IRS owes you money. A BIG BUT as to whether you'll get it or not.

Hi June,

I have been a software developer for 15 years in Oklahoma City, Oklahoma. Loved your book and I have a question about the statute of limitations for refunds that maybe you can address in your blog.

Here is a direct quote from the tax code section 6511:
"Claim for credit or refund of an overpayment of any tax imposed by this title in respect of which tax the taxpayer is required to file a return shall be filed by the taxpayer within 3 years from the time the return was filed or 2 years from the time the tax was paid, whichever of such periods expires the later, or if no return was filed by the taxpayer, within 2 years from the time the tax was paid."

It clearly states "within 3 years from the time the return was filed". There is no use of language such as "timely filed" or "due date" etc. My interpretation of this would be as follows: I file my 2003 return on April 15th 2009. I can take a refund until April 15th 2012. After all, the IRS can assess taxes against that return until April 15th 2012! Obviously, the IRS does not see it this way, but I cannot get anyone on their side to give me a reasonable explanation as to how they arrived at their application of Section 6511. In this case the code isn't acting as code should from a developer's perspective :).

Perhaps you have some insight, like a related section that provides guidance which I may be missing?

Thanks,
Matthew


Well, Matthew. Don't know how insightful I can be. But, I can explain it.

Correct, no matter how late you filed your tax return, you may file a claim for refund for up to three years after you have filed your tax return. But -- BIG BUT -- that doesn't mean you can get the money owed you!

Here's how it works:

*** To be considered for a refund you must file a claim for refund within three years from the date you filed your return.

*** How much of your refund that you may receive depends on whether you filed your return on time or not.

*** Amount of refund received also depends on when you paid the taxes for the year for which you are claiming the refund.

If you filed your return on time, meaning due date plus extensions, then your refund can be up to any amount as long as it was paid during the tax year plus the three years after that.
For example:
If you file your 2007 tax return on October 15, 2008 and you file a claim for refund on October 15, 2011 your refund may not be more than the taxes paid and applicable credits for 2007. The taxes for 2007 must have been paid during 2007, 2008, 2009, 2010 through October 15, 2011.

If you filed your return after the due date plus extensions then your refund can be up to any amount owed you as long as the taxes were paid during the two years prior to filing the refund claim:
For example:
If you file your 2007 tax return on October 16, 2008 -- a day after the deadline -- and you file a claim for refund on October 15, 2011 -- same day as my previous example -- your refund may not be more than the taxes you paid for 2007. But, [this is the BIG BUT] only those taxes paid from October 17, 2009 through October 16, 2011 are eligible for refund..

If you want to read how the IRS explains this, see IRS Publication 556 pages 13 through 15 and IRS Code Section 6511 -1B(2)a.

Since most people pay taxes for a particular year in that year or a little into the next it pretty much means: forget about filing for a refund if you didn't file your tax return on time.

The exception: You receive a notice from the IRS a year or so after filing. You pay additional tax then find out you didn't really owe that tax and you file a claim to get the additional tax refunded.

Best,
June

Are gift baskets tax deductible?

June --

I've been a sole proprietor for 25 years. I am being audited for the second time (in 25 years). I searched Ask.com for "Are gift baskets tax deductible?". As I prepare for this audit I am starting to doubt basic write-offs I have taken primarily because of all the research I am doing.

I got to wondering if a gift basket comprised of food would somehow fall under meals and entertainment.

Thanks for the information.
Janice
Orange , Ca


Dear Janice,

Regardless of the cost of the gift basket your deduction is limited to $25 . And that is the total you may deduct as a gift for a business associate for the entire year.

Were you to purchase the gift basket and take it with you as your meal while on a picnic with your associate and you discuss business before, during or after the picnic meal then you could deduct the basket as a meals & entertainment expense.

Here's an example of the difference in deductions:

You purchase two $150 gift baskets for a client during the year.
Your cost: $300.
Your deduction: $25

You have two $150 business dinners with your client during the year.
Your cost: $300.
Your deduction: $150. [50% of $300]

-- June

Sole proprietorships may not deduct a charitable donation as a business expense.

June --

Massage therapist , 1 year.

If I raise money doing massage and then write a check to a non-profit for the amount of the proceeds, is this considered a charitable gift and tax deductible if I am a sole proprietor (a personal deduction instead of a business deduction)?

Linda
Newton, MA


Dear Linda,

The money you receive for doing massage is self-employed income.

The money you give to a charity is a personal charitable deduction not a business expense.

There's a lot more info here expenses -- donated services or products .

-- June

Take Charge

June --

After an extensive web search fiasco, it seems you are "the best-of-the-best" when it comes to answering tax questions for the self-employed artist! (CONGRATS! lol) I'm trying to learn ASAP what I need to do in my situation. I am a graphic artist.

I worked for the same company for 10 years. W-2 / $1000 every 2 weeks ...some months had 3 pay periods. I brought home approx. $850 every paycheck. NOW they want to 1099 me for a straight $2000 each month. So that's a pay cut.

I do work from home in my own office, but never took the deduction. I haven't a CLUE where to begin.

I bought a better house & cars not too long ago, so don't have a lot of money set aside...2 little girls...live-in fiancé altho the IRS doesn't know he lives with me because he owes them.

I was able to receive a decent earned income credit my accountant says. She's never charged me more than $100 to do my return.

Can't believe they are doing this to me after 10 years. I need to know how I can maximize this $2000 a month at taxtime or we aren't going to make it. I'm not sure how much to keep out for the IRS. Do I HAVE to pay quarterly or can I pay at the end of the year?

I just don't know what to do to keep my family afloat without getting punished by the IRS later. Liiving in Central IL doesn't offer much advice without a hefty pricetag. Any advice would be GREATLY appreciated.

Sincerely,
Becky
Illinois


Wow, Becky! I understand your fear, confusion, and not knowing which way to turn. Let's break this down into small pieces as you presented them. Then, as the mother of two, you need to take charge and deal with each piece.

The company you work for cannot legitimately switch you from an employee to a self-employed without making any other changes. Please read this post Employee vs. Self-employed. The company is doing it to save money and in the process will cheat you.

As an employee you were earning $26,000 per year [$1000 X 26 weeks]. As a self-employed you will earn $24,000 per year [$2000 X 12 months.] That save the company $2000. In addition to that, by paying you as a self-employed rather than employee, the company will save an additional 20% to 30% in payroll taxes and benefits. That's a minimum of $4800 [$24,000 X .2]. So the company is
saving approximately $6800.

It is fraud. Usually I suggest posts to read. I insist you read this post Homeland Security or Jobs 'n' Things . After you read it decide whether you want to pursue kicking this company in the rear or going along with it because you must keep the work. You say that you "Can't believe they are doing this to me after 10 years." People and businesses mostly do to you only what you allow them to do.

You have a "live-in fiancé altho the IRS doesn't know he lives with me because he owes them." How much does he contribute to the household? Anything? A fiancé may become a husband. His IRS problems then become yours. Yes, yours! He must take care of that now. Time for both of you -- or you alone -- to take on the responsibility of clearing up the financial part of your relationship with your future husband.

Is the father of the children paying any child support? If not, talk with the agency in your state of Illinois that will help you with that.

You also say that you may get "punished by the IRS." Where did that come from? Punished? The IRS collects the same taxes from you, from me, from every indie and from all employees. Don't blame the IRS because a company is engaging in fraudulent business practices.

If you accept the company's offer and do become self-employed you will find the answers to all the questions you asked above as well as how to get the lowest tax possible, how to keep records, and how to calculate and pay estimated taxes on this blog, on my site and in my book, Self-employed Tax Solutions.

You are not the victim. You are responsible for three lives -- yours and your two daughters. You need to review and take charge of the circumstances you are currently in. Women are tough. You can do it.

All the best,
June

Health Insurance Deductions / Income: Indies Be Careful!

Hi,

I'm a freelance writer/consultant in San Francisco, finishing my taxes, and would greatly appreciate a small bit of help/clarification.

As a full-time freelancer with no employer health plan, can I deduct the full cost of my health insurance payments? I have no access to a partner's plan or COBRA.

Last year I deducted one-fourth of health insurance as a business expense, but can I deduct the full amount?

One more question if I can: do I need to report any payments under $400 from clients, if I didn't get a 1099?

Thank you very much for your assistance,
Chris


Hello Chris,

There's a special place in my heart for writers. My husband is a writer. Many friends are writers. So here's my special caution to you.

A writer's accuracy is his credibility.

Everything you do goes out with a byline. I assume you are sure of the facts before you put your name on something you offer for publication.

You don't say whether you're a sportswriter or science writer or a generalist. If you're a sportswriter you sure as heck better understand the game. If a science writer you'd better be comfortable in a physics or chemistry lab.

Just as being a specialist in any field requires education and experience so too does tax preparation for indies require education, research, experience.

Your tax return is a document that you sign, attesting to the accuracy and truthfulness of what's on that paper. You must know what you're signing.

Your two questions point out why indies should not do their own tax returns. Your questions are Indie Tax 101.

Health insurance premiums are not a business expense deduction.They are deducted as an adjustment to income. Same place you'd deduct alimony payments.

Payment to you for your freelance writing is taxable. All of it. Whether you get a 1099 or you're paid in cash and nobody sees the transaction or you're paid in chickens. And if you don't claim the income it's fraud.

Don't mess yourself up by getting into trouble with the IRS. Learn more. Read. A good place to start your education: Go to your library and check out my book Self-employed Tax Solutions .

Best,
June

Meal Expenses For House Sitters

Hi June,

My name is Megan and I'm from Portland, OR. I've recently ordered your book and am looking forward to receiving it.

I've worked on the side as an indie house and petsitter off and on since 2001. I mostly move into people's houses for several nights or weeks and take care of their houses and furry kids while they are away. In recent years I've done this once every month or more, depending on the season.

I may be grasping at straws here but want to cover all of my bases...I'm wondering if my meals while I'm on the job are deductible as a business expense? I go grocery shopping and cook in the home that I'm staying in. If they are deductible and I don't have my receipts from last year, would it be appropriate to use the Standard Meal Allowance?

Thanks,
Megan


Dear Megan,

Meals are deductible as a business expense in only two situations.

1. You may deduct the cost of the meal if you take a business associate to a restaurant, you pay for yourself and the associate and there is a business reason for the meal.

2. You may deduct all costs of your own meals and snacks while traveling. You may use actual cost or the IRS per diem amount. Travel may be simply defined as staying overnight away from your tax home for a business reason . Tax home is the area where you live and generally work.


Were you my client I would not take a deduction for meals even though you stay overnight if you are pet or house sitting in the neighborhood, your town, close by. If you were a substantial distance from your tax home, then I would take meals deductions.

Other tax pros may take a more aggressive approach and deduct all meals while overnight.

Best,
June

Income & Gifts

Hi June!

Graphic Designer ... 3 years.

I'm in the process of reading your book, Self-employed Tax Solutions, fabulous resource!

I have a question for you. I have a restaurant client that has wonderful food, around the holidays I typically will ask them for a few gift cards and sometimes food for my clients. I write that amount off of their invoice for the month but I'm not sure how to take advantage of the gift deduction.

Hoping I wouldn't have to bill them as normal and then pay them for the above items. Is there an easier way?

Also, I just returned home from a week stay at Disney World. I saved all of my receipts while I was there with my husband. Would it be possible to deduct my portion of the trip if it was for creative renewal/inspiration?

Thank you so much for breaking this all down to bite size pieces of information. You're the best!

Sincerely,
Kristen
Midlothian, VA


Hi Kristen,

I am so pleased you're using my book as a resource. Resource and reference for indies was my intention.

Think of your restaurant/gift situation this way...

Kate's Cafe owes you $1000.
Were Kate to pay you you $1000 in money you'd have $1000 income.
Were you then to give Kate a $200 check for gift cards -- and here it gets a little tricky -- here's how it would work.

You would get to deduct as a business expense $25 per business associate to whom you gave the gift cards. [That's per year. Yes, $25 per year, per associate.]

If you gave $25 gift cards to 8 people, you get a $200 business deduction.

A $200 gift card to one person would get you only a $25 deduction .
Deduction categories in your recordkeeping would look like this:
Business Gift .................. $ 25
Business Gift Excess .... $175

Or ...

Kate pays you $800 and gives you $200 worth of gift cards.
Your income is still $1000.
Your deductions would be the same as above.

You do not have to exchange checks with Kate but you must keep the records on the income and expenses.

BTW -- Kate would have a $1000 expense if she paid you in money and gift cards. A little less were she to pay you in money and food.

On Disney: Can't deduct inspiration.

Best,
June

Employee and self-employed income and expenses must be kept separate.

Hi June,

Question. My wife, who is an INDIE, started working part-time this year for a company that will issue her a W-2 at the end of the year. They are also doing the withholding taxes. She is still doing her independent contractor work with several other clients, usually in the morning before she goes to the part-time work location (out of her home office).

How do we report her W-2 income? I think she gets a 1099 from her other clients. The simplest for us would probably be to keep it within her sole proprietor business tax forms.

Thanks, we are enjoying your book, but couldn't find this question in it.

Dan


Dear Dan,

Glad you are enjoying my book, Self-employed Tax Solutions. Thanks for letting me know.

You didn't find the specific answer to your question in Self-employed Tax Solutions because yours is a how-to question regarding tax return preparation I do not encourage indies to prepare their own returns and my book doesn't explain how to prepare a tax return for a self-employed.

You will find the following in my book:
Simply stated: if taxes are withheld it's W-2 income; and if no taxes are withheld it's self-employed income...
... It is important to understand the distinction and to keep them separate in your records. Why? Because they are treated differently on your tax return and the tax you pay on each is not the same.

Tax returns for indies are complex. Your question indicates a lack of basic understanding of the difference between the two types of income. If you do your own return you'll very likely cheat yourself.

Now to answer your question:
You cannot combine the two. You must keep the income and expenses related to W-2 income completely separate from the indie business income and expenses. Although on the same 1040 tax return each kind of income uses different forms within that 1040 return.

Use a tax pro or go to H&R Block. Don't mess yourself up.

Best,
June

No indie business means no indie business expenses to deduct.

Hi June,

Structural drafter for 20 + years , I have been self-employed for the last 6 years up till June 2009 when I lost my self-employment business and had to seek a part-time as a temp employee.

I lost that job in August, now I am unemployed.

My question is, will I still be able to write-off any expenses after losing my self-employed business while I seek work?, Like supplies, transportation for interviews etc.

cesar
fairfield, ca


Hello Cesar,

First, be sure to read this post Unemployment Compensation .

You may deduct self-employed expenses that occurred only during your period of self-employment. If you were no longer self-employed you may not deduct any indie business costs.

-- June

More on Spousal Employees

June --

I've been working from home for about six years and the momentum finally hit and now I have contractors of my own.

I was reading the pre-release of The Freelancing Mom and read your interview and when I read the part where I could hire my husband and give him insurance I jumped for joy. Between being over 230lbs. (albeit terribly healthy) and pregnant...health insurance is not an option for me - or so I found after calling company upon company. But if I could give it to my husband and he insured his spouse + kids, viola!

The only problem is...I know how to work with contractors and have a bookkeeper/tax professional that takes care of the 1099s and the taxes. But...how do I hire someone? Can I do it as just me or do I have to incorporate or set up a DBA first? Is this answered in your book that I'm about to order after I hit send? Once I order the book will I have access to the Most Simple System forms?

Thank you so much, I'm terribly glad to have found you :)

Lisa
Plainfield, NJ


Dear Lisa,

A sole proprietor -- which you are -- may hire employees. You do not need to incorporate.

As long as your husband really works for you -- that is, you are not paying him $400 a week to take out the trash -- then you need to setup a payroll and pay him. There are initial federal and state filings and then quarterly filings that must be done. I suggest you talk with your tax pro who can set up a payroll for you or check out payroll services such as Paychex or ask your bank if it provides a payroll service.

If I understand you correctly, then you said that you cannot get health insurance. Your eligibility for insurance coverage is in not way influenced by your husband being on your payroll and his having health insurance.

If you, the employer, provide a medical plan for your spousal employee then all your employee's family health costs are reimbursed to him by your business. That makes your family health costs -- items such as medical insurance, doctors, hospital, dental, eyeglasses, RX, etc. -- a business deduction for your business.

The medical plan must meet certain IRS requirements. To set up this plan -- it's IRS Code Section 105 -- I suggest you check out BizPlan online. Then call John Gill -- (309) 826-9610 -- at BizPlan to get even more info.

You may also provide your spousal employee with dental coverage, life insurance and a pension.
The advantages of having a spousal employed are too broad to go into in a post. Your personal tax professional should be able to provide you with all the particulars. If not, then find a new pro.

Best,
June

Tax Return Do-Overs: Must be done within 3 years

June, June, June.....WHY didn't I discover your site, 10 years ago. For most of those 10 years, I used a guy to do my taxes who obviously knows nothing of the tax code. He indicated to me that a large % of my deductions were not tax deductible because I was reimbursed for them. BUT I was reimbursed on a 1099 NOT separately on a W-2, expenses were included in my income. How far back can I go to correct past tax returns and maybe, reduce the dollars I owe to the IRS??

Thank you sincerely for your attention to my question.
Anna
Mcallen, TX


Dear Anna,

You may file an amended return up to three years after the deadline of April 15. So, a 2007 return filed on or before April 15, 2008 has until April 15, 2011 to be amended.

If you filed later than April 15 -- on a valid extension -- you have until 3 years after the filing date.

Anyone wishing more info on reimbursed expenses might want to read these posts: expenses -- reimbursed .

Best,
June

You create it. You sell. You pay tax.

Hi June,

I am a web designer ... 8+ years.

Hi June. I was directed to your site from a friend who spoke very highly of your tax knowledge for the self-employed :) Anyway, I have a situation where a website I created/owned was sold to an individual in Australia for a fairly substantial amount of money. Its come time where I need to file taxes, and I was wondering what you thought might be the best way to claim the sale.

I've been told either: long-term capital gain or self-employment income. The situation is fairly sketchy, as the person I sold to is unlikely to report the sale, so I have no forms, etc. I'd obviously like to be taxed the least amount possible :)

FYI: I ran the site for fun for about 1.5 years before the sale. It was an online deal-finding site, with social elements.

Thanks!
Pete
Palo Alto, CA


Dear Pete,

I assume you are a self-employed web designer. The site you sold is your creation and so it is taxable self-employed income to you.

Couple other things: The fact that nobody is going to get any paper saying that you sold it for $XX does not mean it's not taxable. If you don't claim the income it's fraud. That's really not good.

And, you guys got to watch out for all that tax advice you get from Aunt Tillie. Capital gains income. Good golly!

Check out this similar question: Indies: Your creation is your work and is subject to SE tax.

Best,
June

Keeping a Record of Subway & Bus Costs

Dear June,

My daughter is a free-lance visual artist in New York City, who spends about $100 a month for a subway pass that entitles her to unlimited trips. The primary use of the pass is to get to work, but it is also used for personal transportation. Is there any way she can deduct part of the expense?

Thanks,
Martha


Dear Mom,

Your daughter needs to keep a transportation record for a typical month. Then, for instance, if 62% of her trips were for business she may deduct $62 of every subway pass she purchases. If there is no typical month or it changes then she needs to keep records for, let's say, seasonal months and extrapolate from there, perhaps 6 months at one % and the other 6 months at a different %.

Keep in mind that commuting from home to work is not a business deduction. Going from one work place to another is. So only if she has a legitimate home office is her trip from home to a client deductible.

I assume that since you are writing for your daughter she is young and new to the business / working world. Time for her to learn about taxes. No 21st century woman is allowed tax-ignorance. You might want to suggest that she take a look at my blog and my book, Self-employed Tax Solutions.

Here's a post I know she will find helpful, Designers Dozen: Tax Saving Tips for the Graphic Artist.

-- Another Mom with 4 kids

Indies: Your creation is your work and is subject to SE tax.

Hi June,

I'm typographer, graphic artist for 10+ years.

What a great website and I will look at your books/CDs.

I have a question. I make fonts. Other people sell my fonts on their websites. They send me royalty checks. Do I pay self employment tax on that royalty income? Most of my time is spent making fonts but I also do some logos and design work if that makes any difference.

Thank you SO much.
Rae
Madison, WI


Dear Rae,

Glad my site is helpful to you.

Yes, your income from font design is self-employed income and is subject to self-employment tax. Same with a musician who wrote a song and sold it or a writer who wrote a book and sold it. It's what you do to earn a living. It's your earned income.

Any royalties a self-employed artist receives for his work is self-employed income.

If you sold the wagon or bike cluttering your garage -- not self-employed income.

-- June

Pension info every indie should know.

June --

I am from Long Island City (Queens), NY I am an Information Architect/Interaction Designer (web development) I have been independent (1099 sole proprietor) less than one year.

I am wondering if you could advise me on issues surrounding a retirement fund. I am interested in the Freelancers Insurance 401k plan. The limit for contribution is $16,500 but there is a profit sharing option which allows you to contribute as much as $49,000. How do I determine if I am eligible for profit sharing?

Daniel


Dear Daniel.

Here's a simple view of how pensions work for self-employeds:

You have a net income. Depending on your income and how much of that income you don't need for immediate living expenses [sometimes called discretionary income] you contribute money to your pension.

You can choose a pension that allows the contribution to be deducted from your income thereby reducing your current income tax. Years from now, when you withdraw the money from your pension you will pay tax on the amount withdrawn.

Or you can choose a pension that does not allow a deduction from income now. So there is no immediate tax deferral. And that means you will not have to pay tax on the money when you withdraw it years from now. These are ROTH versions of a pension account. For instance, you've probably heard of an IRA. This would be a ROTH IRA.

When you are 59 1/2 years old you may start withdrawing from your pension with no penalty. If you withdraw before age 59 1/2 you will have to pay a 10% penalty. There are some exceptions.

There are many different types of pension plans that a self-employed may have. The most flexible and the one that allows the largest contribution is a UNI-K, also know as a SOLO-K or one-person 401-k.

In 2009, if your income is high enough, you may contribute $16,500 plus 20% of your net income. This is not a requirement, this is a maximum. As long as you have a net income you may set up a UNI-K. There are additional contributions allowed if you are 50 years old or older.

To qualify for 2009, the plan must be set up before December 31, 2009. However, you have until you file your 2009 tax return to make the contribution. That could be as late as October 15, 2010.

You set up the plan at a brokerage house, for instance Raymond James or Schwab. Should cost about $ 75 or $100 per year. Be sure to use a brokerage house that allows complete flexibility in investment products. Some houses limit the investments for UNI-Ks.

There are other plans that allow for much greater contribution amounts and cost much more to set up and maintain. They are called Defined Benefit plans. I suggest them to clients who are at least 45 years old and who make a lot of money.

Here are a few other posts I've done on pensions.

Best,
June

Husband/Wife Business Benefits Social Security

Dear June,

My husband is a sole proprietor with an average yearly income of $80k. I am age 58, retired, and drawing a pension from my former employer and from my 401(k). My husband will be 62 in September and would like to file for social security but his income is too high.

Would there be any advantage to his hiring me (I am very active in his business) as an employee and paying me a salary thereby decreasing his income so that he is eligible for his full social security benefit? If so, how would be go about implementing?

Renee


Dear Renee,

Yes, there is an advantage to your husband hiring you. Of course it must be legitimate and not just a clever tax scheme.

He may hire you, give you full medical benefits as well as insurance and a pensions. All costs would be deducted from his business income, possibly reducing his income enough to not affect his social security payments.

You would start by setting up a payroll. Instructions for that are beyond the scope of an email.

Best,
June

Donating Time: 10 Cents A Minute

Hello June,

I am from Medford, OR and although I work full time at a commercial printer, I wrote a book on college choices and am selling it for profit on top of my regular job. I just began.

I read your answer to "You Asked ... Q&A No.7: No deduction for donated work or services" but I have a further question: what if I took time off of work (and lost money I could have earned) to speak at to high school students about college. Even though I lost income to do so, is it still not deductible?

Thanks,
Crystal


Hello Crystal,

A while ago there was a cell phone commercial that advertised 24/7 calling for only 10 cents a minute. And throughout the ad people would pop up with questions such as: Even on weekends? Response: Yes, 10 cents a minute. Then another pop up would ask: What about at three in the morning? Response: Yes, 10 cents a minute. And what about if I call while travelling? Response: Yes, 10 cents a minute.

It's the same with the questions I get about donating time. Doesn't matter if Attila Attorney works at the battered women's shelter and forgoes $600 an hour income or Lorenzo Landscaper cuts the grass for the church and is out thirty bucks an hour. NO DEDUCTION for their time for either of them.

You might want to read all these posts on donating time expenses -- donated services or products.

Best,
June

How does an indie pay Social Security Tax?

June --

I'm an independent military advisor ... have been for 3.5 weeks.

I have had one gig as an indie. I think I am going to be OK on income taxes. But I have searched your website, how do I make Social Security payments from my indie check? I tried to search your site to find the answer w/o bothering you, never could. I

Thanks in advance for you assistance,
Dean
Colorado Springs, CO


Hello Dean,


Good question. On their earned income, self-employeds, just as do employees, must pay three different taxes to the feds: income tax; social security tax ; medicare tax. Employees have these taxes withheld by their employers. The employer sends the withheld tax to the government.

For self-employeds social security tax and medicare tax are combined into self-employment tax. That's SE tax.

On a self-employed's federal tax return in addition to other forms there is a Form SE on which SE tax is calculated. SE tax is then combined with income tax liability to come up with total tax liability.

The calculation is done on the 1040 tax return and is paid via the tax return.

Be sure to read this post Estimated Taxes.

Best,
June

A Process Not a Chore

Dear June,

I feel more confident than ever about how I file my taxes after reading your book, Self-employed Tax Solutions.

Do you ever "review" past filings (especially during the off season!) to evaluate any areas of concern or improvement?

-- Lisa


Dear Lisa,

You've sent me several emails and questions and suggestions. That's you in the Bravo Indies! column. Thank you. I appreciate your input.

You're right; knowledge breeds confidence. That's my goal in my work with indies. I am putting together a series of small publications and am searching for a "confidence" title. Titles are not my area of expertise. Ugh.

On your question, a tax return is not a thing-to-do or a chore. It is a collaboration between you and your tax pro, the result of a process. That process starts with the indie getting as much info as possible, using that knowledge throughout the year, treating the work that she does as a business by being in what I call that indie-business-mindset, employing a recordkeeping method that fits her style and is also accurate, and then taking that information to an indie-savvy tax professional who will use that information to prepare the tax return.

Unless there were a glaring mistake, a later review of the tax return would not tell me -- nor any other accountant -- what went into that end result. That could happen only if there were a review of the process.

Best,
June

Checks from Uncle Sam

June --

A couple times in the past 5 years I have gotten checks from the IRS after I thought I was square with them.They never send any information about where i made my mistake. How does one go about finding out that information?

-- Lisa


Lisa --

Call the IRS at 800.829.1040. Have the tax return for the year of the payment right there in front of you when you call. Also call early in the morning. That's when the IRS is least busy. Have a cup of coffee, too, because you may be on hold a while.

Usually there is a year noted in the upper right corner of the check, for instance December 2007 lets you know it was for something that happened in 2007. If you cashed the check and don't know what year, have your three back years' returns by the phone.

-- June

You are a business. Treat what you do as a business.

June --

I live overseas and I have been working as an independent consultant for three years. in May of 2009, I accepted a job as a subcontractor to a subcontractor (a research wing of a foreign university in Eastern Europe). The project was a disaster and the lead contractor has essentially hogged every cent and has not paid the subcontractor--very shady!

I am not getting paid. I have fought and continue to fight but without taking drastic more expensive actions, I think I'm just screwed. It is ill advised and expensive to go to court here and I don't want to make this battle so public in such a small place. I am owed 10,000 dollars, which is no small money for me, as the job ended early (I was originally expecting to earn 20,000 from it). Now I am getting 0 AND it cost me some money to actually do my work as an environmental consultant.

I don't want to go to court to resolve this, as it will cost me more money and time and this is a foreign court that is unpredictable.

My question is, can I deduct my losses (the $10,000 I was supposed to get paid) against the taxes owed on the $8000 in earned income for 2009.

I have a signed contract and stop work order I issued when it became clear I was going to be paid squat. What would I need for documentation to prove I'm not getting paid? . Also, now that everything has gone so sour, no one will issue anything in writing anymore so if I need a piece of paper that says, there's no way in heck you are getting paid, that might be difficult to obtain.

Secondly, how would I claim these losses--is there a particular US gov form for losses. Thirdly, how much more likely get audited will I be by deducting big losses against my measly 2009 earnings.

Lets say I finally and surprisingly get paid next year at some point--what would I do if i had already deducted in from my 2009 taxes.

Is this common for independent contractors to find themselves in such a position, where it is too expensive and hard to go to court and the Indie just comes to terms with not getting paid.

Dejected and Taken Advantage of Indie, Jennifer


Dear Jennifer, A Dejected and Taken Advantage of Indie,

I apologize for cutting so much from your email. I wanted to make it accessible to my readers because yours is not an uncommon situation. Many indies get stuck for the bill. I am sorry this happened to you and to so many others.

What you don't want to hear is that you allowed yourself to be taken advantage of. If it were a $1000 job I could understand your doing the work before getting paid. But $20,000!! And doing $10,000 worth of work with no payment. In all that paperwork that you have you should have included a payment schedule. Something like: 1/4 of the work done, get paid 1/4 of the money. No more work until you get paid.

So, it happened to you once. Don't let it happen again. You are a business. Treat what you do as a business.

And the other thing you don't want to hear. You are a cash basis taxpayer -- explained in these posts -- so you can do nothing with the loss. You cannot deduct it. You may deduct any expenses that you incurred.

Best,
June

I don't want the hassle of a payroll.

June --

I am from Vancouver, Washington I work for a Supported Living Agency.

Just starting as an indie. I am starting a 16 voice, Male Choral Ensemble here in Vancouver. I had hoped to pay my singers and director a percentage of net sales from each concert series. I thought I could treat them as independent contractors and only have to issue a 1099. I had hoped to do this mostly to avoid all the payroll expenses associated with having employees. I am finding that the IRS would not allow such a classification.

I am now looking for alternative solutions to this dilemma. I am operating as a sole proprietor currently, but wonder if there is another structure that would allow me to pay my people, but avoid the workers comp,unemployment and any other expenses that would take money away from the business. Is there a way to have contracted singers even though the compensation is minimal and would not in the beginning even cover minimum wage?

Matthew


Dear Matthew,

The structure or entity setup of your business is not the determining factor in how someone is paid. The determining factor is the kind of work relationships there are between the person or business doing the hiring -- that's you -- and the people working for you.

Those relationships determine whether it's an employer-employee work arrangement or an independent work arrangement. Read this column from my website for a better understanding: It's all about relationships: Are you an employee or are you self-employed?

-- June

Be generous but do not cheat yourself!

In my September Ways Through the Maze I presented info on indies donating their time, services or products. You can read it here.

Today I received the following questions on that the topic.

Hazel, of Organized for Life, asks:
Someone I know "donates" services by arranging that the organization will pay her and that she will return the payment to them in the form of a donation.

Is that smart, or is it just cheating?


Beth, of Pilotone Music, asks:
Occasionally I have performed a service for a non-prof, been paid for it, then donated the check back to the organization. Isn't that a write-off or deduction?


Nancy, of Graphic Interpretations, asks:
Could this nonprofit have been confused with the state Enterprise Zone status? The State of Colorado offers this to nonprofits who apply and qualify. People who donate money and those, like myself who donate graphic design services, file paper work and may take a 25% deduction off the state income tax. I have done this for two nonprofit clients. In one instance, I did $2,000 worth of work and received a $500 tax credit off the bottom line for state income taxes.


Let me answer Nancy first.
A deduction is a subtraction from income.
A tax credit reduces your taxes.

For instance, a $1,000 business expense deduction might save you about $330 in taxes. While a $1,000 tax credit reduces your tax by $1,000.

A business expense deduction – something like supplies or postage -- is not at all like a state tax credit. Nor is it like a federal tax credit.

For instance, you can get a federal tax credit for spending money on child care but you cannot deduct childcare as a business expense. You can get a tax credit for being elderly or disabled but you can’t subtract old-age as a business expense.

Just as the fed has tax credits so does every one of the 50 states. And no state necessarily offers what any other state offers.

A self-employed may not deduct any amount of money from her business income for time or services donated to a non-profit. States may offer incentives to donate. That's a separate issue. Good for Colorado!!



My answer to Hazel is: Yes, it’s cheating. You are cheating yourself. Here’s why. And, this applies to Beth as well.

If you donate $2,000 worth of services and the non-profit pays you $2,000 you will pay federal income tax and self-employment tax on that income. Depending on the state you may also have to pay state income tax, sales tax, gross receipts tax, or unincorporated business tax.

Were you to then deduct that $2,000 as a personal charitable deduction on your federal tax return you might be able to save on federal income tax. I say "might" because you may not have met the threshold for personal deductions and so you'd lose the benefit of the deduction.

Since it is not a business expense you would not reduce your self-employment tax, approximately 15%. That’s a cost to you of $300. [2000 x .15]

Depending on your state there is a good chance you would get no personal deduction for your personal contribution and had you been liable for sales tax, gross receipts tax, or unincorporated business tax absolutely no deduction there. So the tax you paid would stay in the hands of the various state agencies.

All in all, by claiming the $2,000 as business income and then using it as a personal deduction you would have cost yourself a considerable amount in taxes.

Help out everybody: Please forward this post to the non-profits.

-- June Walker

Backup! Backup! Backup!

June --

I'm a Brooklyn, NY muscian - filing as self-employed for about 5 years.

I have been filing with the IRS as self-employed but for 2008, records of my gigs and how much they pay got destroyed as they were on my hard-drive and I didn't have a paper copy. What are my options?

Thank you!
Jeremy


Hi Jeremy,

First, make sure that you have proof of the hard-drive's destruction. Then go about reconstructing your life for 2008.

For instance, printout a page from a club's website where you played. Estimate your income. Ask the guys you played the gigs with for any records they have. If the clubs advertise in print get copies. Go take pictures of the clubs. Use the previous or following year as a guide.

For expenses, ask your credit card companies for back statements. Do the same with your bank.

Very important to know for you and all indies: Something logged in a computer -- in Word or Excel, or Quicken -- is not proof to the IRS. Any just slightly clever person can make the records say anything he or she wants them to say. You must have proof. Documents. The document can be on computer but it must be something that proves income or an expense -- cancelled check; credit card receipt; store receipt.

-- June

Get an EIN for Security Reasons

Hi June,

LOVE your website and blog. Not only is it informative, but it's damn entertaining as well.

I have a quick question about EIN's. I'm an independent consultant for large companies and firms. I usually go to a company, teach a 2 day-long seminar to its employees and then move on to the next job. I've only been doing this for about 2 years now, but I find that when invoicing for my work, I'm constantly giving out my Social Security number to every company that pays me.

I'm starting to think that from an identity theft standpoint it might be smart to get an EIN to use for my business activities. Should I?

And if I do, can I still use my Social Security number for other reasons (medical forms, year-end taxes, dealing with the Social Security administration when it's time to collect SS benefits, etc.)

Thanks very much, and keep up the good work!
Josh


Hi Josh,

Glad you like my stuff. Thanks.

Yes, by all means get an EIN. Use it for all your business papers. Your EIN and your social security number will be used on your tax return. Both will appear on your federal Schedule C: Profit (Loss) From Business.

You would still use your social security number for all personal paperwork such as medical, etc.

Here's some more info on EINs and how to get one EIN-employer identification # .

Cheers,
June

Recordkeeping not a bank balance is the real indicator of an indie's financial status.

Visionary Accounting For Entrepreneurs said...
June,

I love your book. I love your passion. However I politely disagree with your advice to have one bank account. Business owners need clarity with regard to the distinction between business and personal. Commingling funds should be avoided if at all possible. Maintaining a separate bank account for business activities enables this to occur for most all transactions. Loans between the owner and the business can be tracked in an Owner's Draw account, to be reconciled at year-end. Keep up the awesome job! You rock !

August 20, 2009 5:22 PM



Hello Visionary!

What a great name.

Thanks for your generous comments about Self-employed Tax Solutions. And, I don't know if I "rock" but I sure love rock 'n' roll and I love to dance.

Regarding a business checking account, keep in mind that I am talking about only sole proprietors who are not LLCs.

They include writers, graphic designers, poets, musicians, composers, web developers, handy men -- and women, astrologers, psychologists, photographers, landscapers, theatre critics. To name just a few of the independent professionals I work with. They are not small businesses. They are not widget makers.

They typically do not have funding for their professions. What do they do? They write. They sculpt. They photograph. They advise. They cut grass.

For many of these people their lives are their work. My goal is to help them distinguish between personal and business. That is a learning process and not one that forces them to make a decision, at a bookstore for example, as to whether the book is being bought for private leisure reading or as a business purchase. That decision can be made during the recordkeeping process.

In a sole proprietorship the owner is the business. The business is the owner. One's money is no different than the other's. There is no loan from one to the other because there is no other.

There is no owner's draw for sole proprietorships. There is for corporations. There is no reconciliation. It is not the balance in a bank account that is the determining factor. It is the recordkeeping that determines the profit or loss and that gives indies the information they need when they need it.

Depending on how timely he or she wants to be, the indie can keep records on a weekly basis, a monthly basis, or once a year on an annual basis. As to method, he or she can keep those records manually, or use software like Quicken, or have the records kept by a bookkeeper. Timeliness, recordkeeping method and of course accuracy are what provide an indie with the information needed to determine where the venture is financially.

Thank you for contributing to a discussion that is worthwhile to indies.

Best,
June

A Photographer's Story about A Business Checking Account

Hi June,

Just wanted to make a comment about your advice about separate checking accounts for a small business. I think you are right on the money to make this suggestion. As someone who has been self employed for 14 yrs I had always heard and been given the advice that you should separate your business and personal accounts.

I have undergone an audit. The advice to keep separate accounts because it will somehow make an audit easier because the IRS auditor will look at only your business account and ignore your personal account is totally wrong.

So like many I took the advice and had the separate accounts and did all the right accounting practices for my business accounts and deposited money in my personal account that was for personal items such as gift money from various family members to my family and reimbursements from parents of a hockey team I coach.

For the years I was audited this personal amount totaled almost 15K. And since most of this personal money was deposited in cash I kept no real track of it. It was "PERSONAL" and not business.

Well as the story goes, the government seemed more interested in every family member’s "PERSONAL" account after they turned up only a few small accounting errors. To cut a long story short I was hit with penalties and huge interest payments on my personal money which was crazy but also made me understand the idiotic advice that a small indie business should have a separate account and separate their personal money from their business money and an audit will be a breeze and that in the end you will be glad you followed so called proper accounting practices.

What I learned is that when you are an indie there is no distinction made between business money and personal in terms of an audit and having multiple accounts just muddied the waters for me. Had I just had one account, photocopied all deposits regardless of the source and paid all my personal and business expenses out of one account my life would have been simpler and by not following "proper business practices" I would have saved myself a ton of money and headaches.

Having separate accounts for an indie is bad advice and even worse is the experts telling an indie they need separate credit cards for personal and business. My advice from a guy who has been through an audit is to ignore the experts and follow common sense which tells you keep track of all money in and out in the absolute easiest way and don't get bogged down with accounting but focus that time on developing your business.

All the best,

Cliff
Photographer


Thank you, Cliff.

Your experience perfectly makes my point about recordkeeping. There are pros and cons to different kinds of recordkeeping and different kinds of business structures. Each indie business is unique -- unlike many W-2 jobs -- and so each must use the system and structure that works best for his or her situation -- to be decided with the help of a tax pro who understands the pitfalls and the advantages. For instance, indies often overlook the possibility that liability protection may be taken care of by insurance.

There are no cookie-cutter answers for indies!

June Walker

One checking account does not waive recordkeeping requirements.

In the comments to Indies are not Corporations Monica, who is an attorney, wants to know “how to avoid commingling if the funds are in the same account.”

Your choice is not between commingling or not being able to keep accurate, provable records. If an indie has one checking account and, let’s say, uses Quicken for her recordkeeping then she might do the following:

** A meal with a client would be categorized as M&E for business meals and entertainment. Lunch with her daughter would be categorized as Family Dining.

** Expenses at the printers might be categorized as Photocopies-Printing or Family Wedding Invitations.

** For money in she might categorize the $1,000 as Graphic Design Income:Clyde Client. Whereas the $100 from mom would be categorized as Personal Inflow:Birthday Gift.

If the above transactions were questioned in an audit the indie would need to show the back-up for the business expense and income transactions as well as proof that the $100 was a gift from mom and not a payment from a client.

A Quicken report shows business income and expenses in a format acceptable to the IRS. And because of the ease of one account the records would likely be more accurate than flipping money back and forth from one account to another as funds ebb and flow but not necessarily as needed. Self-employeds do not find it easy to annotate account transfers accurately and so transfers often end up looking like income.

For the same reason, I advise independent professionals to not spilt checks. A $1,000 payment from a client should be deposited as a $1,000 payment. If $200 cash is needed then write yourself a check for $200 cash. It makes the audit-trail less wiggly.

Of course, the above applies to sole proprietorships and those sole proprietorships not operating as an LLC – unless the LLC is for show only.

Note that for a one-person business, even if that one-person business were a corporation, in an audit the IRS would want to see statements from all personal bank accounts as well as the accounts of the corporation. The one-person business would be required to prove the source of all the deposits into the personal accounts.

-- June Walker

Stupid questions are those unasked.

Hi June:

This is probably a stupid question, but does the accountant that does my taxes need to be in the same state?

Thanks!
Carrie


Hi Carrie,

I'm sure you've heard that the only stupid question is the one unasked.

No, your tax pro does not have to be in the same state as you. Just be sure she knows about your state's taxes.

Best,
June

Indies are not Corporations

The header on my blog says, “June Walker, Tax and Financial Advisor to the self-employed.” On my website, blog, and in my books I say:

“Whether you call yourself a
1099 Worker
Sole Proprietor
Freelancer
Subcontractor
Free Agent
or
Self-employed
you are an independent professional.
The IRS classifies you as an independent contractor.
I call you an indie.”

Well, I know all you indies are smart enough to know that I am talking to you, advising you, teaching you. I am not addressing my advice to corporations. Pretty straightforward, one might think.

Many of you also know that my 30-years’ experience has shown me that most attorneys blatantly advise indies to incorporate for no good reason. And that incorporation often makes an indie’s life unnecessarily complicated and costs money in corporation set-up fees and tax preparation fees.

Also pretty straightforward, one might think.

In my post, You Do Not Need A Business Checking Account I advise indies, both as clients and as readers, that it isn’t necessary to have a separate business checking account – that it’s simpler, easier, and because of the nature of an indie venture, it works better just using a personal checking account for both personal and business needs.

I have examined some of the reaction to that post in There’s no shortage of bad advice out there.

Much of the reaction, especially from lawyers, has been hot-air-ballooned into warnings about how the only safe business structure for indies is incorporation. We can talk more about that at a later date.

For now I want to address something else. As you, my indie readers know, I pressure you to present your questions carefully. Whether you’re a massage therapist, sculptor, IT consultant, psychologist, carpenter, writer, cruise ship entertainer, furniture refinisher, or astrologer when asking a question you will get an accurate, appropriate answer only if you provide the right information. Sometimes I’m pretty harsh about that. That’s because words mean something and accuracy is important. If careless with words not only will you likely get a wrong answer but carelessness with words makes for sloppy thinking.

That said, I can’t let Attila Attorney respond to my posts by being inaccurate in his quotes of what I said.

In his post here, Attila Attorney, Esq. wrote, and this is a direct, accurate quote:

“I recently wrote in a post titled Tax Advice, Legal Advice & Piercing the Corporate Veil that it would be legal malpractice for an attorney to advise his corporate and business clients to commingle their personal and business funds.

“I wrote the post in response to June Walker who had written a blog post titled You Do Not Need a Business Checking Account in which she proceeded to give that very advice to her clients and readers.”

The problem with Attila’s premise: My readers are indies, not corporations. None of my clients is a corporation unless I am in the process of dissolving the corporation for him or her. I never mentioned corporations in that post. And, with 30 years of accounting experience [He’d know that because my blog header says “since 1979”] I’d be pretty silly were I to say that corporations don’t need to keep completely separate business and personal records. That’s one of the reasons I advise my wedding photographer clients not to incorporate. Just ask Billy Bridesnapper. He’ll tell you.

Attila continued: “Ms. Walker responded with a post titled There’s No Shortage of Bad Advice Out There. In it, she reiterated her advice to commingle, corrected my grammar and called me ‘Atilla the lawyer.’”

No, Mr. Attorney, I did not advise "to commingle funds.” I said a business checking account was not needed for indies. Big difference.

This is similar to the faulty logic of many accountants and attorneys who tell indies you must have a profit in 3 out of 5 years in order to be a business. No way. The IRS says that if you have a profit in 3 out of 5 years you are a business. Think of it this way: If it’s your birthday you will get a gift does not mean that if you receive a gift it must be your birthday.

And one more thing about Attila. In his attempt at quoting me he said I called him “Atilla the lawyer.” The gods invented quotation marks to mean that the words in between them are exactly what the person said. What I said exactly is: “Attila Attorney.”

In my book Lily Legal wants to know if, because she writes her briefs at the dining room table, she can deduct the dining room as a home office. [She can not because she also has dinner parties there.] Maybe in my next book Lax Lawyer will be asking if his reading glasses are a business deduction because he keeps misreading quotes. [He can deduct them if he uses them only for business and has another pair for reading the funnies.]

Accuracy is important. Not just for indies, but equally for accountants and attorneys.

I have received many emails from indies and tax professionals. All the indies say how much easier it is to keep accurate records using one checking account. Most of the tax pros say it's wrong. One pro said I was engaging in "chick think." Wow! More about that some other time.

Please do read The Tax Lawyer’s Blog and the comments. You need to know the kind of advice that is out there so that you can make the right choices in choosing a tax or legal professional.

June Walker

Bravo Indies!

Oh, thank you indies! I am so pleased to know that you read my info and use it in your professional life. Congratulations. It does my indie-accountant heart good.

Here are a few of the emails that I received about You Do Not Need A Business Checking Account and There’s no shortage of bad advice out there.. More to come, as well as my next reponse to Attila Attorney.

To recap what I've said here, there and everywhere:
1. The IRS does not require a sole proprietorship to have a separate business checking account. Of course records must show whether inflow and outgo are for business or personal, however, for indies that is typically more easily and more accurately accomplished with one checking account.

2. Corporations must keep separate records for business and personal. For independent professionals that's one of the negatives of incorporation.

3. LLC law is governed by each state. If you formed an LLC for the purpose of liability protection you need to check whether your state requires separate accounts for business and personal in order to maintain that protection. If in doubt, keep them apart.


From Lisa Lepine, Consultant, Branding for Creatives
Portland, OR
I love your eletter re: one checking acct. Don't let those dissenters get you down!

For many freelancers - having separate checking accounts is just ridiculous.I tried it for about a month - and still have a stack of checks that I will never use. I have followed your approach for the last few years with confidence and peace of mind.What makes your advice so dependable is that you truly LOOK AT THINGS THROUGH THE LENS OF TRULY SMALL BUSINESS. Here is a gadget some folks would love. -- Neat Receipts.


From NancyKay Sullivan Wessman, WessComm, LLC
Jackson, Mississippi
Thanks for the advice!
I do have a business account, but it’s in my Federal Credit Union; so it’s basically free. My desire was to NEED to keep work and personal money separate – but, sigh, I’ve never had enough of either to justify. Still, the business checks come in handy for buying some things. Most of the time, everything that can gets charged for easy access to American Express and Visa end-of-year statements. That makes identifying the business vs personal expenses fairly easy. . .

I especially like getting advice from another woman and, specifically, one who lives in Santa Fe near my friends. Bill and Sue and Margaret!

Best to you!


From Rose at Content Matters LLC in Colorado Springs, CO
Writing, Training, and Project Services for people who need help with the content that matters to them.Rose.CMLLC@gmail.comhttp://www.content-matters.com/
Dear June -

I'm a sole proprietor LLC with a service business and in-home office. I read your post and the two contrarian posts, and I have several responses based on my 15 years as an Indie.

Either the contrarians have not read your book or have forgotten key points that you make in it, such as that an Indie needs to find the system that works best for her. In no way are you insisting that people use only one account.

It is only in the past several years that I began using two accounts. The primary factor influencing my switch was the increased frequency of business income and expenses due to an increase in clients. To use an analogy, it was ok to put all my socks and stockings in the same drawer so long as I could keep the drawer neat. When I started spending more time sorting socks than wearing them, it was time to use two drawers: one for socks and one for stockings.

I keep track of all my personal and business monies in a single Quicken file, which lets me see at a glance the balance of any account and whether I need to make any transfers. I tried using two files, one for personal and one for business, and abandoned that in a hurry because I had to track inflow-outflow via paper reports. This is another example of not making your system any harder than it has to be.

I reconcile all monies at least once a month; I tried doing it less frequently and didn't like it.

A business associate is a Sub-S with a business that is far more complicated than mine. She reconciles just once, at the end of the year. Different strokes for different folks (cliche but true). We each trust our systems to work for us.

Over the years your book and your site have helped tremendously in getting myself "straight" about how to best manage my checking accounts, credit cards, and records as an Indie. You are doing a great job and a great service by focusing on the Indie as you do!


Thank you, all.
June Walker

You don't have to be a math whiz to figure out estimated taxes.

Hi June,

My name is Pete, from Boston, MA. For the past few months I've been freelancing as a web designer.

I've had a hard time finding the right information on estimated taxes. Basically, I've been just about scared away from continuing my freelance business and feel like cutting my losses, wiping my hands of this and finding a job that will give me a W-2.

The bottom line is: I've made about $10,000 total since I started freelancing in May, and I know I need to make a payment by September 15th. But I simply do not know how to figure out what amount I should be paying - even though I've researched endlessly (as you may have guessed - I'm not a math whiz). All the information out there on the web and in books seems to direct me to last year's taxes - 'take your adjusted gross income from last year, and...' - but I don't see how that's relevant at all when I just started doing this in May (also, I was a student most of last year).

Also, I can't figure out if my wife's income (she's a public school teacher) should come into play when estimating my tax payment.

I've spoken with a couple of accountants through personal contacts of mine, but I haven't gotten far on free advice. I've wondered if I need to just pull the trigger and hire an accountant to help me. I hope you can give some advice.

I found your site through searching 'can I pay estimated tax with a credit card', so you can imagine I'm sweating this quite a bit right now :)

Thanks very much for your time.

- Pete

PS - Even a quick answer like "You made $10,000, your estimated tax is $4,000" would be fantastic.


Oh my goodness, Pete. Stop sweating. First of all, nothing horrendous happens if you don't pay estimated taxes on time or ever. You may pay what you owe later on. And, you may owe some penalty and interest. Maybe.

Husband and wife typically file a joint return. Calculations are based on their combined income and expenses. Their total tax is based on their total income and various deductions.

If there is money coming in on which tax was not withheld -- for instance, dividends from investments [OK bad example at this time] let's say rental income from the beach house, well then estimated taxes may be necessary.

Or there may be large amounts of income on which no tax was withheld but perhaps there was over-withholding on wages that made up for it so no estimateds are required.

To determine estimated taxes you need to look at your entire tax situation.

That said, here's an example with real numbers. Plan on paying about 1/3 of your net income toward taxes. Could be more. Could be less. But that's a safe bet.

So if you had $10,000 gross income and only $1000 expenses against it then your net is $9000. So plan on $3000 to the feds and state government.

Or: $10,000 gross, minus $4000 expenses, leaves $6000 net. So only $2000 goes to taxes.

You said you're not a math whiz. If you had six bottles of beer and two friends and you wanted to share, how many bottles would each get? That's 6 divided by 3 = 2. Now add the zeros.

Here are two must read posts: Estimated Taxes and Estimated Tax: How much should I pay?

Do let me know if this doesn't help you with the sweats.

Cheers,
June

Recent Grads Need Help With Taxes and Recordkeeping

This is from Jess and came as a comment to my post Designers Dozen: Tax Saving Tips for the Graphic Artist . Since it is typical of questions I receive from recent graduates I decided to give it more attention.

Graphic design students head out upon graduation, most of them toward freelancing, without a clue about how to handle income and expenses.

From Jess ... Thanks for this great article. I graduated from a graphic design school 3 weeks ago and have just started working full time as a graphic designer.

I have the receipts from the expenses during school, my mac, books, the course itself and going along to design based events. Can I claim any of these items? I use the same mac bought at school in my current position and I look at the books I have? I was also wondering if you knew about phones and phone bills if used for business?

THANKS HEAPS for your time! It is wonderful being able to access this information.
Jess


Congratulations, Jess, on both graduation and the work you got.

If you were not working or actively seeking work while in school you cannot deduct as business expenses any of the costs you incurred.

You can, however, deduct assets. In your case, assets are things -- computer, books, any kind of equipment. Your cost-basis for deducting these things -- in other words, the amount considered your business expense -- is not what you paid for them but their fair-market-value on the day you started your business. That means the day you started looking for work.

For instance, the fair-market-value of your Mac would be what some other graphic designer would pay you for it on that day.

The same with your books. Think of it as: On the day you tossed your cap in the air and said you were ready for clients, what would an incoming freshman pay you for your books? That amount is the fair-market-value of the books and your basis for deduction.

Hope that helps.

And thanks. Happy that my is helpful.

-- June

There’s no shortage of bad advice out there.

Indies, an alert: Be careful. Know your source.

Sammy Segar, CPA, is the composite figure I use in my writings to depict the tax pro who totally misunderstands indie life; my recent blogpost, You Do Not Need A Business Checking Account, woke the real Sammy Segars out of their after-lunch naps.

Last Friday The Wandering Tax Pro, Robert D. Flach took respectful disagreement with my post in his You Do Need A Business Checking Account.

Flach advocates a separate business checking account because an indie should “do as much as possible to give your self-employment activity the appearance of a real business entity so that the IRS does not come back and say that it is really a ‘hobby.’” But then he steps on his own message by citing the chronic problem of indies with business checking accounts – what to do when the money gets low. Well, he says, “loan” money to the business account from your personal account and then return it later. If you have attended my seminars or read my book you know: That leaves a very wiggly audit trail for the IRS to follow.

He quotes my observation that in an IRS publication “you are urged to open a business checking account.” But he fails to include the rest of the comment, which was my main point: “The very next example from the IRS in the publication is the mixed use – personal and business – of your automobile. So, let’s see how efficient two checking accounts would be in this situation – hmm … guess you are expected to pay for each gas purchase with two checks – one for the personal use amount of gas and a business check for the business use portion.”

Flach says: “a separate business checking account is not a strict requirement.” I am not sure how a “strict requirement” differs from a plain requirement but the IRS didn’t require – it “urged,” which is no requirement at all.

Mr. Flach’s website does indicate that he works with self-employeds. He offers information to the “sole proprietor and one-man LLC.“ Well, if we were still in the 20th century I could understand, but this is the 21st. One-man!

Another response to my post came from The Tax Lawyer's Blog . Let’s call him Attila Attorney.“ In a recent post,” he writes in astonishment, “she advises her business clients to commingle their business funds with their personal funds. You read that write. She advises the commingling of funds.” Yes, indies, you read that right. He did say “write.”

Then he warns: In advising that an indie doesn’t need a separate checking account I am “engaging in the unlicensed practice of law and it’s dangerous.” I’m not sure if he means dangerous to me or to you indies. I didn’t realize that advising against setting up a business checking account was fraught with such peril.

Oh -- and I was not going to mention this but I just had to. He says: “First, Ms Walker may be the most brilliant, competent, well-meaning person on the face of the planet …” Well, my mother and my husband always thought so and I’m pleased to know that A. Attorney, Esq., is considering the possibility.

He follows that with, “Second, and more importantly (his seventh grade teacher would have corrected that to “important”), Ms. Walker is giving business owners horribly bad advice.” (Oh, wait. Maybe I shouldn't correct his grammar because I'm not a licensed teacher.)

He has warned of danger and spoken of horror. But should we be getting goose-bumps and feeling our hair standing on end? Not really, because there is nothing illegal, immoral, fattening or unwise for a sole proprietor, who is not an LLC, to conduct business by depositing income or paying for business expenses from a personal checking account. For that matter, for reasons explained on my website and blog, it’s smart.

Attila Attorney then abruptly changes the subject to the protections that await the indie who does exactly what the lawyers want him to do – form a corporation.

He warns indies – likely in his thinking they are all corporate monarchs -- against “a general commingling of corporate activity and/or funds and those of the person or persons who control the corporation.” Well, duh! That would be a serious mistake.

But can Attila keep his attention span focused long enough to note that my blogpost never mentioned corporations? Did I advise: Don’t set up a separate checking account, even if you form a corporation? Of course not. Whatever his motive for changing the subject, it gives him a chance to plug incorporation – a legal step near and dear to the hearts of many lawyers.

And when Jeff Day, an enrolled agent, in a comment to the post disagrees with Attila the Tax Lawyer, Attila responds to Jeff with: “If you have a serious business, it’s unwise to operate as a sole proprietorship and probably malpractice for a lawyer not to point that out to his clients.”

I’m trying to think of a word that properly describes his assertion that advising against a business checking account is practicing law without a license or not advising to incorporate is “malpractice.” “Preposterous” somehow doesn’t seem strong enough.

Of course, the issue we should be looking at today isn’t practicing law without a license or malpractice or man-only businesses. It’s Attila and Sammy giving tax and legal advice to self-employed independent professionals without really understanding how indie businesses function.

June Walker