Tax Tips for the Newly Self-Employed
With more than 14 million Americans currently unemployed, many have become self-employed. Starting a new business is pretty intense with entrepreneurs having to wear different hats to get the business off the ground. The financial and tax side of owning a business is a common area that most entrepreneurs need help with.
Here are some tips that will help self-employed workers get their business off the ground without running into tax problems down the road.
Hire a Tax Pro and an Attorney. It’s part of the cost of doing business and is highly recommended by many experts, not just us tax pros and attorneys. Richard Kiyosaki, in his book, “Rich Dad, Poor Dad” stresses the importance of having a team of legal and accounting/tax experts to guide you through the process. Pound for pound, their advice will save you money in the long run. Tax planning, entity selection, financial analysis, and setting up accurate books are integral to your success.
Find Free Workshops. The IRS hosts free workshops on a regular basis for people opening a business. Taking one of these workshops will save a lot of money in consulting fees with your tax pro, attorney, and bookkeeper. Check out this link to find a workshop near you. The Small Business Administration is another good source for counseling and loans.
Get in on Government Contracts. The current administration has increased the amount of government contracts provided to small business to 30% and is improving timely payment to terms of Net 60. Contact your local trade association to find out how to land government contracts or check out the listings on the government’s website.
Find out if You Need to Make Estimated Tax Payments. Now that you aren’t having taxes withheld from a paycheck, you will be required to make quarterly estimated tax payments on your profit. Ask your tax pro to help you determine how much you must pay. Note that you will also be funding your Social Security and Medicare accounts (this is known as self-employment tax) as well as prepaying your income tax liability when you make estimated tax payments.
The self-employment tax rate is 15.3%. I’ve seen so many small businesses suffer and get into tax trouble because they were not aware and/or did not budget for this expense.
Set up an Accounting Program. QuickBooks and many other software programs are used widely by most businesses and bookkeepers for tracking income and expenses because they are inexpensive and user friendly. As an entrepreneur, you want to be able to analyze your finances and track your hard-earned money. If you hate numbers, hire a bookkeeper to perform this task and provide input about your financial situation.
Properly Classify the Workers You Hire. Check out the IRS standards for determining if you must put a worker on payroll or if you can classify him as an independent contractor.
It is crucial to understand this concept. Don’t make the mistake of thinking you can hire someone and pay them on a 1099 if he doesn’t qualify as an independent contractor.
Here’s a story for you: A client of mine hired his workers and paid them on 1099s rather than withholding taxes and paying his share of employment taxes. He fired one worker who then applied for unemployment benefits. Naturally, the worker didn’t qualify because he was considered self-employed. This set off alarms at the state unemployment office. They proceeded to audit the employer, reclassified all 1099 workers as employees, and hit the employer with a tax bill so high it put him out of business. Ouch!
Learn the Rules for What You Can Deduct. I was recently surprised when a client asked me if she could write off her professional liability insurance. Of course you can! Don’t overlook deductions. For the most part, the IRS allows you to deduct any expense that is considered “ordinary and necessary to your trade or business.” Start a new mindset and ask yourself, "Am I making this purchase because of my business?" If yes, it's possible the expense will be a partial or total write off. Think in terms of whether you would have incurred the expense if you didn’t have a business.
Illegal activities: speeding tickets to make that 9:00 a.m. business meeting, parking tickets, or bribing public officials to grant your bid, are not valid deductions.
One of the best things I can tell you is to learn the rules for travel, meals, and entertainment. Just because you take a potential client to a ball game doesn’t mean you can write it off. Check out IRS Publication 463 available at www.irs.gov. In fact, cruise the IRS website to get information about other topics related to self-employment.
And best of luck to you! Being self-employed with all its ups and downs can be a gratifying experience.