Most employees incur expenses to do their jobs. The employee might drive for their job or use their cell phone or home internet or maintain a home office. If you don’t reimburse your employee’s expenses, then the employee has no way to deduct those un-reimbursed expenses on their individual tax returns (those deductions go wasted). Instead, consider reducing your employee’s wage and replacing that reduction with a reimbursement. Example: If your employee earns $50,000 and incurs $5,000 of un-reimbursed expenses (driving, cell phone, internet, supplies, home office), then you pay FICA tax on $50,000 and your employee pays tax on $50,000 and can’t deduct their $5,000 of expenses. If you instead pay that employee $45,000 as a wage and $5,000 of reimbursement, then the employee is still making $50,000, but you pay FICA tax on $45,000 (save $383) and the employee pays tax on $45,000 instead of $50,000 (saving the employee around $1,200 of tax/year).
If you are over age 70 ½, then you are forced to withdrawal money from your IRA each year and include that amount in your taxable income. Most retirees don’t itemize since their itemized deductions (state and local taxes, mortgage interest, and donations) don’t exceed the $27,000 standard deduction – thus their donations don’t save them any tax. The solution: If you donate to charity directly from your IRA, then you don’t have to include that donated amount as income on your tax return…so in a round-about way, you get to deduct that donation (i.e., your taxable income doesn’t include the amount you donated to charity directly from your IRA).
If you arrive at the end of the year and need a business or rental deduction to make sure that you don’t creep into the next tax bracket, then consider pre-paying 2020 expenses in 2019. You can pre-pay up to 1 year’s worth of 2020 expenses in 2019 and take a deduction for that pre-payment in 2019. You can pre-pay 12 months of phone bills, utilities, rent, supplies, insurance, etc. Remember, you get a deduction for what you charge on your credit card in 2019 on your 2019 return even if you don’t pay off the credit card until a future year.
Health Savings Accounts (HSAs) are, in our opinion, the best tax-savings vehicle in existence. 1. You can deduct the amount you contribute (up to a maximum deduction of $9,000/year). 2. The money in the HSA grows tax-free. 3. In addition, you don’t have to pay tax when withdrawing the money from the HSA. There is no other tax-savings vehicle that provides all 3 of these benefits. Traditional IRAs and Traditional 401Ks only allow a deduction of contributions but not the other 2 benefits. Roth IRAs and Roth 401Ks only allow tax free earnings and tax-free withdrawals, but not deductible contributions. If you qualify, be sure to contribute the maximum each year to your HSA.
Generally, if your income is more than 150K and you have a loss from a rental, then you can’t deduct that rental-loss on your tax return. AirBNB rentals generally aren’t classified as “rentals” for tax-purposes and instead are classified more like hotels – thus they aren’t subject to this loss-limitation. In addition, you can use cost-segregation techniques to ensure large depreciation deductions in the early years of your AirBNB rental and use those losses to offset your other income.
You can offset a large chunk of your small-business income if you contribute it to a tax-deferred retirement account…some options for you:
a. IRA: up to $6,500
b. SEP IRA: up to 25% of your business profit
c. Simple IRA: up to $15,500 plus 3% of your business profit
d. Solo-401K: up to $24,500 plus 25% of your business profit
e. Cash Balance Pension Plan: up to approximately $300,000
Imagine that you made $300K/year as a wage-earner – you can defer a maximum of $24,500 into your 401K or 403b plan at work and then will have to pay tax on the rest of your earnings. Instead, consider buying a franchise for $100K and expensing nearly all of the $100K purchase price in the year of purchase. Doing so is like deferring $100K into a 401K…you earned $100K and invested it in a small business and so get a $100K deduction/deferral. Then as the franchise produces profit, you take that profit and another year’s earnings from work and use those funds to purchase franchise #2 in order to defer tax on even more earnings. Repeat year after year.
Almost all small businesses and rentals get a new deduction equal to 20% of their profit if the taxpayer’s married-filing-joint taxable income is less than $315,000. If the taxpayer’s taxable income is above that amount, then the deduction could be limited based on the nature of the small business and whether or not the small business pays wages to its employees. We can calculate this deduction for you and share ideas with you that may allow you to still enjoy some of the deduction if your income is over $315,000.
In the old days, when you bought a $700 computer, you potentially were forced to depreciate that computer over 5 years. These days, you can immediately expense all business asset purchases utilizing one of 3 tax methods or elections: Section 179, 100% bonus depreciation, and the $2,500 de minimis expensing safe harbor election. These methods or elections apply to new or used assets purchased for your business. Example: If you buy a new track loader and finance it over 5 years with the bank, then you can write off the entire cost of the track loader in year 1 even though you only had the cash outlay of the down payment in year 1.
Your general goal is to smooth business-profit between years. Instead of recognizing profits of $100K, $200K, and $100K over a 3-year period, you generally will pay less tax if you recognize profit of $133K, $133K, and $133K over that same 3-year period. Time the recognition of income and expenses at year-end and the timing of large asset purchases to achieve this.
Assume you bought shares of stock 20 years ago that have appreciated. If you sell the shares, you might pay up to 23.8% Federal tax on their gain if you are in a high tax bracket. Consider gifting those appreciated shares to your child who is in a lower tax bracket so that child can sell them and pay tax at a 0% capital gains rate? This works as long as the child is not your dependent (i.e., that child is over age 18 or age 23 (if still in college)). This strategy also works when a retired parent or charity is the recipient of the gifted shares.
If you plan to continue to pay a salary to an employee on family or medical leave, you could enjoy up to a 25% credit computed on the salary that you pay that employee while they are on leave if you adopt a written plan and jump through a couple of hoops.
Buy your first property for $50K. When it is worth $80K, trade up to a better property. When that property is $110K, trade up for another property. By the time you die, you will have real estate worth $2M for which you only paid $50K. If you utilize the like-kind exchange rules when transferring between each property, then you can pass away holding the last property and the nearly $2M of gain could potentially vanish upon your death. If you would rather enjoy that appreciation for your own personal use while you are still alive, then you can borrow against the $2M property in retirement and enjoy the use of the borrowed funds without selling the property and being forced to recognize a gain…and, to top it off, the gain could potentially still disappear upon your death.
The audit rate of sole-proprietorships is 3%. The audit rate of partnerships and S Corporations is .4%.
If all of your cash is trapped in an IRA, then you might be forced to have your IRA buy your next business. This is powerful if done correctly, but is disastrous if you aren’t super-careful (one mis-step and the entire value of the IRA is now taxable to you). Alternatively, if you think your life will be simpler by holding the business in your name, then you can withdrawal the funds needed to purchase the business from your IRA and offset that income by the losses generated by the immediate depreciation of the of the purchase of the business assets.