Business Tax

Top 10 Common Business Tax Mistakes (and a bonus mistake)

Com­mon Busi­ness Own­er Mis­takes -
I com­ment­ed recent­ly on a few social posts seek­ing guid­ance on tax treat­ment and enti­ty ques­tions in gen­er­al. I thought it may be help­ful to make a post of some of the biggest mis­takes I see busi­ness own­ers make.
  1. I need an LLC to have a busi­ness. All else being equal, If your busi­ness is a ‘one-per­son band’ and mak­ing less than $60K net per year, it’s unlike­ly you will have any ben­e­fit from the added expense. Some will want an LLC to show they’re a “real busi­ness,” and that’s fine, albeit don’t expect a finan­cial ben­e­fit at all, and just an added expense. Juris­dic­tions vary, how­ev­er, gen­er­al­ly when you’re per­form­ing the work your­self and/or you’re per­son­al­ly guar­an­tee­ing any busi­ness loans, the LLC will like­ly not offer lia­bil­i­ty pro­tec­tion.
  2. If I make over X amount of mon­ey (often stat­ed as $60K-$100K net income), I should take an S corp tax treat­ment elec­tion. This is one of the biggest mis­takes and wide­ly tout­ed on social media. How­ev­er, the busi­ness own­er must take ‘rea­son­able com­pen­sa­tion’ and that amount is deduct­ed from QBI deduc­tion and removes some oth­er deduc­tions that the tax­pay­er may wish were avail­able. Plus, the added costs of an addi­tion­al tax fil­ing (1120S) and gen­er­al­ly an account­able plan that’s required may be great for the tax pro­fes­sion­al because they earn a lot more in fees from the busi­ness own­er, may off­set the ben­e­fits. Gen­er­al­ly, if it’s a wash or close, pay­ing into SS is the bet­ter use of the mon­ey. Plus, rea­son­able com­pen­sa­tion is the cri­te­ria the IRS uses, and you bet­ter have that amount pro­fes­sion­al cal­cu­lat­ed because it is NOT a per­cent­age of total income AND there’s a look back peri­od that trips up many busi­ness own­ers in a tax audit.
  3. I don’t want to take X deduc­tion because it may trig­ger an audit — This is often a case by case deci­sion and it’s very true that an audit cost can quick­ly over­shad­ow any tax sav­ings even when the busi­ness own­er wins, how­ev­er, when tak­ing a deduc­tion that is legit and well doc­u­ment­ed, usu­al­ly the best course of action is to take the deduc­tion, and explain (and doc­u­ment it) in the tax return. Before decid­ing to audit a busi­ness, the IRS will man­u­al­ly review the tax return, and if the ‘prob­lem’ is well doc­u­ment­ed and sub­stan­ti­at­ed in the return, the audit will often die before the tax­pay­er even knows they would have oth­er­wise been sub­ject to an audit.
  4. I don’t want to spend the mon­ey for com­mer­cial auto insur­ance — If you’re using your vehi­cle for busi­ness use, make darn sure, and get it in writ­ing (ie email is fine) that your insur­ance agent not only knows what you’re doing with your vehi­cle, albeit is also ‘ok’ and approves it. Oth­er­wise, you’re poten­tial­ly risk­ing all your per­son­al assets due to a car acci­dent that you find out you have zero cov­er­age for. Mak­ing mat­ters worse, you may not even be at fault, albeit if you don’t have cov­er­age, you will have to pay out of pock­et for legal defense that may leave you in a sit­u­a­tion that you’re right, albeit can’t afford (or will cost high­er) to defend.
  5. Tur­b­o­tax (or any oth­er tax pro­gram) will cal­cu­late all the deduc­tions I have avail­able for my busi­ness — If you’re run­ning a busi­ness, there’s a near 100% chance that find­ing a qual­i­ty tax advi­sor will result in more after tax income than DIY.
  6. My tax pre­par­er is qual­i­fied to give me tax advise — Most tax pre­par­ers are just that, tax pre­par­ers and NOT tax advi­sors, and this is espe­cial­ly true for the big name tax prepa­ra­tion ser­vices which gen­er­al­ly hire rel­a­tive­ly new and non-cre­den­tialed peo­ple to per­form tax prepa­ra­tion.
  7. I can hire peo­ple as 1099 inde­pen­dent con­trac­tors instead of W2 employ­ees (or worse yet, pay some­one cash under the table) — Just because you and the work­er agree they’re 1099s ICs, does­n’t mean the IRS and/or State you’re in agree. The default is they’re an employ­ee unless you can show (by the IRS stan­dards, which use a 20-point fac­tor test) they tru­ly are 1099 IC. I have tak­en many calls from busi­ness own­ers seek­ing help from tax­ing author­i­ties seek­ing thou­sands of dol­lars in past with­hold­ing and work­ers’ comp costs. Fur­ther­more, gen­er­al­ly with­hold­ing amounts can’t even be wiped out in bank­rupt­cy. One of the most com­mon ways the state finds out is because the work­er goes into urgent care, and when they say what hap­pened, the hos­pi­tal will tag it as a work­ers’ comp claim, because they know they’ll get paid for the ser­vice, which then results in the state tak­ing action against the busi­ness. It’s ugly, very ugly day for the busi­ness own­er. Plus, and please don’t do this, albeit if you pay cash under the table, you can’t deduct the expense and you’ll be sub­ject to income tax on all the mon­ey you paid in cash.
  8. I don’t know account­ing, albeit I will get Quick­Books (or some oth­er account­ing pro­gram) and fig­ure it out. Fix­ing busi­ness own­er’s books is some­thing my office does every day of the week and it costs a LOT more than hav­ing a book­keep­er do it right to begin with.
  9. I can only lose mon­ey for X num­ber of years (gen­er­al­ly peo­ple will say three) and then I can’t deduct my expens­es against oth­er income. ‑The actu­al rule (over sim­pli­fi­ca­tion) is the oper­a­tion must be seek­ing and have a rea­son­able expec­ta­tion for prof­it. A busi­ness can lose mon­ey for more than three years and still be a busi­ness (and not a hob­by) if the tax­pay­er can show the intent is to make a prof­it.
  10. I should take a ‘home office deduc­tion’ on my per­son­al tax return — This depends on the sit­u­a­tion, albeit it’s gen­er­al­ly bet­ter for the busi­ness to reim­burse you per­son­al­ly for the expense, and not as rent, albeit as a reim­burse­ment. If you own your home, you’re tak­ing depre­ci­a­tion which is recap­tured when you sell. If you busi­ness sim­ply reim­burs­es you, gen­er­al­ly it receives a deduc­tion and you don’t report it as income, and thus get all the ben­e­fit with­out any of the cons.
  11. I can deduct my vehi­cle as a busi­ness expense — This is true, how­ev­er, many busi­ness own­ers do not either expense it cor­rect­ly, or at a min­i­mum opti­mize the deduc­tion prop­er­ly.