taxes

Surveying the Landscape of Small Business Tax Deductions

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Business expenses are the cost of carrying on a trade or business, and there may be some tax breaks there. But a lot has changed in recent months, and the rules can be complicated.

Are there business deductions you can take advantage of? Yes, but first you have to make sure your expenses are truly business-related. The lines can blur, especially with a small business, because you generally cannot deduct personal, living or family expenses. However, if you have an expense for something that is used partly for business and partly for personal purposes, divide the total cost between the business and personal parts, and then deduct the business part.

An example: You borrow money and use 70% of it for business and the other 30% for a family vacation. You can deduct 70% of the interest as a business expense. The remaining 30% is personal interest and isn’t deductible.

Let’s look at business use of your car and your home:

  • Business use of your car: If you use your car in your business, you can deduct car expenses. If you use your car for both business and personal purposes, you must divide your expenses based on actual mileage.
  • Business use of your home: If you use part of your home for business, you may be able to deduct expenses for the business use of your home. These expenses include mortgage interest, insurance, utilities, repairs and depreciation.

Other types of business expenses? Let’s take a closer look:

  • Employees’ pay: You can generally deduct the pay you give your employees for the services they perform for your business.
    Retirement plans: These are savings plans that offer you tax advantages to set aside money for your own, and your employees’, retirements.
  • Rent expense: Rent is any amount you pay for the use of property you don’t own. In general, you can deduct rent as an expense only if the rent is for property you use in your trade or business. If you have or will receive equity in or title to the property, the rent is not deductible.
  • Interest: Business interest expense is an amount charged for the use of money you borrowed for business activities.
    Taxes: You can deduct various federal, state, local and foreign taxes directly attributable to your trade or business as business expenses.
  • Insurance: Generally, you can deduct the ordinary and necessary cost of insurance as a business expense, if it is for your trade, business or profession.

This list is not inclusive but endeavors to offer some common business expenses and explains what is and isn’t deductible. Of course, in some cases, expenses might need to be amortized — deducted over a period of several years — if they are startup costs or if they’re related to the purchase of business equipment.

You must capitalize, rather than deduct, some costs that are part of your investment in your business — these are called capital expenses. Capital expenses are considered assets in your business.

Of course, some business deductions can be very complex, so professional advice is necessary to make sure you’re getting what you’re owed without raising any red flags with the IRS. We’re here to help you with your business tax needs.

An S Corporation Loss Equals a Personal Tax Deduction

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Business owners aren’t in business to lose money. So there’s not much to like about a nonprofitable year. For a shareholder in an S corporation, however, a down year can have an upside — the corporate loss may give rise to a personal tax deduction.

Standing between an S shareholder and the loss deduction is a tricky tax computation known as “adjusted basis.” Under the tax law, a shareholder’s loss deduction is limited to the shareholder’s adjusted basis in his/her corporate stock and in any debt the company owes the shareholder.

What is adjusted basis, anyway? Essentially, it’s a figure that tracks the shareholder’s investment in the company for tax purposes. The basis number changes every year to account for any money flowing between the company and the shareholder — distributions, capital contributions, loans, and loan repayments — as well as for the shareholder’s allocated share of corporate income or loss.

If a net operating loss is anticipated for the year, S shareholders should find out whether they will have enough basis to benefit from the projected loss deduction. If not, it may be possible to increase basis by making a contribution to capital or by loaning the company money before year-end. When you give us a call today, our tax professionals can offer guidance so that the transaction will pass IRS muster.

Have an S Corporation? Be sure to Give Yourself a Paycheck

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If your company is organized as an S corporation, you may wonder whether it is better to take income from the company as salary or as cash distributions. Of the two options, distributions carry the least tax cost because they are not subject to employment taxes. But that doesn’t mean you shouldn’t take a paycheck from your firm.

IRS Warning

Over the years, the IRS has made a point of warning S corporations not to attempt to avoid federal employment taxes by having corporate officer/shareholders treat their compensation as cash distributions, payments of personal expenses, or loans instead of as wages. According to the IRS, distributions must be treated as wages to the extent the amounts are reasonable compensation for services rendered to the corporation.

What Is a “Reasonable” Salary?

To avoid problems with the IRS, you should be sure to take a reasonable amount of salary if you receive any direct or indirect payments from your company. However, the tax law has no hard-and-fast guidelines regarding what is considered “reasonable.” When the issue has come up in court, the determination has been based on the facts and circumstances of the particular case. Various factors have come into play, including:

* Duties and responsibilities
* Time and effort devoted to the business
* Training and experience
* What comparable businesses pay for similar services
* Timing and manner of paying bonuses to key people
* Payments to employees who are not shareholders
* The corporation’s dividend-paying history
* Compensation agreements
* The use of a formula to determine compensation

An Exception

What about an S corporation officer who doesn’t perform any services for the corporation — or whose services are very minor? In this relatively unusual situation, assuming the officer receives no direct or indirect pay, he or she would not be considered an employee.

For more help with individual or business taxes, connect with us today. Our team can help you with all your tax issues, large and small.

What You Need to Know when Your Hobby Becomes a Business

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Who knew you had a green thumb? You started gardening as a way to de-stress. Now, you’re growing exotic orchids in your family room. It was a pricey hobby until you learned how to propagate orchids and started selling them to other hobbyists. And now you’re thinking you might be able to turn growing orchids into an income source — and your hobby into a business.

Once people start making money from their hobbies, they frequently start to deduct all of their hobby-related expenses. At this point, the IRS can become very interested in the nature of the taxpayer’s hobby/business. There are certain tax guidelines to keep in mind.

Deducting Expenses

If you earn income from your hobby, you generally can deduct bona fide hobby-related expenses up to the amount of the annual income your hobby generates. You must itemize to claim the deduction. Hobby expenses fall into the “miscellaneous” category, so they are grouped with any other miscellaneous expenses you have, and only the amount exceeding 2% of your adjusted gross income is deductible.

These restrictions don’t apply to business expenses. If you operate an active business, your business-related expenses generally will be deductible, even if they exceed your business income (limitations apply).

Passing the Test

The IRS won’t just take your word for it. It has a set of guidelines to determine whether a hobby qualifies as a business. First and foremost, you must be pursuing the activity with the goal of making a profit. If you’ve made a profit in three of the last five years (two of the last seven if your activity is horse breeding, showing, or racing), the IRS assumes you had a profit motive.

If you don’t meet the profit criteria, here are a few of the other questions the IRS may ask:

* Do you keep accurate books and separate your venture’s finances from your personal finances?

*Do you spend significant time and effort carrying out the venture?

* Does the activity involve a significant element of personal pleasure or recreation?

Don’t deal with tax issues on your own. Call us right now to find out how we can provide you with the answers you need.

As an S Corporation Shareholder do You Need to Worry about Taxes?

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S corporation shareholders have an added reason to worry about their company’s annual performance: It has a direct impact on their own income taxes.
How It Works

Unlike a regular C corporation, an S corporation usually doesn’t pay federal income taxes itself. Instead, each shareholder is allocated a portion of the corporate income, loss, deductions, and credits on a special “K-1” tax form. The shareholder then must report the items listed on the K-1 on his or her personal tax return.

The K-1 allocations are based on stock ownership percentages. So, for example, if an S corporation has $100,000 of taxable business income for the year, a person who owns 75% of the stock in the corporation would be allocated 75% of that income, or $75,000.

This scheme can get complicated. Case in point: The K-1 may show more income than the shareholder actually received from the company during the year. That’s because the K-1 figure is based on the corporation’s actual taxable income — not on the distributions made to the shareholder.

Here’s an example: Tom starts a new corporation, electing S status. In the first year, Tom draws a $30,000 salary and receives no other distributions from the company. The company’s ordinary business income (after deducting his salary) is $10,000. Since Tom is the only shareholder, all the company’s $10,000 of income is allocated to him on his K-1. Tom must include both the $30,000 of salary and the $10,000 on his personal income tax return, even though all he actually received from the corporation was his salary.

This result seems harsh, but it’s not the end of the story. Special rules in the tax law prevent the same income from being taxed again. Essentially, Tom will be credited with already having paid taxes on the $10,000 so that any future distribution of the funds will not be taxable.
Tracking Basis

To determine whether non-dividend distributions are tax free, S corporation shareholders must keep track of their stock basis.1 The computation generally starts with a shareholder’s initial capital contribution (or the stock’s cost if it was purchased) and changes from year to year as the shareholder is allocated corporate income, loss, etc. Non-dividend distributions that don’t exceed a shareholder’s stock basis are tax free.

Note that starting in 2018, S corporation shareholders may be eligible to deduct up to 20% of their S corporation pass-through income. Eligibility depends on taxable income and other factors. S shareholders will want to consult their tax advisor to see if they can take advantage of the deduction to lower the taxes on their business income.

Source/Disclaimer:

1Most distributions made from an S corporation are non-dividend distributions. Dividend distributions can occur if the company was previously a regular C corporation (or in other limited situations).

As a Corporation You Need to Follow the Rules

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When you started your business, you may have formed a corporation to protect your personal assets from lawsuits against your company. However, you must also operate your business like a corporation — or risk losing the liability protection you expect to have.

No matter how long you’ve been in business, always treat your corporation as a separate legal entity. The corporation’s name should appear on company letterhead, checks, and invoices. Contracts should be made in the corporation’s name, not yours or another individual’s.

Avoid mixing your personal affairs and your corporation’s business. Maintain separate bank accounts and credit cards, and keep careful records of corporate transactions. File tax returns and pay any corporate taxes due on time.

Meet and Document

Hold shareholder and director meetings according to a regular schedule and keep official minutes of those meetings. Corporate minutes provide documentation of key financial and legal decisions, such as

  • Authorization for a substantial loan to or from the corporation
  •  Adoption of a retirement plan or approval to make a contribution to an existing plan (e.g., a profit sharing contribution)
  •  Issuance of stock
  • Purchase of real property or approval of a long-term lease

By observing the formalities, you can protect yourself and have the records you may need if the IRS, a creditor, or a company insider challenges critical decisions that were made.

Don’t get left behind. Contact us today to discover how we can help you keep your business on the right track.