Earlier this week, the House passed the Mobile Workforce State Income Tax Simplification Act of 2011 (H.R. 1864). This bill would bar states from imposing taxes on workers until they have actually worked at least 30 days within their borders. If it passes the Senate, this measure would go a long way in helping simplify the regulatory burden of withholding taxes for mobile workers and reporting them to states outside of where a business is based.

Currently, in the 41 states in which there is an income tax on wages, the rules for withholding are not uniform. This creates confusion and complexity for small businesses that have a mobile workforce.

For a good discussion of this complexity, read an article from the Journal of Accountancy (you don’t have to be a CPA to understand it).

The measure, which just passed the House in a bi-partisan effort, would create a national standard by limiting withholding to the state or locality of the employee’s residence as well as to the state or locality in which the employee is physically present performing duties for more than 30 days.

A coalition of more than 495 businesses and organizations support the bill. And so do I! Urge your senators to do so now.

Would you be impacted by cutbacks?

Many businesses have switched to e-mail for sending correspondence (e.g., invoices, letters, contracts, etc.). Others use private delivery services (e.g., UPS and FedEx) for shipping some packages expeditiously. For these businesses, shorter hours, fewer days of delivery, and other cutbacks by the USPS will hardly be noticed.

However, other small businesses continue to use various postal services. They may, for convenience, have post office boxes to receive mail and packages. They continue to use direct mail services for reaching out to customers and prospects.

Into which category does your business fall? Would you be seriously or even mildly impacted by cutbacks by the post office, or would you not be affected at all?

Do you support a federal bailout?

It would be nice if the federal government helped small businesses that were on the ropes; it hasn’t done this. I question whether it makes sense to spend precious taxpayer dollars on a business whose model is antiquated; increased use of e-mail isn’t likely to diminish and the declining revenues from stamp sales will surely continue. Why prop up a buggy whip business? Anyway, that’s my opinion.

If your business is incorporated, you can take a salary for the work that you do. Obviously, your company’s revenues are a big part of the decision on how much you can afford to take out of its coffers as compensation. Taxes are another important factor.

C or S?

Which type of corporation you run affects the decision on compensation. As a general rule (and by no means your guiding factor):

• C corporations want to optimize compensation to an owner to create as large a tax deduction as possible.
• S corporations want to minimize compensation to keep employment taxes low. Owners will pay income tax one way or the other (as their share of profits or as compensation).

IRS looking over your shoulder

The IRS is well aware of the general rules for C and S corporations. Thus, it seeks to disallow a C corporation’s deduction for any compensation that is not considered to be “reasonable” under the facts and circumstances of the situation.

By the same token, it is on the hunt for S corporations and their shareholders who try to avoid employment taxes by underpaying compensation. One recent court decision is a case in point. A CPA was the sole owner, shareholder, director, and employee of his S corporation. He had a contract with his corporation to provide exclusive services and took a salary of $24,000 each year (for the years in question). He also had dividends distributed to him of $203,651 and $175,470 in these years. The IRS recharacterized the dividends as compensation and imposed FICA taxes on them. A district court, affirmed by an appellate court, said that the economic realities of the situation — the earnings of the corporation based on the owner-employee’s services — should control the amount of compensation. (The IRS’ expert witness was used to determine what was appropriate compensation in this situation.) Thus, paying a minimum salary may not be sufficient to avoid an IRS challenge if the minimum amount is not reasonable under the circumstances.

Work with a tax advisor

Compensation to owner-employees typically is fixed in the annual meeting for the corporation and memorialized in the corporate minutes. It is a good idea to discuss the compensation matter with a tax advisor before holding the annual meeting and setting compensation for the coming year.

• Small businesses currently receive only 17% of business financing (bank loans, venture capital, angel investors).
• If 1% of the $30 trillion held by Americans in long-term investments were to be shifted to small businesses, it would amount to more than 10 times the venture capital invested in 2011.
• Access to equity crowdfunding won’t begin until the SEC issues rules, which are required within 270 days of enactment (i.e., by early January 2013).

How much can you raise?

You will be able to use crowdfunding to raise up to $1 million. Businesses that need more funding will have to comply with the general SEC public offering requirements. Once you raise money totaling $1 million, you’ll have to wait at least 12 months before another crowdfunding offering. Also, once the number of investors exceeds 2,000, you’ll have to register with the SEC.

Until now, raising equity was limited to approaching “accredited investors,” which means individuals with a net worth exceeding $1 million (exclusive of their primary residence) or $200,000 in annual income. Crowdfunding has been extended to nonaccredited investors. Investments by these nonaccredited investors are restricted to:

• $2,000 or 5% of income if annual income is less than $100,000.
• 10% of income (up to $100,000 investment) if income is more than $100,000.

Sharing financial information

To participate in crowdfunding, your company must provide certain financial information. If you want to raise:

• $100,000 or less: Tax returns and a financial statement certified by a company principal.

• $100,000 to $500,000: Tax return and a financial statement must be reviewed by independent accountants.

• More than $500,000: Audited financial statements

Once you have investors, be prepared to communicate regularly with them. Rules on frequency and disclosure that have yet to be issued by the SEC likely will address this concern.

More information
Listen to my radio interview about crowdfunding with Matt Imhoff of EquityNet.com – click here to listen.

Here are some of the survey’s findings:

• 20% of small business cited taxes as the single most important problem facing them today.
• 22% said it is the single most important external impediment to growth.
• Small businesses spend on average $74 per hour to comply with the federal tax code, which is the most expensive paperwork burden imposed on small businesses by the federal government.
• 88% of small business owners use paid preparers to complete their tax returns.

What does this uncertainty do to small business and the economy? The NFIB fact sheet says that it

“hinders long term planning and create[s] uncertainty which prevents small businesses from making investments.”

It drains small businesses of valuable resources that could otherwise be spent on hiring, research, and other activities that would benefit the nation.

What’s up for 2012?

If Congress fails to take action now, the more than four dozen tax breaks that expired at the end of 2011 will not apply for 2012. This means:

• Many small business owners will owe the alternative minimum tax (AMT), especially those living in high-income tax states; higher taxes on owners means less money for hiring, etc.
• Businesses won’t be able to claim the research credit or many employment-related tax credits; the incentives won’t be there to incentivize.

What’s up for 2013?

If Congress does not make changes for 2013, it will be “taxmaggedon.” What to expect in the absence of any Congressional action:

• The Bush-era tax cuts will expire. This pushes the top tax rate up to 39.6%, the capital gains rate to 20%, and many other unfavorable tax rules.
• The Medicare surtaxes on earned and unearned income (as created by the Patient Protection and Affordable Care Act of 2010) will take effect for the first time.

What to do!

Become political. Whether you fall on the left or the right, you must urge your representatives to act. Just like a parent’s torment when a child goes missing, the uncertainty (not knowing what the tax rules will be) is killing us.

Expired tax rules
More than 50 tax rules affecting individuals and businesses expired at the end 2011. Most of the rules are noncontroversial; both sides of the aisle in Congress favor an extension. But when will an extension be enacted?

House Speaker Boehner (R-OH) said an extender bill likely would be enacted before the election. If Congress waited until this time to act, it would mean that three of the four estimated tax payments for 2012 will have already been made before we even know what the tax rules for this year will be.

A Ways and Means Committee hearing will be held in late April to consider tax reform that would make some extenders permanent. Ways and Means Committee Chairman Dave Camp (R-MI) said in a joint-statement with Rep. Patrick Tiberi (R-OH), “Far too many provisions in the tax code are temporary, making it hard for employers to plan, invest and create new jobs for American families.” Yah think?

Estimated tax safe harbors
So what are taxpayers supposed to do about their 2012 estimated taxes? They can rely on a safe harbor to avoid any estimated tax penalties for underpayments. This safe harbor requires taxpayers to base 2012 estimated tax on 2011 tax liability. If their 2012 estimated taxes total 100% of the tax 2011 tax bill (or 110% if adjusted gross income in 2011 was more than $150,000), then they are penalty free.

The problem with this safe harbor is that it overtaxes the very people who can least afford it. Suppose you already see that 2012 is not shaping up to be a great year. If you use the 100% safe harbor, you may overpay your estimated taxes and be out-of-pocket for the money that could better be spent reinvesting in your business.

You might consider closely monitoring estimated taxes so you can adjust payments going forward. If you wind up paying at least 90% of the taxes you’ll ultimately owe on your 2012 return through estimated taxes, there will not be any underpayment penalty. You could, for example, make a modest payment now on the theory that your revenues will be down and your taxes will be lower than last year. If, by June, things turn around, you can adjust your second estimated tax payment.

Even if you underpay estimated taxes, the cost is not that great at this time. The underpayment penalty is figured using the IRS interest rate. The rate for the second quarter of 2012 is only 3%!

You can learn more about making estimated tax payments through my book, J.K. Lasser’s Small Business Taxes 2012 and IRS Publication 505.

Bottom line
Monitor the fate of extenders as they move through Congress. Also keep a close eye on your estimated taxes for 2012. Hopefully, it won’t be too long until you’re better able to figure your tax payments for this year. Work with a knowledgeable tax advisor to help you avoid both penalties (however small) for underpayments as well as making interest-free loans to the government via overpayments.

Here’s a rundown so that you can contact key players to encourage action, as well as keep track of legislation:

Key players
The House’s Small Business Committee is headed by Rep. Sam Graves (R-Mo). The ranking member on the committee is Nydia Velazquez (D-NY). Other committee members include:

• Lou Barletta (R-PA)
• Roscoe Bartlett (R-MD)
• Jaime Herrera Beutler (R-WA)
• Steve Chabot (R-OH)
• Judy Chu (D-CA)
• David Cicilline (D-RI)
• Yvette Clarke (D-NY)
• Mike Coffman (R-CO)
• Mark Critz (D-PA)
• Renee Ellmers (R-NC)
• Janice Hahn (D-CA)
• Richard Hanna (R-NY)
• William Keating (D-MA)
• Steve King (R-IA)
• Jeff Landry (R-LA)
• Mike Mulvaney (R-SC)
• Bill Owens (D-NY)
• Gary Peters (D-MI)
• Cedric Richmond (D-LA)
• Bobby Schilling (R-IL)
• Kurt Schrader (D-OR)
• Scott Tipton (R-CO)
• Joe Walsh (R-IL)
• Alan West (R-FL)

In the Senate, the Small Business and Entrepreneurship Committee is headed by Sen. Mary Landrieu (D-LA); the ranking member on the committee is Sen. Olympia Snowe (R-ME). Other committee members include:

• Kelly Ayotte (R-NH)
• Scott Brown (R-MA)
• Maria Cantwell (D-WA)
• Ben Cardin (D-MD)
• Mike Enzi (R-WY)
• Kay Hagan (D-NC)
• Tom Harkin (D-IA)
• John Kerry (D-MA)
• Carl Levin (D-MI)
• Joseph Lieberman (I-CT)
• Jerry Moran (R-KS)
• Rand Paul (R-KY)
• Mark Pryor (D-AR)
• James Risch (R-ID)
• Marco Rubio (R-FL)
• Jeanne Shaheen (D-NH)
• David Vitter (R-LA)

Key bills
There have been a number of proposals in this Congress to aid small businesses. Key measures to keep an eye on are:

The Small Business Tax Cut Bill (H.R. 9) is a bill that would provide small businesses (up to 500 employees) with a 20% tax cut in order to bolster job creation. The bill would allow eligible businesses a tax reduction of 20% of their active business income. Unfortunately, the Senate is not expected to even consider the measure.

Extension of expired and expiring tax rules—to date, there has been no bill that would extend the tax breaks that expired at the end of 2011 and those set to expire at the end of 2012.

Final thoughts
While large corporations often engage lobbyists to push their agenda; small business owners can’t afford lobbying costs and need to do things on their own. Become more proactive and voice your opinion. Contact your representatives. Support small business advocacy groups, like NFIB and the Small Business & Entrepreneurship Council. If you do nothing, you have nothing to complain about!

• Form 1120 (for C corporations), Question 15a in the “Other Information” section asks: Did the corporation make any payments in 2011 that would require it to file Form(s) 1099? Question 15b asks: If “Yes,” did or will the corporation file all required Forms 1099?
• Form 1120S (for S corporations), Question 10a in the “Other Information” section asks: Did the corporation make any payments in 2011 that would require it to file Form(s) 1099? Question 10b asks: If “Yes,” did or will the corporation file all required Forms 1099?
• Form 1065 (for partnerships and limited liability companies), Question 18a asks: Did you make any payments in 2011 that would require you to file Form(s) 1099? Question 18b asks: If “Yes,” did you or will you file all required Form(s) 1099?
• Schedule C of Form 1040 (for sole proprietors), Line I asks: Did you make any payments in 2011 that would require you to file Form(s) 1099? Line J asks: If “Yes,” did you or will you file all required Form(s) 1099?

The government’s tax gap, which is now an estimated $350 billion, can be closed to some extent by information reporting. The U.S. Government Accountability Office (GAO) found:  “Information reporting is a powerful tool for encouraging voluntary compliance by payees and helping the IRS detect underreported income.” That’s all well and good for the government, but as a business owner, my 1099 obligation entails considerable work (which is nonbillable time to me):

• I have to ascertain whether a worker is one for whom I have to issue a 1099-MISC. This is done by asking the worker to supply his or her tax identification number on Form W-9 and retain the form with my records. If the worker’s business is incorporated, no further action is required on my part.
• If I determine that the worker is someone for whom a 1099-MISC is required, then I have to keep track of payments. Those totaling $600 or more for the year must be reported; there’s no mandatory reporting for payments under this amount (although the government wouldn’t mind if I reported lesser amounts).
• I have to determine whether the payment is covered by Form 1099-K, which relieves me of filing Form 1099MISC. The 1099-K applies if the contractor is paid by a credit or debit card or electronic payment (e.g., PayPal) and is not exempt; in this case, payments will be reported by credit card processors and other third-party providers. How do I know whether the contractor is exempt from 1099-K reporting (his or her transactions for the year were fewer than 200 and totaled less than $20,000)? Good question? I don’t have a good answer! (Of course, the IRS won’t mind if I issue the form to protect myself even though it’s not required; there’s no penalty for excess filing.)
• I have to file the 1099-MISCs with the IRS and provide a copy of the forms to my independent contractors.

To meet my 1099 obligation, I either have to devote my time or pay someone to do it for me. This regulatory burden is an added cost of business. While I get it, I wish I didn’t have to do it!

Of course, many believe that there is no significant impact on productivity and there are other benefits derived from having an office pool. One study last year found that “labor productivity may be slightly reduced on the short term, [but] employee cohesiveness may increase on the long term.”

March Madness merely points out the need for companies to consider their year-round policies about personal time for workers, the majority of whom have smartphones. Should time be restricted for personal calls? Personal time on the Internet?

Even if there is no formal policy for employees, owners can set the tone for the companies. How owners behave directly affects how staff behaves. You decide!

Self-employed individuals are at a disadvantage to owners of corporations when it comes to Social Security and Medicare taxes. These taxes, called “self-employment tax,” are levied on net earnings from self-employment. Thus, regardless of what self-employed individuals take out of the business, they are taxed on their share of all of the profits. In contrast, for owners of corporations (C or S), Social Security and Medicare taxes (in the form of FICA) are levied only on salary and other taxable compensation. While S corporation owners are also taxable on their share of profits for income tax purposes, these profits are not subject to FICA.

To make matters worse for self-employed individuals, net earnings for self-employment tax purposes do not reflect all of the business-related deductions such individuals are allowed to take. Net earnings are not reduced by:

• Health insurance premiums paid for a self-employed person, spouse, dependents, and children through age 26. This deduction is claimed as a personal write-off; it is an adjustment to gross income (an “above-the-line” deduction).
• Contributions to qualified retirement plans on behalf of a self-employed person. This deduction is also taken as an adjustment to gross income.
• Net operating loss carry-forwards. This write-off is deducted as a negative entry on the line for “other income” on Form 1040. (The recent case of DeCrescenz0 highlights this problem.)

Under the Small Business Tax Act, net earnings for purposes of self-employment tax were allowed to be reduced by health insurance premiums covering self-employed individuals and their families for 2010. This break ran only for one year.

Congress needs to make changes to create greater parity between self-employed individuals and corporate owners. Change the deductibility of all business-related deductions to allow self-employed individuals to claim them as business write-offs. This won’t change the income tax results (since write-offs on the personal portion of the return effectively produce the same income tax liability). It will, however, change the results for self-employment tax.

This change can produce significant tax savings since the self-employment tax usually is 15.3%, comprised of 12.4% for Social Security taxes on net earnings up to the wage base amount ($110,100 in 2012), plus 2.9% for Medicare taxes on all net earnings. In 2011 and 2012, there is a 2 percentage point reduction in the Social Security tax on the so-called employee portion of self-employment tax, but this rule is not set to run beyond this year.

It would also be helpful to allow the net operating loss carry-forward to be taken into account in figuring net earnings for self-employment tax in the carry-forward year.

These suggestions for tax reform are not new. However, if Congress is serious about job creation (and self-employment must be viewed as self-job creation), these easy fixes to the tax law will go a long way in helping unincorporated small business owners.