What are the most common tax mistakes your business needs to avoid? CPA Gail Rosen shares her tax advice for small business owners to help you out.
When you manage taxes for your business, you can run into IRS trouble without even knowing it. Gail Rosen, CPA, a small business tax specialist and shareholder with Wilkin & Guttenplan, PC., finds that people regularly make a few mistakes. Here, she shares her tax advice for small business owners, so you can avoid common pitfalls.
Image courtesy of Gail Rosen
1. They Pay People Incorrectly
When you hire someone, you classify them either as an employee or a contractor. It can be easier and more cost-effective to hire a contractor, since you don't pay the employer's share of payroll taxes and workers' compensation. You also have no obligation to provide benefits. Plus, you don't have to deal with collecting and remitting payroll taxes on their behalf, either.
But business owners get in trouble if they classify people as contractors when they're really employees. "This is one thing that the government is really auditing. There's a lot of money they can get from assessing taxes, interest and penalties when they find a business is misclassifying employees," said Rosen.
2. They Don't Deduct All Their Startup Costs
When you've opened a new business and made sales, you can begin to amortize (or gradually write off over time) your startup costs. This includes expenses and assets from years before you started the business.
"A lot of times, when people start a business, they bring in assets and expenses they have already paid for. For example, if they use their personal computer primarily for the business, they can depreciate the lower of cost or fair market value of the computer when it was placed in service, even if they bought it years ago."
3. They're Scared to Take the Home Office Deduction
Rosen believes small business owners are skeptical of taking the home office deduction (it has a reputation for being an audit lightning rod). "People don't get audited just because they take the home office deduction. They get audited because they take the deduction incorrectly."
You are eligible for the home office deduction if you meet one of three criteria:
a. It is used exclusively and on a regular basis as your principal place of business.
b. You meet clients, customers or patients on an exclusive and regular basis at your home office.
c. Your home office is a separate, unattached structure from your actual home that you only use for business.
If you meet one of these criteria, you should not be afraid of taking this deduction.
4. They Don't Get the Full Deduction for Auto Expenses
If you drive a car for your business, you can deduct the auto expenses. There are two ways to claim this deduction. The IRS offers a standard deduction based on how many miles you drive (53.5 cents per mile in 2017) or using actual expenses prorated for the amount of business use.
Rosen finds that many business owners get a bigger deduction for the actual cost. You need to track how much you pay for gas, insurance, repairs, etc. and multiply these expenses by the percentage of miles driven for business purposes. It takes more effort, but Rosen says it leads to a larger deduction for many of her clients.
5. They Fall Behind on Estimated Taxes
When you own a business, you may need to pay estimated taxes every quarter based on your profits. Rosen says that some business owners have trouble budgeting and fall behind on their payments. They underpay and end up owing interest and tax penalties.
6. They Pick the Wrong Business Structure
When you launch a business, you need to decide on a business structure (e.g., a partnership, LLC, or S or C Corporation). You also need to pick accounting methods, including an approach to recognize revenue. "Once you make these decisions, they're difficult to reverse. It's a lot easier to make the right choice the first time around." Take the time to carefully weigh the pros and cons. Don't just focus on what's right for now, but consider how future business growth will play in.
Business structures have different rules for how owners can pay themselves. When business owners don't know the rules, they set themselves up for tax trouble. "The IRS is really watching out for S Corps that aren't paying the owners a reasonable salary," says Rosen. In an S Corporation, active owners need to take some salary and cannot take all the profits out as distributions.
However, in a sole proprietorship, partnership or LLC partnership, you cannot pay yourself a salary out of payroll.
7. They Don't Find the Right Accountant
Small business owners don't spend enough time finding the right accountant, someone they trust and feel comfortable calling or emailing with questions. "It is important to find a trusted advisor in your accountant. Business owners need to find someone they click with."
If there's a common theme in Rosen's advice, it's that you can avoid tax problems by planning early and working with a quality accountant. That's the best tax advice for small business owners.
If you have any questions about your particular circumstances, it's always best to check with your legal and tax professional.
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