Facing the tax challenges of self-employment

Facing the tax challenges of self-employment

Today’s technology makes self-employment easier than ever. But if a person works for them self, they’ll face some distinctive challenges when it comes to their taxes. Here are some important steps to take:

• Learn the liability. Self-employed individuals are liable for self-employment tax, which means they must pay both the employee and employer portions of FICA taxes. The good news is that they may deduct the employer portion of these taxes. Plus, they might be able to make significantly larger retirement contributions than they would as an employee.

However, they’ll likely be required to make quarterly estimated tax payments, because income taxes aren’t withheld from their self-employment income as they are from wages. If someone fails to fully make these payments, they could face an unexpectedly high tax bill and underpayment penalties.

• Distinguish what’s deductible. Under IRS rules, deductible business expenses for the self-employed must be “ordinary” and “necessary.” Basically, these are costs that are commonly incurred by businesses similar to ones own and readily justifiable as needed to run ones operations.

The tax agency stipulates, “An expense does not have to be indispensable to be considered necessary.” But pushing this grey area too far can trigger an audit. Common examples of deductible business expenses for the self-employed include licenses, accounting fees, equipment, supplies, legal expenses and business-related software.

• Don’t forget the home office! A person may deduct many direct expenses (such as business-only phone and data lines, as well as office supplies) and indirect expenses (such as real estate taxes and maintenance) associated with their home office. The tax break for indirect expenses is based on just how much of the home is used for business purposes, which can generally be determined by either measuring the square footage of the work space as a percentage of the home’s total area or using a fraction based on the number of rooms.

The IRS typically looks at two questions to determine whether a taxpayer qualifies for the home office deduction:

1. Is the specific area of the home that’s used for business purposes used only for business purposes, not personal ones?

2. Is the space used regularly and continuously for business?

If the taxpayer can answer in the affirmative to these questions, they’ll likely qualify. But please contact Prince & Tuohey CPA Ltd. for specific assistance with the home office deduction or any other aspect of filing taxes as a self-employed individual.

Phaseouts and reductions: A tax-filing reminder

As tax-filing season gets into full swing, there are many details to remember. One subject to keep in mind — especially if ones seen their income rise recently — is whether they’ll be able to reap the full value of tax breaks that they’ve claimed previously.

What could change? If the adjusted gross income exceeds the applicable threshold, ones personal exemptions will begin to be phased out and their itemized deductions reduced. For 2016, the thresholds are $259,400 (single), $285,350 (head of household), $311,300 (joint filer) and $155,650 (married filing separately). These are up from the 2015 thresholds, which were $258,250 (single), $284,050 (head of household), $309,900 (joint filer) and $154,950 (married filing separately).

The personal exemption phaseout reduces exemptions by 2 percent for each $2,500 (or portion thereof) by which a taxpayer’s AGI exceeds the applicable threshold (2 percent for each $1,250 for married taxpayers filing separately). Meanwhile, the itemized deduction limitation reduces otherwise allowable deductions by 3 percent of the amount by which a taxpayer’s AGI exceeds the applicable threshold (not to exceed 80 percent of otherwise allowable deductions). It doesn’t apply, however, to deductions for medical expenses, investment interest, or casualty, theft or wagering losses.

If the taxpayers AGI is close to the threshold, AGI-reduction strategies (such as making retirement plan and Health Savings Account contributions) may allow one to stay under it. If that’s not possible, consider the reduced tax benefit of the affected deductions before implementing strategies to accelerate or defer deductible expenses. Please contact Prince & Tuohey for specific strategies tailored to your situation.

Prince & Tuohey CPA Ltd. is located at 2836 Malvern Ave. Suite D, Hot Springs, AR 71901. Call 501-262-5500 or visit website http://www.princetuohey.com for more information.