Donated Services ... but I see a hidden problem

Hi June,

I stumbled upon your FAQ while searching whether services donated can be deducted. You explained it nicely.

Question: Is it legal if I donated $1000 cash to a 503c and then got paid for my services by the 503c?

I realize that I'd still be out a good percentage because I'm paying taxes on that income, but given the cause I'd be willing to put up with that. I'm a videographer/photographer who is often dealing with no budget situations (and one who does not depend on this income but would like to see some compensation)

Martin
Golden, Colorado


Hi Martin,

Before answering your question I want to bring to your attention something that may be a serious problem for you. You said that you are "one who does not depend on this income but would like to see some compensation." If you read my posts on hobby vs business you know that you must be in it to make money. If not, then you're engaged in a hobby, not a business. Were you to make a similar statement to the IRS you'd have to do some fancy footwork to prove that you are an independent professional engaged in a business.

I have never had difficulty with someone donating money to a nonprofit that also pays him for services or products. I've frequently seen indies working for an organization and then so impressed with the organization's intent that they donate money, services, products. Be sure to read the posts here expenses -- donated services or products .

There is more info on this topic in my book Self-employed Tax Solutions .

-- June

More on State Taxes

Many of you have sent questions about state taxes. I have chosen a few of those questions to help guide you through the 50-dimension state tax maze.

Keep in mind that there is no uniform state tax code. That means that 50 states have 50 different sets of rules.

Some states have an income tax. Some do not.

Some have a sales tax. Some have a gross receipts tax. Some have neither.

In addition to state regulations there are county and municipality tax requirements.

Indian reservation land has a whole different set of rules.

As an indie, you are responsible for finding out what you must do and when you must do it. I will give you what is generally done in interstate situations, but you must check with your individual state tax office to be sure that you are following the rules correctly.

A good place to start is the small business administration in your area. Here’s a link with local contact info http://www.sba.gov/. Then call or go to the site of your state or local tax authorities


Donna
Capitan, New Mexico
Writer/editor
Starting first year home biz as a full time RV'er in NM. What do I have to do in NM to get my RV based writing biz started after moving my base camp from Texas. I have never lived in a state with an income tax.

Donna, your task is simple. Because of state gross receipts tax you need to register for a CRS number. Call 505.827.0700. You may also need to pay state estimated taxes, similar to the way you pay federal estimated taxes. See my posts on taxes -- estimated .


Joanne
Farmington, New Mexico
Clinical counselor for special education children on a reservation
I do not charge taxes, and the entity that pays me does not pay state taxes. My question is do I pay gross receipt taxes since I am not able to charge taxes?

Get info from the tax office of the Indian reservation where you provide your services and contact New Mexico tax – 505.827-700 -- to confirm the info that you received at the Indian tax office. Confirmation is important. People give the wrong info all the time!!


Jordan
Albuquerque NM
Marketing consultant
All of my clients are out of state. All of my invoicing for my services is to out of state clients; I have no clients here in NM. I work on the online marketing and websites of independent hotels around the country (but not in NM). I've tried to wade through the explanations of whether or not I have to pay Gross Receipts Tax, but it is still not clear to me. I don't want to dodge taxes that I legitimately owe, but as a small business with limited income I'd rather not have to pay taxes that I don't owe. Can you shed some light?

Gross Receipts Tax is charged by you and then paid by you to the state.

Gross Receipts Tax is charged on sales and services that you provide to clients in NM. If you do not leave the state to service clients or the clients do not come into NM to see you then you do not charge them gross receipts tax.


For the next four questioners, I’ll provide a general answer.

Mike
Milton, NH
Computer consultant
I live in NH and have the opportunity to do independent work for companies in other states. Here in NH I pay no income tax but as a self employed I do pay a business profit tax. The question is, what about the work I provide to clients in other states? I do most of my work from my home in NH. Am I safe or do I have to start doing taxes for every state that I work in?

Chris
Don’t know where from
Independent contractor; doesn’t say what kind of work
I have earned just a little over $100 from an Illinois-based company. I reside in a state that doesn't collect state income tax. I have never been a resident of the other nor have I have been to the other state. Would such a small amount of income paid by the Illinois-based company be enough to create a tax liability that I would have to file that state's nonresident income taxes?

Robyn
New York City
I assume she is not an indie
I live in New York City and work in New Jersey. I am required to travel for work quite often, usually around 65 days per year. I was told by a number of individuals in a similar situation that when filing the New Jersey Non-Resident New Jersey tax form, I should report and pay taxes on only the amount earned when physically working in New Jersey. Is this true?

Marianna
Albuquerque, NM
My husband has a contract position teaching computer classes for a company based in Virginia. The job requires him to travel to various states. None of the classes he taught last year were in either New Mexico, where we live, nor Virginia where the company is based. The company issued him a 1099 for last year with the state listed as Virginia, although no taxes were withheld. Do we have to file Virginia state income taxes? Please tell me we don't have to file state income taxes for each state he taught in (Washington, California, Texas, Massachusetts).


Here’s the general rule for Mike, Chris, Robyn and Marianna:

If you are physically present and perform work in a state in which you do not reside, you must file a nonresident tax return for that state and pay tax on the income earned in that state. If you work in more than one state you will have to file a return and pay tax to more than one nonresident state.

In the state in which you do reside, the state tax is calculated on your entire income. But most states give you a credit for taxes paid to the nonresident state(s) so that you do not pay tax twice. For instance, Connecticut residents do not get a credit for taxes paid to nonresident states. New York and New Jersey do give credit.

Take a look at this New York Times piece Telecommuters Cry ‘Ouch’ to the Tax Gods by David S. Joachim. It’s written for employees not indies but the state-tax morass is the same for all telecommuters.

Reimbursed expenses: There's more than one way to dress a mannequin

Hi June,

I'm a designer working in fashion, snowsports, and the entertainment industry. I work on everything from costumes and sets to graphics and photography. The work keeps coming so I don't deny it. Currently I live and work in Brooklyn and have been working since 1999.

Here is my question - when working as a costume or set designer, stylist, or even in fashion, I often buy a lot of stuff - IE costume pieces, furniture, accessories, etc. These are items I'm not reselling to the public and are used exclusively for the project. I do invoice them for the cost, but its exactly at cost - more like an IOU.

Exactly how do I classify this on my taxes.

Thank You,
Jess


Hi Jess,


There are several ways to treat your props cost.


If never used again for another project then you may categorize the expense as "client costs" and the income or inflow of the reimbursement as "client costs reimbursement." The expense would cancel out the income and = 0.


If you used the props for other projects, or saw something interesting at an estate sale and bought if for future use, you could classify the income as "supplies." Include any income or reimbursement simply as income.


Sometime the choice depends on the amount of money we're talking about. For instance, $10,000 income, $100 props or $80,000 income with a $1,000 props may be treated differently than $80,000 income and $30,000 props.

Your tax pro may look at your entire tax picture and possibly choose a third method. If you props expense were a large portion of income she might treat the expense as "production costs."


Contrary to the understanding of most indies and the general public, tax preparation is not always a yes/no, this-way/ not-that-way, "exactly" situation. That's why I think indies should use the services of an indie-savvy tax pro.

Best,
June

Meals & Entertainment Expense

... Louisville Ky ... serial entrepreneur ... 1 year ...

I have a question regarding your invite the public, get a bigger deduction on your website: If I am hosting an event ( 3 on 3 basketball tournament) can I deduct the cost of food and liquor for the event?

Thanks,
Matt


Hi Matt,

If the tournament is for invited guests only you may deduct 50% of the cost of the food and drinks.

If the event is open to the public then you may deduct 100% of the cost.

There is more info on this topic in my book Self-employed Tax Solutions .

-- June

Artist is a Business

Dear June,

I am a full time art teacher and a working artist. I have a separate studio for my work in my home (rental), in Oakland, CA. My work has been shown in several gallery shows.

I just won a fellowship to attend an art retreat and build my online portfolio. The fellowship is taxed, and I am spending a considerable amount of money investing in my work, with the intent to show and sell my art professionally. I do not consider this a hobby, and will likely cut down my teaching load in the coming years as I set up a sustainable structure to sell my work.

Can I consider myself a business this year, even if I have a full time job and have not sold much artwork to date?

Also, are you planning to give any more seminars for women artists?

Thank you for your help!
Kimberley


Congratulations on your fellowship, Kimberley!

You say you are a working artist. If you are, and if you try to sell your art, then no matter how much or how little money you make, you are a self-employed in business. Any loss from your art business may be subtracted from your other income and so would lower your tax.

I have no seminars scheduled for California. There is a September seminar for women in Albuquerque, NM.

Best,
June

A Confused Investor

Hello June,

I've read your book, Self-employed Tax Solutions, and have visited your web site many times and have taken away much information. I am, however, looking for a little clarification on one issue.

I was self-employed as a Supervisor up until January of this year when my assignment ended. From that time on I have been making a living by trading options in the stock market. On one of your past answers you stated that the IRS does not consider you self-employed if you are living off investment income which is fine with me.

However, since I make around 30 trades a month and have projected a six figure income by next year, I have been told that the IRS will consider my efforts as being self-employed and I will have to pay SE tax. Do you agree?

Thanks for your time and useful information,
Bob Whitehall, PA


Hi Bob,

I think your are mixing apple stock with peach options.

Amount of investment income does not determine whether one is self-employed or not. The IRS may more readily scrutinize someone with substantial investment income and large self-employment losses over someone with the same losses but little or no investment income.

What I think you are asking is about someone who invests only for himself rather than someone who provides investment services for others. If you invest only for yourself you are not self employed no matter how many transactions nor how much money is involved. Your income is not subject to self- employment tax.

Take a look at these posts for more clarification INVESTOR-TRADER .

Best,
June

Dad is wrong. Don't cheat.

Hey June!

I am a profession ballet dancer and teacher. This is my first year as an indie.

My question for you has to do with audits. Since I get 1099s that my employer fills out, what should I do if they are wrong (i.e. too short)? I asked my dad and he said not to worry because if I get audited they can only go by the 1099 and whatever amount is written on there. But I worry because that almost sounds too good to be true. If I get audited, is there any way that they can prove I made more money than my 1099 states? Help!!! AM I being too paranoid?

Tiffany
Fayetteville, GA


Well, Tiffany, Dad is wrong.

Hiding income is fraud. You are breaking the law if you do not claim all your income.

Hiding income does not give a positive, professional image of your business. It raises questions, such as whether you are a legitimate business. Do you want to be looked upon with respect in your business community?

There are many ways for the IRS to verify income. In an audit of an indie, the IRS does not simply look at 1099s. Every bank statement is reviewed and must match income. If the money coming in on the statements doesn't match the income on your tax return you must be able to explain why. If your lifestyle is Porsche but your income is Hyundai, then the IRS digs deeper.

Let's say that Dana's Dance school hired you to teach and Dana's bookkeeper incorrectly completed your 1099 with $500 income instead of $5,000. In an audit Dana would use $5,000 as her teaching expense. And she can prove it via checks or fees from her students. If the enterprising IRS auditor decided to check your return and found only $500 claimed as income you'd be in trouble. Is Dad going to pay your penalties and interest for you?

I say in my book, Self-employed Tax Solutions : The IRS is not a morality agency, it is a monetary agency. It doesn't care what you do for a living as long as you pay taxes on the income you make doing it. If you make your living as a hit man or a lady of the night or a drug dealer, be sure to pay the IRS its fair share. Remember the Chicago mobster, AI Capone? He wasn't sent to prison for murder, bootlegging or racketeering; he was convicted of tax evasion for not reporting the money he earned in his self-employed endeavors.

When the IRS calls for an audit its only purpose is to collect more tax money with some interest and penalty to boot. Criminal activity is not suspected. But if you are caught in outright cheating -- particularly in deliberately failing to report a significant amount of income -- the IRS will not hesitate to prosecute you.

If you are ever audited, and the IRS refuses to accept some of your deductions, you will have to pay the additional tax on the lost deductions and interest on that additional tax amount. You also may have to pay a late payment penalty of up to 25% of the tax owed. You'll be out some money, but you've simply had a legitimate disagreement with the IRS about a deduction: you will not be hit with criminal charges or fraud penalties.

A fraud penalty can be as high as 75% of the tax owed. That is in addition to the tax owed plus interest.

I think you better have a talk with Dad. Or maybe buy him my book for his birthday.

Best,

June

PS: The people who pay you are not your employers. Only employees have employers. Employees receive W-2s not 1099s.

Home office but no income ...

June --

I am an inventor, an indie 2 years, not inc'd yet.

I am just starting out, i.e. haven't actually made any money yet, but I've spent many hours designing, researching and developing my ideas (one of which I applied for a full patent). If I did not receive income can I deduct home office expenses?

Thanks,
Matthew
Golden, Colorado


Matthew,

As long as you are trying to make money in a business-like way you are a business and you may deduct business expenses. There are restrictions on home office expense. Theoretically you may take it as a deduction, however if you have a loss [more expenses than income] then you may currently deduct only the home office portion of mortgage interest and taxes. All other home office expenses must be carried forward, ready to be deducted when your inventions make you some money.

I assume inc'd means that your are thinking about incorporating. Don't do it until you've read my posts here business entity -- incorporation and here business entity -- LLC .

-- June

Partnership & Home Office

June,

My wife and I started an independent consultant business last year in Fairfax, VA. We file partnership returns and have a home office. In doing our taxes, we were told that home office expenses are supposed to be captured in Schedule E and attached to Form 1040.

However, another advisor also said that we can reimburse home office expenses throughout the tax year through our income distributions and then capture them as other deductions on Form 1065 (the partnership return). This would be easier since we wouldn't have to fill out Schedule E so that is what we did.

Did we do the right thing?

Thanks, Matt


Wrong thing, Matt. A basic, really basic, piece of info on tax prep: If there is income from a partnership you must include that income on a Federal Schedule E. This is another example of why I think indies should not prepare their own tax returns.


Since a partnership is the least tax advantageous entity for a husband and wife business you might want to read some posts here payroll -- spouse as employee or here husband-wife business to learn more.

Partnerships have very specific rules on deductions. If you want to deduct the costs of a home office, although not required, I would suggest writing into the partnership agreement that home office use is expected. Deductions for a home office may be taken on Schedule E only. This will reduce a partner's self-employment income and self-employment tax liability.

You may not take home office expenses on the partnership return. And, do not rent to your partnership. That's a real kettle of worms and maggots!

Best,
June