Category: Self Employed

Posted on by Jan Roberg

Tax Tips for Performers

Are You A Hobby or a Business?

Many performers don’t think they have a real business – they’re just doing a few shows on the side, it really is more of a hobby than a business.  And if you’re just getting paid in cash by private citizens that’s fine, you can get away taxwise with being a hobby.  But, if you’re working through a company and you earn over $600 in a year, then you’re required by law to receive a form called a 1099NEC.  And if you receive a 1099NEC, the IRS pretty much treats you like a business. 

So the question becomes, at what point does your performing become a business instead of a hobby?  A lot of your decision may be based on taxes.

 

Hobby Income Taxes  

Hobby income is taxed at your regular income tax rate.  It goes on line 8 on the Schedule 1 of the 1040 tax return.  Now in the past, you might have been able to deduct some of your hobby expenses but that option is no longer available.   So, if your federal income tax rate is 22%, and you earned $5,000 on your performing, then your tax on that $5,000 will be $1,100.

 

Business Income Taxes  

Business income is taxed at your regular tax rate plus the self-employment rate.  The self-employment rate is 15.3%.  So, if you’re in the 22% tax bracket, the tax rate on your performing income would be 37.3%.  That means that the $5,000 you made income would now be taxed $1,865.  Which sounds awful at first blush.

But the advantage to being taxed as a business is that you get to write off your business expenses directly against your income.  Let’s say you had $3,000.00 in business expenses, then your tax would only be $746.

 ($5,000 income – $3,000 expenses = $2,000 net income to tax)

($2,000 taxable income x 37.3 percent tax rate = $746 in taxes)

If you have business expenses, being able to claim your performance income as a business can be a good thing.  This is especially true if you have a business loss.  You can use your self -employed business loss to offset other income – like wages you receive from another job – on your tax return.  Be sure to read about QBI further on though because there’s more to business taxes than just this.)

1099NEC   If you receive a 1099 NEC, the IRS will automatically count you as being self-employed – even if you have another job somewhere else. 

 

 

What will be different about your tax return if you’re a professional performer instead of a hobby performer?

 

You won’t need to incorporate or file a special business return.  Most people will just include their performance income on a Schedule C form which becomes part of your 1040 tax return.  It will show your business income and expenses. 

Form Schedule SE will show your self-employment tax owed.

 

Common Tax Deductions for most Small Businesses

 

Most small businesses have these deductions on their tax returns:

  • Advertising
  • Home Office expense
  • Mileage
  • Supplies, etc.

The important thing to know is that as far as the IRS is concerned, you may deduct an expense that is ordinary and necessary to your business.

A few exceptions to the ordinary and necessary:  you might need nice clothes for an audition or an interview show – but clothing that you can wear in a normal situation cannot be deducted.  It’s one of the most common questions I get which is why I put it up here.  Costumes, on the other hand, are deductible.

 

Your two best Tax Deductions

 

The two best tax deductions for a small business owner are the Mileage and Home Office (Studio) deductions.  These deductions are great because they are expenses that you already are paying for anyway.

 

Mileage

If you want to claim mileage, you must keep a mileage log.  For every business audit I have ever worked on – the IRS requested the mileage log.  The IRS wants to know how many total miles you put on the car, not just your business miles.  This is the most forgotten about issue but it’s really helpful to know.  You can get a free mileage log on our download page

Super Silly Tax Tip:  When you’re watching the Rose Parade (or football game or something that you know you do every year) write down the mileage on your odometer on January 1st and stick that number with your tax records. This way you’ll be able to figure your total mileage for the year – just subtract last year’s odometer.

 

 

Home Office

 You don’t need a desk and a computer for your home office.  It could be a storage space for your supplies, the place where you do your work, or the room you keep your product or supplies in.   It doesn’t have to be a separate room in your house, it can be a section of a larger room.  It can also be very small. 

The most important reason for claiming a home office is so that you can claim your mileage to your gigs.  The important issue is “regular and exclusive”.  Maybe you work in your kitchen – that’s fine but you can’t claim your kitchen as a home office because you cook dinner there.  You have to use a space exclusively for your business in order to deduct it.  So, if you work in your kitchen, you need another space to maybe store your supplies that you can claim as your “exclusive” working space.

 

 

Should you become an LLC?  

Generally, performers tend to be “individuals”.  An LLC is not required.  An LLC is a limited liability company.  The idea is that your liability – meaning if someone wants to sue you – is limited.  If you decide to become a Limited Liability Company anyway there are rules you must follow.

 

  1. Get a Federal EIN number.
  2. Set up a bank account for the LLC.
  3. Run all of your business income and expenses through that bank account.

If you don’t do all those steps, you’ve “pierced the veil” of the LLC and you’re just wasting your time and money.

“Piercing the veil” means that someone could still sue you personally even though you have an LLC.   If you’re not going to bother with the separate bank account and getting a separate EIN number, you’re not protected by your LLC. 

In most cases, a decent business insurance policy might be all you need.  But if you decide you want to set up an LLC, it only costs $50 in the state of Missouri.  It only takes about 10 minutes to do it online. 

If you choose to become an LLC unless you make a special election to be taxed differently, you would still claim your business income on a Schedule C like an individual.

 

 

DBA Doing Business As  

You might have a business name that you want people to use, like “Willie’s Writings”.  You can file paperwork for “doing business as” with the Secretary of State’s office.  It only costs $7.00.  That way you can receive checks under your business name instead of your own name.

 

A word about making Estimated Tax Payments

 

If your business is successful, you’re going to be making money.  And if you make money – you have to pay taxes.  If you’re going to have a tax balance due of more than $1000.00 federal, you should start making estimated tax payments.   A good rule of thumb – if you make over $6,000.00 after deducting your expenses then you should make estimated payments.

It’s easy. You can go online at IRS.gov and click on “Pay”.

 

The Qualified Business Income Deduction

QBI – What you need to know about your business income for 2021

As a small business owner, there is something called the Qualified Business Income Deduction.  QBI for short.  QBI is a 20% deduction off your business income from your taxable income.  It’s really pretty awesome.

Simply speaking – remember that example above where you have $5,000 of income, but after expenses you only had $2,000 of taxable income?  Well, with the QBI deduction, you still pay your self-employment tax on the full $2,000 – so that’s 15.3% = $306.

But then, you get to deduct 20% from the $2,000 before you pay the regular tax.  In this example you’d take 2000 – 400 = 1600, then take 1600 times 22% and you get $352.  So, really, instead of paying $746 like in the earlier example, you’ll only pay $658 – a savings of $88.  

That doesn’t seem like much, but if you had a net income of $50,000, at the 22% tax bracket you’d be saving $2,200!  The QBI can be a really important tool for you. 

But not everyone can qualify for the QBI deduction.  For an automatic QBI deduction – meaning – you don’t have to jump through any hoops to qualify, a single person would have to have income below $164,900.  A married person would need to be below $329,800.

You might be thinking – I’m just starting out as a performer, I’m not Johnny Depp.  I don’t make anywhere near those numbers.  But I’m talking about your total income.  So, if you’ve got a day job, or a spouse with a high income, your QBI deduction could be lost.  (For what it’s worth, Johnny Depp doesn’t make anywhere near $329,800 – he makes a lot more!)

But there are strategies for QBI if your income exceeds those limitations.  That’s where it makes sense to talk with your accountant about what’s best for your situation. That’s really outside the scope of this little blog post.

 

 

Posted on by Jan Roberg

Should Your LLC Be an S Corporation?

When should you be an S Corp?

If your small business has reached the point where your self employment taxes are really hurting you, choosing an S Corporation status might be the answer to your problem.

 

If you own a single member LLC, the IRS considers that to be a “disregarded entity.”  That basically means there’s no such thing as an LLC tax return.  So, if you don’t make an “election” to taxed some other way, you’re taxed as a sole proprietor on your 1040 personal tax return.  That means, you not only pay income tax on your LLC income, you also pay self employment tax on top of it.  Ouch!

 

But as a disregarded entity, you may make an election to be taxed as an S corporation (or even a C corporation if you want to) instead of being a sole proprietor.  So how do you know you might be ready to be an S Corp?   Here’s my top three criteria:

 

1.  Steady net income.  If you have a loss on your business, that business loss can offset your other income on your tax return.  One of the big benefits of an S corp is to reduce your self employment tax.  If your business has a loss, you’re not paying self employment tax anyway so the S corp status wouldn’t provide much benefit there.  A good rule of thumb, but certainly not a deal breaker, is to have a net income of about $50,000 to make the tax savings be greater than the additional cost of separate tax returns and payroll expenses.  I work with business that have losses and still are S Corps.  The $50K income isn’t a requirement, it’s just sort of a break even point on costs.

 

2.  Separate Employer Identification Number (EIN)  and bank account.  If your business is set up as an LLC, you should have a separate EIN and a bank account for your business already.  I’m always surprised by people who skip this step, but it’s important.  You can get an EIN number for free, online.  It takes about 5 minutes.

 Learn more here.

And you really need a separate bank account.  You don’t want to co-mingle your business funds with your personal money.

 

3.  Discipline to make monthly payroll deposits and quarterly reporting.  One of the requirements of an S Corporation is that the owner has to pay him or herself a reasonable wage.  That means, even if nobody else works for you, you still need to write yourself a paycheck and pay yourself like an employee.  If you’re already making your quarterly estimated tax payments–you’re probably able to handle doing a payroll.  If you’re scrambling every year, you can’t keep on schedule etc, then I say don’t do the S corp.  Not being up to date on your estimated payments can be a problem, but the IRS can get really nasty if you’re behind on payroll tax deposits.

 

If you have no discipline, and your business easily has enough revenue to handle the payments–and still want to do the S Corp, then pay the extra money to hire a payroll company to do it for you.

 

Setting a reasonable wage is usually the most difficult thing to determine.  You want to go by what a person in your line of work would get normally get paid, that’s not always easy to figure.  You should probably have your wage be at least 1/3 of your net income unless you can document that people in your line of work usually make less.

 

Now, these are just my guidelines.  There’s really no “set in stone” criteria for S Corp status.  And really, before you make any change to the status of your business, what you really should do is run the numbers.  Sit down with your tax professional and – using the most recent tax return – run the business numbers as if you were an S Corp, a C Corp, and as a sole proprietor.  Don’t forget to include the costs of your payroll taxes when running the numbers.

 

Everybody’s situation is a little different.  Compare your numbers side by see to see if changing to an S Corporation makes sense for your small business.  That’s really the best way to tell.

 

 

 

Posted on by Jan Roberg

Getting a 1099MISC When You’re Not Self-Employed

Portrait Of A Mature Man On Painting Wall With Roller

 

If you receive a 1099MISC document in the mail, and there’s a dollar amount listed in box 7 for Non-employee compensation, the IRS treats that as self-employment income and you’re supposed to pay self-employment tax on that income.  If you own your own business, that’s perfectly normal.  By the way, I’ve got lots of blog posts and tax tips for self-employed folks on this web-site so be sure to check those out.  I’ve got a list at the bottom.

 

But what if you’re not self employed?  Really not self-employed.  You’re stuck with a document that basically requires you to pay extra tax, what do you do?

 

First, only dollar amounts in box 7—count as non-employee compensation.  If you received dollar amounts in box 1 for rents or box 3 “other income” you don’t have to worry about the extra self-employment tax.  The rent goes on your Schedule E for rental income and the other goes on line 21 of your 1040.

 

But let’s get back to that non-employee compensation again.  What did you do to earn that money?  Is it in your field of work?  If the answer is yes, then it’s going to count as self-employment income even if you don’t think of yourself as being self-employed.

 

I’m going to use my friend Rick as an example.  He works for another tax company and he’s very good at what he does.  Every year, Rick gets laid off on April 15th.   My company stays open all year round and sometimes I’m super busy in September and October.  I could probably use some extra help around then.  If I hired Rick to help me with some tax returns, I’d give him a 1099MISC for the money I paid him and he’d have to report that as self employment income.   Even though Rick normally works for another company, he’s still in the business of preparing taxes.  The money I pay him for tax prep would definitely be considered self-employment income.

 

But let’s say I hire Rick to paint my office instead.  Rick’s not a painter, he doesn’t do that as a business, he’s just helping me out because I need my office painted and I’m helping him out because he needs the money.  We’re friends.  Painting is not his line of work.  So technically, he’s not self-employed and he shouldn’t have to pay self-employment tax on that income.  It’s a one shot deal never to happen again.  How do you account for that?

 

Well, it used to be that if you received a 1099MISC for non-employee compensation for under $1000 and you put that amount on line 21 of your 1040—the IRS would let that slide and not audit for self employment tax.   But starting with 2013 tax returns, the IRS has announced that they will send notices to anyone with 1099MISC income (with non-employee compensation) on line 21 instead of putting it on a Schedule C—where it will be taxed with self-employment tax.

 

There’s no box to check or form to fill out with your 1040 to say, “Hey, I’m not self-employed!  I shouldn’t have to pay self-employment tax!”  So what do you do?

 

You’ve basically got two options:

 

One:  Claim the income as business income and write off any and all expenses associated with the job.  This is going to be the best choice for people who have expenses with a job like mileage or supplies.

 

Or, two:  File your 1040, pay the self employment tax, and then file an amended return 1040X taking the income out of self employment and putting it on line 21 with the explanation that you are not self-employed and the income should not have been subject to self employment tax.

 

Why do this as an amendment instead of doing it that way the first time?  Because the IRS has already announced that they are sending letters out to anyone who puts 1099MISC for non-employee compensation income on line 21.  And they charge fines and penalties for underreporting your tax.

 

By filing and paying the self-employment tax first, then amending, you’re giving the IRS the opportunity to examine the situation and make a determination.  You may win, you may lose.  But if you win—the case is closed and they won’t come back at you.  If you lose—it doesn’t matter.  You already paid the tax and they can’t fault you.  No harm, no foul.

 

Most people who receive a 1099MISC for non-employee compensation are going to be considered self-employed by IRS standards.  You may as well file the schedule C with your tax return and pay the self-employment tax.   If you think you might be an exception give us a call, we can help you sort out your options.

Posted on by Jan Roberg

Small Business: Proving You Have Income Without a 1099-MISC

Good records will prove your income to the IRS.

For some small businesses a simple wire bound receipt book is all you need to substantiate your income.

 

 

Now some people may be wondering, “Why would I want to prove I have more income than I have to?”   But for many small business owners, that’s exactly the problem—you have income, you want to report it to the IRS, and you’re having a hard time proving it.  This post is for you.

 

The number two reason for reporting your non-1099 income  (number one of course being basic honesty) is qualifying for the Earned Income Tax Credit.  2011 sort of hit small business owners who normally qualify for EIC with a one-two punch.  We had the new 1099 reporting requirements that upped the ante for so many businesses, and we had the new EIC tax preparer due diligence rules with one of the questions being “Do you have forms 1099-MISC to support the income?” With the next  question being, “If not, is it reasonable that the business type would not receive Form 1099-MISC?”  Here’s a clue:  if you answered NO to the first one, you have to answer YES to the second.

 

So what types of businesses wouldn’t normally receive a 1099?  Bunches of them!  Face it, if you’re reading this—I’m guessing that your business doesn’t receive 1099s.  Generally, it’s reasonable to expect that anybody who works for other people, as opposed to other businesses, would not receive a 1099.  House cleaners, dog walkers, handymen, lawn mowing services, daycare  providers, interior decorators, and even income tax preparers are all types of business that could easily never see a 1099.   (Yeah, me too!  Although I’m now getting 1099k forms because I take credit cards, I don’t get 1099-MISC for preparing personal tax returns.  Maybe I’ll see some 1099-MISC forms from some of my business clients this year, but I never used to get them in the past.)

 

So, how does a small time personal service provider prove his or her income to the IRS?  There are a couple of things you can do.  I’m going to start with my favorite:  the business bank account.  This is what I do and several of my clients do it too.   (Okay, because I’m their accountant and this is what I tell them to do.)   Get an Employer Identification Number (EIN) for your business and set up a separate bank account for your business in your business name.  Only business income goes in, only business expenses go out.  You may have to put some of your own money in for a start up, and once you’re making money you’ll take out a draw, but you’ll label those as such.  Other than those two items, your business checking account is pretty much your profit and loss statement as well.  Now for a bigger company that would be over simplifying things, but for us little folks–I’m spot on.  See this post for more information about getting an EIN number:  Free EIN

 

Why does this make good proof?  Because you’ve got a monthly record of your income and expenses.  I also have deposit slips to back it up:  Mary Jones paid me $200, Fred Smith paid $250.   It’s a good solid audit trail.  Here’s another post about bookkeeping and your business bank account:  Banking and Bookkeeping

 

But what if you don’t have a separate account?   Maybe your business is just too small to bother with the expense of an extra account.  What if you’ve just got something really simple like watching the little neighbor kid for a couple of hours after school every day.  There’s no contract, no business cards, no advertising.   You get $100 a week from your neighbor friend.  She pays you in cash—it never sees the inside of a bank because that’s your grocery money.   It’s not much but it supplements your child support.  How do you prove that kind of income?

 

The easiest way to prove your income if you provided child care is to have the person you provided it for claim your services on their tax return.  You make them a daycare receipt, just like the ones regular day cares do showing the name of the child, how much they paid you and your EIN number.  (You can use your social security number but I never recommend that.  You can get an EIN number for free.  Protect yourself.)  This is doubly good because the IRS will get confirmation of your income from an outside source.  You prove income, your customer gets a tax deduction, it’s a win/win situation.

 

But what if your business isn’t day care?  What if you did something like mow lawns around the neighborhood and shoveled snow in the winter?  Nobody’s going to be claiming you on their tax return, what can you do?  In your case, I like receipt books.  You can find different kinds at Office Max or any office supply store.  I like the ones with a carbon copy—one for you, one for your customer.

 

Now if you have just one customer and you’re always going to the same place—you can just use the little one that just has a couple of lines and the amount on it.  You might write, “Mowing, Mr. Jones, $30, 5/15/2012” on it.  You know what you did, who you did it for, how much you got paid, and when.  If you have multiple customers you’ll want the larger receipt books that include the address and phone number of the customer.  If you do different types of jobs for different people, you might need the bigger ones so you can write down the type of work that you did for them as well.

 

You don’t have to have a 1099-MISC to prove your income to the IRS.  You just need to have a system in place to document your income and you’ll be fine.

Posted on by Jan Roberg

Tax Tips for Daycare Providers

jungle gym dialogues

Photo by Angela Vincent on flickr.com

First things first, let’s tackle the big “problem” many daycare providers have – licensing. The IRS demands that you report all of your daycare income, but if you’re not licensed, you don’t qualify to claim any of the deductions. Now the whole licensing thing varies by state. Here in Missouri, you do not have to have a daycare license if you care for four or fewer children who are not related to you. If you’re exempt from licensing requirements for your state, then you’re qualified to claim all of the federal tax deductions relating to your daycare business. Different states have different rules. Just across the river in Illinois, the licensing requirements are much stricter. Be sure to look up the rules for your state before you claim daycare deductions.

Your daycare income will go on a form called Schedule C which will be part of your regular 1040 tax return. You are required to pay self-employment tax on your daycare income; that will be 13.3% for 2011, generally it’s 15.3%. Self employment tax is in addition to your regular income tax, so you can see why claiming your expense deductions can come in kind of handy.
The first, and probably the biggest, daycare deduction is for the business use of your home. That’s going to go on a Form 8829 and it’s going to be linked to your Schedule C. You won’t be able to deduct all of your rent, utilities, and expenses, but you’ll be able to deduct a portion of them as a percentage of how much of the home the kids have access to and how long you’re open. Kids put a lot of wear and tear on your home so definitely take advantage of this deduction.

Another big expense for many daycares is food. You can deduct as a business expense 100% of the cost of the actual food the kids you care for eat. If you’re doing your taxes yourself when you’re looking at the actual Schedule C form, there’s a section for “meals and entertainment” –you don’t want to use that line. That only gets counted as a 50% expense – that’s for sales people taking clients out to lunch and stuff like that. You’re going to want to put the food for kids on a separate line in the “other” expenses category. Call it “food for kids”. (Okay, that seems pretty “duh” but I didn’t have a better way to say it.)

If you get reimbursements under the Child and Adult Food Care Program of the Department of Agriculture, that’s not taxable unless you get more money than you actually pay out for food for the kids. Usually, you’ll get a 1099 showing you received a payment. If that’s the case, you must report it as income on your Schedule C, but then you’ll deduct the cost of food in the expense category. (If you get a 1099 and don’t show it as income, you’ll get a nasty IRS letter—that’s why you want to show it on the Schedule C even though it’s not supposed to be taxable.)
If you’re deducting food, keep separate receipts for your daycare food from your family food. (Right, I know, that’s not easy.) But remember, you can’t take a deduction for the food you feed to your own family. Now let’s get real: you just shop and buy groceries for your daycare kids and your family in one fell swoop don’t you? (Okay, that’s what I’d do, and I’m one of those anal retentive accountant types!)

Here’s how you solve that problem. The IRS has official “snack and meal rates”. Granted, they haven’t been updated since June of 2010 but I’ll work with what the IRS gives me. The rates are as follows:

  • Breakfast: $1.19
  • Lunch: $2.21
  • Dinner: $2.21
  • Snack: $0.66

Alaska and Hawaii have different rates:

  • Alaska: $1.89, $3.59, $3.59, $1.07
  • Hawaii: $1.38, $2.59, $2.59, $0.77

So let’s say you take care of Oliver 5 days a week. His parents take care of breakfast and dinner, but you do provide lunch and a snack every day. Oliver stayed home two weeks over Christmas and one week over Easter, other than that you’ve had him all the other days. You take $2.21 for lunch and add $0.66 for lunch and that makes $2.87. That’s what you spend on Oliver’s food on a daily basis. You multiply that by 5 days a week and get $14.35. You multiply that by 49 weeks (there’s 52 weeks in a year and you didn’t have him for 3 weeks) and you get $703 spent on Oliver’s food that you can deduct from your income.

Granted, you probably spend more than that on your daycare kids, but at least this gives you something to work with, especially if you haven’t been keeping good records.

Don’t forget the other deductible things either: money you spend on toys and games, and extra costs of laundry and cleaning supplies. If you take the kids on field trips, be sure to keep track of your mileage and the cost of admission to events. And remember that if you’re reading magazines to help you with taking care of the kids, those can be a business expense too: things like Family Fun Magazine that give you tips on things to do with kids, that’s work reading.

Taking care of other people’s children is hard work. You deserve every penny you earn. My job is to help you keep it.

Posted on by Jan Roberg

Filing a Tax Return For Your LLC

Rosebud business solutions is a boost for businesses

Photo by Lancashire County Council on Flickr.com

If you’ve started a new business and you filed the Articles of Organization in your state to become an LLC, then here are some things you need to know about filing taxes for your new company.

First, there is no such thing as an LLC tax return.  I know that sounds crazy, but it’s true.  Every year, thousands of people walk into their accountants’ offices and say, “I want to file an LLC tax return!”   This is what accountants joke about at their conventions and at the water cooler.  We even post silly You Tube videos about it.  This post is to help you not be the butt of some dumb accounting joke.

An LLC is a Limited Liability Company.  One of the most common mistakes people make is that they think LLC means “Corporation”, it doesn’t.  If you have an LLC, you probably are not going to file a corporation return (although you might, I’ll discuss that later).

The IRS considers an LLC to be something they call a “disregarded entity.”  That means that it doesn’t have a specific tax document that goes with it.  If your LLC only has one “member” (member is LLC-speak for owner) then the default tax return for your LLC is a Schedule C which is part of your 1040 income tax return.  It’s due on April 15th just like any other individual tax return.

If your LLC has two or more members, then by default you are considered to be a partnership and you must file a partnership return, form 1065.  Form 1065 is due on April 15th also, but it’s a good idea to get it done sooner because the information on the 1065 needs to go onto your personal tax return before you file it.   When your accountant prepares the 1065, she’ll also prepare a K-1 form that will be used to prepare your personal income tax return.

So, if you have an LLC, the default tax return you might file would be a Schedule C as part of your individual income tax return, or a 1065 partnership return (and you’d receive a K1 form so you could put your partnership income on your personal tax return).

Instead of using the default filing options, you can choose to have your LLC treated as an S corporation or a C corporation for income tax purposes.  It’s very rare to choose to have your LLC treated as a C corporation.  Usually, if a person wanted to pay corporation tax rates, she would file articles of incorporation to begin with.  But one advantage to filing as an LLC and then electing to be taxed as a C corporation would be to avoid some of the stringent reporting and meeting requirements that C corporations have.  Usually, it’s not advantageous tax-wise to be treated as a C-Corporation, but there are always some exceptions.  If you do go this route, you will need to file an election to be taxed as a corporation: form 8832.  The tax return for a C-Corporation is called an 1120.  You must file the 1120 or the extension by March 15th or you will be assessed a late filing penalty even if you owe no tax.  A C-Corporation pays taxes on its income and pays wages and/or dividends to the owner.

The more common corporate tax treatment for LLCs is to be taxed as an S Corporation.   A Sub-chapter S corporation passes its profits through to the owner.  If you elect to be a Sub S Corporation, you must pay yourself a wage.  For most businesses, the purpose behind a Sub-chapter S corporation is to avoid paying self-employment taxes.  There are two things you must know:

1. A Sub S Corporation isn’t always the best way to avoid paying self-employment taxes and,

2. You’re not allowed to say that you’re trying to avoid paying self-employment taxes, even though that’s pretty much the reason anybody ever makes the Sub S election.

To make the election to be taxed as a Sub S Corporation, you will need to file form 2553.  A Sub S Corporation tax return is called an 1120S form and it is due by March 15th.  The S corp does not pay income tax; the income from the S corp will be reported on a K1 and will flow through to your personal tax return.

If you make an election to be taxed as a C or an S Corp, you will have to keep that designation for at least five years unless you get special permission from the IRS to change.  You want to make sure you really want to make the election for corporate tax treatment before filing those forms.

Here’s my really important tax advice:  Assume that you’re filing your LLC return either as a Schedule C (sole proprietor) if you’re a solo owner, or a 1065 partnership return if you have more than one owner, at least for the first year.  But then, sit down with your preparer and run the numbers all three ways, (Schedule C, S-Corp, C-Corp) to see what makes the most sense for your business.  Make some projections about your future income and expenses and take into account the deductions that you may have missed last year but won’t miss again.  Smart planning can save you thousands of dollars in taxes over the years to come.  Saving on taxes helps your business grow and puts money in your pocket.

Posted on by Jan Roberg

Tax Tips for Artists: Things You Need to Know!

Mickey Mouse Painting

Photo by Preston Kemp on Flickr.com

It’s audit season and I just got back from meeting with the IRS.   So far this season, I’ve worked with two different artists and they both were contacted about the same thing:  Cost of Goods Sold. 

If you go to the IRS website and research what they’re looking for, you’re not going to find much information.  I did find an old IRS audit guideline for artists from back in the 90’s, but that didn’t address Cost of Goods Sold for artists either.  

In a normal business, Cost of Goods Sold would be what you pay for the stuff you sell.  For example:  say you own a teddy bear store.  You pay $5 for each bear and then you turn around and sell the bear for $10.  You start the year with 100 bears in your inventory, you buy 500 more bears to sell, and you end the year with 50 bears in your inventory.   Let’s do the math:

Beginning inventory:     $500  (100 bears times $5 each)

Purchases:                      $2,500 (500 bears times $5 that you paid for each new bear)

Ending inventory:          $    250  (because you have 50 bears left times the $5)

Cost of Goods sold:       $2,250  (this is the confusing one:  you take the 500 and add the 2500—that’s all the bears that you’ve purchased to sell, right?  That equals $3000.  Then you subtract the ending inventory 250 (because you didn’t sell those) and you’re left with $2,250—that’s your Cost of Goods Sold.)

But if you’re an artist, you don’t have a bunch of identical $5 bears.   How do you even begin to value your artwork?  Here’s the thing—most artists should not be doing a Cost of Goods Sold report on their taxes.  Let me repeat that:  Most artists should NOT be doing a Cost of Goods Sold report on their taxes. 

Think about your art.  If each piece is a unique work, where the value of the piece is mostly due to your labor as opposed to the materials that you put into the work, then generally you’re fine just writing off your expenses as “expenses” rather than listing your materials as a Cost of Goods Sold.

So at what point do you “cross over” from just recording your expenses to actually keeping inventory?  I asked that at the IRS the other day.  “It’s really hard to say,” was the answer I got.  Even for an IRS agent with years of experience, this was a tough question.  If you’re mass producing works-for example you’ve produced a limited edition of numbered prints, well then that’s a case where you should be taking inventory.  Still—your purchases are only the products that you sell.  For example:  you pay $2,000 to have 100 prints produced which you then hand number and sign.  You sell 70 of the prints for $100 each.

Your Beginning inventory:  $0  (up until now, all of your art was unique.  You never did COGS before)

Purchases:  $2000  (because that’s what you paid for them)

Ending inventory:  $600  (You have 30 prints left and they cost you $20 each because 2000 divided by 100 equals 20.)

Cost of Goods Sold:  $1400  (You started with $0, you added $2000 in purchases.  To get the Cost of Goods Sold you subtract the ending inventory of $600 and you get $1400.)

Is this making sense?  Art and Accounting don’t go together well, but you need to know this stuff.  (And I’ve worked with enough artists by now to know that you’re way better at math than you let on.)

But what about the 70 prints I sold for $100 each?  That goes in the front of your schedule C, $7000 under gross receipts on line 1.

Cost of Goods Sold will go on line 4.

You’ll take your Gross Receipts minus your Cost of Goods Sold to get your Gross Income.  In this example, you’d take the $7,000 – $1,400  to get $5,600.

But once again, let me make this clear—as a professional artist, you shouldn’t be using Cost of Goods Sold unless you are producing a significant amount of work and you have a way of determining the cost and a way of counting the work.  For example:  A painter could count canvasses, but it would be almost impossible to count paint.  Canvas could be a COGS but paint would be a regular expense.  A potter might be able to count pounds of clay, but the tools and glazes might need to be a regular expense.

If you choose to count your inventory, it’s important to value items at what they cost and not what you are selling them for.  Let’s go back to our example about the prints.  You paid $20 apiece for them so your ending inventory of 30 prints is worth $600.  If you value your inventory at what you want to sell the prints for ($100 apiece) then your ending inventory will be $3000—that’s more than you spent on the prints to begin with.  If you did that on your tax return, your COGS would come out as negative $1000 and your income would go up to $8,000 instead of the $7000 that you actually made.  Valuing your inventory at the “retail” price will really mess you up, so don’t do that.

Remember, as an artist your business situation is as unique as your art.  Don’t let your packaged software intimidate you into using Cost of Goods Sold when you shouldn’t.  If you’re thinking that you produce enough that you should be taking inventory, spend the money to get help from a professional so that you get started on the right track.  It’s much cheaper than an audit.

Posted on by Jan Roberg

Tax Tips for Artists: Why You Might Not Want to Donate Your Art

Paintbrushes

Photo by John Morgan on Flickr.com

If you’re an artist, you may have been asked to donate a piece of your artwork for a good cause.  You might have also been told that it’s good PR for you, because people at the event will get a chance to see your work and bid on it.  And of course you’ve been told that your donation is tax deductible.

While it’s true that your donation is deductible, it’s not nearly as deductible for you as it is for me.  Come again?  You heard me right—your art donation is not as deductible for you as it is for me.  Let me give you an example:  Let’s say you donate a painting that would normally sell for $500.  If I bought that painting and donated it to a charity, I’d get to write off the full $500 on my tax return as a charitable deduction.  If you donate that painting instead, you can only write off the cost of the materials that you used to create that painting—depending upon what materials you’re using, that’s maybe $50 to $100.   

Additionally most artists are sole proprietors, their art income goes on a Schedule C on their regular 1040 tax return.  Your charitable donation can’t be counted as a business expense, it must go on your Schedule A with your other personal itemized deductions.  If you don’t already itemize your deductions on a Schedule A, that donated painting gives you no tax benefit whatsoever.

I’m not saying that you can never donate to charity, I like charities and I think they deserve donations.  It’s just that when you donate your art, you’re not getting much bang for your buck.  So what are your alternatives?

One thing is to pay to “advertise.”  For example:  I support a small, local ballet company.  I used to just donate money to them, but now instead I purchase an ad in their performance program.  They get the money they need and I get a business deduction for advertising.  This is especially good for me.  Before, being in the 25% tax bracket, my $100 donation was worth $25 off my taxes.  Now, as a business expense, my $100 advertisement reduces my taxes by $40 ($25 from my regular tax plus an additional 15% for my self-employment taxes.)  The advertising option gives you the best tax value on your donation because you can use it to offset your self-employment taxes.

Do be careful about the charity advertising though.  I once did an ad thinking I was supporting a local organization, when really the money was going to an advertising agency.  The organization got some money, but most of it went to the promotional company.  I won’t make that mistake again. 

Another option for you is to donate the profits from one of your art pieces.  For example, let’s take that $500 painting; assume you paid $100 for your materials,that’s a $400 donation to the charity.  Most likely, that’s a better donation than what the charity would gain if they auctioned one of your pieces off.  If you’re in the 25% tax bracket, you still get a $100 reduction in your taxes.  It won’t help with your self-employment tax, but you do get the good feeling of making a donation and your art work sells for its actual retail value instead of some discounted auction price (another disadvantage of donating your art for charity.) 

There are many worthwhile causes out there that need and deserve your help.  If providing a piece of your art work is how you want to help, by all means do it.  Just remember, it’s not your best tax strategy.

Posted on by Jan Roberg

When Being Too Clever is Not So Smart: Register Your Business at Home

This is me, Jan Roberg from Roberg Tax Solutions. I live in Missouri, I work in Missouri, my business is registered in the state of Missouri and I pay Missouri income tax. I'd still have to pay Missouri income tax even if I registered in Nevada or some other state.

This is me, Jan Roberg from Roberg Tax Solutions. I live in Missouri, I work in Missouri, my business is registered in the state of Missouri and I pay Missouri income tax. I’d still have to pay Missouri income tax even if I registered in Nevada or some other state.

Rule Number 1: If you learn nothing else from this post, learn this: don’t believe everything you read on the internet. Even if you read it in this article, you should always get some sort of definite confirmation of what I am telling you. There’s a lot of misinformation out there and some of the stuff can get you into big trouble with the IRS.

There’s a lot of hype these days about incorporating or setting up your LLC in Delaware or Nevada because these states have favorable business climates. But, unless your business is located in Delaware of Nevada, it doesn’t make sense to file your organization documents in these states. For one thing, tax law and business law don’t always go hand in hand. Here in Missouri, as with most states, if you’re earning the money here, you’re paying the taxes here—no matter where you incorporated.

Bottom line, if you own a small business, your business organization documents should be filed in the state that you live in, your employees live in, your customers live in, your shareholders live in, and where your offices are located.

Hiding or disguising your identity is another thing that doesn’t make sense for the legitimate small business owner. When you own a small business, you want people to know who you are and what kind of business you’re in. By the way, let me introduce myself. I’m Jan Roberg, I do taxes. I also write these blog posts myself. I want you to know who I am because I want you to remember me when you need tax help. That’s my picture up in the corner.

This is supposed to be tax blog, not a marketing blog, but seriously, if you own a small business—you want your clients and customers to know who you are, what you do, and how to find you. (By the way, my office is in Creve Coeur, MO  and my phone number is (314) 872-2111—just sayin’.) See what I mean? The more people know you, the more likely they are to use your products or services or refer a friend who needs you.

But let’s talk about the tax implications with hiding your identity. You might even be thinking, gosh, how would a person even do that in the first place? This is where you hire a third party in another state to file your EIN for you– this keeps your personal identification off of your federal corporate registration. It doesn’t really sound like such a bad thing, really. You might even be thinking that sounds like a good idea, but it’s not if you’re running a legitimate business!
If you try to hide your identity, the IRS sees it as a red flag for things like: underreporting, not filing returns, money laundering, financial crimes, and my personal favorite: financing terrorists. How’d you like to be delayed at the airport because you wound up on a terrorist watch list because you incorporated in another state? Okay, I’m pretty sure that you’d have to do more than just incorporate in Nevada to wind up on a terrorist watch list. But the point is, why flag your business that way?

I know I post a lot of ideas on saving money on taxes. I preach the “don’t pay more than you have to” sermon all the time. But you should never do something as a tax strategy that isn’t also good for your business too. You remember the old acronym KISS? (Keep it Simple, Stupid!) If you have a small, one owner (or husband and wife) business working in a local market, you really have no need to be filing tax documents out of state.

Posted on by Jan Roberg

Senior Small Business Owners: A Nice Surprise from the IRS

 

medicare part B can be used for the self employed health insurance deduction.

No clowning around: Medicare Part B can be used for the self-employed health insurance deduction.

Let’s be real, how often do you get to hear the words “surprise” “IRS” and “nice” in the same sentence?  I know it’s rare, but a nice surprise is exactly what senior citizen small business owners are getting this year from the IRS.  For 2010, your Medicare payment counts towards the self-employed health insurance deduction.

This is brand new.  So new in fact, that people don’t seem to know where this new rule came from.  In the past, Medicare payments were never allowed to be used for the self-employed health insurance deduction.  The rule is not in the Small Business bill that was passed earlier this year, and it doesn’t seem to be hidden in the numerous pages of the health care bill either. 

So where can you find this new mystery tax ruling?  It’s right in the 2010 instruction book for the 1040 tax form.  It says: Medicare Part B premiums can be used to figure the deduction.  …For more details, see Pub. 535

 

Now if you go to Publication 535, you’ll find it says:  Medicare Part B premiums are not considered medical insurance premiums for purposes of the self-employed health insurance deduction.

 

Oopsies!  But according to the IRS, a new Publication 535 is being produced and it will say that you can make the deduction. 

So what’s it worth to you?  Depending upon your tax bracket – a few hundred dollars!  The average Medicare Part B premium is about $1200.   For 2010 only, you can use that $1200 to reduce your self-employment tax which would save you about $180.  Additionally, you’d reduce your regular taxable income by $1200 so you’d save even more.

Should you be worried about the conflicting rules?  No.  According to the IRS, the 1040 instructions are the rule to use. I don’t expect this rule to stick around for next year, but enjoy the gift while you’ve got it.