2023 Year-End Tax Highlights
Articles by: Richey May, Dec 19, 2023
The 2023 tax year has been relatively quiet from a legislative perspective, which could lead some taxpayers to think year-end tax planning may not be necessary. With that said, each taxpayer’s situation is unique, and therefore, planning for the expected tax consequences from 2023 activity might still be required. Below is a list of topics taxpayers may want to consider as they prepare for year-end and plan for 2023 taxes.
Net Operating Losses
Net Operating Losses (NOLs) can no longer be carried back and instead are carried forward indefinitely until utilized. Additionally, NOL carryforwards can only be used to offset up to 80% of taxable income reported by the taxpayer in the year utilized. Any remaining NOL carry forward is available to be utilized in future years. Finally, please note that general business credits (R&D credits, WOTC credits, etc.) created in a loss year can still be carried back to previous years if the taxpayer had income from the activity generating the general business credit in the prior year. Most general business credits can be carried back one year and carried forward twenty years.
Excess Business Losses
Noncorporate taxpayers should be aware that the deductibility of ordinary losses from pass-through entities may be limited in the year generated. For the 2023 tax year, net losses from trade or business activities will be limited to $289,000 ($578,000 for joint returns) for noncorporate taxpayers. Therefore, a taxpayer will be unable to use losses in excess of these amounts to offset income from other sources, which will likely impact their overall tax liability. Please also note that a net loss may be used to offset certain capital gains generated from the sale of assets used by the loss-producing trade or business activities. Finally, any excess business losses are converted to an NOL and carried forward under the abovementioned NOL carryforward rules.
Research and Experimental Expenditures
Code section 174 was enacted in 2022 and requires the capitalization of research and experimental expenditures. While many expected a “fix” to this law before implementation, no law change has been enacted. Therefore, expenses described in this code section are required to be capitalized and amortized over five years (15 years for foreign expenses) using a half-year convention. Code section 61 provides taxpayers with the Research & Development (R&D) credit, which can help offset some of the unfavorable capitalization treatment created by Code section 174. Please note that not all expenses that must be capitalized under section 174 will also qualify for the R&D credit under section 61.
Mortgage Servicing Right (MSR) Sales
Some taxpayers have decided to sell some portion of their MSR portfolio through a bulk sale. Generally, a sizable portion of the gain generated by these sales will qualify for capital gain treatment, which can result in significant tax savings for the taxpayer. Any ordinary losses incurred by the taxpayer will still offset the capital gain recognized because of the sale. Additionally, there can be both favorable and unfavorable treatment at the state level when a bulk sale is completed, and taxpayers should consider these specific state rules to ensure the most beneficial approach is taken in each state. Finally, there are two situations where this position may not benefit a taxpayer. First, if the taxpayer is in an overall taxable loss position, including the MSR bulk sale gain recognized, the bifurcation of the gain between ordinary and capital will not generate a benefit to the taxpayer. Second, given that there is no preferential capital gains rate for C-Corporations, this position will not benefit a C-Corporation if an MSR bulk sale is pursued.
The undertaking of significant transactions during the year can, in turn, create significant tax consequences. Examples of significant transactions include, among other things, the sale, purchase, or creation of an entity or the sale or purchase of a significant asset, including bulk sales of MSRs. Additionally, changes in operations, such as the decision to start retaining MSRs, start hedging an open pipeline, or enter new business channels, should also be addressed from a tax perspective. It is always better to be proactive and discuss significant transactions with your tax advisor before completing any transactions so that tax consequences can be identified and considered as part of the overall decision. If you are considering any significant transactions before year-end, discussing these with your tax advisor before making any final decisions is highly recommended.
General Planning Recommendations
General planning recommendations are dependent on each taxpayer’s unique situation. In general, taxpayers in a taxable income position should try to defer revenue or accelerate deductible expenses at year-end to help minimize their tax liability. Taxpayers in an overall taxable loss position should try to accelerate revenue and defer deductible expenses at year-end so that they can be claimed in the following year. Additionally, taxpayers should be cognizant of outstanding book/tax timing differences and the impact year-over-year changes in these deferred tax assets or liabilities may have on their tax situation. Deferral of income or acceleration of expenses in previous years can create unfavorable consequences in the future if the previous position taken is related to a temporary difference in book and tax income/loss.
For more information or if you have any questions regarding year-end considerations, please reach out to your Mortgage Banking Tax Expert at Richey May or contact us at firstname.lastname@example.org.