ben franklin

Tax Day | A Brief History

Today’s the day: tax day, April 15. This day is as much ritual to our country as national holidays. However, despite the ceremonious processes that accompany it, it’s more of an anti-holiday in the eyes of most taxpayers. Some years, tax day shifts slightly to accommodate Emancipation Day (a holiday in the District of Columbia), but for the most part, falls on April 15 if the date doesn’t fall on a weekend. So how did April 15 become the deadline for settling our debts to the government?  We bring you a brief history of Tax Day.we the people

The 16th Amendment to the Constitution, ratified in 1913, established the right of the federal government to directly tax individuals. This Amendment was adopted on February 3, 1913, so Congress opted for March 1 of 1914 to be the first filing deadline. However, this amendment didn’t impose an income tax—that arrived with the passage of the Revenue Act of 1913 on October 3, 1913. This act stipulated that individuals with an annual income exceeding $3,000 for single filers or $4,000 for married couples were required to file a return. Those numbers sure have changed!

The new deadline became March 15 when the Revenue Act of 1918 was passed, giving taxpayers a couple extra weeks to gather their tax materials. It wasn’t until 1955 that the Internal Revenue Code of 1954 established April 15 as the new deadline. The explanation for the change was to help taxpayers as the tax laws became more complex and convoluted. House Ways and Means Committee Chair, Daniel A. Reed, expressed that this extra month would also help accountants, tax preparers and the IRS spread out their tax season workload. Another theory arose: that as the income tax applied to more of the middle class the government was issuing more refunds, and the extension of the deadline allowed the government to otherwise utilize those funds longer.taxes

Interestingly, the previous deadline of March 15 symbolically corresponded with the Ides of March—a date on the Roman calendar that served as a deadline for settling debts. As Benjamin Franklin famously said, “In this world nothing can be said to be certain, except death and taxes.” While he wasn’t referring to federal incomes taxes at the time, it’s a fitting sentiment. Taxes are woven into the fabric of our country from their establishment in the Constitution. While today may not feel like a holiday to you, tomorrow is a holiday of sorts for your CPA. Congratulations to you and your CPA on surviving another tax season.

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supplies

Deductible Business Expenses for Small Businesses

The IRS requires that deductible business expenses must be both ordinary and necessary for business operations. If an expense is common to your trade or business, it is an ordinary expense. A necessary expense is helpful and appropriate to the operations of your business or trade. Deducting these qualifying expenses lowers your income tax bill. Even common business expense deductions may not apply to your specific small business. Working with a CPA from Simma Flottemesch & Orenstein will help you hone in on what expenses apply to your business, and how to make the most of these deductions.

Common small business deductions

Advertising: 100 percent of costs associated with advertising and promotion of your business, including business cards, are deductible.

Business meals: business-related meals that can be supported with proper records (amount, date, location and business relationship of other diner(s)) are 50 percent deductible. *Tip: on the back of the receipt, write down the purpose of the meal, who you dined with and what you discussed.

Business insurance: business insurance costs can be deducted on Schedule C.

Car: if your vehicle is used solely for business purposes, all the costs associated with its operation can be deducted. More commonly, vehicles are used for business and personal use, in which case only the costs associated with business-related usage can be deducted. When you claim mileage for business use of your vehicle, there are standard mileage deductions that change yearly, or you can deduct actual costs. In 2018, the standard mileage rate was 54.5 cents per mile, while that amount has increased to 58 cents per mile in 2019.car

Charitable contributions: both corporations and individuals can deduct charitable contributions to qualified organizations on their tax returns.

Depreciation: large business items depreciate over their lifetime of use. Higher priced items with a longer life of use should be depreciated, rather than deducted upfront.

Education: costs associated with training or improving the knowledge and skills of you and your staff add value to your business and are fully deductible. These costs, for classes, seminars, subscriptions, books, workshops, etc., must increase your expertise in your current field, not qualify you for a different career.

Home office: the IRS has standardized this deduction—you can deduct $5 per square foot of your home that is used for your business. This amount maxes out at 300 square feet. It’s important that this area of your home qualify under three areas: exclusivity, regularity and precedence. This means that the area must be used exclusively for business, be used regularly for business operations or responsibilities, and be used as the principal place for conducting important business activities. A portion of renter’s or homeowner’s insurance can also be included in this deduction.home office

Insurance premiums: whether your business owner’s policy covers malpractice, flood insurance, cyber liability coverage, business continuation insurance or all of the above, the costs are fully deductible.

Interest and bank fees: interest that is incurred on business loans or credit cards, in addition to fees and bank charges on your business bank accounts, can be claimed on Schedule C.

Legal and professional fees: the fees charged by Simma Flottemesch & Orenstein to prepare your tax return are included in these deductible fees. These fees would also include any bookkeeping fees charged by a bookkeeper or bookkeeping service.

Medical expenses: as a small business, you may qualify to claim a tax credit up to 50 percent of premiums paid for employees, which would be a better tax break than a deduction. If you are self-employed and paying your own health insurance premiums, those costs are generally deductible. However, there are some exceptions, like if your spouse has an employer plan you could opt to participate in. Consult your tax professional to determine how this deduction applies to your specific situation.

Rent and utilities on business property: if your business operates in a rented space, the cost of renting the facility is fully deductible. Additional deductible utilities for the operation of this space include electricity, internet and phone charges (mobile or landline).

Salaries and wages: what you pay employees for salaries, wages, bonuses, commissions and taxable fringe benefits are deductible business expenses. Owners do not qualify as employees.

Supplies: business office supplies, furniture and other equipment are all deductible. It’s important to keep all receipts related to the purchase of these items. In today’s digital age, office electronics can also be included. Think of your laptops, tablets, smartphones and the software used to operate them in relation to business activities.supplies

Travel expenses: a business trip will only qualify as business travel if it is ordinary, necessary and away from the city or area in which you conduct business. Travel must last longer than one normal day’s work. Potentially, the deductible expenses from this travel may include transportation-related costs, meals, lodging, parking, tolls, tips, business calls, etc.

This list is by no means exhaustive, but it is a starting point for determining what business expenses are deductible on your return. Every scenario is different, and your tax professional will determine which deductions you qualify for. It’s important to keep records throughout the year of these expenses.

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self employment taxes

What Are Self-Employment Taxes?

Self-employment taxes are established by SECA tax—Self-Employment Contributions Act tax. This tax is a stand-in for FICA paid by employers and employees. When you are employed, withholding covers Social Security and Medicare program contributions. Employers must also make additional contributions to these on behalf of each employee. Self-employment taxes exist to contribute to these programs by the self-employed. The self-employed do not escape these tax obligations, and are instead burdened with the full contribution, rather than sharing the FICA contributions with their employer.self employment taxes

If you earn $400 or more from your self-employment income, you are required to file a tax return. Generally, 92.35 percent of your net earnings from self-employment are subject to the self-employment tax. Your contributions will be made in the following way: 12.4 percent to Social Security for the first $128,400 of earnings (for 2018) and 2.9 percent to Medicare on all earnings.

Figuring the tax

Schedule SE helps you calculate how much self-employment tax you owe. This amount is then reported on your 1040 as “Other Taxes.” Fortunately, a portion of your self-employment tax payments can be deducted as an adjustment to income on your 1040. Whether you itemize deductions or not, you can claim 50 percent of your self-employment tax payment as a taxable income deduction.

Estimated taxes

Again, when you work as an employee, withholding throughout the year contributes to your total tax liability. When you’re self-employed, this isn’t an automatic mechanism. Therefore, it may be worth paying estimated taxes throughout the year, in quarterly installments, to avoid underpayment penalties. Discussing your options and forming a plan with a Simma Flottemesch & Orenstein team member will help you prepare for and determine your best course of action.self employment taxes

Reducing your self-employment tax

If you’ve read our previous posts on the tax implications of selecting your business entity, then you should know that S Corp elections have the opportunity to reduce your self-employment tax liability. Under this entity, you would be paid a salary out of earnings and the remaining profits would be distributed to yourself, shareholders, partners or left in the business. The amount in excess of your salary is subject to income tax, but not self-employment taxes. In an upcoming blog, we delve into determining a reasonable salary from your S Corp.

Schedule C calculates your net profit from self-employment. Be very thorough in preparing this form, deducting every possible business expense. Business expenses must be ordinary and necessary to operate your business. Deducting these expenses will lower your net profit, and, in turn, lower your self-employment tax bill. We will dive more in-depth on what qualifies as a deductible business expense in our next blog.

 

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gift

Understanding Gift Tax

Feeling generous? A gift is a transfer of money or property to another person, without receiving full monetary consideration in return. The federal gift tax’s purpose is to prevent individuals from avoiding estate tax by giving away that money prior to death. This tax is often misunderstood because of its interconnections with the estate tax.

Your yearly and lifetime gift totals would have to be rather lofty to incur taxes. You can gift up to $15,000 in 2019 without filling out the gift tax form. The annual exclusion applies to each recipient. Therefore, you could gift up to $15,000 to multiple individuals, and the annual exclusion will apply to each gift. There’s also a lifetime gift exclusion—which rises to $11.4 million in 2019.gift

Excluded gifts

There are certain gifts that are not taxable. These include tuition or medical expenses you pay for someone (paid directly to a qualified education or medical institution), gifts to your spouse, gifts to a political organization for its use or gifts to qualifying charities (considered charitable donations). These are the only form of gifts that are deductible on your return.

Gifting specifics

If you and your spouse wish to gift joint assets, like property, your annual exclusion rates are combined and applied to the gift. Meaning, in 2019, you could gift, together, money or property valuing up to $30,000. The lifetime exclusion amount doubles for married couples as well. Special rules also allow givers to spread a large, one-time gift across five years’ worth of tax returns (thus preserving their lifetime gift exclusion). Keep in mind that interest-free loans to friends and family are considered gifts in the eyes of the IRS.gift

The paperwork

Above the annual amount of $15,000, you must file IRS Form 709 to disclose a gift. This form will report the fair market value of the gift, the date of transfer, the donor’s tax basis and the identity of the recipient. If any taxes are incurred on the gift, it is the donor who is responsible for them.* The gift tax rate ranges from 18-40 percent. As with most aspects of your taxes, the IRS favors transparency of transactions and evidence. This means, in addition to Form 709, be prepared to provide copies of appraisals for the gift and any documents related to the gift’s transfer.

*some special arrangements allow the recipient to pay the gift tax instead

Lifetime exclusion

Over your lifetime, the IRS keeps a running total of your taxable gifts each year. The IRS does not want individuals to avoid estate taxes on their assets after death by gifting away these assets during their lifetime. From year to year, if you exceed the annual exclusion amount, the excess spills over into the lifetime exclusion category, whittling away at its total. At your time of death, your estate will be exempt from taxation in the amount of your remaining total lifetime gift tax exemption. Thus, amounts in excess of the annual exclusion each year count against both your lifetime gift tax exemption and your federal estate tax exemption.

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business

Business Structure: Tax Implications

This post marks part three of our blog series debunking the business structure selection process. Today, we look at the tax implications of the structure you select. Perhaps less of an influence on your decision-making process and more an effect of the choice you’ve made, keep these items in mind this tax season and beyond. 

In a sole proprietorship situation, your business and personal taxes will not be separate because your sole proprietorship income is your income. Think of it as one income with one return. The business will not need to file its own return. This does allow you to receive the lowest tax rates of any of the business structures. Filing will involve a Schedule C (to report profits and losses) and the Form 1040 usually involved in your personal return. All profits will be taxed in the year they are earned. First-timers should prepare themselves to pay self-employment taxes. This means you are solely responsible for your social security and Medicare contributions. partner

Similarly, in a partnership arrangement, the partners will need to pay taxes on their share of profits from the business, even if that money is staying in the business. Like a sole proprietorship, an LLC is a pass-through entity. In this situation, Schedule K-1 of Form 1065 will be critical to filing.  Again, self-employment taxes will come into play on your personal return.

On the federal level, taxation of Limited Liability Companies will treat the business as either a corporation, partnership or disregarded entity. If there are two or more owners, the LLC will be taxed like a partnership: with pass-through taxation, and taxes paid on the personal tax returns of its owners rather than at a business level. If the LLC has only one member, it will be treated as an entity separate from its owner. In either case, if the LLC files Form 8832 it will affirmatively elect to be treated as a corporation. However, LLCs also have variable state tax implications based on your individual state.

Although a cooperative operates as a corporation, its operations pass-through income to its members. As we’ve seen in previous examples, this means the individual members will pay taxes on their cooperative gains when they file their personal returns. Certain cooperatives do obtain tax-exempt status. Based on these variables, tax forms for cooperatives may require 1099-PATR or 3491 Consume Cooperative Exemption Application. team

Electing to structure your business as a corporation will make it a separate legal entity from its owners. These entities will file taxes with a Form 1120 or 1120S. The primary difference between the two main types: S-Corps and C-Corps, is the tax implications.

S-Corps receive some tax savings compared to their C-Corp counterpart. Owners treat taxes on income as they would for a partnership or sole proprietorship. Shareholders are taxed on the dividends they are paid. Any remaining income is paid to owners as a distribution and thus taxed at a lower rate. Businesses might not elect to be a S-Corp because they have too many shareholders (there’s a 100 shareholder limit) or because they want to keep money in the business, a benefit to the C-Corp structure.

Corporate taxes are often lower than personal taxes, but C-Corps can incur double taxation. First, the corporation is taxed when it makes a profit. Second, these same funds are taxed when dividends are paid to shareholders or when owners draw a salary. Then again, owners will not be taxed personally if the money remains in the business.  

 

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colleagues

Business Structures: Ownership and Liability Differences

The most common differences in business structures are ownership, liability and tax considerations. When it comes to liability, it’s important to consider where you, as an owner, could personally afford liability risks. Protecting personal assets is a key reason people incorporate their business, and while some structures are easier to form than others, it can be difficult to change your entity’s structure down the line, so avoid restricting your business’s ability to grow in your selection.

Sole Proprietorship: Sole proprietorships are simplest to form, and if you don’t register your business as another entity, you’ll automatically be considered a sole proprietorship. Owned by one individual, this structure comes with the greatest personal liability. As the business grows, your personal liability will increase. Therefore, this structure is best for lower risk businesses. Also consider that it is difficult to obtain outside funding for sole proprietorships.

Partnerships: Partnerships are owned by two or more people. The partners will share in any profits, losses and decision-making responsibilities. These entities require an operating agreement that outlines the roles of its owners and the percentage of profits they each receive. Consider that you will be held liable for both decisions you make, and those made by other owners. Funding for these entities will generally come from the personal accounts of its owners, their personal credit or by taking on more partners.board room

Limited Liability Company (LLC): Forming an LLC protects you from personal liability if you don’t act in a manner that is in any way illegal, unethical or irresponsible when carrying out business activities. Personal assets and company assets are deemed separate under this entity. This structure is great for medium-high risk businesses and owners with a lot of personal assets they want to protect.

Corporation: Incorporating your business makes it a separate entity from its owners. That entity can be sued, own and sell property, and sell ownership rights in the form of stocks. No individual owner has sole or primary control. Instead, most corporations have a Board of Directors to answer to. More specifics apply depending on the type of corporation…

C Corp: C-corps are ideal for medium-high risk businesses, businesses that need to raise outside funds and businesses that intend to go public or eventually be sold. As you can see, forecasting where you would like to see your business go or grow into, is important to many of these considerations.

S Corp: S-Corps are intended for smaller corporations. There can be no more than 100 owners, and all must be United States citizens.

B Corp: B-Corps differ from other types of corporation in purpose, accountability and transparency. In some states, B-Corps are required to submit annual benefit reports to demonstrate that they are indeed contributing to the public good.

Closed Corporations: Closed corporations are similar to B-Corporations. However, these generally smaller companies are usually barred from public trading.high rise

For a more simplified depiction of this breakdown, reference the following table:

Business structure Ownership Liability Taxes
Sole proprietorship One person Unlimited personal liability Personal tax only
Partnerships Two or more people Unlimited personal liability unless structured as a limited partnership Self-employment tax (except for limited partners)

Personal tax

Limited liability company (LLC) One or more people Owners are not personally liable Self-employment tax

Personal tax or corporate tax

Corporation – C corp One or more people Owners are not personally liable Corporate tax
Corporation – S corp One or more people, but no more than 100, and all must be U.S. citizens Owners are not personally liable Personal tax
Corporation – B corp One or more people Owners are not personally liable Corporate tax
Corporation – Nonprofit One or more people Owners are not personally liable Tax-exempt, but corporate profits can’t be distributed

 

Later this week, we’ll delve into the tax differences and implications of each of these business structures.

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minneapolis

Choosing a Business Structure: Types of Entities

You’re starting your own business, but what type of legal entity will you establish for the business? It can be difficult to balance the advantages and disadvantages of these structures. So let’s review the options and simplify those considerations:

Sole proprietorship:

A sole proprietorship is the simplest form of business entity. In this scenario, one person is responsible for the company, its profits and its debts. The most common way to structure your business, it is easy to form and gives complete managerial control to the owner. At the same time, the owner is then personally liable for all financial obligations to the business.

open sign

Partnership:

When the entity is owned by two or more individuals, it is a partnership. The partners agree to share in both the profits and losses of the business. These profits and losses are reported on the partners’ individual tax returns. However, each partner is still personally liable for the financial obligations of the business.

  1. Limited partnerships (LP): when one general partner has unlimited liability, and the other partners have limited liability. The limited liability partners also tend to have a limit on their controls over the company, as documented in a partnership agreement.
  2. Limited liability partnerships (LLP): limited liability is given to all owners of the company. An LLP protects partners from the partnership’s debts, so they are not responsible for the actions of their partners.

Limited liability company (LLC):

This business structure is a hybrid that limits personal liability for its owners, partners or shareholders, while enjoying the tax and flexibility benefits of a partnership. Therefore, personal assets will not be at risk if the LLC faces bankruptcy or lawsuits.

conference room

Corporation:

Corporations are viewed as entities that are separate from their owners. Therefore, a corporation has legal rights that are independent of its owners. Corporations come in five different types:

  1. C Corporations: these legal entities are separate from their owners. Therefore, they make profits, are taxed and can be held legally liable. Shareholders are provided with strong protection against personal liability, and the departure of a shareholder or sale of stock doesn’t disturb the continuation of business by the C Corporations.
  2. S Corporations: much like partnerships or LLCs, owners have limited liability protections and avoid double taxation by passing profits and some losses directly to the owners’ personal income while avoiding corporate tax rates. There are special limits on S Corporations.
  3. B Corporations: benefit corporations are driven by mission and profit. So while they service society in some way, they maintain a for-profit structure.
  4. Closed corporations: traditionally smaller companies with an informal corporate structure, closed corporations do not participate in public trading and are typically run by a few shareholders without a board of directors.
  5. Nonprofit corporations: organized for the purpose of charity, education, religious, literary or scientific works. As benefits to the public, they are tax-exempt.

Cooperative:

Cooperatives are owned and operated for the benefit of those using its services. Cooperatives are generally run by an elected board of directors or officers, while regular members have voting power to contribute to the direction of the cooperative. Members join by purchasing shares, but the amount of shares they hold does not increase or decrease the weight of their votes.

In our next blog, we will dive deeper into the advantages and disadvantages of these structures, and the tax implications of each. Visit the Simma Flottemesch & Orenstein blog to follow along.

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investment

Tax Impacts From Investments

With modern apps and technologies, it’s never been so easy for individuals to participate in the investment world. Millions of Americans are dabbling in the investing game. Regardless of the size of your portfolio, your investing moves will have some impact on your tax bill. When it comes time to do your taxes, the size of your portfolio, your investment activities throughout the year and your decision to take the standard deduction or itemized deductions will all be factors. (more…)

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