Tax Planning for HVAC, Plumbing, and Electrical Contractors: Vehicle Deductions, Inventory, and Service Agreement Income

Trade contractors (HVAC, plumbing, electrical, and similar skilled trades) are among the most favorably taxed small businesses in the U.S. because they combine three advantages: (1) they aren’t SSTBs, so the full 20% QBI deduction under IRC 199A is available at all income levels, (2) they’re equipment and vehicle-intensive, generating significant Year 1 depreciation deductions, and (3) they can use the cash method of accounting (for businesses under the $32 million gross receipts threshold), which allows them to defer income recognition until payment is received. The vehicle deduction is particularly valuable for trade contractors because service vehicles are used almost exclusively for business, and vehicles over 6,000 lbs GVWR (which includes most work vans and trucks) qualify for 100% bonus depreciation with no luxury auto cap.

How should trade contractors minimize their taxes?

Which HVAC, plumbing and electrical costs need a second look?

Vans are the first place to look. Once you’ve taken bonus depreciation or Section 179 on a service van, that van can’t use the standard mileage rate, so fuel, repairs and insurance are the deduction. The standard rate also isn’t allowed once you use five or more cars at the same time.

• Driving from home to your regular shop is commuting, which generally isn’t deductible. If your home office is your principal place of business, trips from home to job sites in the business do count.
• Meters, gauges and hand tools costing $2,500 or less per item or invoice can be expensed under the de minimis safe harbor, but only with the annual election on a timely filed return and matching treatment in your books.
• Workers’ compensation for your technicians and general liability coverage are deductible. A reserve you set aside to self-insure isn’t.
• Keep a mileage record as you go for any vehicle on the standard rate. Records made at or near the time carry the most weight.

What is the look-back rule for construction contractors?

The look-back rule (IRC 460(b)) applies to long-term contracts reported under the percentage-of-completion method. When a contract is completed, you recalculate income for each prior year as if you had known the actual total contract price and costs from the beginning. If you underreported income in a prior year (because estimated costs were too high), you owe interest on the tax shortfall. If you overreported, the IRS owes you interest. The calculation is done on Form 8697. The de minimis exception exempts contracts completed within 2 years and with a gross price under $1 million from the look-back computation.

This guide is general information, not tax advice for your specific situation. Which points apply, and how, depends on your facts.