Before 1986 Act 1987 - 2017 After TCJA - 2017
Few restrictions:
Cash
Accrual
Completed contract
Percent completion
Generally required the use
of Percentage Completion.
Large taxpayers:
Generally still required the use
of Percentage Completion.
Small taxpayers and home
construction:
Not required to use the
Percentage Completion.
LongLongLongLong----termtermtermterm contract definedExample
416
Year 1 Year 28/1 1/30 (only 7 months)
better name
“Overlapping tax year contract”
Manufacture, building, installation or construction of real property
• Including integral components
• Improvement to real property
(But, not architects, engineering services, etc…)
REAL PROPERTY?417
Land
Buildings
Inherently permanent structures
• Roadways, dams and bridges
Integral component can be constructed offsite
• Elevators, central heating systems
Construction Contract417
Dates are important:
• Begins on date the contract binds the contractor and
customer
• Contract is completed upon the earlier:
• Customer can use property, 95% of costs incurred
• Contractor completes construction and customer
accepts it
Example 11.1 – which year is contract complete? 417
2019 Nov 2020 Dec 2020 Jan 2021
Casey - Calendar year
Ave gross receipts
30 mil
Enters into a
contract to build
office building
Casey
completes
building
Barbara
move in
Barbara finds
minor
construction
defects
Casey fixes
defects
Casey
determines cost
to fix < 5% of
total
Percentage Completion - Example 11.2418
Year 1
Costs deducted in
year incurred
7 million
estimated total
contract costs
62.5 million
Completion factor:
7 = 11.2% x contract price 100 million = 11,200,000
62.5
less costs (7,000,000)
Income to report 4,200,000
Example 11.3418
Year 1 Year 2
Costs deducted in
year incurred
7 million
estimated total
contract costs
62.5 million
Completion factor:
42 = 67.2% x contract price 100 million = 67,200,000
62.5 less income reported in year 1 (11,200,000)
less year 2 costs (35,000,000)
Income to report in year 2 21,000,000
Costs deducted in
year incurred
35 million
Allocable Contract Costs419
What costs are used to determine the completion factor?
General rule: all direct and indirect costs , per IRC 263A.
But a taxpayer can elect to use the simplified cost to cost
method. Use only direct material, direct labor and certain
depreciation.
Look Back Method – Form 8697419
12/31/21
Costs deducted in
year incurred
100,000
estimated total
contract costs
500,000
Completion factor:
100,000 = 20% x contract price 800,000 = 160,000
500,000
less costs (100,000)
Income to report 60,000
Total Contract Price419
Reasonable expects to receive. Including:
Holdbacks, retainages and cost reimbursements
Contingent payments included when the contractor
can reasonably predict that the amount will be
earned.
?
Post completion income and expenses419
12/31
Contract
Complete
Additional costs incurred?
Changes to contract price?
Don’t adjust any calculations in
year of completion. Report income
and account for costs using any
reasonable method.
10% method419
12/31
Costs incurred < 10%
Total contract costs
Do not report
until 10% of costs
incurred
Home construction contractors419
80% contract costs attributable to construction of:
• Dwelling Unit containing 4 or fewer units
• Provide living accommodations
• Not hotel /motel
• Improvements to real property located on site of dwelling unit
Home vs residential construction420
Home:
Exempt from
Percentage
completion
Residential:
Required to use
percentage completion
Small Contractor Exception420
• Small contractors don’t have to use percentage completion and
can use any permissible method
• What is a small contractor?
• Contracts after 12/31/2017
• Other than tax shelter
• Contracts to be completed within 2 years
• Meet the gross receipts test in year contract entered into
Gross Receipts Test420
2018
2019
2020 Average
< 26,000,000
2021 – small?
460 uses test of 448.
1. Corporation
2. Partnership with C corp
partner
3. Individuals
(discussed later)
Contracts lasting over 2 years420
Commencement date Completion date
Over 2 years
Even if a small taxpayer:
Must use % completion
Example 11.5421
Trade or business 1 Trade or business 2
Average 5,000,000 Average 35,000,000
Average 40,000,000
Greater than 26,000,000
1 12 23 3
Exempt Contract Methods421
If not required to use Percentage Completion because of
gross receipts test or home construction test, can use:
Percentage Completion
Exempt Contract Percentage Completion
Completed Contract
Any other permissible method. Ie: Cash, Accrual
Exempt Contract Percentage Completion422
May use a variety of methods to determine percentage
completion factor:
Direct labor to date
Total direct labor
Work performed
Total work to be performed
Any other method of cost comparison!
Completed Contract Method (CCM)422
• Defers income recognition the longest!
• May elect for contracts for which Percentage Completion
not required.
General Rule: inclusion of all contract income and
allocable contract costs are deferred until the
taxable year in which the contract is completed.
Example 11.6422
12/31
Income XX,XXX + XXX,XXX = 500,000
Costs (XX,XXX) + (XXX,XXX) = (350,000)
report no income 150,000
only reflect on
balance sheet
Change of Accounting422
Rev Proc 2019 – 43 permits automatic changes for small businesses:
• Changes from Percentage Completion
• Stop capitalizing costs under IRC 263A
• Overall accrual to overall cash
• Treatment of inventories. Ie: treated as non-deductible material
and supplies
Issue #2 - Transportation Expenses423
262 – personal 162 - business
162 - business
Example 11.7
Making calls while
driving to the office.
Still commuting
Temporary
Workplace
outside
city
Residence = principal place of business424
Administrative
Management
No other place
162 - business
Example 11.8
Tyler is an architect. Home office
Drives to project sites 2 or 3 times
per week:
Deductible
Standard Mileage Rate 424 - 425
• .56 per mile
• Elect in first year
• (May switch to actual after first year, except leases)
• Less than 5 vehicles
• May not have claimed depreciation, at method other than
straight line
• Additional costs: parking, fees, tolls, interest on loan,
personal property taxes
( if used < 100% for business, must allocate interest and
taxes)
Example 11.9425
Interest
1,800
Registration
350
8,000 business miles
10,000 total milesx .80 x .80
8,000 x .56 = 4,480 + 1,440 + 280 = 6,200
SMR – depreciation component 426
For 2021, depreciation component .26 per mile
Example 11.10
Purchased car in 2017 for 34,000
Claimed standard mileage rate
Figure 11.4 shows depreciation per year
1245 gain – 3,653
If after using SMR, switch to actual costs, must use straight line
total me
Cost 2005 52,000 7,700
Current value (3,000) (3,000)
Depreciation 49,000 4,300
Miles 250,000 60,000
Depreciation per mile 19.6 7.1
Actual Cost method426
Gas
and oilMaintenance
and repairs
Fees and
taxes
Loan
interest Insurance
Lease
payments
Depreciation
Garage
rent
Tolls and
parking
Depreciation427
Passenger Automobiles
• General depreciation rule: 5 year MACRS
• May be eligible for bonus and 179, if used over 50%
• 280F(a) limits annual depreciation and 179
• Heavier trucks and vans not subject to these limits
• 179 limited for certain SUVs
IRC 280F(d)(5) limitations
Curb weight Maximum allowable
weight, when fully
loaded
6,000 lbs
427
Passenger Auto?
Depreciation Limits
Depreciation limits- without Bonus:
First Second Third Later
2019 & 2020 10,100 16,100 9,700 5,760
2021 10,200 16,400 9,800 5,860
Example 11.11
SUV for 60,000, 5,800 GVW
No 179 election
Elects out of bonus
MACRS 60,000 x 20% = 12,000
Limited to 10,200
427 & 428
Leased Vehicles428
280F limit applied in a different manner for leased vehicles:
• if FMV > 51,000
• Lease inclusion amount - See Rev Proc 2021 -31
Bonus Depreciation428
• Bonus is mandatory
• Elect out on a class by class basis. Since autos are 5 year
property, must elect out of all 5 year property
• First year bonus is 8,000
First Second Third Later
2021 10,200 16,400 9,800 5,860
Bonus 8,000
Total 18,200 same same same
Bonus and Section 280 Limit428
6/1/21 22 23 24 25 26 27 28 29 30 31 32
18,200_______________
41,800 0 0 0 0 0 5,860/year
basis
60,000 truck purchased
Gap with no depreciation
But, if elected, Rev Proc 2019-13 safe harbor applies- lesser of:
• basis x appropriate factor
• annual limit
Section 179 for autos429
Basics:
• Elect up to 1,050,000
• Phase out starts at 2,620,000 for 2021
• Limited to taxable income
• Order: 179, bonus then regular depreciation
• 280F limit applies – 18,200 for 2021
• Problem: Any basis remaining after the 18,200 can only be
depreciated starting in year 7 (just like bonus)
• BUT NO Rev Proc 2019-13 election available for years 2 - 6
SUVs over 6,000 GVW429
Exempt from 280F limitations
Use regular depreciation rules – may make a 179 election
Over 6,000 LB GVW, but not more than 14,000
Excludes:
• Buses – more than 9 persons
• Pick up truck cargo area at least 6 feet
• Cargo van – fully enclosed drivers area
But, 179 deduction for an SUV is limited to 26,200, but
taxpayer may claim 100% bonus.
Summary 429
Automobiles SUVs over 6,000 lbs Pickups and cargo vans
• Exempt from 280F
limitations
• Excluded from 179
limit, so can claim
full 179
• Can claim full bonus
• Regular 5 year MACRS
• Exempt from 280F
limitations, but:
• 179 limit 26,200
• Can claim full bonus
• Regular 5 year
MACRS
• 280F limitations
apply
• Depr limit 10,200
• Bonus 8,000
Total 18,200
Substantiation430
IRC 6001
Keep records to
substantiate tax
liability
Cohen Rule
1930
Absence of
evidence, can
estimate
274(d)
overrides
Cohen
Must
substantiate
auto expense
Reg 1.274-5T
(c)(2)
Account book,
diary, log,
statement, trip
sheet, etc..
=
Substantiation430
Keep: Account book, diary, log, statement of expenses, trip sheet
To Show: date, destination, mileage and purpose
When: Created at or near time of business use
Employee use of employer vehicle431
If available for personal use, must include in employee’s wages
(income and employment taxes)
Methods:
Cents per mile
Annual Lease Value
Commuting value method
General FMV method – cost to lease
Most common
Cents per mile method431 & 432Basics:
• Expects the vehicle will be used in the employer’s trade or
business (over 50%)
• Or driven over 10,000 miles by employees
• Adopt as of the first day an employee uses the vehicle
• Must continue to use the method
Limitations:
• FMV of vehicle < 51,100
Includes:
• Maintenance, insurance, fuel
Rate:
• .56 per mile
Annual Lease Value method432 & 433
Basics:
• Must be available all year, or prorate
• Amount reduced for amount that is considered a working
condition fringe benefit
• Must continue to use the method (special COVID relief rule
allows employer to switch the cents-per-mile method)
Calculation
Determine FMV – arm’s length purchase price
Use table – page 433
Based on a 4 year lease term
Annual Lease Value433
Year 1 Year 2 Year 3 Year 4 Year 5 etc….
Same Lease Value
used for 4 years
Determine FMV
and use new rate
Includes maintenance and insurance, but not fuel!
Calculating income amount433
Amount of lease value XX,XXX
Less: amount that would be allowable as a deductible
business expense (XX,XXX)
Amount includable in W-2 XX,XXX
Deductible business portion based on:
• Log, written record – time, place, etc..
Commuting Valuation Rule434
Requirements:
• Bona fide noncompensatory business reasons the employer
requires the employee to commute in the vehicle
• Policy prohibiting personal use, other than commuting
• Employee does not actually use the vehicle for personal use
• Employee is not a control employee- officer who’s
compensation is > 115,000, director, employee > 235,000,
owns 1% or more of company
Valuation: 1.50 per one way commute
General Rule435
274 limits or disallows certain meals and entertainment,
even if normally deductible under 162.
Lavish limitation – 274(k)
• Not lavish or extravagant under the circumstances
• Taxpayer (or employee is present)
50% limitation on meals435
General Rule:
Deduction limited to 50% of otherwise deductible food or
beverage. Very broad.
Meals, snacks, de minimus under 132, etc..
BUT: special rule for 2021 and 2022!
100% deduction for food and beverages provided by a
restaurant.
Some exceptions to the limitation - 274(e)
See last year’s book pages 238 - 240
Limitations on Entertainment436
274(a) disallows deduction for entertainment
Except:
• food or beverage furnished on the business premises
to employees
• Certain recreational expenses for employees
• Expenses treated as compensation
• Reimbursed expenses
Work site meals 436
Employees- taxable? Employer – deductible?
FMV of meals taxable, but may
be excluded:
1. De minimis fringe (repealed
in 2017)
2. Convenience of employer:
at place of work
(after 2025, no deduction)
50% deductible until 2025, then
none.
May be able to deduct 100%, if
included in employees income.
(discussed later)
Example 11.12436
20 mile dirt road
Jackson Hole
Job site 50% deductible
Restaurant food
Box lunches100% deductible
excludable
excludable
Business meals and entertainment437
Meals Meals during Entertainment
entertainment?
Meals provided to
business associate:
Customer, Client,
Supplier, Employee,
Agent, Advisor
50% (unless
restaurant)
Amusement, recreation,
bars, theaters, country
clubs, golf and athletic
clubs, hunting, fishing,
vacations, etc..
No deduction
Entertainment does not
include food or bever
unless provided at or
during entertainment &
costs not separately
stated.
50% if purchased
separately.
Recreational expenses for employees437
What? Holiday party, summer outing, etc. Food and beverages
provided. 50%? 100% disallowed?
Food or beverage expense paid for a recreational, social or
similar activity, primarily for benefit of employees, is not
subject to the meals limitation nor the entertainment
limitation.
Cannot discriminate in favor of highly paid employees, officers
or shareholders.
Does not apply to meals provided for the convenience of
employer (not primarily for benefit of employee).
Example 11.13 – no discrimination438
Hotel ballroom
buffet open bar
All employees
invited
100% deductible (including food)
Because: recreational, social, for benefit
of non-highly compensated employees
Example 11.14 – discrimination438
Hotel ballroom
buffet open bar
Only highly
compensated
employees Food and Bev - 50% (unless restaurant)
Rental Fees – 100%
Rental xx,xxx
Food & Bev xx,xxx
Total xx,xxx
438Example 11.15 – Client dinner
Landscaper
Invites employee and client to
dinner at a restaurant
Employee’s birthday – special
dessert
Business meal, not primarily for benefit
of employee (even though an employee
social activity occurred)
50% deductible (100% in 2021 & 2022)
Meal treated as compensation439
If cost of meal is included in compensation, the 50% limitation
does not apply. Ie: do not meet definition of a de minimis
fringe or meals provided for convenience of employer.
(Could be for an employee or independent contractor)
Example 11.16 Gator Builders provides meals at construction
site.
• Meals do not meet definition of de minimis fringe or meals
provided for convenience of employer.
• Costs includes in W-2
• 100% deductible
Example 11.17 Employee partially pays439
Same facts as 11.16, except employees pay 8.00/Day
FMV of meals 10.00
Amount reimbursed (8.00)
Amount included in W-2 2.00
Cost of meals 9.00
100% deductible
Part reimbursed
Part included in
income
Example 11.18 meals excluded from income436
No available eating facility
Remote job site
Meals excluded from employees income under
convenience of employer rule.
Closest town
Only 50% of meals deductible.
Reimbursed meal expenses 440
Employer EmployeeIncurred
expense
reimbursed
If not treated as
compensation:
employer subject
to limitation
If treated as
compensation:
employee subject to
limitation
Reimbursed meal expenses 440
EmployerIndependent
contractor
Incurred
expense
reimbursed
Identifies party subject
to the limitation
If silent, depends if it’s an accountable plan
Issue 4 – Employee vs Independent contractor 441
Employee Independent Contractor
Withhold income tax, FICA
Match FICA
Fed and State unemployment
Worker’s Comp
Health coverage (?)
Issue Form 1099- NEC
Worker pays their own
income and Self-employment
tax
Common Law Factors441
Right to control
- Result
- Detail and means
- Rev Rul 87-41: 20 Common law factors
Categories:
BEHAVIORAL FINANCIAL RELATIONSHIP
Behavioral Control441
Right to direct or control
What
should be
done?
Choose where to
purchase
supplies, hire
assistance
What tools, how,
where or when
to do the work?
How will worker
be evaluated?
Only end result?
Business
provide the
training?
Financial Control442
Control financial aspects
of the job
Who purchases
tools and
equipment
Who pays the
expenses
Opportunity for
profit or loss
Relationship of the parties442
Written Contract?
Employee
type fringe
benefits Worker
advertise?
Business
location?
Services provided
a key aspect of
payer’s business
Services provided
available to othersHow long of a
relationship?
Kurio442 & 443
Builder Kurio Workers
Fabricated drywall material into walls
Furnished own tools
No right to determine particular worker
No right to determine hours
No right to control manner or means of accomplishing work
Opportunity for profit or loss
Jobs short duration. Workers free to accept other jobs
No permanent relationship
?
Tristate Developers443
Installs siding and roofing
Tristate
Sales
personsApplicators
Timing up to applicators
Tristate controls results, not manner or method
Applicators can accept work from competitors
Applicators had own tools
Applicators employed their own workers
Tristate had job expeditors – assess problems, keep job moving
?
Beyer443Structural renovation, repair and improvement to homes
BeyerEmployee
Applicators 4 Independent
Contractor
Applicators
when needed
Applicators had to furnish own trucks, tools and equipment
Contract said they were independent contractors and had to carry
liability insurance.
No time limits on completion of jobs. Just reasonable time period
No working hours specified. No instructions given
Beyer provided materials
?
Chase444
Home improvement business – aluminum siding
ChaseHelp
WantedApplicators
No training provided or give instructions.
Did not inspect jobs prior to completion.
Applicators provided tools, equipment, truck.
Applicators paid by the job, based on quantity of material used
Applicators determined their own hours
Applicators did not advertise their work. Some worked solely for Chase
Chase carried workers comp and liability insurance
?
Chase444
Home improvement business – aluminum siding
Chase Applicators
Employee! Why?
• Workers worked almost exclusively for company
• Profits not dependent on their own management skills, but number
of jobs performed.
Help
Wanted
Klingler445
Klingler carpentersPaid hourly,
occasionally by job
Provided major tools
Suggested methods
Trained inexperienced
Supervised
Moved workers around
Provided liability insurance
Provided hand tools
Generally worked
full time
One owned own
carpentry business –
independent contractor
Rest - employees
McCombs445
Home improvement business – aluminum siding & roofing
McCombs Applicators
Contracts oral. No guarantees
Applicators could work for other contractors
Materials delivered to jobsite
Tools lent to workers, if needed
Applicators wore uniforms
Salaried supervisors
Paid part of the premiums for applicators in health plan
Received bonuses called vacation pay
?
Piece work basis
Every Friday
Reporting445 & 446
1099 – NEC• 600 per year
• And those with back up withholding
• By January 31
Section 530• 1978
• May grant relief if reasonable basis
• Must file 1099-NEC