How to Figure Your Estimated Taxes

March 26th, 2015


http://www.dreamstime.com/royalty-free-stock-photography-hand-writing-time-taxes-hands-marker-face-clock-image36872907If you’re self-employed, there’s no tax withholding from your business earnings you can use to meet your tax obligation. Instead, you pay estimated taxes in four installments.

There are two main challenges with respect to estimated taxes:

  1. Figuring out how much to pay (so you don’t overpay and have to wait for a refund or underpay which can result in penalties); and
  2. Having enough cash available to make your installments.

Here are some strategies to help you address these challenges.

Rely on what you paid last year

Past is prologue for estimated taxes because relying on the past can (1) give you a good idea of how much to pay and (2) avoid estimated tax underpayments even if you fall short. Under one safe harbor from estimated tax penalties, as long as your estimated taxes for this year are at least 100% of your prior year tax liability (or 110% if your adjusted gross income in the prior year was at least $150,000, or $75,000 if married filing separately), there’s no underpayment penalty.

In order to use this penalty safe harbor, you need to know what your tax liability for last year actually is. This can be troublesome if your income fluctuates and you obtain a filing extension for your income tax return.  For example, your first estimated tax payment for 2015 is due April 15, 2015, but if you have a filing extension for 2014 income tax return, you won’t know the final tax bill for 2014 on which to figure estimated taxes under this penalty safe harbor.

Project your bill for this year

A better way to make more accurate estimated tax payments (so you won’t overpay and have to wait for a tax refund or underpay so you have to come up with more cash at tax time) is to figure what you think you’ll actually owe this year. This can be done with the help of your tax advisor or using an IRS worksheet. Your estimate doesn’t have to be perfect; under a second safe harbor, as long as your estimate is 90% of the final tax bill, there won’t be any estimated tax penalty.

Set money aside for payments

One of the biggest challenges for many self-employed individuals is having the cash on hand to pay the estimated tax installment on time. This cash flow concern can be remedied by disciplined savings.

But how much do you need to save in light of the uneven time periods for the four estimated tax installments (April 15, June 15, September 15, and January 15 of next year)? A handy free tool that you can use to figure how much you need to save weekly so you’ll have your targeted payment on the installment due date is DynaTax’s calculator. Of course, it’s up to you to implement a savings plan for your targeted payment.

Conclusion

Estimated taxes are a fact of life for self-employed individuals. There may be alternatives for certain people (e.g., those with a working spouse who can use his/her withholding to cover the couple’s tax bill; sideliners who can use withholding from a job). But most self-employed individuals should plan for estimated taxes. Work with a tax advisor to get a handle on this tax responsibility.


Partnerships and LLCs: A Tax Perspective

March 19th, 2015


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As in the case of sole proprietorships, the tax statistics on partnerships (including limited liability companies that file tax returns as partnerships) reflect an improving economy.

For 2012 (the most recent year for statistics), there were 3,388,561 million partnerships (3.1% more than in 2011), representing more than 25.3 million partners (up from 23.3 the year before).

Here is some more interesting tax-related information about these filers:

  • Limited liability companies (LLCs) in the U.S. accounted for the majority (65.3%) of all partnership returns. This is the 11th consecutive year that LLCs dominated the number of partnership returns filed. They reported the most profits (33.4% of all returns) and the largest share of partners (42.5%).
  • Limited partnerships represented only 12% of all partnerships, but were extremely profitable.
  • Total receipts (revenue) for filers increased by 9.4% from the previous year to $6.6 trillion. Profitability was also up, increasing by 33.9%.

Which industries use partnerships/LLCs?

From tax statistics, real estate and rental and leasing were by far the most significant sector, accounting for 49.1% of all returns filed. Other significant sectors were in finance and insurance; health care (laboratories, outpatient centers, social assistance); arts, entertainment, and recreation; accommodation and food services; repair and maintenance; and personal/laundry services.

Which industries are most profitable?

While real estate is the most numerous type of partnership, the finance and insurance sector had the largest share of total net income (43.1%), as well as the greatest amount of total assets (55.2%).

Final thoughts

IRS statistics support what we all know: that the improving economy helps to make businesses more profitable and creates a climate that’s conducive to new businesses. Hopefully, this trend continues.


Sole Proprietorships: A Tax Perspective

March 12th, 2015


http://www.dreamstime.com/royalty-free-stock-photography-digital-online-business-statistics-concept-image47304207

IRS statistics help to paint a picture of sole proprietorships in the U.S. and makes for interesting reading. Following a review of these statistics, my take is that the state of sole proprietorship from a tax perspective reflects an improving economy.

Here are some key numbers (for the 2012 tax year) (yes, it takes the IRS quite a while to compile data):

  • There were about 23.6 million sole proprietors (exclusive of farmers), up 0.5% over 2011.
  • Profits were $304.9 billion, up 7.9% over 2011.
  • Profits as a percentage of business receipts were 23.4%, the highest level in 25 years.

The greatest number of returns was filed by those in professional, scientific, and technical services. In descending order, other significant sectors were construction, administrative services, retail, transportation and warehousing, and health care.

The biggest expense for sole proprietorships was car and truck expenses, followed by salaries and wages for staff (sole proprietors do not receive salary). Deductions for home office expenses exceeded $10 billion (0.3% more than in 2011).

Bottom line: The number of sole proprietorships, as well as their profits, is growing in contrast to the bleak years of the Great Recession. However, the increase could be attributable in part to the growing number of independent contractors who joined the ranks of sole proprietors after being laid off from corporate jobs.

Whether increases in the number of sole proprietorships, and their profits, has continued beyond 2012 will not be known for sure until new IRS statistics are released next year. Stay tuned!

Up next: Partnerships and LLCs: A Tax Perspective


Should Small Business Saturday Be a Tax Holiday?

March 5th, 2015


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Small Business Saturday® (SBS), which is the first Saturday after Thanksgiving, was established by American Express OPEN in 2010 as a way to help small businesses get customers, which stimulates sales on Main Street.

The NFIB has included in its legislative agenda for 2015 the goal of making Small Business Saturday a sales tax holiday (here’s the agenda for my state of Florida).

About sales tax holidays

A sales tax holiday is a temporary suspension of the requirement to charge sales taxes that would otherwise be due on specific goods and services. The idea of a sales tax holiday is relatively new, with the first holiday created in New York for the first week in January 1997.

Today, only a little more than a dozen states offer some form of tax holiday. The holiday usually runs for a weekend or so.  Some states run their holidays each year (e.g., early August for back-to-school clothing and school supplies); others do so from time to time (Florida had a pre-hurricane season sales tax holiday last year and waived sales tax on items such as flashlights, first aid kits, and portable generators).

Find a list of sales tax holidays for 2015 from the Federation of Tax Administrators and the Sales Tax Institute. The latter list includes annual sales, so even if 2015 days aren’t published yet, you can plan your marketing efforts nonetheless.

Wisdom of a tax holiday for SBS

Last year, the Tax Foundation concluded that tax holidays are politically expedient but poor tax policy. The Tax Foundation found:

  • Sales tax holidays do not promote economic growth or significantly increase consumer purchases; the evidence shows that they simply shift the timing of purchases. Some retailers raise prices during the holiday, reducing consumer savings.
  • Sales tax holidays create complexities for tax code compliance, efficient labor allocation, and inventory management. However, free advertising for what is effectively a paltry 4 to 7 percent sale leads many larger businesses to lobby for the holidays.

Nonetheless, many small retailers like the notion of a sales tax holiday because of the free advertising. Will this boost overall sales or simply change the time at which revenue is received (see the Tax Foundation’s conclusion noted above).

Final thought

With or without any sales tax holiday, Small Business Saturday has been very helpful to some local retailers and restauranteurs; it should continue to grow each year. Mark your calendar: November 28 for SBS 2015!


Legal Protections for Independent Contractors?

February 26th, 2015


Independent Contractors protectionEmployees enjoy various legal and financial protections: minimum wage and overtime rules, employee benefits (health coverage; retirement savings), unemployment insurance and workers’ compensation, and various anti-discrimination laws. Independent contractors have virtually no legal or financial protections (in some states they can opt in for workers’ compensation).

Should there be legal and financial protections for independent contractors, given a prediction that within the next five years or so about half of the entire workforce will be independent contractors?

Government protection versus oppression

I’m loathe to invite new government regulation. All too often government regulation results in overkill, costing businesses untold expense and time without the meaningful benefits that had been intended (think Obamacare).

But there can be some protections extended to independent contractors without the need for additional burdens on businesses. These may include:

  • Universal access to workers’ compensation. States can allow independent contractors to buy this coverage (only a limited number of states currently allow this).
  • Voluntary withholding. While mandatory withholding of income taxes from payment to independent contractors would be burdensome to businesses (in fact a mandatory withholding rule that had been created for federal contractors was repealed before it could take effect), a voluntary system similar to that used for Social Security benefits and certain retirement payments could be adopted. Payors would not be required to offer withholding but could agree to do so if the contractor requested it (for payors that use payroll providers, the cost for the addition of an independent contractor would be nominal, but even this could be shifted to the contractor). Withholding would help independent contractors pay their income and self-employment taxes without having to file estimated taxes.

Dependent contractors

A recent Wall Street Journal article discusses a new category of worker (in addition to employee and independent contractor): dependent contractors (those who work entirely or primarily for a single company). Referencing a 2005 ruling from the National Labor Relations Board, the article notes that countries such as Canada and Germany provide specific protections for workers who are economically dependent on a single company.

If there were a way to create a legal definition of dependent contractor (perhaps working a minimum number of hours for a single company), then many benefits enjoyed by employees could be extended to dependent workers without a lot of new laws or costs to companies. These added benefits could include the ability of a dependent contractor to opt for coverage under the company’s health care plan (by paying for it) or joining the company’s 401(k) plan (by paying for it and without requiring any company contributions).

Conclusion

To date, discussions by companies and the focus of government on independent contractors has related solely to distinguishing them from employees. Given the changing landscape of the workplace, there needs to be a new discussion about the legal and financial protections for independent contractors.


Office Pools — Good or Bad Idea?

February 19th, 2015

Betting on football at the officeOffices across the U.S. were abuzz with the Super Bowl on Sunday, February 1. March Madness begins on March 17.  Throughout the year there are fantasy teams as well as events and occasions (e.g., the birth of an employee’s child) that trigger a betting pool among employees. Office pools may be present in two-thirds of all companies.

Should you allow or ban pools at your company?

Positive effects

It’s believed that office pools foster morale and bonding among staff members. There’s no actual outlay for the company, even though it can have positive effects for the company.

Negative effects

Many experts say that office pools can have a serious impact on productivity, costing businesses billions annually. (The projected loss for March Madness 2014 was $1.2 billion.)

There’s time out for chatter and betting. What’s more, some employees actually watch or listen to games at work or take time off before or after a big game.

Of course, you can find experts that argue office pools increase productivity in the long run by creating a happier workforce.

Employers should be aware that betting, even with nominal amounts, may be illegal under state law (even though enforcement of the law may be nil). Thus, even if office pools are overlooked, employers should be careful not to give them any actual support.

Conclusion

It’s your call. But trying to ban any pools may be futile; employees likely will find a way to make them happen if they want them and the company will be perceived as a meanie.

Just make sure that employees aren’t pressured by co-workers to participate if they don’t want to and that the company doesn’t agree to any illegal activities.

Valentine’s Day at Your Business

February 12th, 2015


Amber Heart

For some small businesses, such as jewelry stores, restaurants, flower shops, candy shops, and card stores, Valentine’s Day (a Saturday this year) means serious business.

For example, this day is the third biggest holiday for jewelers (after Christmas and Mother’s Day); consumers are expected to spend a total of $4.8 billion on jewelry this year.

But the holiday on February 14 raises a couple issues for all small businesses. Here’s what comes to mind:

Using the holiday for marketing. The day can be used to show appreciation to customers. This can be reflected in special messages sent via email or social media, or special offers (e.g., discounts on products or services; special drawings).

Using the holiday to do good. Operation Valentine is a way to remember the troops far from home. One small business owner, a Vietnam veteran, began participating a couple of years ago; this year he sent more than 100 letters. You can send valentines through Operation Gratitude.

Reviewing company dating policies. Some large companies believe that employees who date each other may cause workplace problems, such as distractions and favoritism. I don’t know of any small businesses that ban dating among employees. But even these companies have to be careful to avoid any sexual harassment claims or other negative results.

Find a helpful sample dating policy here.

Final thought

Wishing you xoxo this Valentine’s Day!

The President’s Tax Proposals

February 5th, 2015


TaxesIn the President’s State of the Union Address on January 20, 2015, he laid out some tax proposals designed to raise revenues to fund a number of new federal programs (e.g., free tuition for everyone at community colleges). I don’t want to appear political, but I’m compelled to comment on two provisions that gave me a strong “been there done that” feeling.

Carryover basis for inherited property

The President suggests that we eliminate the stepped-up basis rule that applies for inherited property. This rule effectively wipes out any untaxed capital gain that the decedent had been sitting on. In its place the President would use a carryover basis (heirs would take over the tax basis of the decedent) so that the untaxed capital gains will be taxed when heirs sell the property.

In theory this sounds fine because it merely taxes what would have been taxed had the decedent sold the assets during his/her life. In practice, it’s a TERRIBLE idea as proven by two attempts to implement carryover basis in the past.

Here is a brief description of my experience with prior carryover basis attempts (warning: this is complicated stuff):

  • The concept of carryover basis for inherited property was created by the Tax Reform Act of 1976 and was set to take effect for property inherited from decedents dying in 1977 and later. Heirs and tax practitioners soon realized that it was unworkable (it was impossible in many/most cases to know what a decedent had paid for property or whether that property had originally been acquired by gift or inheritance, and whether any improvements (that would increase basis) had been made. A moratorium was in place until 1978; it was repealed in 1979.
  • The concept was brought back in a modified form by the Economic Growth and Tax Relief Act of 2001 for property inherited from someone dying in 2010, the year in which it was slated that there would be no federal estate tax. Ultimately, a modified carryover basis rule could be used at the option of executors of people who died in 2010. If they used the modified carryover basis rule, there would be no estate tax, but if they chose a stepped-up basis, there was a $5 million federal estate tax exemption and a 35% federal estate tax would apply. I have no idea how many estates opted for carryover basis, but I’m sure the number was limited.

While theories about fairness may support the concept of a carryover basis, my experience through both of these prior legislative attempts shows me that it is just unworkable.

My suggestion: Leave the stepped-up basis rule alone.

Increased capital gains rates

Currently, the top rate on capital gains is 20%; most people pay at the rate of 15% and those in the lowest two brackets pay no capital gains tax. The President proposes to raise the top rate to 28%. Again, I think this is a TERRIBLE idea (although not as terrible as carryover basis).

The rate on capital gains (which means gain on assets held more than one year) has gyrated considerably over the years. The last time we had a 28% rate was in 1997, and Congress at that time decided to bring the top rate down to 20%.

Look what other countries do:

  • Canada only taxes half of the gain, so you only pay half of your marginal tax rate.
  • Great Britain has a top rate of 28%, but exempts gains up to an annual limit (for 2015 this is about $16,500 in U.S. dollars).
  • Japan has a 20% rate.
  • These countries that have no capital gains tax: Belgium, Belize, Hong Kong, Malaysia, and New Zealand.

A good argument can be made on both sides of this issue:

     In favor of a tax rate increase: Why should gains from investments be taxed differently than gains from labor?

     Against an increase: Why should gains from investments be taxed when the capital to make them has already been taxed?

My suggestions: Leave the current rates where they are, or reduce/eliminate them as part of comprehensive tax reform. Make the 100% exclusion for gain on the sale of qualified stock permanent and extend it to all startups. Currently, it is restricted to C corporations in manufacturing, technology, retail, and wholesale.

Conclusion

A few weeks ago Senate Finance Committee Chairman Orrin Hatch said, “My top priority for the new Congress will be to reform our nation’s broken tax code. Tax reform is long overdue,” and repeated his seven principles for tax reform. Let’s see if anything can be done in this session of Congress and whether the President’s proposals will play any role.

The Entrepreneur Track

January 29th, 2015


The Entrepreneur TrackWhen I was in high school in the mid-60s, the New York City school system had three tracks: academic (for those planning to go to college), commercial (for those planning to become secretaries and bookkeepers), and general (for everyone else; those planning to go into the trades or automotive, or join the military).

I think there are three tracks for startups as well: lifestyle businesses, scalable businesses, and businesses that change the world. Let me explain what these are and why it’s important to know this at the outset:

Lifestyle businesses

Lifestyle businesses comprise the vast majority of businesses in the U.S. (The term was coined in 1987 by William Wetzel, a director emeritus of the Center for Venture Research at the University of New Hampshire.) Lifestyle businesses are set up and run to essentially provide a paycheck for owners and enable them to support their families. They are the mom-and-pop dry cleaners, pizzerias, landscapers, and boutiques; consultants, freelancers, and independent contractors; and most other closely-held businesses. Sure, these businesses hope to grow from year to year, but their goal is primarily the owners’ own support; they don’t have large expectations.

Many owners of lifestyle businesses ‘DIY’ for most or all of their business tasks, including marketing, HR, and government compliance. They want to know what they need to know so they can run their business well and stay out of trouble.

Books I like:

  • Become Your Own Boss in 12 Months, 2nd Ed., by Melinda Emerson
  • E-Myth Revisited by Michael Gerber

My book, J.K. Lasser’s Small Business Taxes 2015, is also suitable for business owners who want to know how to factor tax results into their business planning.

Scalable businesses

These are companies that can grow, often duplicating themselves for multiple locations or becoming franchises. They’re also referred to as growth businesses. Can you say Subway? For these businesses, the sky’s the limit; some may even go public and provide tremendous wealth for owners. They don’t necessarily have a core idea that’s radical; they simply do something better than their competitors.

Owners of scalable businesses want to know how to grow dramatically. Owners must learn to delegate responsibilities in order to achieve their goals.

Books I like:

  • Let Go to Grow by Doug and Polly White
  • Grow to Greatness: How to Build a World Class Franchise System Faster by Steve Olson

Change-the-world businesses

These are companies that are game changers, such as Apple, Facebook, and Uber. Ultimately, if they succeed, they become big businesses (even though all obviously start out as small businesses).

Owners of these businesses need to understand venture capital, which is essential for their growth.

Books I like:

  • The Creator’s Code by Amy Wilkinson (pub. date is February 17, 2015)
  • Venture Deals, 2nd Ed., by Brad Feld

Conclusion

Like students in my high school, those on one track could pursue another life course than the one dictated by their track (e.g., many college graduates in the 60s went to Katherine Gibbs for job skills; many of those who went into the military ultimately finished college).

A lifestyle business could expand and become scalable (my cousins transformed their parents’ local art supply store into a national retail and online art supply company). But an owner who knows his or her track can pursue the tools and information to help with success.

What to Do About Sec. 179 Uncertainty

January 22nd, 2015


Here’s the catch-22 for businesses: in order to increase their capital good, equipment is necessary, but to get the equipment, businesses may lack the capital and need tax incentives to help pay for it … and those incentives are currently up in the air.

The extension of the favorable dollar limit on first-year expensing (the so-called Sec. 179 deduction), which was enacted on December 19, 2014, has already expired!

The $500,000 limit that was extended for 2014 no longer applies; instead the dollar limit is set at $25,000, unless Congress takes action. Businesses that depend on the tax savings from this upfront deduction for their capital purchases face tough choices.

http://www.dreamstime.com/royalty-free-stock-image-end-uncertainty-image23769116Here are some options to consider:

Wait and see

Businesses that need the write-off to help pay for equipment and machinery costing more than $25,000 may want to wait and see what Congress does about extending the favorable dollar limit for the Section 179 deduction. With the new makeup of Congress, serious tax reform in the coming year is possible (but not certain). This could include a permanent, or at least long-term, extension of the $500,000 limit.

Lease instead of buy

The Sec. 179 deduction applies only for businesses that purchase equipment. Those that lease instead of buy can write off all of their lease costs. This fixes the monthly cost for the equipment, which may turn out to be less than the cost of buying it.

This option doesn’t make sense in all cases:

  • Leasing may not be an option for certain equipment.
  • Businesses are essentially locked in for the term of the lease, which is a detriment if the equipment becomes obsolete before the lease ends.

Buy and finance

If a business needs the equipment now but lacks some or all of the cash to buy it, financing options should be explored:

  • Seller-financing. The company selling the equipment may offer financing to swing the deal.
  • Working capital loans. For example, Kabbage offers lines for small businesses from $2,000 to $100,000, with a prompt approval based on real-life data, such as your bank account or QuickBooks data (not necessarily a credit report).

For any type of financing, check terms and conditions carefully.

Conclusion

It’s become the norm for businesses to operate without the ability to plan because Congress has failed to fix tax laws for the future. Let’s see what happens now.