Tax Tips

In our March 2014 newsletter, we provided a discussion entitled “What Are The Chances of Being Audited.” The article focused on the relative possibility of an audit given different levels of income. To more completely address the question of “What Are The Chances of Being Audited,” this article goes beyond income level and addresses the impact of different types of transactions and deductions on the relative chance for a tax audit.

Self Employed (Schedule C) Losses

Schedule C is the official IRS form for reporting items of income and expense as it pertains to taxpayers who are self-employed. Schedule C sources of income (“self-employment income”) are usually reported to the taxpayer filing self-employed status on Form 1099. W-2 income, on the other hand, is reported to the taxpayer on Form W-2 and not on Schedule C. Schedule C filers tend more to co-mingle business and personal expenses or to incorrectly treat personal expenses as business expenses in an attempt to hide taxable income. Tax Payer Resolution also notes that self-employed taxpayers generally fail to keep detailed, accurate, and complete accounting records that are required by law.

As explained in the Tax Payer Resolution article linked above: “The audits or examinations of self-employed taxpayers have a far greater degree of success by the IRS. The IRS’s National Research Program estimated that unreported business income by sole proprietors accounted for $68 billion (or 20 percent) of the $345 billion tax gap. The IRS estimates that as many of 70% of taxpayers who report net losses on a Schedule C have artificially inflated expenses to create losses.” Thus, taxpayers who file Schedule C tax returns reporting net losses have the attention of the Internal Revenue Service and are highly susceptible to being audited.   

Home Office Deduction

The home office deduction is available to certain taxpayers who meet strict guidelines, including a business purpose for the amount claimed, as promulgated by the IRS. So strict are the guidelines that merely filing a return based in part on the home office deduction appears to be enough of a flag to increase the risk of an audit.

According to TaxBrain.com, some taxpayers have included their entire home for the deduction. However, your home office must be exclusively used for business purposes and not for other activities. The guidelines contained within IRS Publication 587 should be adhered to in order to ensure you qualify for the home office deduction.

Meals, Travel and Entertainment

In order to qualify as deductible expenditures for meals, travel, and entertainment, the expenditures must satisfy strict substantiation guidelines. The IRS recognizes that the substantiation process is a tedious process prone to “short-cutting” and therefore more susceptible to error or fraud.

IRS Publication 463 governs the deductibility of meals, travel, and entertainment. The evidentiary framework that is illustrated at Table 1-1, Table 2-1, Table 5-1, and Table 5-2 at the IRS.gov page, if complied with, will satisfy the substantiation requirements for deducting meals, travel, and entertainment. If not complied with, the deductibility of these items is at risk.

Gambling Winnings & Losses

Just when you thought that the “winner takes all” in your mega-gambling haul, you receive a wakeup call in the middle of the night from the IRS. The IRS insists on getting, and is entitled to receive, its share of your gambling winnings in the form of federal income tax. Making matters worse, you could also be in a state that taxes gambling winnings.

The following tips come from IRS Topic 419 “Gambling Income and Losses,” and are applicable to casual, not professional, gamblers.

• Gambling winnings are fully taxable and you must report them on your tax return.

• A payer is required to issue you a Form W-2G, Certain Gambling Winnings, if you receive certain gambling winnings or if you have any gambling winnings subject to federal income tax withholding.

• You must report all gambling winnings on your Form 1040 as "Other Income"

• You may deduct gambling losses only if you itemize deductions. However, the amount of losses you deduct may not be more than the amount of gambling income reported on your return.

• Claim your gambling losses on Form 1040 Schedule A as an "Other Miscellaneous Deduction" that is not subject to the 2% limit.

• It is important to keep an accurate diary or similar record of your gambling winnings and losses. To deduct your losses, you must be able to provide receipts, tickets, statements, or other records that show the amount of both your winnings and losses.

Hobby Losses

When determining a “hobby loss,” it depends on whether the activity that produces the loss is a “for-profit trade or business activity” (not a hobby) or a “not for profit non-trade or business activity” (is a hobby). If the activity is deemed to be a for-profit trade or business activity, then the loss generated by the for-profit activity is properly treated as a fully deductible loss without limitation.

However, if the loss is deemed to flow out of a true hobby activity (not for profit scenario), then the hobby loss is deductible subject to strict limitations.

Internal Revenue Code Section 183 governs the deductibility of hobby losses. Under this code section, “an activity is presumed for profit if it makes a profit in at least three of the last five tax years, including the current year (or at least two of the last seven years for activities that consist primarily of breeding, showing, training or racing horses).”

Furthermore, under Code Section 183, “if an activity is not for profit, losses from that activity may not be used to offset other income. An activity produces a loss when related expenses exceed income. The limit on not-for-profit losses applies to individuals, partnerships, estates, trusts, and S corporations. It does not apply to corporations other than S corporations.”

Labor Day signifies the end of summer and comes with a three-day weekend; maybe a trip to the beach, the lake, or the the cabin, and a barbecue.  

Labor Day became a federal holiday in 1894, but it was first celebrated as a holiday in the United States on February 21, 1887. Of course, Labor Day is dedicated to the social and economic achievements of workers, but who wants to think about work on a federal holiday?

This Labor Day might be a good time to think about how you can use your travel as a tax deduction to offset some of the expense.

The most important thing to remember in the case of any tax write off is to keep organized receipts and diligently track your expenses. Those receipts along with itineraries, agendas, and other documentation of your expenses will come in handy if the IRS ever comes knocking.

In general, for domestic travel, if over 50 percent of the time you spend on your trip is for business, the expenses can be deducted. International travel requires 75 percent of your trip to be business.

If you do your homework, like reading IRS Publication 463, and speaking with your financial advisers, you can help offset travel and vacation expenses by combining business and leisure.

Whether you just spent the entire summer paying for child care and are happy to know that you now have a safe place to drop off your children Monday through Friday or you are wondering where your kids are going to be between the end of the school day and the end of your work day, child care is something that parents are all thinking about and trying to find solutions for at this time of year.  In either case you need to know that your child care expenses are often tax deductible, however there are rules to consider, preparations to be made, and documents to save.

The care must be provided for qualifying persons, children age 12 or younger,  and for the purpose of you (or you and your spouse if filing jointly) working or looking for work.

You must identify the care providers on your tax return and they may not be your spouse, someone you claim as a dependent, or your child who will not be aged 19 or older by the end of the year even if he/ she is not your dependent.

The credit can be up to 35% of your qualifying expenses, depending on your income.

More information is available on the IRS website and you should discuss child care deductions with your accountant.

Being a sole proprietor has its tax advantages. Find out how you can benefit.

A sole proprietor business structure is the most simple type of business one can establish. By being a sole proprietor, it means that you and only you own your company and that you are also personally responsible for its assets and liabilities — ‘personally’ meaning you can be sued for personal assets due to a business incident. However, there are great advantages to being a Sole Proprietor and it makes the most sense for many businesses.

You have direct discretion on expenses and revenue. As a result, you have more leeway with your tax situation by being strategic with income and expenses.

Your tax preparation is easier. This is because you can continue to file form 1040 and attach a Schedule C. S & C Corporations have more complex tax filings.

You can hire your family. You can continue to be considered a Sole Proprietor and have your spouse as an employee of the business as long as they’re truly an employee. Also you can hire your kids without having to pay into Social Security and Medicare. This typically saves you up to almost 8% versus having an employee that is not in your immediate family. Also, if you’re not paying them more than $6200 in a given tax year, they do not have to file federal taxes.

Let us help you determine the best business structure for your specific tax situation.

See if your moving expenses qualify for a deduction.

If you moved as a result of a job change or to start a new business, your expenses are more than likely eligible for a tax deduction.

Moving Expenses Tax Deduction Eligibility Requirements

• Your move must be in close relation to both the place and time of the start of your work at your new location. You can include moving expenses accumulated within 1 year from the date you started to work at the new location. A move usually relates closely in place when the distance from your new living quarters to your new job’s locale is not more than the distance from the last place you lived to your new job’s location.

• Your new place of business has to be at least 50 miles greater from where you used to live than your former workplace location was from your former home. If you had no previous job, your new place of business’s location must be at least 50 miles from your former residence.

• If you work for someone else, you have to have worked full-time for at least 39 weeks during the first 12 months right after your arrival in the general area of your new employer’s location.

• If you work for yourself, you have to have worked full-time for at least 39 weeks during the first 12 months and for a sum of at minimum 78 weeks during the first 24 months right after your arrival in the general area of your new work location.

There are exceptions to these requirements in the event of death, disability and involuntary separation, among other things. Also, if you are in the military and had to move, you do not have to meet the requirements to be eligible.

What You Can Deduct

• Moving Truck Rental

• Moving Company Costs

• Moving equipment such as boxes, hand trucks, etc

• Gas for moving truck

• Lodging if you had to drive overnight

• You cannot expense meals

• You cannot expense any moving expense that’s reimbursable by an employer

Use Form 3903 to figure your moving expenses.

Forgot or put off your tax return? Here’s what you need to know.

It’s going to be ok. Or at least if you take care of it now, it’s going to be better than it will be if you keep avoiding filing your return.

There are penalties if you fail to file and pay by April 15th. There are also penalties for failing to pay by the April 15th deadline. The penalties can start out somewhat minor but they can quickly escalate into very costly penalties once several penalties accumulate. Also, if you do not respond to the IRS’s attempts to collect on what you owe, they can take out a lien which negatively impacts your credit. You can also have your wages garnished.

So to avoid the above mentioned penalties, here’s what you need to do to get this handled.

Act now!
There is a 5% interest rate that gets tacked on per month for failing to file your return and that caps out at 25%. That’s a lot of money to unnecessarily pay when filing can be rather painless in comparison to the cost of the penalty.  

Failing to pay your amount owed is .05% per month and that caps out (although slower) at 25%.

However, if you exceed 60 days in filing, the penalty is no less than $135 or 100% of the balance due—whichever one is less.

File even if you can’t pay now.
The penalty for filing is much greater than the penalty for not paying right away. A payment arrangement can be set up with the IRS for paying taxes you owe.
 
Use a tax professional.
Using a tax professional like us can find ways to bring down your taxable income in ways you may not know about. This will help take the bite out of the penalties.

Learn how your personal vacation can be turned into a legal deduction.

If you own your own business and decide you want to take a two-week road trip across America, you can legally deduct almost every cent you spend on your vacation. Here's how you do it.

1. Set up business appointments prior to your trip.
Many folks think they can go on vacation and just dole out business cards and then the trip is considered deductible. However, they are wrong.

The IRS requires you to have at minimum one business appointment prior to your departure in order to establish a legitimate "business purpose." So if you make appointments prior to leaving you’ll be able to deduct the expenses of the trip.

It’s strongly recommended that make legitimate meetings that are truly relevant to your business. If you do not already have contacts at your destination, you could make new business contacts in the area you are traveling to. For example if your company is building a new website, you could send out an RFP looking for vendors and then meet with those who respond.

A vibrant Linkedin network can be incredibly beneficial when it comes to finding to people to meet with that could help your business in a place you wish to vacation.

It’s super important you keep documents of your planning and expenses on your trip.

2. Sight-seeing while on business vs. doing business while on vacation
If you want to be able to deduct your business expenses for the trip, business must be the primary purpose of your trip. According to the IRS, travel expenses are 100% deductible if your trip is business related and it’s consider to be travel that’s away from your regular place of business as well as longer than a typical day of work in which you’ll need to sleep away from from home to conduct your work.

You don't have to live far away to consider an overnight stay as business travel. It’s just important that you have good justification even if it’s 4 miles from your home. For example, if there is a conference for your industry that’s being held in a hotel in your city. Staying there allows you to get there early and stay late to connect with new contacts and attend late night events without having to drive home.

3. Keep diligent daily expense records.
Each day you’re traveling for business, you’re allowed to deduct up to 100% of lodging, tips and ground transportation. For food, you’re allowed to deduct 50% of your food expenses.

Regarding receipts, the IRS doesn't need a receipt for travel expenses seventy-five dollars or under with the exception of lodging. However, it’s a great best practice to document these items in an expense journal. You can keep track of these expenses there in your smartphone using an app like Evernote. A robust tax journal is immensely helpful if you’re ever audited. You should keep track of details such as amount, date, place and business purpose for the expense.

Again, you need all receipts for lodging even if it’s $6.

Deductible expenses are not just food, lodging and transportation. You can also deduct laundry, shoe shines, manicures, and dry-cleaning costs for clothes you wore on the trip. Your dry cleaning bill will likely come right before or right after your trip and the cost is 100% deductible. You’ll want to keep the receipt and make sure the dry cleaning happens within a couple of days of the trip.

4. Take four-day weekends.
If you do business on a Friday and on the following Monday as well, you can deduct the expenses over the weekend even though you were not technically conducting business over the weekend. However, if you do business on a Tuesday and then again on Friday, you can’t deduct expenses for Wednesday and Thursday.

5. Make sure the majority of your days are business days.
To deduct transportation expenses, business must the primary purpose of the trip and that is defined by most of the days of your stay are qualified business days. So if you go to Florida and only one of those days you do business, then you can only count expenses for that day. But if more than 50% of the days are business, you can deduct the transportation costs.

Granted, sometimes it’s best for your health and mental well-being to just get away from work entirely so don’t feel like you have to do business on your vacation for the sake of being frugal. Make sure you have ample time to relax and rejuvenate.

Automatic reinvestment is a great strategy but is still subjected to being taxed.

Many mutual funds give you the choice of automatically reinvesting dividends and capital gain allocations back into the fund. This is an excellent option to acquire new shares and build your investments.

The majority of shareholders indeed take advantage of this mechanism. However, it should be understood that this reinvestment is still subjected to taxation as any new investment would be. Some investors wrongly assume that because they did not pocket the dividend or gain that it won’t be considered taxable income. Dividends reinvested are treated as cash and thus you are taxed accordingly.

Likewise, capital gain allocations reinvested are taxed as long-term capital gain.

If you choose to reinvest, combine the total reinvested to the cost basis of your account. In other words, the amount for which you bought your shares. The cost basis of your newly purchased shares via automatic reinvesting can be seen on the account statements you receive from your fund.

You’ll want to make sure you keep this information as it’s critical when you sell shares.

The IRS requires you to meet specific obligations when hiring a new employee. Here’s a list of what you need to know to do

Proof of Citizenship
You need to confirm that every new hire is allowed to work in the US. To confirm this, you and the employee will need to complete the U.S. Citizenship and Immigration Services (USCIS) Form I-9, Employment Eligibility Verification. An I-9 form is available at USCIS offices or you can call 1-800-870-3676.

New Hire Notification
A new hire is someone that has not been worked for you as an employee or was an employee but has not worked as employee of yours for a total of 60 days in a Row.

The IRS requires you to report any new employee to an appointed state registry for new hires. Most states accept a copy of the W-4 with your information added.

W-4
Each new employee needs to fill out and submit to you a W-4. They must include their name and social security number. Employees without a social security card should apply for one.

Employers are required to give you your W-2 by January 31st. Here’s what to do if you don’t have it.

You should follow the four steps below if you’ve not received your W-2 from your employer.

1. Reach out to your employer.
Ask your employer the date as to when the W-2 was mailed. There is a chance it was returned to them. Most large companies are pretty good at complying with these so it’s likely there was an error. Even small business usually use some sort of payroll system that handles the sending of these. If it’s been mailed and enough time has gone by for you to have received it, ask your employer to resend your W-2.
2. Let the IRS Know.
If you don’t have your W-2 by February 14th, call the IRS at 1-800-829-1040. You’ll have to provide your name, address, city, state, zip code, Social Security number, phone number and also be prepared with the following info: Employer’s name, address, city, state, zip code and phone number. You’ll also need to have dates you were employed by them. Lastly, you’ll have to give an estimate of the wages you earned, how much federal income tax was withheld. You may be able to get a lot of this information from a most recent pay stub.
3. File your return.
You’ll still need to file a return prior to April 15th even without a W-2. Not having a W-2 is not a reason to not file.
4. File an amendment.
Once you’ve filed your taxes based on your estimated W-2 and then you receive your actual W-2 from your employer, you’ll need to file a 1040X if any info is different than what you estimated.

You can find intructions for Form 4852 and Form 1040X online at https://www.irs.gov/ or you can call 1-800-TAX-FORM (800-829-3676).