Harless Tax Blog
Did you know? Of the 152 million individual income tax returns filed in 2016, about 110 million generated refunds, averaging $2,857.
Tax season can be one of the most stressful times of the year for business owners. However, it's necessary if you want to avoid audits or getting penalized by the IRS.
But, tax season is also beneficial for business owners since it can help you deduct certain expenses, which means that you can reduce your overall tax burden.
To make sure that you don't leave any money on the table, here are the best deductions for small businesses to write-off this upcoming tax season.
Home OfficeIf you're a small business owner or freelancer who uses part of your home regularly and exclusively for work you can deduct this expense.
AutoIf you use a car or vehicle for your business, or if your business owns its own vehicle, then you can deduct some of the costs of maintaining that vehicle. Like deducting your home office, there are two different methods of deducting this expense.
The first method is the actual expense method where you must keep track of and deduct all of your actual business-related expenses such as gas, oil changes, and repairs The other method is the standard mileage rate method where you deduct a certain amount for each mile driven, along with business-related tolls and parking fees.
For 2017, the IRS mileage rate is 53.5 cents per mile for business miles driven.
Travel If you have to travel for work you can deduct everything from the expenses associated with operating your vehicle, hotel rooms, public transportation, car rentals, plane tickets, and meals - even those meals used to wine and dine clients.
On top of those obvious deductions overlooked deductions like phone calls, dry cleaning, shipping baggage and materials, and bringing along employees or business associates are also fair game.
Current and Capitalized Under the Section 179 Deduction, the IRS allows you to deduct the cost of actually getting your business started, which are known as capital expenses. These include expenditures like property, equipment, vehicles, furniture, computers, and software that equal up to $500,000. There's also a 50 percent bonus depreciation.
Once you open the doors to your business, however, you can also deduct any recurring expenses that you have to operate the business, such as rent, utilities, office supplies, repairs and improvements, and even the cost of advertising and promoting your business.
Meals and Entertainment If you ever regularly provide any meals or entertainment for yourself, employees, or clients the cost of food, beverages, taxes, and tips can be deducted as long as it was for business purposes.
Business and Professional If you've purchased any books to assist you with running a business, even books that provide legal and tax advice, they can be deducted. Additionally, the fees that you paid to consultants, lawyers, or financial advisors are also fully deductible.
Education Anything that has been used to educate and develop you and your employees can be deducted. This includes everything from books, magazines, DVDs, training manuals, online courses, workshops, seminars, and trade shows.
Employees and Retirement Contributions You're allowed to deduct the salaries and wages that you pay your employees, as well as the amount of money you put into employees' (and your) retirement plans. Just be aware that any payments that sole proprietors, partners, and LLC members take from the business are not considered salaries, which means that they nondeductible.
If you don't have employees, but have used independent contractors who you have paid more than $600 to for their services, you can deduct these contractor labor costs by issuing Form 1099-MISC.
Bad Debts If a client owes you money and you're unable to collect it that's considered a bad debt. And, fortunately for you, it's deductible.
Insurance The cost of your business owner's policy, malpractice coverage, and business continuation insurance are all fully deductible. However, there are two rules to know when it comes to health coverage. A small business is allowed to claim a tax credit for up to 50 percent of the premiums and the cost of health coverage for the self-employed individuals and more-than-2 percent S corporation shareholders can not be deducted. Instead, these premiums will be deducted on the owner's personal tax return.
Health care costs can also be deducted, but the amounts and procedures will vary based on the type of business you're filled under. For example, for proprietorships, health insurance premiums are 100 percent deductible on Form 1040 as an adjustment to income as long as the deduction isn't more than your business's net profit.
Interest Have you used a line of credit or personal loan to finance business purchases? If so, those interest and carrying charges are fully tax-deductible.
Taxes Any taxes that have incurred while operating your business are usually deductible. This can include:
- The sales tax you've had to pay on the items you've purchased for your business.
- Excise and fuel taxes.
- Employment taxes, including the employer share of FICA, FUTA, and state unemployment taxes
- State income tax can be deducted on the federal tax return as an itemized deduction.
- Real estate tax, along with licenses and regulatory fees, on any business property.
Conclusion To make sure that you're prepared when tax season comes around make sure that you're aware of the small business tax deductions you can take by doing your research, staying up-to-date with the latest regulations, maintaining accurate and thorough records of your expenses, and contacting a good accountant early in the year.
Among employer-sponsored retirement plans, 401(k)s have become the standard. Some prospective employees assume that a job will come with a 401(k). Therefore, offering a 401(k) at your company may help you hire desired workers, and help you retain valued employees.
That said, there can be drawbacks to sponsoring a traditional 401(k). Such plans require annual testing to ensure that a 401(k) does not discriminate in favor of highly compensated employees, including owner-employees. Failing such a test may limit the amount that company principals and certain others may contribute to the plan, resulting in a reduced tax-deferred retirement fund for key individuals.
One solution is to offer a safe harbor 401(k) for your small business. A study released in late 2016 by Employee Fiduciary, a 401(k) provider for small businesses, found that 68% of the small firms responding to the survey use a safe harbor 401(k) plan design to avoid annual nondiscrimination testing. A safe harbor 401(k) allows sponsoring companies to avoid these tests, providing the business makes certain contributions to employees’ accounts. The mandatory employer contributions are always 100% vested.
Employers have several ways to reach this safe harbor. Many companies prefer the “basic match” approach. Here, the company matches 100% of employee contributions to the 401(k), up to 3% of compensation, plus a 50% match on contributions up to 5% of pay. Thus, the maximum match is 4% of an employee's compensation. (Some companies use an “enhanced match,” which might be 100% on the first 4% of pay.)
Either way, the safe harbor contributions can be limited to employees earning less than $120,000 in 2017.
Considering the costs
Safe-harbor 401(k)s might not be a good fit for every small business. The required employer contributions may wind up being extremely expensive. Other efforts, such as employee education that increases contributions from non-highly compensated workers, may be a more cost-effective approach. Also, safe harbor 401(k)s have certain notice requirements. If you are interested in a safe harbor 401(k) for your company, our office can explain the notice requirements and provide an estimate of the cost involved, to help you make an informed decision.
Medicare, the federal government’s health insurance program for people 65 and older, has four parts (see Trusted Advice, “ABCDs of Medicare”). Although Medicare offers good value to many seniors, high-income Medicare enrollees can pay over $5,000 a year for Part B, whereas high-income couples on Medicare can pay over $10,000 in annual premiums. For that money, high-income enrollees get the same Medicare coverage that most seniors get for about $1,300 a year, or $2,600 for couples.
Medicare Part B, which covers doctor visits and some other medical outlays, charges a monthly premium. Most enrollees have that premium deducted from their Social Security deposits, paying around $109 a month in that manner. (The “standard” amount, paid by some enrollees, is $134 a month in 2017, about $1,600 a year.) However, in 2017, seniors with certain levels of income will pay more, with premiums increasing as income tops certain thresholds.
For this purpose, “income” refers to modified adjusted gross income (MAGI), which equals the AGI reported on your tax return, plus any tax-exempt interest income. What’s more, there is a two-year lag between reported income and the resulting Part B premium.
Example 1: Carl and Donna Egan reported $210,000 of AGI on their 2015 tax return, which they filed in April 2016. The Egans also had $20,000 of tax-exempt interest in 2015. (The amount of tax-exempt interest is reported on federal income tax returns, even though that interest is not subject to federal income tax.) Thus, the Egans’ MAGI, for determining their Medicare Part B premium in 2017, is $230,000. With that MAGI, Carl and Donna will each have $267.90 a month deducted from their Social Security benefit, for a total of $535.80 a month, or $6,430 a year.
What’s more, the MAGI thresholds for these extra Part B premiums ($85,000, $107,000, etc.) are fixed until 2019, so they won’t increase for inflation, at least for a few years. At the same time, the extra Part B premium amounts can be increased, and have been rising rapidly. With identical MAGI in 2014, the Egans would each have paid $243.60 a month for Part B in 2016, so this year’s premium of $267.90 a month represents a 10% increase. The maximum Part B premium rose from $389.80 a month in 2016 to $428.60 a month in 2017. Even higher Part B premiums are likely in the future, as medical costs continue to rise.
The Part B premiums are set by MAGI “cliffs”: Go over by $1, and you fall into a higher premium. The Egans, in our example, had 2015 MAGI of $230,000, $16,000 over the relevant threshold, yet, they are paying the same premiums as another couple with 2015 MAGI of $314,000—which was $100,000 over the same threshold of $214,000.
This system can be frustrating for Medicare enrollees who are just over a Part B MAGI threshold. The good news, though, is that some advance planning may enable seniors who are just over a Part B threshold to bring MAGI below that threshold, with relatively modest tax planning.
Example 2: Say the Egans once again would have $230,000 of MAGI for 2016, as reported on the tax return they are about to file for last year. If either Carl or Donna is eligible to make, say, a tax-deductible contribution to a SEP-IRA for 2016 or to recharacterize a Roth IRA conversion from 2016, it could be possible to fine tune the transaction, bringing MAGI for 2016 down to $213,000. They’d be under the $214,000 MAGI threshold and owe less for Part B in 2018.
Going forward, the Egans might spend time during 2017 on various tax-planning tactics. That could decrease the Part B premium they’ll owe in 2019, and ongoing tax planning could hold down future premiums. Possible strategies might include the timing of capital gains and Roth IRA conversions, for example.
Tax planning shouldn’t be driven solely by efforts to reduce Part B premiums. However, this issue should be included in overall tax planning by high-income Medicare enrollees and by people who soon will be in that situation. Reining in Part B premiums may become increasingly important in the coming years, due to expected financial strains on Medicare and federal efforts to raise more money from high-income taxpayers.
Paring Part B premiums
The examples of Carl and Donna Egan assume that they continue to have high incomes, even after they’re covered by Medicare. Conversely, some Medicare enrollees will report high income in 2017, then find themselves hard pressed to pay the resulting Part B premiums in 2019, due to changed circumstances.
Taxpayers whose income has fallen can appeal their elevated Part B premium to the Social Security Administration. Acceptable reasons for relief include retirement, in full or in part. Our office can let you know if an appeal on this issue is likely to succeed, and how to proceed.
Trusted AdviceThe ABCDs of Medicare
- Part A covers hospital stays, some nursing care, hospice care, and some home care.
- Part B covers doctors' services and some medical supplies.
- Part C, known as Medicare Advantage, includes plans from private companies that contract with Medicare to provide Part A and Part B benefits.
- Part D adds prescription drug coverage from private companies. High-income seniors also pay more for Part D, so steps taken to reduce Part B premiums also might cut the cost of Part D.
As a follow up to our last blog post, Playing Defense as Stock Prices Soar, here are some additional strategies to consider.
All of these strategies have advantages and drawbacks, so you should proceed with caution. Very generally, buy and hold strategies might appeal to workers who are some years from retirement. A market drop may turn out to be a buying opportunity, especially for those who are investing periodically through contributions to 401(k) and similar plans. On the other hand, trimming stocks might be prudent for people in or near retirement. Investment opportunities at low stock prices may be reduced, and a market skid can be particularly dangerous for retirees who are tapping their portfolio for spending money.
Trusted AdviceTreasury bond interest
- Interest income from Treasury bills, notes, and bonds is subject to federal income tax.
- That interest is exempt from state and local income taxes.
- If you invest in a bond fund that holds only U.S. Treasuries, you will owe federal income tax on the interest income but no state or local income tax on that interest.
- Although the bonds held in a bond fund pay interest, the fund will pay dividends to the fund’s investors. Those dividend payments will be taxed at the federal level as interest income, at ordinary income rates.
Partnership Returns (Form 1065) and S-Corporation Returns (Form 1120S) are due tomorrow! Call our office if you need assistance in filing.
As of this writing, major U.S. stock market indexes are at or near record highs. This bullish run might continue...or it might end with a severe slide. Here are some strategies to consider.
Stay the course Many investors will prefer to keep their current stock market positions. For nearly a century, every stock market reversal has been followed by a recovery. Even the severe shock of late 2008 through early 2009 has led to new peaks, less than a decade later.
What’s more, holding onto stocks and stock funds won’t trigger any tax on capital gains.
Move into cash Investors who are truly nervous about pricey stocks can sell some or all of those holdings, then put the sales proceeds into vehicles that historically have been safe havens, such as bank accounts and money market funds. This would reduce or eliminate the risk of steep losses from a market crash. In both the 2000–2002 and the 2007–2009 bear markets, the S&P 500 Index of large-company stocks fell about 50%. After a loss of that magnitude, investors need a 100% rebound, just to regain their portfolio value.
However, cash equivalents have negligible yields right now, so investors would essentially be treading water in bank accounts and money funds. Timing the market has proven to be extremely difficult, so investors who go to cash risk missing out on future gains as well as possible losses. In addition, investors who sell appreciated equities held in taxable accounts will owe capital gains tax, which could be substantial.
Move into bondsAside from cash, bonds have long been considered a lower risk counterweight to stocks. According to Morningstar’s Ibbotson subsidiary, large-company U.S. stocks have suffered double-digit losses in five different calendar years since the 1970s. In 2008, that loss was 37%.
Long-term government bonds, on the other hand, have had fewer down years. The only year they lost more than 9% was 2009, when a drop of 15% was reported. That 2009 loss, though, came after a 26% gain in 2008, when stocks tanked. Therefore, Treasury bonds can be a useful hedge against stock market losses.
Yields on the 10-year Treasury are currently around 2.6%, so long-term Treasury bond funds may pay about 2%: not great, but more than the payout from cash equivalents. Intermediate-term Treasury funds will have lower yields but also less exposure to stock market volatility.
Investors in high tax states may have another reason to favor Treasury bonds and Treasury funds because the interest from these investments is exempt from state and local income tax. To benefit from the tax break, you must hold Treasuries in a taxable account.
Treasuries certainly can be held in a tax-deferred account such as a 401(k) or an IRA, and many investors do so. However, the state and local income tax break might be lost because withdrawals from tax-favored retirement plans may be fully taxable. (Some states offer tax exemption to distributions from retirement plans, often up to certain amounts.)
Of more than 55 million total Medicare beneficiaries, about 10 million live in just two states: California and Florida.
Original Article by Tom Anderson.
Your chance of a tax audit is low. Only about 0.7 percent of tax returns receive an audit from the IRS.
Yet before you take your chances with some dodgy deduction, know this: That figure jumps to 9.5 percent if you make $1 million or more annually.
"The more money you have, the more of a chance you have of being audited," said Dave Du Val, chief consumer advocacy officer at TaxAudit.com, an audit defense company that handles more than 25,000 audits per year.
Whether you're a higher earner or someone in a lower tax bracket, you can take these steps to reduce your chances of getting on the IRS radar.
Report all your income
This may seem obvious, but leaving off any income could have you facing down the tax man.
The IRS will go after taxpayers when the agency has a document, like a 1099 or W-2, that matches income with a Social Security number if you don't report it, said Mike Campbell, a certified public accountant and tax partner at BDO USA.
That includes any 1099-MISC or 1099-K you may receive from a side hustle, like driving for Uber or renting out your place on Airbnb.
The same is true if you have holdings overseas. You are required to fill out an annual report of foreign bank and financial accounts and Form 8938 to the Treasury Department and IRS if you own international assets.
Detail your big deductions well
IRS auditors focus on the outliers. Why? They don't have the manpower to do much else.
The number of IRS staff that enforces tax laws has declined 23 percent from more than 50,000 in 2010 to fewer than 39,000 in 2016.
"The IRS is looking for deductions that don't make sense," Campbell said.
Huge losses on your rental property, large charitable donations relative to income and suspicious round numbers on your returns will raise an auditor's eyebrows.
Charitable giving is particularly troublesome. For example, you paint an audit target on your back if you fail to file a Form 8283 for noncash donations of more than $500.
However, no deduction is incriminating if you have the documentation to back it up.
Keep good records
Avoiding an audit comes down to records. The more extensive your files, the better the odds of escaping without a penalty.
That means if you are going to claim a big home-office deduction, you better have the documents to prove that you only use the space for business, Du Val said.
Same goes for claiming you use your car 100 percent for work. The IRS likes a contemporaneous mileage log, meaning that you shouldn't try to recreate it if you neglected to record your miles last year.
"It's never a good idea to try to cheat the tax man," Du Val said.
Even if you run afoul of auditors because you didn't know the complicated tax rules, ignorance is no defense. "U.S. Tax Court is not a court of justice, it is a court of law," Du Val said.
Business owners who want to sponsor a retirement plan for employees (including owner-employees) have many options from which to choose. Knowing the basics can help entrepreneurs make an astute decision.
One choice is a “profit-sharing” plan. Despite its name, your company needn’t tabulate its earnings every year and divide that amount among its workers. Instead, the term indicates a plan in which contributions to employees’ retirement accounts are made by the employer. Therefore, a profit-sharing plan may help your company to attract, motivate, and retain valued employees. These plans are flexible, so employers can contribute more in good years and less (or nothing at all) when business is slow.
Profit-sharing plans may permit employers to make relatively large, tax-deductible contributions to employees’ retirement funds. Employees won’t owe income tax until the money is withdrawn; in the interim, any investment earnings can compound, untaxed.
In 2017, employer contributions can be up to 100% of compensation, with a ceiling of $54,000. Of those contributions, the company can deduct amounts up to 25% of total compensation for all participants.
A traditional profit-sharing plan usually calls for pro rata contributions to all covered employees’ accounts.
Example 1: PSP Corp. makes a $6,000 contribution to an account for Al, who earns $30,000 (20% of pay), $10,000 to Barb, who earns $50,000, $20,000 for Chet, who earns $100,000, and $50,000 for Doris, the company owner who earns $250,000.
Profit-sharing plans must have a set formula for determining how the contributions are allocated among plan participants, but they needn’t be traditional pro rata plans, as illustrated in example 1. Instead, profit-sharing plans may be structured to put a greater percentage of compensation in the accounts of certain employees. Such a plan might result in a contribution of around $8,000 or even $2,500 to the account for Barb, earning $50,000, while Doris, earning $250,000, still gets $50,000 contributed to her account. These sophisticated profit-sharing plans must be constructed with care, to comply with federal rules; our office can help if you’re interested in this type of arrangement.
Nuts and bolts
Participation in a profit-sharing plan typically must be offered to all employees age 21 or older who worked at least 1,000 hours in a previous year. Employer contributions may vest over time, according to a plan’s specific terms. Annual filing of IRS Form 5500 is required. Withdrawals generally will be permitted at retirement, plan termination, and perhaps at other times, such as after age 59½. Distributions will be taxed. A profit-sharing plan may permit loans and hardship withdrawals, but withdrawals before age 59½ may trigger income tax plus an additional tax of 10%.