Planning strategies for small-business owners for both inside and outside the orthodontic practice
by Timothy Lott, CPA, CVA,
and Mike Bark, CPA, CVA, MST
While much of the recent legislation has focused on wage and loan benefits for small businesses to help them through the COVID-19 pandemic, some of the income tax-related aspects of that legislation may get overlooked.
There are also some things you can do to best prepare your practice in the future to develop cash reserves and improve cash flow.
Because the landscape surrounding COVID-19 and the related legislation is always changing, tax regulation may have changed since this article was written. As we encourage throughout this article, be sure to consult your CPA with any questions.
First, let’s focus on the several new tax laws that resulted from this pandemic.
Employee retention credit (ERC)
If you missed out on the PPP loans or simply chose not to apply for that loan, you should look to take advantage of the ERC if you’re eligible for it.
If a practice’s gross receipts in a calendar quarter fall below 50% of the same quarter in 2019, or the practice was ordered to partially or fully shut down by a government authority, the credit can be applied for that quarter in 2020.
Many practices will likely meet these criteria for the second quarter of 2020. If your practice is eligible, you can take the credit for wages in each quarter until you hit a quarter where your gross receipts exceed 80% of the same quarter in 2019. This provision expires December 31, 2020.
The credit is equal to 50% of up to $10,000 in qualified wages per employee, to a maximum credit of $5,000 per employee. The credit works by reducing the amount of payroll taxes that you would submit in the quarter. Should a balance remain, it could be refunded upon your request. (You would have to file a form to ask for a refund.)
Also, to qualify for this credit, you cannot have taken the PPP loan and you cannot submit the same wages that were eligible for a payroll tax credit under the Family First Coronavirus Response Act (FFCRA).
As an employer, you can also defer the payment of FICA taxes you pay for your employees. These taxes amount to 6.2% on an individual’s wages up to $137,700. Any tax incurred between March 27, 2020, and Dec. 31, 2020, will be considered timely paid, provided that 50% of the tax is paid by Dec. 31, 2021, and the balance is paid by Dec. 31, 2022.
It should be noted that the federal withholding taxes and the employee’s share of the FICA and Medicare tax must still be submitted on time.
Another interesting development is that you can take $100,000 from a retirement account such as a 401(k), profit sharing, or IRA account without the 10% early distribution penalty (for those younger than 59½) and spread the income tax impact over three years.
Not only could this give you an infusion of cash, but it may also be a good opportunity to make some Roth IRA conversions, especially if your taxable income ends up being lower in 2020. However, if you return the amount distributed within three years of your first distribution, you can avoid all income tax on the full distribution.
Other income tax tips
The FFCRA bill also corrected some bad legislation from a couple of years ago regarding qualified improvement property (QIP). Congress had intended for QIP to have a write-off period of 15 years, instead of the normal 39 years; however, when they passed income tax legislation a few years ago, QIP remained as 39 years in an unintended result.
The FFCRA fixed this and QIP is now 15-year property for years beginning in 2018. Therefore, you should consult with your CPA about possibly amending your 2018 (and even 2019) income tax returns to receive this benefit.
For employers with a Section 127 Tuition Benefit Plan (which allows employers to cover up to $5,250 of an employee’s tuition expenses), the FFRCA also provided that employers could include student loan payments as one of the benefits under the plan. This benefit plan generally excludes owner–employees, which is why we don’t see many practices with it.
The Coronavirus Aid, Relief and Economic Security (CARES) Act also made changes to net operating losses (NOLs) whereby businesses with NOLs had the option to carry these losses back to earlier years. Before the CARES Act, you could only carry them forward. This may provide additional cash to some businesses that may need it now, through amended income tax returns. Again, consult your CPA to see if you qualify.
2019 and 2020 income tax tips
Not only did the federal individual tax filing deadline get extended this year, but also the tax deadline for the first- and second-quarter federal income tax estimates were moved to July 15. If you expect your income to be lower in 2020, as we think most will, you should consider adjusting your quarterly individual income tax estimates. Consult with your CPA about this as well.
If you are an S-corporation and receive a wage, it will be a good time to review whether it’s a good idea to lower your W-2 for 2020. While S-corporations are required to pay their owners a reasonable wage for services rendered, “reasonable” may look different in 2020 and it could be an opportunity to save some payroll taxes.
It is certainly possible more changes will come throughout the year, so stay in close contact with your CPA.
Lessons we’ve learned
Finally, as we get back to the “new normal” in both our business and personal lives after the start of the COVID-19 pandemic, let’s see what we’ve learned financially.
How prepared were we, both professionally and personally, for the financial hardships we have endured, and what lessons can we take from this crisis? We believe you can take steps to prepare for the next crisis.
Cash is king
Let’s talk about cash reserves. You’ve often heard in the past that people should have “emergency” funds available for three months, six months—maybe even a year. How many of us had these reserves available when the pandemic hit?
Some clients we advised during this crisis had enough personal liquidity to support them and their families; however, some of them did not have the same level of liquidity in their practices. It’s time to evaluate where you are with your reserves and begin to plan accordingly. We believe a good starting goal is to have enough cash to fund one month of payroll, with a goal to have enough on hand to cover three months of expenses.
Another aspect of liquidity that got some much-needed attention in many practices was accounts receivable. Because practices were closed and the doctors had time, it allowed them to take a deep dive into their accounts receivable.
Many practices used this time to:
Clean up old accounts receivable that will likely never be collected.
Contact patients with larger unpaid balances to establish ongoing payment plans.
Reach out to PPOs on rejected claims to get that money in.
And, most importantly, review their collection policies internally to allow for quicker collections and to minimize rejected claims that were left untouched because staff members were “too busy.”
We hope to see better collection stats moving forward, because many orthodontists have taken the opportunity to improve in this area.
What about access to credit? As we had conversations with clients during the crisis, we were amazed at how many did not have a business line of credit or couldn’t remember if they had one—and if they learned they did, the line wasn’t for as much as they could have had.
While many emergencies are unforeseen, there are some we can be prepared for, including health issues, temporary disabilities, natural disasters, etc.
Any of these hazards can occur at any time, and we need to make sure we have quick access to lines of credit both for our businesses and personally. Now’s the time to review what you have and take the necessary steps to make sure you have this in place.
“Need” versus “want”
What have we learned about our practice overhead and our personal cost of living? In the early stages of the crisis, as practices were closing their doors, we helped clients to review the practice overhead to see what they could defer in terms of monthly bills and which services they could effectively “turn off” while their practices were closed and the revenue was drying up.
What we heard was that clients were starting to reevaluate their expenses, both professionally and personally, and defining what they really needed, versus expenses that were simply on autopilot. They reviewed exactly what they were paying and how important it was to their practice. It gave some the opportunity to shop around for lower-priced alternatives or to discuss the service with the vendor to see if there were other levels of services available at lower costs.
What about your staff? What have you learned about how to handle your staff if a crisis hits again? Doctors struggled with whether they should furlough them, allow them to stay on the payroll, or offer them the opportunity to take their PTO. What will be the plan the next time? We think many practices will use this crisis as an excuse to either reevaluate their employee manuals or implement one.
Many doctors took the opportunity to reevaluate their investment strategies and their risk levels. We saw the markets take another deep dive similar to the 2008–2009 era and many newer doctors had never experienced an investment hit like this.
They had been enjoying the stock market ride with some great investment returns for the past several years, so this crisis was a real eye-opener to many. Having the time away from their practices allowed many to educate themselves on other forms of investments outside the stock markets, whether that be real estate or real estate-related activities or other forms of passive investments, such as other small businesses or side businesses.
Those with side businesses such as consulting, education, seminars or lecturing took time to add to their inventory of materials so that they might increase their other sources of income in case their practices face another crisis like this. If you have not done this, you should.
We all need to appreciate where our wealth is invested and to be comfortable with our investment decisions and clear on our short-term and long-term financial goals.
We hope that if there is a silver lining in this crisis, it’s that you had the opportunity to critically review your practice and are ready to come back strong after this crisis subsides.
Stay healthy, stay safe and be well.