News
2 ACA Taxes That May Apply to Your Exec Comp
If you’re an executive or other key employee, you might be rewarded for your contributions to your company’s success with compensation such as restricted stock, stock options or nonqualified deferred compensation (NQDC). Tax planning for these forms of “exec comp,” however, is generally more complicated than for salaries, bonuses and traditional employee benefits.
And planning gets even more complicated if you could potentially be subject to two taxes under the Affordable Care Act (ACA): 1) the additional 0.9% Medicare tax, and 2) the net investment income tax (NIIT). These taxes apply when certain income exceeds the applicable threshold: $250,000 for married filing jointly, $125,000 for married filing separately, and $200,000 for other taxpayers.
Additional Medicare tax
The following types of exec comp could be subject to the additional 0.9% Medicare tax if your earned income exceeds the applicable threshold:
• Fair market value (FMV) of restricted stock once the stock is no longer subject to risk of forfeiture or it’s sold,
• FMV of restricted stock when it’s awarded if you make a Section 83(b) election,
• Bargain element of nonqualified stock options when exercised, and
• Nonqualified deferred compensation once the services have been performed and there’s no longer a substantial risk of forfeiture.
NIIT
The following types of gains from stock acquired through exec comp will be included in net investment income and could be subject to the 3.8% NIIT if your modified adjusted gross income (MAGI) exceeds the applicable threshold:
• Gain on the sale of restricted stock if you’ve made the Sec. 83(b) election, and
• Gain on the sale of stock from an incentive stock option exercise if you meet the holding requirements.
Keep in mind that the additional Medicare tax and the NIIT could possibly be eliminated under tax reform or ACA-related legislation. If you’re concerned about how your exec comp will be taxed, please contact us. We can help you assess the potential tax impact and implement strategies to reduce it.
© 2017
The Importance of Hiring a Quality Employee Benefit Plan Auditor
by Sophia Bennett
Sophia is a freelance business writer based in Eugene, Oregon. Her work has appeared in Oregon Business, 1859 Oregon’s Magazine and many other publications.
When an organization moves from having a small retirement plan to a large one – the Employee Retirement Income Security Act (ERISA) generally requires a retirement plan with 100 or more participants to have an audit of their plan performed by an external auditor. The purpose of the process is to make sure the retirement plan is operating according to plan guidelines and rules, complying with state and federal laws, and actually depositing the correct amount in each employee’s retirement account.
It’s wise to not wait until the company hits the 100 employee mark to start planning for the audit. Evan Dickens, a partner with Jones & Roth CPAs and Business Advisors, recommends that businesses start exploring the requirements when they reach around 80 staff members. That gives them time to determine when they will need the first audit, find a qualified CPA firm, and start pulling together all the necessary paperwork.
Evan Dickens, a partner with Jones & Roth CPAs and Business Advisors, recommends that businesses start exploring the requirements when they reach around 80 staff members.
Jones & Roth partner Jon Newport, CPA acknowledges that an audit can sound like a burden. However, he encourages companies to think of it as an opportunity. It gives them a chance to double-check that everyone really is receiving the money owed to them. “We’re doing it for the benefit of the participants,” he says. “They’re the stakeholders we’re most concerned with.”
Picking the right audit firm is key
Most companies will need their first benefit plan audit when they reach 100 employees, but this can vary based on the plan. And while a company may choose to pose this initial question to their existing auditor, don’t assume their firm is the best choice to perform the benefit plan audit. The U.S. Department of Labor (DOL), the government agency that requires the audits, shares the following on its website: “One of the most common reasons for deficient accountants’ reports is the failure of the auditor to perform tests in areas unique to benefit plan audits.” There are a lot of technical details the auditor must understand in order to complete the audit correctly. In fact, the DOL goes on to say that if a professional who is unfamiliar with these types of audits performs the review, that person should have an experienced benefit plan auditor review his or her work.
It makes sense to look for a company that specializes in the area. Jones & Roth is one example. They have established a niche practice in benefit plan audits and now have seven staff members devoted exclusively to working on them.
“We’ve made this area a focal point. It’s not just an afterthought for us,” Dickens says. Staff members within the niche are experts at reviewing the common 401(k) plans, but they’ve also worked with many defined benefit, employee stock ownership, 403(b), and health and welfare plans. A lot of other CPA firms won’t touch these more unusual, highly technical plans because they don’t have the expertise, Dickens notes. Jones & Roth is based in Oregon and performs more benefit plan audits than any other firm headquartered in the state.
Establish good communication between all partners
During the initial stages of the benefit plan audit it’s essential to establish good communication between the business’s plan administrator, the CPA firm and the TPA. The audit team needs access to a wealth of documents including payroll records, personnel files and other human resource data. “It can be a little intrusive for companies that are going through this for the very first time,” Dickens says. “Our focus is on working with companies to make it as gentle a process as possible the first time.”
It’s a good idea to make sure the CPA firm won’t wait until the last minute to complete the audit. October 15 is the deadline for TPA’s to submit all documentation to the Department of Labor. Many CPA’s tend to submit their audits to the TPA on October 14. Jones & Roth’s staff always aims to finish theirs by September 30.
Another way to glean more value from the audit is to see if the CPA firm can share any best practices or advice for improving the plan’s administration. Dickens and his staff try to do this with all their clients. “Companies want to do the right thing for their employees. They care about things like best practices and internal controls. We want to give them some confidence that they’re doing things the best way.”
The right firm may even have other helpful resources they can make available. Since Jones & Roth has its own retirement plan administration practice, Newport says that he often calls his colleagues when his clients have questions they’ve struggled to get their TPA to answer. “We can get them a much quicker, real-time, basically free response to a simple compliance question,” he says.
Making a positive impact
Dickens notes that he’s never identified a case where a retirement plan was trying to steal from its employees. But mistakes can happen, especially as retirement plans grow, which is why the audit requirement exists. “I can think of multiple occasions in the last year where we’ve identified that a participant received less of a contribution to their retirement plan than they should have. Sometimes it’s a relatively material amount. I’ve found cases where individual participants were shorted by four figures or more.”
Catching those errors is what Dickens says he likes best about his job. “I really enjoy the chance to make a positive impact on someone’s retirement account. When I’m able to correct those mistakes I feel like I’ve done some good.”
Sophia Bennett is a freelance business writer based in Eugene, Oregon. Her work has appeared in Oregon Business, 1859 Oregon’s Magazine and many other publications.
Business Valuation Part 3: The Income Approach
This post is part of a 4-part series covering business valuation and providing guideline information on the process of valuing a business. To start at the beginning and learn what business valuation is and why a business valuation is needed, read Part 1: Levels of Value. For an in-depth look at the first valuation approach, read Part 2: The Asset Approach.
Part 3: The Income Approach
This income approach considers the expected periodic cash return that could be derived from an ownership interest in the equity of a company. The periodic cash flow stream can be developed in two ways: based on a discrete cash flow period then capitalizing the cash flow of the final period to value the cash flows beyond the projected period or directly capitalizing a level of normalized cash flow.
To apply this model, we determine cash flows available to the equity investor, or as debt free cash flow. Cash flows available to equity investors are used if we wish to directly value equity, whereas debt free cash flows are used if we intend on valuing total invested capital or total enterprise value, because this is the cash pool from which interest and dividends or distributions could be paid to all invested capital holders. Formulas to calculate free cash flow to equity holders and free cash flow to all invested capital holders are shown below:
Free Cash Flow to Equity Holders
Net Income
+ Depreciation & Amortization
– Capital Expenditures
– Increase in Working Capital
+ Increase in Interest-Bearing Debt
Free Cash Flow to Equity Holders
Free Cash Flow to Invested Capital Holders
Net Income
+ Depreciation & Amortization
– Capital Expenditures
– Increase in Working Capital
+ Interest Expense, net of Taxes
Free Cash Flow to Invested Capital Holders
If we value cash flow to equity investors, the capitalization rate is developed by referencing the required rate of return of the equity holders, adjusted for anticipated constant growth in these cash flows. If we value cash flow to invested capital holders, the capitalization rate is based on the weighted average cost of capital (WACC), adjusted for anticipated constant growth in these dividends. The capitalization rate, based on WACC, is developed by weighting the rate required for equity capital with the rate required for debt capital, arriving at a blended rate, based on the amount of debt and the amount of equity associated with the total invested capital.
The model where we look at a stream of cash flows over a forecast period is known as the discounted cash flow model (DCF). DCF analysis approaches value on the basis of future return flows over an investment horizon. It attempts to estimate the present value of future investment return, based on anticipated future performance and perceived risk. To use the DCF methodology, a forecast prepared by management or the valuation analyst is needed. Beyond the end of the forecast period, it is assumed the company will continue to operate and we capitalize an ongoing level of cash flow to determine the company’s value beyond the forecast period which is often referred to as the terminal value.
Alternatively, we can determine the value of a company based on a normalized level of cash flow. A normalized level of cash flow removes the impact of unusual income and expense items which are not expected to be ongoing sources of income or expenses. In addition, in some years, capital expenditures or working capital needs can be very high, then decline to low levels for a number of years. Normalized cash flow will take into account the lumpy nature of those items and smooth those cash flows. Once we have determined a normalized level of ongoing cash flow, we can capitalize that level of cash flow at a rate that takes into account the risks of achieving those cash flows and factors in ongoing growth in those cash flows.
In both of these models, we begin with either cash flows available to the equity investor, or debt free cash flows. Cash flows available to equity investors are used if we wish to directly value equity whereas debt free cash flows are used if we intend on valuing total invested capital or total enterprise value, because this is the cash pool from which dividends or distributions could be paid to all invested capital holders. If we value cash flow to equity investors, the capitalization rate is developed by referencing the required rate of return of the equity holders, adjusted for anticipated constant growth in these cash flows. If we value cash flow to invested capital holders, the capitalization rate is based on the weighted average cost of capital (WACC), adjusted for anticipated constant growth in these cash flows. The capitalization rate, based on WACC, is developed by weighting the rate required for equity capital with the rate required for debt capital, arriving at a blended rate, based on the amount of debt and the amount of equity associated with the total invested capital.
Upcoming Blog Posts
The remainder of this series will continue to give an overview of the different valuation methodologies. Links to the other blog posts in this series are below:
Part 1: Levels of value
Part 2: The Asset Approach
Part 3: The Income Approach
Part 4: The Market Approach
Jason Bolt leads the Business Valuation Team at Jones & Roth. He is an active writer and speaker on specialized business valuation topics.
Business Valuation Part 2: Asset Approach
This post is part of a 4-part series covering business valuation and providing guideline information on the process of valuing a business. To start at the beginning and learn what business valuation is and why a business valuation is needed, read Part 1: Levels of Value.
Part 2: The Asset Approach
The asset approach is also referred to as the adjusted net asset approach or the net asset value approach. All these names generally mean the same thing. This method is most appropriate when valuing a holding company (an entity holding various investment assets such as real estate and/or securities) or when valuing a marginally profitable company. Companies such as those are valued based on their underlying asset values.
The asset values are adjusted to their fair market values and the sum of the adjusted asset values is reduced by outstanding liabilities to determine the net asset value (or equity value). This is basically a modified liquidation value approach (true liquidation value would include liquidation expenses) and generally yields a floor value for a controlling interest.
The following simplified example below illustrates the steps involved in using the asset approach. In this example, the company has assets with a book value of $500,000 and liabilities with a book value of $450,000. Typically, current assets (such as cash, accounts receivable and prepaid expenses) are assumed to be equal to their fair market value. It is also generally assumed that the book value of inventory is equal to its fair market value, however, this may not always be the case if there is stale or obsolete inventory still sitting on the books.
In this example, the company owns a building with a book value of $250,000. The book value of real estate equals its fair market value only by coincidence since the book value of real estate represents the depreciated value. When valuing a business using the asset approach the valuation analysts rely on outside third party appraisals for most fixed assets. In this example, the fair market value of the real estate is $1 million, so the book value of the real estate adjusted upward by $750,000.
Typically the book value of current and long-term liabilities represent the fair market value of those liabilities. However, this is not always the case and the valuation analyst needs to review and analyze the company’s liabilities to determine whether any adjustment is necessary.
Incorporating the adjustment, the net asset value of this company is $800,000 as shown in this example (click to view PDF).
A major assumption of this approach is that the owner of the subject interest has control over the assets and would be able to liquidate them at their discretion. An owner of the subject interest who does not have control could not reasonably expect to realize the value of the underlying assets until sometime in the future.
If the subject interest is a controlling interest in the business, the asset approach may be a useful approach since the owner of the subject interest can liquidate the assets of the company. However, if we are valuing a minority interest, we would need to incorporate a discount for lack of control (DLOC) and a discount for lack of marketability (DLOM) to determine the minority interest value. Since there are multiple discounts necessary, when valuing a minority interest, the income approach and market approach may be more appropriate.
Upcoming Blog Posts
The remainder of this series will continue to give an overview of the different valuation methodologies. Links to the other blog posts in this series are below:
Part 1: Levels of value
Part 2: The Asset Approach
Part 3: The Income Approach
Part 4: The Market Approach
Jason Bolt leads the Business Valuation Team at Jones & Roth. He is an active writer and speaker on specialized business valuation topics.
Events
Quick Links
SafeSend
Intacct Client Login
Plan Sponsor Link
Payroll Portal
Forms & Guides
Our Approach
Founded on a commitment to make a positive impact in the lives of our clients, employees, and the community, we help organizations and individuals achieve financial success.
We Make it Easy
Accounting law and compliance can be complicated, but working with your accountant and advisor shouldn’t be. We’ll help you determine your needs and reach your goals.
One of Oregon's Largest Firms
We started small in 1946, but today we’re one of Oregon’s largest CPA & Advisory firms with a reputation for having a trustworthy team of highly-skilled CPAs, Advisors, and specialists.