Supplies or Inventory

Dear June:

Each year at tax time we have difficulty choosing a category for products purchased for my wife's hair salon. She is an INDIE, a cosmetologist who leases her own shop. We try to put things in the categories listed in your book, but are a little confused about colors, shampoo,foils etc. that are used on clients directly, products purchased for retail and then supplies like cookies, flowers, decorations for the shop etc.

We keep more detailed records for our own purposes to tract individual client expenses, but for tax purposes we wonder what we can lump together.

Thanks for Your help,
William for Joyce


Dear William,

You may group together the supplies that are used directly on clients as well as cookies, flowers, etc. In other words, those things that you use, or use up.

Things that you sell are part of your inventory. You need to calculate the value of what you have on January 1. Add to that what you purchase during the year. Subtract from that amount the value of what you still have left to sell on December 31. That ending amount is the cost of what you sold for the year. It is called Cost Of Goods Sold ... COGS.

Best,
June

Converting from Personal Use to Business Use

June --

I'm from Sandpoint, Idaho and am a Textile Artist. I had my first sales last year.

I am having a hard time finding info as it relates directly to artists. I've poured over IRS Publications and am still unclear as to: Inventories: The pieces of art I sold were made by me prior to becoming a business. How do I put a cost basis value on them? Are the materials that go into the pieces of art (primarily fabric and thread) considered inventory (as in raw materials) or supplies?

Is there a specific place I can go to find out more specific info for my profession?

Sheila


Dear Sheila,

Your cost of the art sold is your cost of the materials that went into making them before you became a business. What you have on hand and not yet sold is called inventory. There is no deduction for inventory. The deductible expense is cost-of-goods-sold.

Cost-of-goods-sold may be figured in several ways and the explanation is too lengthy for a blog post. Your tax pro would use the method most suitable for your situation.

There is a chapter in my book, Self-employed Tax Solutions , about just your kind of situation. I have included an excerpt below.

From Personal To Business Use
Many independent professionals migrate to self-employment from the joys of hobbyland or from work as an employee. Caitlin Caterer came to her profession when her kids entered school and by turning her joy of cooking for friends into a profitable business. Eddie Electronic went from selling himself short while working for someone else to selling his service for himself and keeping all the profit.

Both these indies started their sole proprietorships with equipment and supplies that they had purchased for private use. Caitlin had a significant culinary library that she began accumulating before she went into the catering business. Eddie had more electronic testing equipment and software than many who had been in business for years. Both Caitlin and Eddie used these things in their new business venture. And they could write off the costs of their personal-to-business-use equipment and supplies. Here’s how: They need to look at their things as they would were they buying it used from a thrift shop or on the web for example. If Eddie, over the years, paid thousands of dollars for his equipment and software but could now sell it all at a flea market for $900, then he treats these items as a $900 purchase for his business. If Caitlin, over the years, paid $2,000 for her book collection but now, because many of the books are out of print, could sell her culinary library online for $2,800. she would get a library deduction for her new business in the amount of $2,000. Why less than it’s worth? Because you get, as a deduction, the lower of your cost or fair market value at the time it went into use in your business.

In Self-employed Tax Solutions there is an EQUIPMENT WORKSHEET that will aid in calculating your deduction. My book is also the place to get that specific info you need about a self-employed artist.

Best,
June

Art as an Expense

June --

Embroidery Digitizer -- 2 yrs.

I have to purchase "clipart" and "artwork" from artists. This consists of either the artwork itself in the form of "clipart" or a licensing agreement for work I can download from their website. This is not artwork that I look at for "inspiration" but I actually take the picture of say the "dog" and make that dog in embroidery form.

What expense does this fall under, and is it subject to the certain percentage of what I made as profit??

This is my first year really working at this as a "true" business that I want to file on, and I have definitely put more into buying my initial artwork than I made last year in profit.

Abbie from Bloomington, IN

Dear Abbie,

To us it is obvious that you are not purchasing art for inspiration but that may not be as clear to the IRS. Because the IRS is firm on the no-deduction-for-art rule you will need to keep an especially accurate record of your art purchases. Were you audited you will need to show the direct relationship of your art purchase to your product.

There are a number of ways that your art expense may be treated. The final determination is up to your tax pro.

You may treat your art purchases as production costs. If I understand your work correctly, then I assume you do not know how many pieces of your work you will make to sell from one art purchase. So you need to pick a reasonable amount of time over which you will sell the "dog" piece. Then have your tax pro use that amount of time -- let's say 3 years -- to amortize the costs of your art. That means that $900 in art purchases would get you a $300 deduction over 3 years.

If you know the actual number of pieces you will make based on one art purchase your tax pro will set up a different method for tracking inventory and production costs.

Be sure to check out the book that can simplify your tax and financial life, and save you money! Self-employed Tax Solutions.

Best,
June

Inventory

Hi June,

I am a cartoonist who has also become a self-publisher. With the help of your book, Self-employed Tax Solutions, I've been able to make sense of most of my business taxes, but some things remain tricky.

My question: Buying a proof of my books is a necessary expense. The proofs are not always perfect, so I consider any proof not saleable. Yet, they are something that I can keep in my studio to show people, rather than toss them. Where can I deduct the price of the proofs? Do they go under COGS, supplies, or other?

Thanks in advance, John


Hi John,

You have a choice.

You can consider the cost of proofs as production costs when figuring your per book cost. For example:
All production costs for 100 books = $1000. That means cost = $10 per book.
If the proofs cost you another $100, then your total production costs for the saleable books = $1100. So your per book cost = $11.

Or you can include the proof books as part of your inventory. And when you use them for show, treat them the same as you would books that you give away for promotion. For example:
Let's say your cost was as in the above example, $1100. But you got 100 saleable books and and 10 proofs. Then, your cost per book = $10. And every time you use a proof or send out a book with your promo packet your inventory cost = $10 per book .

Inventory is difficult to explain in a short piece. I assumed that, because you used COGS, "cost of goods sold," that you understand a bit about inventory. Hope I was right!

Best,
June