| Tax
Aspects of Self Employment
If
you are in business for yourself as a sole proprietor or plan to
go into business for yourself you should be aware of some of the
tax aspects of your sole proprietorship.
As
a sole proprietor, you would report net income or loss from your
business on your personal income tax return. However, there are
several important rules that you should be aware of:
1)
For income tax purposes, you will report your income
and expenses on Schedule C of your Form 1040. The net income
will be taxable to you regardless of whether you withdraw cash
from the business. Your business expenses will be deductible
against gross income (i.e., “above the line,” and not as
itemized deductions subject to the 2%-of-adjusted-gross-income
floor or the 3%/80% reduction rules). If you have any losses,
the losses will generally be deductible against your other
income, subject to special rules relating to hobby losses,
passive activity losses and losses in activities in which you
weren't “at risk.”
2)
If you will be working from an office in your home,
performing management or administrative tasks from a home
office, or storing product samples or inventory at home, you may
be entitled to deduct an allocable portion of certain of the
costs of maintaining your home. If you have a home office you
may be able to convert nondeductible commuting expenses (of
going from your residence to another work location) into
deductible transportation expenses.
3)
The Social Security tax
rate for 2010 is 15.3 percent on self-employment income up to $106,800 and at a rate of 2.9% on
the excess. (The maximum amount will be reduced by any
non-self-employment wages you earn.) One-half of your
self-employment taxes will be deductible as a trade or business
expense (that is, as a deduction against gross income, not
subject to the limits that apply to itemized deductions).
4)
You will be allowed to deduct 100% of your health
insurance costs as a trade or business expense. This means your
deduction for medical care insurance won't be limited by the
normal 7.5%-of-AGI floor on itemized medical expenses.
5)
Your income won't be subject to withholding tax.
However, you will be required to pay estimated taxes quarterly.
We can work with you to minimize the amount of your estimated
tax payments while avoiding any underpayment penalty.
6)
You will have to maintain complete records of your
income and expenses. In particular, you should pay attention to
recording your expenses in order to be able to take the full
amount of the deductions to which you are entitled. Certain
types of expenses, such as automobile, travel, entertainment,
meals, and home office expenses, are subject to special
recordkeeping requirements or limitations on their deductibility
and require special attention.
7)
If you hire any employees you will have to get a
taxpayer identification number and will have to withhold and pay
various payroll taxes.
8)
You should consider establishing a Qualified
Retirement Plan. The advantage of a Qualified Retirement Plan is
that amounts contributed to the plan are deductible at the time
of the contribution and aren't taken into income until the
amounts are withdrawn. Because of the complexities of ordinary
qualified retirement plans, you might consider a Simplified
Employee Pension (SEP) plan, which requires less paperwork.
Another type of plan available to sole proprietors that offers
tax advantages with fewer restrictions and administrative
requirements than a qualified plan is a “Savings Incentive
Match Plan for Employees,” i.e., a SIMPLE plan. If you don't
establish a retirement plan, you may still be able to make a
contribution to an IRA.
If
you would like any additional information regarding the tax
aspects of your going into business or if you need assistance in
satisfying any of the reporting or recordkeeping requirements,
please give me a call.
Ralph
Sayers, CPA
(877)
316-4331
ralphs@tampabay.rr.com
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