Every year the top dealership accounting firms and CFOs converge to discuss the latest hot topics as they relate to dealerships and dealership accounting issues. This year, a group from Withum attended to bring all of the best information back to our clients and our team. Set in New Orleans, Louisiana this year, there was plenty of fun (Phillies Astros World Series Game 1) and information to go around.
Here were the main takeaways our team and our dealership clients should be focusing on:
Many are aware that the deadline for compliance with the Federal Trade Commission’s revised Safeguards Rule has been extended until June 9, 2023. Dealers need to use the additional time granted from this extension to focus on achieving compliance with these revised safeguards rule. Helion Technologies provided those who attended the AICPA conference with great information about what dealers need to do in order to comply with the FTC’s rule. Below are the FTC requirements, with brief descriptions:
Appointment of a “Qualified Individual”
- Dealership must have an individual with “some level” of security training and knowledge
- This individual can be an outsourced Virtual Chief Information Security Officer
Written Risk Assessments
- A written document that identifies risks and defines how these risks will be mitigated
- Must be performed periodically and when making acquisitions
Pen Testing and Vulnerability Assessments
- Penetration testing is an annual test where testers will attempt to defeat the security defenses of an information system
- Vulnerability assessments are automated scans of the IT environment that highlights weaknesses in a system
- A constant assessment of the information system that includes using antivirus software and malware reverse engineering
Written Incident Response Plan
- Develop a written plan that defines clear roles, responsibilities, and response to a cyber attack
- A security check where a login attempt needs to be verified by the user using another method
- Encoding consumer data into ciphertext
- Decryption requires authorized credentials
Annual Written Assessments
- Written report that informs management of the cybersecurity preparedness of the dealership
- Provides insight into cybersecurity weaknesses and how to address
- Employees should complete training to avoid falling victim to internet scams
It is important for dealerships to take the revised FTC Safeguards Rule seriously. The violation penalties for failing to comply include a $100,000 fine for the entity, a $10,000 fine for the owners for each violation, and possible prison time up to 5 years for the owner. Withum has been instrumental in helping and guiding our clients to compliance. Our cyber team has helped clients both get into compliance and maintain that compliance.
Important Tax Considerations
With 2022 coming to an end, there are several important tax topics and considerations a dealer should be aware of over the next few years.
The Last-In First-Out inventory method is a common inventory valuation method used by many dealerships that can help taxpayers lower their income tax for a period of time. In order to use the LIFO method, a taxpayer must file Form 970 with their tax return to make the election. Once the election is made, the taxpayers must use this method of accounting for 5 years beginning from the tax year the election was made. During times of high inflation, dealers can lower taxable income for a period of time, however, this is only temporary and the deferred income must be recognized at some point down the road. To simplify, the LIFO reserve can be viewed as an interest free deferral of tax payments resulting in more free cash flow for dealers.
The COVID-19 pandemic had a sever impact on dealers who use the LIFO method. Restrictions on manufacturing led to inventory shortages, which we are still seeing today. This in turn led to significant recaptures of LIFO reserves, and large income pick-ups for dealers. One hope to remedy the situation was for Treasury to grant relief under Section 473. Unfortunately, initial lobbying effort by both the AICPA and NADA to convince Treasury to classify these circumstances as a ‘qualified inventory interruption” were unsuccessful. The Supply Chains Disruption Relief Act bill was introduced in September of 2022 and gave a glimmer of hope that 473 relief would be granted. The relief under this bill would allow dealers a 3-year window to replenish inventory levels. This would allow taxpayers to amend their 2020 and 2021 returns with a 481(a) adjustment and defer picking up the recapture of the LIFO reserve. NADA is optimistic that the bill will Pass.
Pass-Through Entity Level Tax
The TCJA limited the deduction of state and local taxes for individual taxpayers to a flat $10,000 for tax years 2018 through 2025. In an effort to put flow through business entities on a level playing field with C Corporations, states began to adopt a Pass-through entity tax (“PTET”) allowing businesses to deduct state taxes for federal purposes on pass through entity returns, and also provide for a state income tax credit for individual partners and shareholders Around 30 states have adopted some form of PTET, with various ways to elect and pay the tax.
Electric Vehicle Credit
The Refueling Property Credit allowed dealers to receive a credit for certain electric vehicle refueling property placed in service. For the tax year ended 2021, the credit was the lesser of $30,000 or 30% of the total cost of the property. The Inflation Reduction Act of 2022 extended this credit. For tax years 2022, the credit is applied the same as 2021. However, starting in 2023 there are certain modifications that will be made. Starting in 2023, the credit per asset is limited to the lesser of 6% of the cost of the property or $100,000. The 6% can be increased to 30% if the project meets certain prevailing wage and apprenticeship requirements or is started before January 29, 2023. The credit will also be restricted to assets placed in service in an eligible census tract, defined as a low-income community under IRC 45D(e) or is not in an urban area designated as such by the Secretary of Commerce on the 2020 decennial census.
Beginning in 2023, bonus depreciation, which allows for a 100% depreciation deduction for certain assets placed in service, will begin phasing out. In 2022, taxpayers will be able to take 100% bonus depreciation. In the tax years that follow, the allowable deprecation will decrease by 20% increments. Starting with 80% in 2023, 60% in 2024, and so on until it is completely phased out. To benefit from bonus depreciation, dealerships need to ensure they are able to fully deduct all business interest, including floor plan financing interest, without relying on the specific provisions of 163(j) that apply to floor plan financing interest.
Business Interest Deduction Limitations
The Tax Cuts and Jobs Act of 2017 expanded the interest deduction limitations under IRC Section 163 by creating section 163(j). The limitations under 163(j) limited the amount of business interest that a dealership could deduct to 30% of adjusted taxable income, plus floor plan financing interest. For tax years 2018 through 2021, adjusted taxable income is defined as taxable income, plus interest, depreciation, and amortization (EBITDA). Starting in 2022, there is no longer an addback for depreciation and amortization, so many dealers may end up having an interest deduction limitation or having to rely on the floor plan interest exception to fully deduct business interest.
Business Meals Expense Deduction
Under normal guidelines, business meal deductions are limited to 50%. However, the Taxpayer Certainty and Disaster relief Act of 2020 allowed for an exception. Under the act, the 50% limitation was changed to 100% deductibility for certain situations. Food and beverages provided by restaurants that are for immediate consumption are 100% deductible. This applies to tax years 2021 and 2022. However, prepackaged food is still limited to 50% and entertainment is still non-deductible.
Planes, Trains and Automobiles
Aviation has become an ever more popular tool used by dealership owners to grow and manage their dealership groups. Owners will often use planes to travel to their different store locations, but also utilize aircraft to take advantage of depreciation deductions. Advocate Consulting presented a slideshow highlighting the tax opportunities that are available for owners that use private aircraft.
Two depreciation methods will allow owners of private aircraft to receive the most tax benefits from purchasing private aircraft to help manage their dealership group: bonus depreciation and Section 179 expensing election.
Bonus depreciation allows for 100% expensing of the purchase price of the new or pre-owned aircraft in the year of purchase. In order to take the 100% bonus depreciation deduction, the aircraft must be used at least 25% for qualified business use and at least 51% for total business use. Qualified business would be flights related to business activity for the entity that takes the depreciation deduction for the aircraft. Total business use includes all of the business activities one individual may use the aircraft for. It is important to note that this method does increase the risk of hobby loss disallowance on audit.
Section 179 expensing election is an option for profitable business that engage in less than $3,500,000 of investments in eligible 179 property in the given year. An entity can write off up to $1,080,000, but never more than the income of the entity. The $1,080,000 maximum deduction decreases dollar for dollar when investments in eligible 179 property for the year are over $2,700,000.
Both bonus depreciation and section 179 expensing election provide huge tax opportunities for dealership owners who choose to invest in aircraft to manage their dealership group. It is important to understand these opportunities exist, but more importantly, consult with your tax practitioner for the treatment of expenses related to private aircraft on the books and records of the entity.
Lease Accounting – ASC 842 Considerations
The FASB Accounting Standard update for ASC 842 (leases) is effective for fiscal years beginning after December 15, 2021, or calendar year December 31, 2022. Now that the adoption of this accounting standards update is required for entities that prepare financial statements using generally accepted accounting principles (GAAP), this topic was the focus of the accounting and auditing update at the dealership conference.
Dealerships who lease property are required to recognize the assets and liabilities that arise from such leases on the balance sheet. The asset reflected in the balance sheet would be a right-of-use asset representing the dealership’s right to use the underlying asset for the lease term and the corresponding lease liability.
If a dealership is on the GAAP basis, planning for this adoption should have already begun. Dealership management need to identify all of their leases and classify them as either finance or operating. Once the leases are separated into finance or operating, the calculation of the right or use asset can be done. Working with their CPA could facilitate in calculating the lease assets and liabilities and appropriately adopt ASC-842.
Withum’s dealership professionals are here to help you asses your leases and get you into compliance for banks and financial reporting purposes. Changing the basis of accounting to a Special Purpose Framework, such as income tax basis, may eliminate the lease right of use asset and liability from the balance sheet, however, banks or other users of the financial statements are requiring GAAP and certain disclosures may still be necessary regardless of the basis of accounting.
In conclusion, the event is great for Dealership CPA’s, CFO’s, Controllers, and lawyers in the automotive space because it brings top speakers to the table and information that is invaluable. Withum has been on the planning board for the event and continues to contribute speakers (our dealership consultants) and network with vendors who can help dealerships. If you have any questions on the above topics, please feel free to reach out to us.
Authors: Jake Cooney, CPA | [email protected]; Vincent Banek, CPA | [email protected]; and Phil Craft, CPA | [email protected]
For more information on this topic, please contact a member of Withum’s Dealership Services Team.