Personal Bad Debt

Empty Pockets

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In my last post I wrote about how to write off a business bad debt on your tax return.  Today, I’m going to explain writing off a personal bad debt.  For example, say you loaned your brother-in-law $5,000 to buy a house and he never paid you back.  That’s considered to be a “non-business bad debt.”


The key to claiming a personal bad debt is being able to prove that you tried to get your money.  For example, I paid a boatload of money to send my son to college.  He’s not paying me back.  To be honest, I don’t expect him to – that college money was never meant to be a loan so I can’t claim a deduction for money that I was never supposed to get back in the first place.


If you’re claiming a personal debt, you’ll need to show that the money really was a loan, that you were supposed to receive payment, and that the payment was not and will not be received.

Evidence such as a signed loan agreement and copies of collection letters are going to be necessary.  You don’t have to take the person to court – especially if you know that even if you win the court case you won’t get your money – but you do have to show that you tried to get paid.   So, using the brother-in-law example, first you’d want a signed agreement showing that he intends to pay back the $5,000.  Your agreement should show how he’s paying it back, and when.  When he doesn’t pay you, you’ll want to send him a signed letter stating that you expect him to pay you.  You will want to send that correspondence via certified mail, return receipt requested.  This gives you evidence of trying to extract a payment from him.


Remember: Without some sort of evidence that the money really was a loan, and that you tried to get paid – you can’t claim the bad debt.

As far as the actual reporting goes, it gets reported as short-term capital losses on Form 8949 part 1 line 1.  (Back in the old days that would be schedule D.  It will still show up on your Schedule D when you’re done, but you’ll be inputting the information onto Form 8949.)


You’d write your brother-in-law’s name in column a.  You’d put $5,000 in column f (that’s your basis), and you’d enter zero in column e (because it’s worthless now since he ain’t payin’ ya.)  Make sure you check the box “C” because you’re not getting a 1099B form for this debt.


When you write off a personal bad debt like that, you’ll need to attach a statement to your tax return that has the following: a description of the debt, including the amount and when it became due, the name of the debtor and any business or family relationship that you have with him, the efforts that you made to collect the debt, and why you decided the debt was worthless. (For example – maybe your brother-in-law declared bankruptcy or may you know that legal action to collect the debt would probably not result in payment.)


Because it’s being claimed as a capital loss – you’re going to be limited to the same rules as other capital losses as far as the amount of the debt that can be used to offset your other income.  So if the loan is the only thing that’s going to wind up on your Schedule D – then you’ll only be able to claim $3000 of the loss.  The rest will carry over to the next year.


If you only take away one point of this blog post it should be that you must try to collect the payment before you try to claim the bad debt as a tax deduction.  If you don’t try to collect, then the IRS can treat the debt as a gift and you lose out.

How Do I Write of a Bad Debt?

Take the Money and Run

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I recently received an email from a client about a bad debt.  It’s the second time I’ve gotten that same question in one week, so it seemed like a good idea for a blog post.


Here’s the question:  “I’ve had trouble collecting on a $500 invoice and I’m not sure it’s worth any more time and effort dealing with it.  Is there a way to write it off and get some kind of tax advantage?”



Now most of my clients, including the person asking the question, are on what’s called a “cash basis accounting” system. If you’re on a cash basis accounting system, it means that you don’t record income unless you actually receive it.  Same with expenses, you don’t count an expense that you’re going to pay, only ones that you’ve already paid.  In a case like this–you don’t have to make a special line item adjustment for a bad debt–it’s just not counted in your income in the first place.   So for this particular client, she doesn’t have to do anything (except fume over the dude who didn’t pay him for his work.)



But some businesses are on what’s called an “accrual” accounting basis–that’s where you count income as soon as it’s billed, not when it’s actually paid.  Usually, businesses that have inventories, like stores for example, use an accrual basis method of accounting.  With an accrual method of accounting, you’d report income as you billed it.  Using the example from above, if the business owner billed the $500, he would have already counted it as income, even though it didn’t actually reach his pocket yet.  For a business like that, you’d write the bad debt off as an expense.   There’s actually a line right on the corporation forms for “bad debt expense”.  While there’s no special line on the Schedule C for bad debts, you would just make your own line item for “bad debts” in part V–other expenses.



And that’s all there is to writing off a bad debt for a business.  Now if you’re dealing with a personal bad debt–like a loan to a relative that’s never going to get paid, that’s a whole other story.  I’ll write about those in my next post.

The Government Imposes Taxes to Make Us Behave the Way it Wants Us To (An Editorial)

White House

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The Government imposes taxes to make us behave the way it wants us to.  Whew!  That sounds like something one of my “nutjob government conspiracy type” friends would say, not me.  Except that it’s true.  If you don’t believe me, just take a look at the so called “sin taxes”.  You know, the extra taxes imposed on cigarettes and liquor.


The federal government taxes each pack of cigarettes by a $1.01.  Add to that the state taxes, here in Missouri, we have the lowest cigarette tax in the country at 17 cents a pack, but Washington State has a tax of $3.20 per one single pack of 20 cigarettes.  You really gotta want a cigarette to smoke in Washington.


Beer, on the other hand, only brings in 5 cents per 12 ounce can to the feds.  But a bottle of tequila will fetch $2.14 cents in taxes.  And that’s before adding in the state taxes!


So maybe you don’t smoke or drink, you might think these taxes don’t apply to you.  But it’s not just our sins that the government is trying to control; it’s our shopping behavior as well.  Think about the First Time Home Buyer Tax Credit–a nice chunk of change of up to $8,000 for buying a new home.  The energy tax credit–for making our homes more energy efficient.  And of course the energy efficient vehicle tax credit–for buying an electric or fuel efficient car.  All of these tax credits were intended to help various industries.


So maybe these programs didn’t apply to you either, but here’s one that probably did:  The Economic Stimulus Act of 2008.  Maybe you remember that’s the year that everybody got an extra $300 check in the mail.  The idea was that if everyone in America got an extra $300, they’d go out and spend it and that would jump start the economy again.  Unfortunately, that didn’t work.  A large percentage of the population used that money to either pay down their credit cards or add to their savings accounts–we didn’t get the consumer bang that the government wanted.  You might remember we later got the “Making Work Pay” credit, which basically gave us an extra $400 but it was doled out in our paychecks in tiny increments over the course of the year. People hardly noticed the increase in their paychecks, so the money just got spent.


The analogy that I think of here is that it’s kind of like having a $50 bill in your wallet.  I don’t get 50 dollar bills very often, so when I do get one I tend to hang onto it for awhile.  “I’ve got a $50 dollar bill, it’s special, and I don’t want to spend it!”  Now give me a $5 or a $1 bill and it’s gone.  My nephew calls it “blowing your money away.”  (He actually uses a slightly different phrase but I’ve been edited for my G rating.)    You understand though, it’s much easier to let small amounts of money slip through your hands than larger amounts.  So these little tax games have made us spend more money–without us even being aware of it.


And I have a problem with that.  I don’t like the idea of being manipulated for one thing.  But more importantly, I think our tax code sends a message about American values that I don’t think we as a country should be sending.  As a nation we talk about the importance of marriage and of children being raised in a two parent family–and then we pay a premium to unmarried parents through the Earned Income Tax Credit.  I don’t think it was intentional, but that’s what happens.  Young married families with two incomes get phased out of that tax credit, but if you don’t get married–then you get the money.  And it’s huge!  We’re talking thousands of dollars a year.  That’s a big incentive for not getting married.  Why are we doing that?


There’s already been lots of talk from the politicians about changing the tax code.  “Tax the rich”, “don’t tax the rich” those arguments can go on for hours.  But what I’m not hearing, and what I’d really like to hear, is where should our country be headed?  How do we get there?  How much is it going to cost?  And how are we going to pay for it over the long haul?  These quick-fix one-year only tax incentives aren’t the way to run a country.  And while the rich are very concerned about their taxes (and rightly so, they seem to have the most to gain or lose during this election) the tax code affects everyone; rich, poor, and middle class. We need long range planning, long range goals, and a long term tax plan.  Let’s bring the grownups to the table, drop the manipulation games, and get to work on a real solution.

Saving for Unemployment

Save Money

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I know what you’re thinking—don’t I mean saving for retirement?  That’s what everybody talks about, right?  Correct.  Everybody talks about retirement, including myself, but this time I really mean saving for unemployment.


Why?  It’s simple really.  Hopefully, unless we die first, we all get to retire once.  Some people go back to work, but it’s usually a “retirement job”.  But for those of us in the baby boomer generation (post World War 2, 1946 to 1964), according to the US Bureau of Labor Statistics, we can expect to be unemployed an average of 5.2 times over our working lifetimes.


Us Baby Boomers are all headed towards retirement already.  So if the Boomers experience an average of 5 bouts of unemployment—what about then Gen-Xers and the groups after them?  The Boomer generation experienced some of the greatest economic growth our country has ever seen—it’s quite possible that the younger generations could experience even more bouts of unemployment than we have.


So when I say you need to save for your unemployment, I am very serious.


Here’s what I’m seeing in the tax office.  People come to me to do their taxes after they’ve been laid off.  They have no savings so they dip into their 401(k)s to pay for groceries and stuff until they find a job.  They keep spending at the same level they did while they were still employed, but their 401(k) money often has no withholding and there’s a 10% penalty for taking it out too soon.  Tax time rolls around and they are stuck with a huge income tax bill—which they can’t afford to pay—so they take more money out of their 401(k)!  It’s a vicious cycle.  Sadly, there’s not much I can do to help here, especially after the damage is already done.


The big concern all these people have in common is that they did not have anything in their savings accounts when they lost their jobs.  That’s a big problem all across America—people don’t have money in their savings accounts!


Think about this:  Suppose your take home pay is $2,000 a month.  Let’s say your rent is $1,000 a month.  You spend about $500 a month on food and other necessities, and you’ve got about $500 extra that you play with.  (Yes, I’m making the numbers easy.)  Your bare minimum to survive is $1500 a month.  Now, if you have zero dollars in your bank account and you lose your job—well you’re in dire straits in less than 30 days, right?  You can’t make your rent payment.  But if you have been putting $200 a month away for the past year, you’d have $2400 in the bank.  At least your rent would be paid for another month and if you qualified for any unemployment benefits you might have 2 months worth of rent and food.  Having some savings set aside buys you an important commodity:  time.


Ideally, you want to have enough money to support you for at least six months of joblessness.  The fellow in our scenario above would want to have $9,000 put away. ($1500 of monthly minimum expenses times 6 months = $9,000.)  At $200 a month, that would take him almost 4 years of saving and I know that’s a little intimidating.  But baby steps are how you get there.  Everybody has to start someplace.  Unless you’ve already been saving, it’s going to take some time to shore up enough money to support yourself for half a year.  The big point here is to get started.


Pick a goal.  Don’t have one?  I’ll give you one.  Start with $1,000 in the bank.  $1,000 is way better than nothing isn’t it?  Gives you a little cushion, right?  If you’ve already got $1,000 saved, then your next goal is $5,000.  If the $1,000 is still too intimidating then your goal is $100.  You don’t even have to have the $100 in a bank—you can hide that under your mattress if you want. But by the time you get to $1,000 you really need to have a bank account.


Don’t get me wrong, it’s still important to save for retirement.  But statistically speaking, you’re five times more likely to be unemployed for awhile before you ever reach retirement age.  Oh, and what if I’m wrong and you never go jobless even once during your entire working career?  Well that’s okay, now you’ve got some extra money saved for your retirement!


Oh and a note from my editor:    Also know that you can deduct certain job search expenses as miscellaneous itemized deductions only if these expenses exceed 2% of your income and the job is in the same line of work as your prior one.  Such expenses include employment agency placement fees, resume expenses, travel and transportation expenses, and local and long distance phone calls.   And another note from me:  The IRS keeps telling us that all the time, but in real life I have very few clients who actually get any tax benefit from that deduction.  Keep your receipts, just in case, but for most folks, that deduction is pretty worthless.


DOMA Unconstitutional? Protecting Your Tax Rights

Gay pride 225 - Marche des fiertés Toulouse 2011.jpg

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The First Circuit Court of Appeals ruled that the Defense of Marriage Act (known as DOMA) is unconstitutional.  This issue certainly isn’t settled and is going to go to the Supreme Court.  The Supreme Court may or may not agree, but one thing I know is that it’s going to take some time.  That’s why, if DOMA affects your taxes, you might need to act now.


If you are a gay married couple, you haven’t been allowed to file a joint federal tax return because of DOMA.  If DOMA is overturned—then you can.  And, if DOMA is overturned—you can go back and amend old tax returns as far as three years.  You can amend a tax return from 2009 up until April 15, 2013.  After that, any refund you might qualify for is lost.


Here’s the catch—the Supreme Court might not hear the case for at least another year so you’d lose out on some of your refund money just because of timing.  But there’s a way to protect your interests now so that if the Supreme Court rules your way, you won’t lose out because of the timeline.


Sorry, but I’m going to get really tax geeky here.  If this applies to you, you might want a tax professional’s help.  Bottom line—if you would have benefitted tax wise from filing your return as “married filing jointly” then stick with me, it’s important.


You want to file amended tax returns for the tax years you were married with a “protective claim for refund”.  Basically, a protective claim for refund means that your right to the refund is contingent on future events.  In this case, you won’t have the right to claim your tax refund until the Supreme Court issues a decision on DOMA.  For your 2009 tax return, your right to claim that refund could expire before the Supreme Court makes its decision.


Basically, a protective claim is going to preserve your right to claim your refund even if the tax deadline has expired.  So if the Supreme Court makes its ruling after April 15, 2013–if you’ve filed a protective claim then you still have a right to your refund even though the statute of limitations for that refund has expired.


When you file your 1040x, you’re going to want to say in the explanation box that you are filing a “Protective claim for refund, contingent upon the US Supreme Court decision on the First Circuit Court of Appeals case regarding the Defense of Marriage Act, Gill v OPM.”


Generally, the IRS won’t do anything on your protective claim until the contingency is resolved—in this case, when the Supreme Court actually makes its ruling.


You will mail your 1040X with the protective claim for refund to the same address that you mail a normal 1040X.  It varies depending upon the state you live in, but it will be in the form instructions.


Definitely use certified mail, return receipt requested when you send your amendment in.  That’s your back up that you filed.


There aren’t that many people who will qualify to file these protective claims for refund returns.  I’m in Missouri, we don’t recognize gay marriage.  Illinois, next door just recognized it last year so there wouldn’t be any 2009 tax returns for gay couples.  And for some couples, filing jointly doesn’t really reduce their tax burden anyway so it won’t make a difference.  But if this could help you, then you need to know about it.


If you’d like to read the full case Gill v OPM, here’s a link:


One of the points it specifically references is federal income tax returns.

Is Your CPA Qualified to Do Your Taxes?

Adding machine

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Is your CPA qualified to do your taxes?  Now that seems like a pretty dumb question right?  Obviously CPAs do taxes and they’re smart so they can, right? So the answer should be yes.  But to be honest, the real answer is:  not always.  And that’s been a pretty hot topic lately among tax professionals.


Here’s the story—The IRS has cracked down on tax preparers.  They’ve started a new program where all preparers (even CPAs) must have something called a PTIN (Preparer Tax Identification Number) that goes on every tax return so they can be identified.  They’ve also started a program that all tax preparers need to pass a test in order to get paid to prepare income taxes.  People who pass the test are called Registered Tax Return Preparers (RTRPs).  In addition to passing the test, RTRPs are required to take 15 hours of Continuing Professional Education credits every year.


Some people who do taxes do not have to take the RTRP test.  Enrolled Agents (that’s what I am) don’t have to take the RTRP test because we already passed a series of tests that is more complex than the RTRP test.  We’re licensed by the Department of Treasury, and we are required to take 24 income tax continuing education credits per year.  Our licenses come up for renewal every three years, and we basically have our personal tax returns reviewed by the IRS before they grant us a new license.  Because of our training, we can do things that RTRPs aren’t allowed to do.  If you hire an EA, you know that person has had quite a bit of tax training and should be up to date on all the tax laws.


CPAs are another group that does not have to take the RTRP test.  Once again, they’ve already passed the CPA exam—which is an even nastier test than the EA exam.  (I often get into the EA versus CPA debate but I will concede that their test is harder than the EA exam.)  CPA stands for Certified Public Accountant but one of my CPA friends says it stands for “the test is so awful I Couldn’t Pass it Again.”  It is a bear of a test.  CPAs are licensed by their respective states.  They are also required to take continuing education credits to keep up their licenses—but here’s the problem—CPAs aren’t required to take any income tax education to maintain their licenses and  do tax returns.  None.


Many CPAs who prepare taxes take tax classes for their CPE credits—at least an update class.  Update classes are important because the government changes the tax laws so frequently.  There are hundreds of tax law changes every year—sometimes it seems like we get daily reports of new laws from Congress.  Anyone who doesn’t at least take an update class every year shouldn’t be doing tax returns.


And that’s where the problem with CPAs doing tax returns lies—the ones who don’t keep up with the tax law.  For every year that a CPA doesn’t update his tax education—there are more and more mistakes that happen.  Sometimes it’s a little thing like a $30 telephone tax credit, maybe it’s a little bigger like missing a $400 making work pay credit.  It was quite awhile ago now that the IRS changed the definition of a qualifying child for EIC purposes—you get that wrong on your tax return and you could be in big trouble.  It was back in 2005 that the IRS changed the “uniform definition of a child” and I’m still seeing returns being prepared under the old rules.  2005!


I had a little “conversation” with someone who had incorrectly prepared my client’s tax return.  (I was representing the fellow in an audit, but I hadn’t done the return.)  “Well Missy, I’ve been doing taxes for over 20 years now and I think I know what I’m doing.”  That was the problem—he didn’t know what he was doing, that’s why the client was being audited.  The tax rules today are not the tax rules of 20 years ago.  Heck!  They’re not even the same rules as last year!  (By the way, don’t call me Missy either.)


So how do you know if you’ve got yourself a CPA who knows taxes or not?  Unless the IRS decides to monitor CPA training or licensing, the only way to protect yourself from a CPA who doesn’t really know taxes is to ask questions, the big one being—did you take a tax update class this year?  Any CPA who takes tax season seriously did.  Any CPA who didn’t take a tax update class doesn’t—and you should walk away.


There are competent, qualified CPAs out there who do a great job of preparing tax returns.  Right now, there’s no way to tell who they are unless you take the time to ask questions.  Until the IRS decides to officially identify the CPAs who are qualified to do taxes, asking questions is your only defense.

Jury Duty Pay is Taxable


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Well that’s basically it. If you were trying to Google jury duty pay to find out if it’s taxable or not—here’s your answer. It is.

Usually when I make a blog post about something, it takes me a few sentences to get to the point. And this topic was so simple that I almost didn’t bother to write about it except that I just got back from the bank depositing my jury duty paycheck: $98.40! That’s for one entire week of jury duty. The going rate around here is $10 a day, $18 if you actually get put on a trial. They also reimburse you for mileage. Yeeehah!

As we commiserated around the jury room about our grand financial boondoggle, our jury foreman told us that the money wasn’t taxable, except he was wrong. You do have to pay tax on your jury duty income.

When you’re filling out your tax return, your jury duty income goes on line 21—other income. Most of the “do it yourself” computerized tax programs ask you if you had jury duty income and guide you through inputting it onto your return. It’s really not a big deal.

But what happens if you don’t put it down? Most people only get about $20 or $30 from their jury duty service. Will the IRS really go after you for missing that little amount of money? The thing is—yes, they will.

Now you have to remember that it’s not like some IRS agent is waiting to nab some poor innocent person who just happened to accidentally leave $30 off of his tax return. Believe it or not, they’re not vindictive like that. (Most of them aren’t anyway.) What really happens is that the big IRS computer does something called “document matching.” If your county courthouse issues you a 1099 for $30 and it’s not listed on your 1040, the IRS computer goes, “Whoopsies—this guys’ missing something,” and you’re going to get a nasty letter. (Okay, I’ve never really heard a computer say, “Whoopsies,” but you get my drift.)

So while a human would probably take a look and say, “Oh, I bet it’s just jury duty or something like that—it’s only $30, no big deal,” and skip right over it, the computer won’t. The computer will generate a letter saying that you didn’t report all of your income and that you need to pay additional tax. And that means paperwork, and IRS agents opening your file and looking. Now that probably isn’t a problem since you’ve got nothing to hide—except you’ve just neglected to report income in one area—what else aren’t you telling the IRS?

See how a simple little mistake can open a can of worms that shouldn’t even be a can of worms? So remember to report you jury duty income on your tax return. Don’t worry about the tax, you didn’t make that much on your jury duty pay to begin with. The tax won’t be that much.

Your Weird Business Idea: And Why it Might Not be So Crazy

Faith & Aaron w/ Clown Noses_2637

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Sometimes it’s a little eye opening to hear how someone else describes your job. I got that little “aha moment” the other day when my daughter explained my business as, “My Mom does taxes for people with weird businesses.”  Now that’s not entirely true–I have lots of clients with perfectly “normal” jobs, but it’s also fair to say that I have a higher percentage of clients with “non-traditional” businesses than some of my peers.
My foray into weird businesses started years ago, back when I was the “newbie” at the big tax company.  Basically, the way things worked there was that the senior preparers got their choice of the new clients and I got tossed the dregs–anybody they thought was an oddball that they didn’t want to deal with became my client.  And they were pretty picky–artists, actors, exotic dancers, magicians–they were mine. When the circus came to town and one of the clowns called up asking if he could get his taxes done while they were in St. Louis– his call got put straight through to me.  He shouldn’t have even been my client (all he had was a W2) but the receptionist heard “circus” and “clown” and obviously the call had to go to Jan.  I did the return anyway.  How could I resist doing a tax return for a real live clown from the circus?  Too cool!


And that’s the thing–these business returns that nobody else wanted to work on–I loved.  I got to meet really interesting people and solve some interesting problems.  Quite frankly, if you can make your bird disappear in front of a live audience, then I’m inclined to write off the birdseed as a business expense.  And while the IRS generally frowns upon claiming “make-up” as a business expense deduction, if you’re purchasing eye lash glue by the gallon and using it to glue your costume in place so that you don’t violate local decency ordinances–well then I think it is an ordinary and necessary cost of doing business.


It doesn’t matter whether you’re a lawyer, you own a flower shop, or you do standup comedy–at the end of the day you want to make enough money to put food on the table and a roof over your head. Business is business and you want to make a profit or you starve.


One of the biggest problems people with non-traditional businesses face is the perception that they’re going to starve if they go forward with that business idea.  Let’s face it; if everybody tells you your idea is bad–it kind of puts doubts into your head, doesn’t it?  And doubt can kill a business.


What if American Idol was around back in the 60s?  Picture Bob Dylan singing his heart out and Simon Cowell saying, “Well Bob, you seem like a nice enough young man and you play the guitar fairly well, but this is a singing competition and you’re just not cut out to be the next American Idol.”   (Go ahead, take a minute and insert your own favorite rock icon in there and how they get rejected, it’s kind of fun.)  The point is, Bob Dylan didn’t quit and he went on to make an indelible mark on American music.  (Okay, if you’re too young to know who Bob Dylan is–check out this link:


So what about you?  What’s your idea?  Is it crazy?  I would have thought Facebook was a crazy idea.  How much money did Mark Zuckerberg get out of that IPO? Billions!  Are you old enough to remember pet rocks?  Pet rocks are the gold standard of dumb, yet profitable, ideas.  Someone took plain old rocks, stuck them in a box and sold them as pets.  Everybody was buying them, it was nuts!  It was a totally stupid idea and I’m sure that guy laughed all the way to the bank.


One of the advantages of having a non-traditional business is that you have to be twice as organized to come across as being half as legitimate.  This is an asset.  An attorney walks into a bank, says he’s an attorney, and everybody thinks, “Oh, this guy knows something.”  While an attorney should know a lot about the law–some of them don’t know diddly squat about business.  You walk into a bank, say you’re a professional geese herder and you sure as heck better have your ducks in a row (couldn’t resist the pun) if you’re going to get financing from them.  (Yes, I know a professional geese herder–real business.  Awesomely cool.)  No one will take the geese herder seriously if she doesn’t know her stuff.  Sometimes that uphill battle gives you the extra edge you need.


The bottom line is–if your business idea is a little strange, it doesn’t mean it’s not good.  It could even be great.  But you’ve got to do your homework.  Know what it is you’re selling, who’s going to buy it, and how you’re going to get the product to the customer.  A lot of new businesses get tripped up in the idea that they are “unique” and they don’t fit the basic mold.  Here’s a tip for you–everybody is unique; everybody.  Here’s my other tip–if you can’t answer the questions, what do I sell, who do I sell to, and how do I get the product to the customer?  Then your business isn’t ready yet.


But if you know what you sell, who you sell it to, and how you get the product to your customer–then you’re in business!

Sole Proprietor: You Gotta Have a Home Office

Home Office

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Right now, I’m sitting in my comfy chair in the corner by the window of my home office and drinking a freshly brewed cup of coffee from my favorite mug.  The dog has done her security patrol of the perimeter, deemed me to be safe from the local deer and bunny rabbits, and has settled in for her morning nap. I’m having one of those, “This is why I’m doing this,” kind of moments and it’s nice.

As a tax person who specializes in small businesses, I get asked a lot of questions about different business practices–Should I set up an LLC?  I always answer, “That depends.”  Should I lease a car or buy it?  That depends.  Should I set up as a sub-chapter S corporation?  That depends.  You get the picture.  But when people ask me about a home office I always say, “Yes!  Every small business owner who files a schedule C should have a home office.”  My answer has nothing to do with the comfy chair and coffee either.  As usual with me–it’s all about the money.


A home office is good for your tax return.  First, you get to use a portion of your living expenses (that you would already be paying anyway) to offset your self employment income.  Remember–your self employment income is taxed at 13.2% more than your regular income tax so even something like your mortgage interest-which is already deductible, is a better deduction when it goes against your self employment income.  Kaching!

a home office is foThe other reason you want r your mileage.  Yes, you read that right–you want the home office deduction to claim mileage.  Here’s the deal–let’s say you’re a contractor, you drive to jobs all over town.  You probably put close to 20,000 miles on your truck a year for business.   You claim that on your tax return and get audited.  (Side note:  claiming exactly 20,000 business miles on your tax return will get you audited it’s a red flag.)  Anyway, you go through the audit process and the IRS disallows all 20,000 miles because you’re commuting to those job sites from your home and commuting miles are not tax deductible.  That’s over $3800 worth of tax money that you just lost right there.  Add the fines and penalties and you’re well over 5 grand in tax debt.

But if you had a home office–all of that mileage becomes deductible because ou’re traveling from your office to a job site.

But what if I don’t really have a home office? Seriously, you need to set something up.  It doesn’t have to be a whole room–it can be a corner of a room (like my comfy chair spot although most people have a desk or table.)  You can’t just say you have a home office on your tax return and not really have one.  (You’ve heard of fraud, right?)  Be be realistic.  If you have a small business–you’ve got something–files, or a computer, or make up, or something–and it needs to be put someplace.  You need a spot to make phone calls from, pay the business bills, do your adminsitrative work–that’s your home office.

Aren’t I more likely to get audited if I claim a home office? To be honest, I keep hearing that, but my experience says no.  The only time I’ve seen home office expenses audited was when they really were wrong and it was part of a broader audit.  (Oh yeah, and when I redid those numbers correctly the taxpayer got a bigger home office deduction.)  Be honest about it and you’ve got nothing to worry about.

But what if I have a real office in a business building that I go to every day? Can I still have a home office?  Yes you can.  You make your home office your administrative office.  Like I said, pay bills, balance the business check book.  I never meet clients in my home office, they always come to my “business office” location.  My business office doesn’t prevent me from having an “administrative” office at home.

If you’d like more information about claiming a home office, try this link: It has more information about the rules and what the IRS is looking for.  But seriously, if you’re a sole proprietor, you need a home office.