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February 2015 Newsletter: Tax tips for small businesses
February 22, 2015
Hello to all my frugal friends and budding entrepreneurs:

A reader asked about tax strategies and tips for small businesses, so that’ll be the focus of this month’s newsletter.

The great thing about having your own business -– be it large of small, full-time or part-time -– it provides you with much more control over your income, and it’s usually an opportunity to make much more than you would as an employee of another. Even if it’s a tossup with respect to income, one usually has much more freedom in terms of scope, depth and scheduling of work activities. In any event, one of the great things about being your own boss is you only have the customer to report to.

Oh, and there’s the IRS to deal with, of course. I know, yuck.

So, let’s take a look at a handful of tax tips with respect to running your own business. Take these as general discussion only, as I’m not a tax advisor. Before taking action on any of this information, talk with your own tax advisor or accountant, since they’ll have the most recent guidance from the ever-changing volumes of rules and regulations that beset the taxpayer who dares to start their own enterprise.

Just so you’re aware of my personal perspective, I’m a sole proprietorship in Wyoming, and I’ve been in business for just a little over 16 years. I used to make relatively high levels of income, but I’ve throttled back on that simply because I prefer implementing my “more life, less work” program instead of paying what I consider to be unnecessarily high levels of income tax. I should also mention that there really isn’t anything mysterious or difficult about starting your own business, especially if you take a simple approach and learn a bit about business and taxes before you dive in.

Here are tips and suggestions, in roughly the order one might expect to encounter these topics.

Tax advisor and preparer – after you focus on a business opportunity, perhaps the first thing you ought to do is have a conversation with several tax preparers so you can pick one for advice and as an individual who can prepare all of the forms and schedules associated with matters of a personal and business nature. My tax preparer charges less than $150 for preparing my return each year, and a little extra if I need to issue 1099s. All I do is collect and submit data regarding income and expenses, answer questions she may have, and check the return for anything that might appear out of the ordinary. I don’t even leave the house, everything is done over the fax and telephone.

One of the benefits of having a knowledgeable tax preparer is it’s a great way to get advice on tax matters that are always changing. It’s a deductible expense as well. I also suspect they might have insight into similar or related businesses and how they position themselves more ideally from a standpoint of minimizing their exposure to taxes. It’s something worthwhile to explore with them as you sort out which one you might engage as your advisor and tax return preparer.

Quarterly estimated tax payments – having to pay your own taxes throughout the year is one of the excuses that I’ve heard many people use for not becoming their own boss. They claim it’s easier to have someone else take out the taxes. That’s really a lame excuse as it’s simply a matter of writing four checks a year. How difficult could that be? Assuming you start your business on the first day of the year, and start making money right away, you’ll make estimated payments once a month in April, June, September and January, all on or about the 15th of the month. I have four tips to offer with respect to these “quarterly” payments:

  1. The payments aren’t quarterly as one might assume. My first full year in business I made my first payment in April and went to make a payment in July, only to find out that that particular quarter only had two months in it. Luckily, I wasn’t fined for late payment, but in the government funding climate of today, I’d play it safe and give them no excuse to levy a penalty.

  2. If you start your business in January, make a payment in April even if you haven’t made any money. The first year I started my business, I didn’t make any payments until January of the following year because I didn’t make any income until October of my first year. Since my first check from a customer came in after the September tax estimate was due, I didn’t make an estimated payment until January. After all, why should I make an estimated tax payment when I hadn’t earned any money? The whole thing looked a little fishy to the IRS since I hadn’t made any estimated payments all year long, despite having started my business on the first day of February that year. Despite letters from me and my tax preparer explaining the situation, the IRS insisted I fill out a form that specifies how much money I made in each of the filing quarters. At the end of the form the money I owed was zero. At the beginning of the form, which I didn’t read until after I filled it out, it said “This form will take hours to complete.” They were right, it took hours and was a pain in the ass to complete. So, just send the buggers something each quarter to avoid knee-jerk requests from them. Based on my experience, folks at the IRS expect every business to start at the first of the year and make money immediately, therefore they expect three payments during the year and a fourth in January of the following year. Even if you don’t owe anything, you might save yourself the hassle of their automatic challenge by sending them $250 each quarter.

  3. Send in your quarterly payments on time or ahead of time so you don’t receive some sort of penalty for late payment of quarterly taxes. When I know that I’m going to be away on a trip, I might send my quarterly payment a month or more in advance just so I don’t forget. As far as I know, no one at the IRS will be upset about getting their hands on your money a bit early.

  4. Pay what you owe or a bit more. Estimated payments can be based on actual income or projected income. If you use actual income, then your quarterly payments will vary. If you project your income, the payments will be equal each quarter. Regardless of your approach, I would suggest that your payments be sufficient such that you don’t owe a substantial amount of money when it comes to filing your return in April. If you owe a substantial amount of money, I’m sure the IRS will be glad to assert a claim that you made insufficient quarterly payments and you’re therefore deserving of a fine. Avoid the fines by always paying what you owe or a bit more.

Have a decided focus on making money – one of the challenges of being in business for yourself is demonstrating that you’re really trying to make money. If you’re not serious about making money, your efforts are a hobby or a pastime that won’t qualify as a business. The best way to demonstrate that you’re really trying to make money is to make some.

Startup costs – keep track of startup costs associated with your business activities. Once you start making money, you can write off your earlier startup costs against your gross revenue. I have startup costs from 2014 that I plan to offset 2015 income because I expect to start making revenue from the investment this year.

Travel and living expenses – when you travel from one place to another, keep track of those expenses if they have anything to do with your business. You might be surprised at the number of expenses you incur as you go about developing, promoting and furthering your business interests. Think of mileage, tolls, meals with customers, parking fees, airline tickets, rental cars, and hotel accommodations. If you travel across town to make a presentation or meet with associates, keep track of your mileage as it’s a legitimate deduction to the tune of about 55 cents per mile. If you drive 1,100 miles for business during the year (a mere 22 miles each week), that’s a $605 business expense that can be deducted from your earnings.

Household expenses – a portion of your utility bills may be tax deductible to the extent that they support your business. Think of phone, Internet, heating, cooling and lighting. It’s not difficult to track expenses in this manner because you get an itemized statement from your utility provider each month. With a computer, a printer, a monitor or two, and perhaps an office heater or air conditioner running for 10 to 12 hours each day, the portion of your utility bill associated with your office could be considerable.

Office equipment and supplies – anything you buy for your business can be written off as an expense if you made the purchase in support of your office and the tasks associated with engaging in your business. Think of pens, paper, tape, binders, binder clips, scissors, desktop computer, printer, copier, scanner, fax machine, telephone system, answering machine, external hard drives, postage, batteries, handheld dictation devices, software…anything that you use regularly and exclusively for your business can be considered a legitimate business expense.

Office space – if you rent office space, this is clearly a deduction you should include as a cost of doing business. I would suggest this only if you’re at the point where you’re making sufficient income to support the need for your own “air space” for privacy, peace and quiet, or simply room for your business operation and all of the tools, equipment, materials and supplies associated with it. Home office space might also qualify as a deduction, but I don’t bother with this because it’s a bit complicated. I keep it simple and consider this just part of the price I pay for being self-employed in MY office instead of being an employee in someone else’s office. Instead of worrying about missing out on this deduction, I simply remain thankful for my 60 second commute from bed to office chair, unless I make a detour through the kitchen to get coffee or bacon and eggs.

Specialized tools – some of my work entails analysis of power delivery equipment in the field, so specific items that help me identify asset locations, read nameplate data, and assess condition of equipment while keeping my distance can be legitimate tools of my trade and therefore deductible. Things like a GPS, a pair of binoculars, an infrared camera, a digital camera, and an infrared temperature sensor are all useful and sometimes very necessary to complete some of my assigned tasks. The specialized tools you require will depend on your calling.

Helpers – one of the decision points when starting a business is to determine whether you’re going to hire employees or work with associates (independent contractors much like yourself). The IRS would prefer that you have employees because that’s an easy way for them to have you deal with the headaches of payroll deductions which are a steady stream of income for them. My preference is to deal with associates. The advantage of associates is you can hire them and fire them with ease. Just make sure that you’re not being the sole source of their income, otherwise the IRS will lean on you to make them your employees. I’ve hired associates and been an associate of others, and it works great. Both you and your associates maintain independence, and that means a lot as far as I’m concerned. Once you start messing with employees, then there is no end to the trouble one might get into with respect to hiring, firing, discipline, layoffs, withholding taxes, and many other issues. A contractor is simple, they come and go with ease. If you don’t like them, you don’t contract with them. If they don’t perform, you terminate their contract and move on to the next one who might serve you better. From a tax standpoint, just make sure you provide them with a 1099 at the end of the year. You keep a copy, you send a copy to the IRS, and you send your associate their copy.

Planning your income – an advantage of being your own boss is you get to decide how much income you’re going to strive for. As you’re aware, the more you make, the more they take, so keeping your income in step with your expenses can help you minimize taxes. As I mentioned before, I used to make a healthy income, but I largely dropped off of that radar screen because I became disgusted with the hefty taxes applied to me as a single man having few personal deductions. It may sound odd, but taxation influences the behavior of people, and I simply scaled back my operation according to how I was being penalized by income taxes for being a productive individual. Of course, most people want to make as much money as they can, and I applaud that. It’s up to you to decide, and being your own boss allows you that opportunity.

SEP-IRA account – if you’re making money for yourself, you might as well have your money make more money for you…tax free for a while anyway. The idea of a SEP account is you make deposits using pre-taxed monies, up to a certain limit each year, and those deposits and any appreciation on the account remain untaxed until they’re withdrawn. Ideally, you’ll wait until after you retire and your income is lower before you start making withdrawals. That way, you’re taxed at a lower rate. It works much the same as any other IRA, except it’s for the self-employed person.

I hope this helps shed a bit of light on the issue of taxes for small businesses.

Thanks to Nicole for suggesting this topic. Do you have a topic to suggest for an upcoming newsletter? If so, I'm eager to hear from you.


Next Month

Next month I’ll get back to a couple of articles as has been the pattern for quite a while now, and then the month after I’ll discuss some ideas and interests offered by another reader. Please feel free to pose questions or suggest issues for discussion. I’d like to use your interests to create relevant material for upcoming newsletters.

Next month, let’s look at an expression I heard a friend of mine use, “The problem with having money in your pocket is it just goes!" And, as we look at being better prepared from a financial and economic perspective, we’ll take a look at multiple revenue streams.

Wishing wellness to all of you,

Clair

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