Financial News

High-Stakes Policy Decisions Loom in 2013

High-Stakes Policy Decisions Loom in 2013

by Eugene A. Lugwig
January 31, 2013
Published in American Banker

An enormous number of new rules are slated to be finalized a result of Dodd-Frank, Basel III and other regulatory initiatives. The result will be the largest augmentation of the banking rulebook in history. Yet how these rules will be finalized is far from certain.

Here are a few areas where the stakes are highest:

Community Banking
Unless you have spent time working with community banks, it is hard to appreciate how profoundly modest changes in rules and supervision can affect them. Many compliance burdens have nothing to do with safety and soundness. I still remember my early years as comptroller of the currency, when a community bank CEO called to complain about the number of examiners we’d sent to his main branch. The examiners had taken up all the spaces in his parking lot, and the bank could not do business.

Of course, I solved this problem quickly by asking my examiners to park elsewhere. Other burdens are not so easily addressed, but reducing the unnecessary burden on community banks is critical to their survival. Today, community banks are larger enterprises than they were 10 years ago. They should be defined by the products they offer and their willingness and ability to serve their communities, not by their size. By this standard, and almost without exception, banks with less than $10 billion in assets are community banks. The same is true of many banks with up to $50 billion in assets.

The Basel III proposals– which create a new definition of capital and a new, U.S.-only standardized approach to the calculation of risk-weighted assets– could be profoundly disruptive to such community banks. U.S. regulators understandably want to make the Basel standardized approach more risk-sensitive, but small banks with no international presence should be exempt from it. This initiative is not required or even suggested by Dodd-Frank, and it should not be part of the sheaf of new compliance obligations facing community banks.

The Volcker Rule
Like it or not, the Volcker rule is here to stay. The issue is not whether proprietary trading should be pushed out of banking organizations– it is whether the rule allows for appropriate market-making and hedging activities, as Dodd-Frank demands.

There are two dangers here: narrowness and complexity. The final Volcker rule could be drawn too narrowly for banks to make markets for clients, facilitate the issuance of securities or engage in hedging activities that are critical to bank safety and soundness. It could also be so complex as to become a trap for the unwary, resulting in disruptive, contentious examinations and enforcement actions that make market-making and hedging activity impossible to conduct economically.

As proposed, the Basel III and Qualified Residential Mortgage rules make loans to first-time and low-income homeowners much less accessible and likely more costly. A large down-payment requirement, like the 20% one in the proposed QRM rule, would have the greatest impact on home ownership for low and moderate-income Americans. Private mortgage insurance is not incorporated as a way to bridge this problem.

This is, of course, problematic in a variety of ways. But other pending rule changes present their own implementation challenges. They include tougher servicing standards, high-cost loan appraisals, loan officer training and loan originator compensation. Taken as a whole, they are likely to force basic changes to the business models of mortgage originators and servicers.

Ring fencing and free trade
A variety of rules and proposals, both in this country and abroad, move us towards the application of national regulations, national organizational structures, in-country capital, and even national accounting treatment for global banking organizations. This balkanization is fertile ground for a potential disaster.

Notwithstanding the imbalances and shocks that have been so painfully evident in recent years, we should not lose sight of the fact that free trade, including free trade in banking and other financial services, has produced a considerable rise in global economic well-being. The U.S. has historically played a leadership role in promoting free trade. Since World War II, it has sounded the trumpet against a return to the disasters of the Smoot-Hawley Tariff Act.

However, global economic strains have pushed us ever closer to a patchwork system of territorial financial rules, which press global banks to calculate capital and liquidity on a country-by-country basis. They move institutions away from global governance and towards a territorial system that is inefficient and ultimately unsafe. The Basel accords are not always perfect, but they are far superior to isolationism. Surely we can develop a global set of rules that protect national interests yet foster trade and growth.

Shadow banking
One toxic byproduct of rules that are too complicated or unnecessarily burdensome is the growth of the shadow banking system. Virtually all recent financial reforms are aimed at banking organizations, along with a small number of nonbanks that are systemically important at a global level. This leaves ample room for nonbanks to take up financial activities without the growing compliance overlay that banks face. As a result, one of the fundamental goals of financial reform– to improve market stability– is threatened by that very same reform.

These are only a few of the many issues where major changes could occur this year. Regulators have been wise to take their time to try to get these important changes right. Because these changes are so momentous in terms of economic well-being and growth, considered and judicious efforts should take precedence over speed.

Eugene A. Ludwig is a founder and the chief executive of Promontory Financial Group LLC. He was the comptroller of the currency in the Clinton administration.
(c) 2013 SourceMedia. All rights reserved.

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Handle Shareholder Loans with Caution

Handle Shareholder Loans with Caution

If you’re a shareholder in a closely held C corporation, you are permitted to take loans or advances from the company. It’s convenient and, typically, as a shareholder, you won’t have to pay taxes on the proceeds. What’s not to like about this opportunity?

Clearly, it’s a convenient benefit. Still, you should be careful that, when borrowing from your corporation, the loan is arranged in a businesslike manner. Otherwise, the IRS could reclassify your loan or advance as a dividend, which would be taxable to you individually and not deductible by the corporation.

The Right Way To Arrange a Shareholder Loan
Generally, whether a disbursement to a shareholder will be considered a bona fide loan for tax purposes depends on whether, at the time of the distribution, the shareholder intended to repay it and the corporation intended to require repayment. When borrowing from your corporation, be sure the terms of the loan are in writing. The loan document should also clearly state that a reasonable interest rate is being charged on the loan. Finally, have the note signed and dated by you and your corporation.

If the IRS audits you or your business, it will most likely review the loan carefully to determine whether the transaction is a bona fide loan or a constructive dividend. The IRS looks at numerous factors to help make that determination, such as:
The security given for the advance
The shareholder’s ability to repay the advance
Whether the loan matures on a specific date
The extent to which the shareholder controls the corporation
The amount of the loan or advance
Whether the corporation makes systematic attempts to obtain repayment
The earnings and dividend history of the corporation
How the corporation records the advances on its books and records

Our firm would be happy to help you avoid any possible tax-related missteps if you are considering taking a loan or an advance from your closely held corporation.
A dividend is taxable to the individual and not deductible by the corporation.

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Strategies To Maximize Your Bonding Capacity

Strategies To Maximize Your Bonding Capacity

What would your surety find if it reviewed your firm’s financial statements today? The reality is that what your surety finds on the financial statements will determine whether you receive bonding and the amount you will be charged. Your fiscal year-end statements generally will form the basis for your bonding credit for the full year.

As a contractor, you need to show your company in the best light possible to secure bonding at a competitive rate. You can take several steps now to make your company more attractive to sureties.

Plan Properly
Make sure you are prepared to provide accurate, timely financial information. Your surety will likely require basic year-end financial statements — including a balance sheet, an income statement, and a cash flow statement — along with a variety of supplemental financial information.

Be sure to include details on your accounts receivable, a detailed listing of the inventory your firm is carrying, and an explanation of your over- and underbillings. Don’t forget to include information on your revenue recognition method as well as a detailed list of jobs/projects pending (your backlog).

In addition, sureties will want to see corporate tax returns for at least several years. You should also be willing to provide sureties with a listing of completed contracts and contracts in progress as well as data on your administrative, sales, and general expenses.

Increase Working Capital
Having a strong working capital position can greatly improve the chances of securing the bonding you need. One way you can boost working capital is by converting short-term debt into long-term debt through refinancing. Let’s say, for example, you tapped into your $450,000 line of credit to buy two large construction vehicles for $150,000. By refinancing the vehicles with a four-year term loan, only 12 months of the principal payments generally will be classified as short-term debt. This approach will improve your current ratio and increase your working capital.

Control Over- and Underbillings
Large overbillings may point to a future cash flow squeeze. Substantial underbillings could indicate potential losses, unreasonable profit estimates, inadequate estimating, and poor billing systems.

Collect Accounts Receivable
Boosting your efforts to collect money owed to your firm can improve your cash position. In addition, billing all contracts before year-end will lower net underbillings.

Reduce Inventories
Try to reduce inventory toward the end of the year since sureties typically discount the value of inventory on the balance sheet.

Review Estimates
Check estimates on contracts in progress to be sure they are accurate.

Reduce Prepaid Expenses
Prepaying expenses doesn’t really improve your financial position from the perspective of a surety.

Avoid Loans and Advances
Don’t deplete your cash position by making large cash advances to employees or loans to shareholders.

Control Debt
Maintain a low debt-to-equity ratio and try not to tap into your available line of credit.

Review Planned Equipment Purchases
If your debt levels seem high compared to other contractors of a comparable size, it might be smart to review any plans you have to buy new equipment. You don’t want to increase the outstanding debt on your balance sheet at year-end or deplete your cash reserves. Consider delaying planned purchases or look into leasing.

Meet Your Financial Obligations
Make sure you meet the terms and conditions of any loan covenants and other financial agreements your firm has entered into.

Talk to Us
Many construction firms end their annual reporting cycle on December 31, but it’s not too early to start planning now. We would be happy to help you with that planning.

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Cloud Computing: What Banks Need to Know

Cloud Computing: What Banks Need to Know

Moving IT operations to the “cloud” offers substantial benefits, but many banks are reluctant to embrace cloud computing because of concerns about information security, data reliability and regulatory compliance. These concerns are legitimate, particularly when outsourced cloud services are provided over the Internet. Banks exploring these services should conduct thorough due diligence and take other steps to manage the risks.

New term is old concept
Although the term is relatively new, the concept isn’t. Essentially, cloud computing means pooling computing resources (servers, processing, memory and network bandwidth) to provide centralized services, such as software, platforms and infrastructure, to users.

Banks that have worked with service bureaus or similar third-party providers already are familiar with “private” clouds, which offer the greatest security. Here, the cloud infrastructure is provisioned for exclusive use by a single bank. It’s owned, managed and operated by the bank or a third party (or both) and may be located on or off the bank’s premises.

A “public” cloud infrastructure is provisioned for open use by the general public and is owned, managed and operated by the cloud provider on the provider’s premises. Other options include “community” clouds, which are designed for use by groups with shared concerns, and various hybrid approaches.

Benefits stack up
Cloud servers run applications and store data. Individual users can tap this computing power with scaled-down PCs using a Web browser or other interface software. Because the cloud infrastructure delivers the applications, processing power and storage capacity, the bank can enjoy reduced IT costs.
IT personnel also spend less time installing, maintaining and upgrading individual computers.

Centralized resources allow the bank to deliver new applications quickly and enhance performance and efficiency by providing users with access to applications and up-to-date data from anywhere and at any time. Centralization also can make backup easier, cheaper and faster.

Outsourced solutions offer additional benefits, including:
Greater cost savings. By spreading costs among multiple customers, cloud providers take advantage of economies of scale, which can reduce a bank’s IT costs and help them save on maintenance costs and energy consumption.
Pay-as-you-go. Banks can avoid large up-front capital investments in favor of a pay-per-use or subscription model. When properly configured, the scalability of cloud computing allows banks to adjust their service levels upward or downward to meet their needs.
Business agility. Additional capacity, software and other computing resources are available on demand, which may enable banks to respond more quickly to customer demand for new products and services, such as online and mobile banking.
Business continuity. Cloud computing provides a high level of redundancy and the ability to move data around rapidly, which can result in enhanced business continuity and disaster recovery protection at a lower cost.

Public cloud computing offers the greatest benefits, but its shared data environment raises significant security concerns. With properly vetted cloud partners and other precautions, however, banks can minimize these concerns or even achieve greater security than they could on their own. For example, a cloud provider may be better equipped to implement multifactor authentication and other controls designed to prevent hackers from obtaining customer information.

Risks must be managed
Financial institutions are subject to a variety of laws and regulations designed to protect sensitive customer information. And while certain IT services may be outsourced, complying with these laws is the bank’s responsibility.

Banks that use cloud providers should conduct thorough due diligence. (See the sidebar “Due diligence tips.”) Their contracts should clearly spell out vendors’ responsibilities with respect to how and where customer data is stored and transmitted. They should also have procedures for evaluating vendors’ internal controls and monitoring vendor performance.

Testing the waters
To get started with cloud computing, consider using a public cloud for activities that don’t involve confidential customer information — such as marketing or back-office applications — while using a private cloud or traditional systems to handle more sensitive applications.
As the banking industry becomes more comfortable with the cloud and vendors respond to the industry’s unique information security needs, public cloud computing will likely grow in popularity.

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Avoiding Retirement Plan Compensation Errors

Avoiding Retirement Plan Compensation Errors

The amount your company can contribute to your retirement plan and deduct for federal income-tax purposes generally depends on the amount of compensation you pay employees. Using an incorrect definition of compensation in your retirement plan can lead to costly operational failures that can affect your plan’s qualified status.

To help plan sponsors, the IRS’s website provides five tips for avoiding compensation-related plan failures:

  • Review your plan document’s definition of compensation for each plan purpose
  • Use the statutory definition of compensation when required
  • Transmit accurate compensation data for each employee to your payroll processor and plan administrator
  • Consider amending your plan to use one definition of compensation for all plan purposes
  • Periodically review your plan for errors and fix them as quickly as possible using the IRS’s Employee Plans Compliance Resolution System (EPCRS)

If you have any questions or need assistance about retirement plan compensation, don’t hesitate to call Jerry Smith.

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Smart On-Site Logistics

Smart On-Site Logistics

Efficient handling of materials — from delivery to unloading, storage, and on-site movement — is critical to a properly functioning construction site. There are also financial and safety benefits to having a well-thought-out materials handling program.

A systematic approach to handling materials on a job site can reduce labor costs, help keep projects on schedule, improve work quality, and provide a safer workplace. Key goals should be to minimize the number of times materials are handled and reduce the amount of time they are stored on site.

Develop Detailed Delivery Schedules
The just-in-time delivery system in many auto plants is designed to bring materials into the factory just as they are about to be used. Your goal should be similar. Coordinate with suppliers and subcontractors to develop precise delivery schedules. Materials should arrive on the site in the sequence they are to be used.

Make sure subcontractors and suppliers understand you won’t permit storage of materials for any length of time where work is being done. By eliminating stockpiles of materials and equipment on site, you’ll improve work flow and help schedules stay on track. In addition, you enhance on-site safety since there are fewer hazards employees have to work around.

Set Up a Common Checkpoint/Entrance
On large jobs, you need a single checkpoint operated by an individual who is responsible for all access to the site. That individual can also ensure that all materials delivered to the site are scheduled for arrival that day and time. Materials should be properly labeled, and the work areas where the materials are to be used should be clearly identified.

Coordinate Hoist- and Crane-use Schedules
Be sure to carefully schedule the use of hoisting equipment to unload and position materials. You have to be rigorous with the time you allot to each delivery. If a delivery doesn’t reach your site as scheduled, the late delivery will probably have to wait until other scheduled hoist activities are completed.

Allot Specific Times for Each Stage of Work
All subcontractors working on a project have to agree up front that they will have the required number of craftsmen and tools/equipment available at a scheduled time to complete their part of the project. When their part of the project is completed, the subcontractors must agree to leave their area cleared of all debris and ready for the next crew and stage of the project.

Getting materials handling right is a profit issue. It requires time and effort on your part and the cooperation of those who work with you, but it can help add to your bottom line in the long run.
A systematic approach to handling materials on a job site can reduce labor costs, help keep projects on schedule, improve work quality, and provide a safer workplace.

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IRS and Independent Contractor Misclassification

IRS and Independent Contractor Misclassification

Companies that misclassify employees as independent contractors could have the IRS demanding unpaid payroll taxes. The IRS looks at three broad categories in determining whether a worker should be classified as an employee or an independent contractor. The categories are:

Behavioral Control
These are facts that illustrate whether a company has the right to direct or control how a worker performs a specific task, including:

If a company has the authority to tell the workers what jobs they were to do and how and when they were to perform that work, these are factors that indicate employee status.

Financial Control
These are facts that illustrate whether a company has the right to direct or control how the business aspects of the worker’s activities are conducted, including:
Which party invests in work facilities used by the individual
Unreimbursed expenses
Method of payment
Opportunity for the worker to realize a profit or loss
Services available to the relevant market

Example: If the company has the right to fire the workers, who are an integral part of its business, and the workers have no opportunity for profit or loss, the factors favor employee status not contractor status. Even though the workers are engaged on a per-job basis and are free to work elsewhere, the IRS has ruled they are employees not contractors in previous cases.

Relationship of the Parties
An independent contractor’s services are typically for separate and distinct projects. However, employees also may be hired on a seasonal or per-project basis. Factors that show how the worker and business perceive their relationship include the permanency of the relationship, the existence of a written contract, the provision of employee benefits, and whether the services provided are considered a key activity of the business.

Contact Us
The IRS looks at three broad categories in determining whether a worker should be classified as an employee or an independent contractor. If you need help in ensuring that your company correctly classifies employees and independent contractors, please contact us.

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Smart Strategies for Reducing Payroll Taxes

Smart Strategies for Reducing Payroll Taxes

Can employers reduce their payroll taxes without shedding employees? It may be possible if you implement certain strategies that can trim your tax burdens and boost your balance sheet.

Tax-savings strategies
Employers must pay Social Security, Medicare and federal unemployment taxes, as well as state unemployment tax in most states, on their employees’ wages. Collectively, these are called payroll taxes, and they can take a big bite out of employers’ pocketbooks.

To reduce your company’s payroll tax burden, consider these strategies:
Offer tax-exempt fringe benefits instead of more money
Even though you may want to reward employees with bonuses or raises, consider tax-exempt fringe benefits instead. You can deduct the cost of the benefits just as you would wages or bonuses, but you won’t owe payroll taxes on them. Employees also won’t owe income or payroll taxes on the benefits, and because they might otherwise have to buy these services with their after-tax wages, fringe benefits can also help their dollars go further.

Examples of tax-exempt fringe benefits include health benefits, education assistance, dependent care assistance, group term-life insurance, certain meals on the business’s premises and retirement planning services. Dollar limits and exceptions apply to some benefits, so consult your tax advisor before launching a benefits program.

Establish an accountable plan for employee reimbursements
If you reimburse workers for mileage, tools or other job-related expenses, those payments generally are subject to payroll taxes. But by establishing an accountable plan, you can avoid owing payroll taxes on those reimbursements (plus they’ll be excluded from employees’ taxable income).

Expenses need to have a business connection to be included in an accountable plan. Employees also need to provide you with proper documentation for each expense, generally including an expense report and a receipt, within 60 days of incurring it.

You can use the accountable plan to pay employees in advance for upcoming expenses, but employees must return any excess reimbursements within a reasonable timeframe, typically 120 days.

Use independent contractors when possible
Bringing on independent contractors can save you payroll taxes because these workers are responsible for their own taxes. You must be wary, however, of the pitfalls that come with misclassifying workers. If you have too much control over a worker, the IRS will consider the worker an employee, even if you’ve treated the worker as an independent contractor. This could result in back taxes, interest and penalties.

Typically, a worker who completes work related to your core business is considered an employee. Employers often use independent contractors for maintenance, sales or other noncore functions.

Before engaging potential independent contractors for a particular task, evaluate the degree of control you’ll have over the workers and look at how other employers classify workers who do the same work. If independent contractor status is warranted, have workers sign an agreement stating they are independent contractors and responsible for their own taxes, and issue a Form 1099 to each one.

Ease the tax pain
In addition to these strategies, discuss with your tax advisor additional ways to ease the payroll tax burden. Payroll taxes are a part of doing business, but with a little planning they can be much less painful.

Talk to Us
If you want to explore tax-saving options for your company, our firm can help make your plan more realistic and effective. Please contact us to discuss how we can help.
For more tax-related articles, explore our Tax Planning Guide.

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Make a 2013 IRA Contribution… Still

Make a 2013 IRA Contribution… Still

Tax-advantaged retirement plans allow your money to grow tax-deferred — or, in the case of Roth accounts, tax-free. But annual contributions are limited by tax law, and any unused limit can’t be carried forward to make larger contributions in future years. So it’s a good idea to use up as much of your annual limits as possible.

Have you maxed out your 2013 limits? While it’s too late to add to your 2013 401(k) contributions, there’s still time to make 2013 IRA contributions. The deadline is April 15, 2014. The limit for total contributions to all IRAs generally is $5,500 ($6,500 if you were age 50 or older on Dec. 31, 2013).
A traditional IRA contribution also might provide some savings on your 2013 tax bill. If you and your spouse don’t participate in an employer-sponsored plan such as a 401(k) — or you do but your income doesn’t exceed certain limits — your traditional IRA contribution is fully deductible on your 2013 tax return.

If you don’t qualify for a deductible traditional IRA contribution, consider making a Roth IRA or nondeductible traditional IRA contribution. We can help you determine what makes sense for you.

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Can I claim my elderly parent as a dependent?

Can I claim my elderly parent as a dependent?

For you to deduct up to $3,900 on your 2013 tax return under the adult-dependent exemption, in most cases the parent must have less gross income for the tax year than the exemption amount. Generally Social Security is excluded, but payments from dividends, interest and retirement plans are included.
In addition, you must have contributed more than 50% of your parent’s financial support. If the parent lived with you, the amount of support you claim under the 50% test can include the fair market rental value of part of your residence.

If you shared caregiving duties with a sibling and your combined support exceeded 50%, the exemption can be claimed even though no one individually provided more than 50%. However, only one of you can claim the exemption.

The adult-dependent exemption is just one tax break that you may be able to employ to ease the financial burden of caring for an elderly parent. Contact us for more information on qualifying for this break or others.

If you have questions, please let us know.