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If you’re running a small business, you should know that some federal tax breaks are size-dependent. The size here refers to your employee count. So, if you’re thinking about expanding your team, remember that it might affect your eligibility for certain tax breaks.
One such break is the Employers Credit for Starting a Retirement Plan. In 2019, this was a credit of 50% of expenses up to $1,000 (so, a $500 credit limit) for starting a qualified retirement plan, like a 401(k) for your team. You can claim this credit for three years, and you can even choose to have the year before the plan starts as the first credit year. But, there’s a catch – this credit only applies if you have 100 or fewer employees who earned at least $5,000 from your business in the previous year. At least one employee must participate, and this can’t be a high-earning employee who isn’t an owner or the owner’s spouse. Also, you can’t claim the credit if you had a qualified employer plan in the three tax years before the first credit year. You can claim this credit on Form 8881.
Starting in 2020, this credit got a big boost. It’s now either $500 or the lesser of $250 per non-highly compensated eligible employee or $5,000. Plus, there’s another $500 per year credit for up to three years if you start an auto-enrollment plan or convert an existing one to auto-enrollment.
Another tax break is the Disabled Access Credit. This is a 50% credit for costs between $250 and $10,250 to make your premises accessible or to provide adaptive services. This credit only applies if you had 30 or fewer full-time employees in the previous year or if your gross income didn’t exceed $1 million. A full-time employee is someone who worked at least 30 hours per week for 20 or more weeks in the tax year. You can claim this credit on Form 8826.
The Small Employer Health Insurance Credit is a tax credit of up to 50% of the premiums you pay for your employees. It only applies if you have 25 or fewer full-time and full-time equivalent (FTE) employees and their average annual wages are below a certain amount. The calculation of employees for this credit is a bit complex. You don’t count a sole proprietor, partner, LLC member, more-than-2% S corporation shareholder, owner of more than 5% of the business, or a family member of any of these individuals. And you don’t count seasonal employees who work 120 or fewer days per year. But you do count 30 hours per week by other workers as one FTE. Exclude any hours that exceed 2,080 in the year. So, in effect, only 40 hours per week are counted for any employee. You can claim this credit on Form 8941.
The Active Military Service Personnel Credit is a tax credit for businesses with fewer than 50 employees that continue to pay wages to those called to active duty. The credit is 20 percent of up to $20,000 in differential wage payments. The company must have a written plan to provide for wage differential payments for all qualified employees. These are payments to make up the employee’s shortfall in earnings when in the service; they help the employee take home in total (military pay plus wage differential payments) what he/she would have received had he/she not been called to duty. You can find more details in the instructions to Form 8932.
There are also other credits and deductions for businesses with fewer employees, like the Savings Incentive Match Plans for Employees (SIMPLE) Plans and Simple cafeteria plans. And there are other tax rules based on the number of employees, like the Centralized partnership regime and the Employer Exemption from reporting health coverage on employees’ W-2s.
Lastly, if you have prevailed against an IRS challenge that was not substantially justified, you can recover your legal fees, but only if there are fewer than 500 employees at the time the action was filed and the net worth was below $7 million at the time the action was filed.
Remember to review your eligibility for any of these tax rules with your CPA or other tax advisor.
