No Trespassing You don't need a rocking chair and a shotgun to keep the IRS off your property--taxwise, anyway.

The start of a new year is an opportune time to take inventoryor your business property and determine what you can do to trim thetaxes owed on those assets. A handful of strategies exist to helpon that front, some easier to accomplish than others.

For the most part, the personal property tax area is one thatgets short shrift, says Joe Huddleston, a partner with accountingfirm Grant Thornton LLP in Nashville, Tennessee. Too often, notesHuddleston, business owners overlook the tax impact of acquiringequipment and property for their businesses. "Businessescapitalize these items for federal tax purposes," he says."Once they've done this, the equipment goes on acompany's fixed-asset rolls and business owners begin to paypersonal property taxes on the assets. Too often, that's thelast time anyone considers them."

But regularly auditing these assets and properly classifyingthem can save you money. Too few business owners realize,Huddleston points out, that it's possible to trim acompany's overall property tax rate by 5 to 15 percent annuallyif an effective tax auditing plan is put into effect.

Joan Szabo is a writer in Great Falls, Virginia, who hasreported on tax issues for more than 14 years.

Unbundling Means Saving

One helpful strategy that's now gaining in popularity isknown as "unbundling." Here's how it works: When youpurchase new equipment, ask the vendor for an itemized bill thatseparates tangible costs from intangible costs. Tangible propertyis anything you can touch, hold or feel, says Huddleston.Intangibles relate to any copyrights, patents or trademarksincluded in the equipment's purchase price. In a number ofjurisdictions, you're only required to pay taxes on tangiblepersonal property.

If you've just purchased a new piece of processing machineryfor $200,000, for example, make sure the vendor unbundles thepurchase, itemizing all the costs. The bill would indicate the costof the hardware was $150,000, the cost of the engineering anddevelopment portion was $25,000, and allocation to overhead was$25,000. If you're in a jurisdiction that doesn't assesstaxes on the intangible costs, you'll only pay tax on $150,000,since the remaining $50,000 is considered intangible property.

To determine how your state treats tangible and intangiblecosts, check with your tax advisor. You may also need to seekadditional help. "This is such an evolving area that aspecialist who knows the current statutes and regulations ontangible and intangible property in any give jurisdiction is oftennecessary," says Huddleston. You can find such specialists atany big accounting firm.

Many states also provide property exemptions for software andequipment used in research and development manufacturing orpollution control. So it pays to stay abreast of these regulationsas well. Your state revenue department routinely puts out noticesabout these types of changes.

If you recently bought equipment but were unaware of unbundling,there's good news: It's possible to unbundle equipment youalready own. Ask your vendor to provide the necessarydocumentation, and then you may be able to apply for a refund. Ifyou can't be bothered with the refund process, unbundle thecosts anyway to lower the value of the equipment. This will helplower your taxes in future years.

When it comes to computers and other high-tech equipment, manyjurisdictions have specific provisions that apply to hardware andsoftware. In California, for example, all software is nontaxable.In Florida, embedded software is taxable; all other software isnontaxable. In Georgia, all software is taxable. Here again,it's a good idea to check with your tax advisor concerning yourstate's exemptions in this area.

In addition to the unbundling strategy, consider this simplechecklist of dos and don'ts:

• Do a quick audit to identify assets your business is nolonger using. Be sure to erase those items from your books soyou don't end up paying taxes on equipment that's justsitting idle. Once you've identified your unused equipment,sell it or donate it to a charitable organization.

• Don't double-count repaired equipment. What oftenhappens, says Huddleston, is a company may customize equipment, addto it or repair substantial pieces. When those additions andrepairs are made, the old pieces need to come off your list ofpersonal property, but too often, businesses overlook this step. Asa result, they end up paying a higher personal property tax on theequipment than necessary.

• Don't assume that fully depreciated assets such asequipment are exempt from annual personal property taxassessments. As long as the assets are on your books, stateswill assess a tax on these items.

One way to reduce the personal property tax you have to pay on apiece of equipment that falls into this category, says Huddleston,is to have a subsidiary buy the equipment for fair market value.Then lease the equipment from the subsidiary.

• Do properly classify assets for depreciation purposes.Classifying items into specific categories, such as high-techequipment, will help you keep track of their specific depreciationschedules. Those with shorter life spans will have reduced assetvalues and thus lower personal property taxes. Computer equipment,for example, can be depreciated at a faster rate than manufacturingequipment or office furniture because it becomes outdated orunuseful so much quicker. Also, equipment subject to unusual wearand tear may also qualify for faster-than-normal depreciation.

The message here, says Huddleston, is clear: Don't just buya business asset and forget about it. A lot of businesses can drivedown their effective tax rates by simply doing a regular review oftheir fixed assets.

Do As You Like-Kind

In addition to trimming personal property taxes, you may want toreview your real estate or other large property holdings andconsider what the likely tax consequences will be if you decide tosell the assets. In most cases, if you have a building or piece ofland that has substantially appreciated in value, you'll face ahuge tax bill when you sell.

One way to defer the taxes you owe is to use like-kind exchange.With this strategy, you exchange your property for some otherproperty you want to acquire without recognizing current incometax. The term "like-kind" refers to the nature andcharacter of the property. It means that undeveloped land can beexchanged for developed property--but you can't defer gains onintangible interests in property, such as partnerships or limitedliability companies.

To accomplish an exchange, you'll need an intermediary tocarry out the transaction and set up a trust to hold the money fromthe exchange. The individuals involved in the exchange neveractually receive cash.

"With a like-kind exchange, you assign the property to theintermediary, who sells it to a third party. The intermediary willbuy the property you want and transfer it to you," explainsMaury Golbert, a tax manager and attorney with the New York Cityaccounting firm David Berdon & Co. LLP. In most cases, you canlocate an intermediary who will accomplish the exchange for a fee,he says. The fee varies according to the size of the transactionbut usually starts at about $1,500.

A like-kind exchange works especially well for entrepreneurs whoare looking to expand their operations, says Susan Jacksack, a taxattorney and small business analyst with CCH Inc., a Riverwoods,Illinois, provider of legal, tax and business information. Forexample, a business owner with a small office building who needs alarger one to accommodate company growth is a good candidate forthis type of exchange. "With a like-kind exchange, owners canexchange their property and throw in some cash to receive a pieceof property they want," Jacksack explains.

If you add cash to the exchange to obtain a more expensive pieceof property or building, that amount is added to the tax basis orcost of the new property. This is especially beneficial from a taxstandpoint: By increasing the basis in the new property, the ownerends up with a greater sum to depreciate, Jacksack points out.

If you're on the receiving end of the cash, however, youmust recognize taxable income on the money received in thetransaction. For example, in an exchange, you get property worth$900,000 and $100,000 in cash for a piece of property valued at $1million. The tax basis is $100,000. Of the $900,000 gain realizedon the sale of the property, you would have to recognize $100,000as taxable.

There are also a number of technical requirements involved inlike-kind exchanges, says Golbert. If you decide to use thelike-kind exchange strategy, be sure to work with a tax expert whospecializes in that area. For example, the IRS will crack down onefforts to refinance a piece of property before a like-kindexchange takes place. Taxpayers often try to do this so they cantake cash out of the property before making the exchange. "Thegovernment doesn't approve of that and may assess tax on themoney received," Golbert explains.

For the most part, like-kind transactions take some time toaccomplish, especially when it comes to finding the property neededfor the exchange to take place. Fortunately, the IRS has takenthese factors into consideration. Under its regulations, anexchange doesn't have to take place simultaneously; it can beaccomplished over a six-month period.

If you're in a position where a like-kind exchange wouldbenefit your tax situation, take the time to consider it. SaysGolbert: "This technique not only defers tax, but it can beone of the most economically effective ways to diversify andimprove your holdings."

Contact Sources

CCH Inc.,http://www.toolkit.cch.com

David Berdon & Co. LLP, (212) 832-0400

Grant Thornton LLP, (615) 242-6566, http://www.grantthornton.com