10 Mistakes Most Small Business Owners Miss When Starting Out

The process of starting a small business can be an arduous one; there are numerous steps that need to be taken — and often in a precise order — to legally establish a business. As a result, the process can be overwhelming. Unfortunately, it’s also easy to overlook some important details and steps along the way. By being aware of a few of the most common legal and compliance mistakes made by small business owners when starting out, you can be better prepared for future success.

1. Misclassifying Employees as Independent Contractors
Regulators are coming down hard on misclassifications. The IRS estimates that this problem includes millions of workers. It is best to talk this through with an expert, but you can get some background on the guidelines at the United States Department of Labor website.

2. Choosing the Wrong Business Structure
One of the first major decisions you’ll need to make in regards to your small business is the type of business structure you will select. This can range anywhere from a basic sole proprietorship (which doesn’t require any special forms or paperwork) to a more complex structure, such as a corporation or LLC. Keep in mind that different types of business structures offer different tax benefits and other protections, so it’s important to thoroughly explore your options and select the structure that’s best for your unique needs. You’ll also need to go through the legal process of establishing your business under your desired structure, which may require help from a legal or other type of professional.

3. Failing to Apply for an Employer Identification Number
Unless you plan on operating your business strictly as a sole proprietorship (in which case, you will use your personal Social Security number when filing taxes), you’ll also need to apply for a unique Employer Identification Number (EIN). This number will be specifically associated with your business, and it can be helpful to think of it as a business Social Security number of sorts; it’s used to file your business taxes, open up dedicated business bank accounts, and the like.

4. Overlooking Important Permits and Licenses
Depending on the specific industry in which your business will be operating and your location, you may also be required to obtain specialized licenses and/or permits in order to legally operate. Otherwise, you’ll run the risk of being shut down or finding yourself in serious legal trouble down the road. Take some time to research the specific types of permits or licenses that you may need to obtain, as well as the steps you’ll need to take in order to acquire them. Sometimes, this process can be time-consuming and even costly, so it’s not something you’ll want to put off until the last minute.

5. Not Knowing When to Speak to a Professional
When starting up a small business, it’s not uncommon to run a one-man (or woman) operation. After all, you may not have the cash flow or even the need to hire outside help in the early stages. Still, when it comes to making sure your business is squared away from a legal/compliance standpoint, it can certainly be worth the money to consult with tax and accounting professionals early in the game. You don’t necessarily need to onboard these experts full-time, but being able to turn to them for advice and guidance when you need it will help you avoid serious legal issues later on.

6. Putting Off Domain Name Registration
As soon as you have your business name picked out and registered, it’s also in your best interest to go ahead and register your website domain as soon as possible. Even if you don’t plan on setting up and launching your website any time soon, domain names are cheap, and having yours registered now will help you avoid a situation where the domain name you want is taken by somebody else later on.

7. Lack of a Comprehensive Business Plan
One of the biggest mistakes small business owners make when first starting out is that of not having a well thought-out and articulated business plan. A business plan is an important document that outlines in detail what your goals for your business are and how you will achieve them. This document is important not just for you and other members of your immediate team, but for potential investors as well. Should you seek financing for your company at any point, an investor is going to want to see and scrutinize your business plan — and it will likely have a major impact on the final decision.

8. Not Having Finances Squared Away
Another common mistake new business owners make is that of poor financial planning, which can lead to a lack of funding to get you through your first months successfully. Ideally, you’ll want to make sure your business plan accounts for all the company-related expenses you’ll incur during the first year of operation, as well as any personal expenses as well. Unfortunately, this is something that many small business owners overlook or miscalculate with disastrous results. The easiest way to avoid this mistake is to consult with a small business accountant during the early stages of drafting your business plan.

9. Failing to File Patents on Products or Ideas
It’s (hopefully) no surprise that you’ll want to be proactive about filing for patents for any unique products, prototypes or designs you may have. However, what many small business owners first starting out don’t realize is that they’ll also want to file patents on ideas, such as intellectual property, that could otherwise be stolen or copied and used by other entrepreneurs. After all, intellectual property can be just as valuable as a product prototype — so you’ll want to plan and protect these kinds of ideas accordingly.

Be careful to also avoid the mistake of waiting too long to file for relevant patents; the process can often be long and drawn out, so getting started as early as possible will be in your best interest.

10. Being Blind to Important Compliance Requirements
Last, but not least, make sure you’re aware of any and all compliance requirements that may apply to your business based on its structure, location, industry or other factors. For example, even if you’re keeping things “simple” by operating as a sole proprietorship, you’re going to be required to file and pay quarterly estimated taxes under that structure. Failing to meet compliance and other requirements can result in serious legal trouble, including fines and penalties, down the road.

When it comes to compliance requirements, such as annual reporting and tax filing, it’s always a good idea to keep a calendar of important dates, so you don’t forget anything. After all, you’ll have enough deadlines to worry about and remember on your own — especially during that first year of business operation. This is yet another situation where having a compliance expert, such as a tax or accounting professional, can really come in handy. He or she can assist you with annual compliance reviews, reminders on impending deadlines and the like.

From selecting a name and business structure to making sure your small business remains in compliance at all times, there are, unfortunately, a lot of opportunities to make mistakes as a new business owner. By keeping this information in mind and by working alongside the right types of professionals as you prepare to launch your new business, hopefully, you’ll be able to avoid these issues. From there, you can maximize your chances for success in the first year of operation and beyond.

The Most Common Accounting Mistakes Small Business Owners Make and How to Avoid Them

Most small business owners are an expert in their field, but not necessarily in the accounting aspects of building a business. And, with this comes a few common mistakes. Yet, even simple small business accounting mistakes can prove to be financially limiting and costly down the road. With the help of an accounting professional, it is possible to overcome at least some of these mistakes. Take a look at some of the most common mistakes and how to avoid them.

#1: Choosing the Right Accounting Software for My Business
You’ve purchased small business accounting software. You assume it will be ideally matched to your business and easy enough to jump into. It’s not. The problem is, each business requires a carefully selected and even customized accounting method. There are always risks related to regulatory compliance when the wrong accounting software is used or information is overlooked.

To resolve this, work with a professional that listens to your needs, learns about your business, and modifies your bookkeeping methods to meet your goals.

#2: Your Business Has Poor Organization and Recordkeeping
It’s quite common for small business owners to lack the time and skills to effectively manage small business recordkeeping and bookkeeping. There’s much to do and it takes time away from your business. And, there are dozens of apps and cloud accounting options present. Which do you use?

The good news is all of those options are a good thing. It means there are no longer excuses for not getting your business organized. With a bit of help, it is possible to set up a system that streamlines your business operations.

#3: Cash Flow Versus Profit-Loss Statement
Many small businesses are making money on paper, but they end up going under if their float to getting paid is too long. This is financially limiting and stunts your growth as well.

It’s important to understand how this impacts your business. Cash flow is a critical component of any business operation — it determines how much you end up borrowing and paying for, too. Learn the best methods for managing cash flow.

#4: Not Understanding Standard Accounting Procedures and Terminology
Many small business owners don’t understand key business accounting terms and procedures. What does setting up controls mean? What about bank reconciliation? What are your balance sheets and when are they updated? Profit and loss statements are filled with very specific terminology you need to get right.

It’s possible to learn these terms and methods on your own. There’s plenty of information available. However, it takes time to learn it all. More importantly, you may find applying specific procedures and tax laws to your business challenging. To overcome this, work with a tax professional you can depend on.

#5: The Small Business Budget
A budget provides financial insight. It offers guidance to you about where your business is right now and what your goals are. That’s because a budget — which many small business owners lack — creates key goals for your company to manage. Flying blind, on the other hand, is a common small business mistake.

Creating a budget takes some time and a good amount of dedication. Once it is in place, it can be modified each month to meet current needs. Software is available to help with this, but an accounting professional is also an option.

#6: Too Much DIY
To be frank, one of the biggest mistakes small business owners make is simply trying to save money by doing it themselves. Yes, it is true this will cut your accounting costs, but it also creates a scenario in which you have absolutely no control over “what you don’t know.” In other words, just because you can enter it doesn’t mean you should.

Working with a bookkeeping and accounting service capable of handling these tasks for you is the best option. In nearly every situation, these services will work to save you money, far overlapping any DIY savings you are creating.

#7: Lack of Tax Planning
Taxes are not something you should do just one time a year. Year-long tax planning for small businesses is necessary. It’s not just important to pay your taxes, but also to plan for them and plan for savings options.

If you lack a tax planning strategy, work to improve this by simply working with a tax professional. Create a plan for ways you can invest and cut your tax burden.

#8: Lack of Modernization
Are you still balancing your books using pen and paper? It is no longer considered ideal to do so. Yet, many small business owners see the investment in modernization and cloud accounting to be too costly. In fact, moving to a digital accounting system is likely to save you time and money. It doesn’t have to be challenging to implement this system either.

#9: Not Realizing True Profit and Loss
You may have a profit and loss sheet, but you may not have a lot of insight into what each line means. More so, you may not know enough about methods for reducing costs or viewing profit potential.

The investment in an accounting service can alleviate this. We are happy to talk to you about methods to save you money or boost your profit margins with simple changes to your methods.

Most small business accounting mistakes come from a lack of insight into the industry. The good news is solutions are available to help you overcome nearly all of them. Please call us if you have any questions.

Driving For Uber Or Others? Your Tax Situation Is Unique

With tax time approaching, if you drive for Uber, Lyft or a competitor, here is some tax information related to reporting your income. You are considered self-employed and will report your income and deductible expenses on IRS Schedule C to arrive at your taxable income for income tax and self-employment tax.

Your driving income will be reported on IRS information Form 1099-K, which reflects the entire amount for your fares charged on credit cards through the Uber reporting system. So if the 1099-K includes the total charges, then it also includes the Uber fee and credit card fees, both of which are deductible by you on your Schedule C. To determine the amount of those fees, you must first add up all the direct deposits made by Uber to your bank account. Then subtract the total deposits from the amount on the 1099-K; the result will be the total of the Uber fees and credit card processing fees. If you drive for multiple services, you will have multiple 1099-Ks and deposits from multiple services. It is highly recommended that you keep copies of your bank statements for the year so you can verify deposits in case of an IRS audit.

You will also need to include in your income any cash tips you received that were not charged through Uber. You should keep a notebook in your vehicle where you can record your cash tips. Having a contemporaneously maintained tip logbook is important in case of an audit.

Your largest deduction on your Schedule C will be your vehicle expenses. The first step in determining the deduction for the business use of a vehicle is to determine the total miles the vehicle was driven, and then, of the total miles, the number of deductible business miles and non-deductible personal miles. Recording the vehicle’s odometer reading at the beginning of the year and again at year-end will give you the information needed to figure total miles driven during the year. Although the Uber reporting system provides you with the total fare miles, it does not include miles between fares, which are also deductible. Thus it is important that you maintain a daily log of the miles driven from the beginning of your driving shift to the end of the shift. The total of the shift miles driven will be your business miles for the year. If you know the business miles driven and total miles driven, you can determine the percentage of vehicle use for business, which is used to determine what portion of the vehicle expenses are deductible.

You may use the actual expense method or an optional mileage method to determine your deduction for the use of the vehicle. If you choose the actual expense method in the first year you use the vehicle for business, you cannot switch to the optional mileage method in a later year. On the other hand, if you choose the optional mileage rate in the first year, you are allowed to switch between methods in future years, but your write-off for vehicle depreciation is limited to the straight line method rather than an accelerated method. For 2017, the optional mileage rate is 53.5 cents per mile. The IRS generally only adjusts the rate annually. If using the optional mileage rate, you need not track the actual vehicle expenses (but you still need to track the mileage).

The actual expense method includes deducting the business cost of gas, oil, lubrication, maintenance and repairs, vehicle registration fees, insurance, interest on the loan used to purchase the vehicle, state and local property taxes, and depreciation (or lease payments if the vehicle is leased). The business cost is the total of all these items multiplied by the business use percentage. Since the vehicle is being used to transport persons for hire, it is not subject to rules that generally limit depreciation of business autos, allowing for substantial vehicle write-off in the first year where appropriate. However, if you converted a vehicle that was previously used only personally, the depreciation will be based upon the lower of cost or current fair market value, and no bonus depreciation will allowed unless the conversion year was the same year as the purchase year.

Other deductions would include cell phone service, liability insurance and perks for your fares, such as bottled water and snacks. Depending on your circumstances, you may qualify for a business use of the home (home office) deduction. However, to qualify, the home office must be used exclusively in a taxpayer’s trade or business on a regular, continuing basis. A taxpayer must be able to provide sufficient evidence to show that the use is regular. Exclusive use means there can be no personal use (other than de minimis) at any time during the tax year. The office must also be the driver’s principal place of business.

Uber provides its drivers with detailed accounting information, and the only significant additional record keeping required is the miles traveled between fares, which is accomplished while in the vehicle. So justifying a home office is problematic. Even a portion of the garage where the vehicle is parked could qualify, but the use must be exclusive, which means the vehicle must be used 100% for business.

As a self-employed individual, you also have the ability to contribute to a deductible self-employed retirement plan or an IRA. Also, being self-employed gives you the option to deduct your health insurance without itemizing your deductions. However, these tax benefits may be limited or not allowed if you are also employed and participate in your employer’s retirement plan or if your employer pays for 50% or more of your health insurance coverage.

If you have additional questions about reporting your income and expenses, or the vehicle deduction options, please give us a call.

How to Identify When the Time Is Right to Bring an Accounting Pro Into the Fold

Running your own business is a complicated affair with a wide range of different “moving parts” to concern yourself with, but many people don’t realize how many of them ultimately lead back to your finances until it’s far too late.

A large part of your ability to be successful in the long-term will ultimately come down to the rate at which you expand. Grow your business too quickly and you might spread yourself too thin. Grow too slowly and you’ll be passing up opportunities that are rightfully yours, leaving a lot of money on the table at the same time. Your control over your finances will dictate whether you’re able to strike that perfect balance the way you need to.

Marketing, paying vendors, paying employees, managing client relationships – all of it depends on the quality of your bookkeeping (or lack thereof). To that end, a large part of your success will ultimately come down to your ability to identify when the time is right to stop doing things yourself and bring a professional accounting provider into the fold. To do this, you’ll need to keep a few key things in mind.

The Warning Signs You Need to Know
As it does every year, Intuit recently released a survey outlining the state of small business accounting in the United States. The results are very telling in terms of when people should bring a financial professional into the fold – and what the consequences are of inaction.

Asset tracking, for example, is something that you may not immediately think impacts your bookkeeping, but it does in a fairly significant way. Ghost assets are fixed assets that have either been rendered unusable or are physically missing. However, “out of sight, out of mind” does not apply in this case – they still count toward a business’s tax and insurance liability, thus making it difficult to properly reconcile their books every year.

Of the people who responded to Intuit’s survey, 74% indicated that they didn’t understand this, and 49% said that they didn’t even know what ghost assets were in the first place. If you are among those numbers, congratulations on arriving at one of the biggest indicators that you need to bring a financial professional into your business (and also that you’ll likely want to conduct inventory on a regular schedule moving forward).

Other signs that the time is right to bring a accounting professional into the fold ultimately come down to the most pressing financial issues that most businesses face. 51% of people who responded to Intuit’s survey said that accounts receivable and collections were their most significant business challenge. 44% said that cash flow was always something they were concerned about, and getting a better handle on “money in vs. money out” was always a top priority.

Cash flow troubles, it is important to note, is the number one reason why most small businesses fail within the first four years of existence.

Other pressing issues included properly managing paperwork on a regular basis, accurately closing the books each month, and managing payroll. The major thing to understand is that a financial professional will be able to help with ALL of these things, taking the stress off your plate so that you can focus simply on running your business like you should be. If ANY of these things are ones that keep you awake every night, or you feel these issues are significantly affecting your ability to grow and evolve, guess what? It’s time to contact a professional to do as much of the heavy lifting as possible.

Never Underestimate the Power of Trust
Consider it from another perspective. Recently, small business owners responded to a survey outlining all of their most pressing accounting issues. The survey, conducted by Wasp Barcode Technologies, spoke to 393 small business leaders of nearly every organization size and industry that you can think of.

When asked to rank the professionals that they worked with on a regular basis in the order of importance, these business leaders overwhelmingly agreed that accounting experts were one of the single most valuable assets they had. They outranked attorneys, insurance agents, technology firms and even staffing services.

This is how important tax professionals are: Business leaders know that much of what they’re trying to do each day, along with what they hope to be able to accomplish in the future, would be impossible without the stable foundation that only an accounting professional can provide.

When It Comes to Accounting, Knowledge Is Power
At the end of the day, it’s important to remember what may be the single most important piece of advice for small business owners when it comes to accounting: It is far, far cheaper to hire an accounting professional today before things get out of hand tomorrow.

Think about it this way: A large part of the reason why you got where you are today is because you took the initiative and started to do things for yourself. You have a “can do” attitude that just won’t quit, and you’ve built something incredibly successful from the ground up as a result. But there are certain situations where you cannot let pride get in the way of making the right decision, and accounting is absolutely one of them.

You already have a full-time job: running your business. You don’t have the time to take on another one, let alone the expertise to guarantee that you’re making the best decisions at all times. Yet this is exactly what business accounting is – a heavily specialized, full-time job that requires a careful hand and attention to detail that is second to none.

Bringing in a professional sooner rather than later will not only help make sure that you have cleaner books and other records, it will also significantly reduce the chance that you’ll get hit with penalties for things like late taxes and allow you to be much, much more successful in the long term. These types of benefits, to say nothing of the peace of mind that only comes with knowing your accounting is taken care of, are things that you literally cannot put a price on.

Hobby or Business? It Makes a Difference for Taxes

Taxpayers are often confused by the differences in tax treatment between businesses that are entered into for profit and those that are not, commonly referred to as hobbies. The differences are:

Businesses Entered Into for Profit – For businesses entered into for profit, the profits are taxable, and losses are generally deductible against other income. The income and expenses are commonly reported on a Schedule C, and the profit or loss—after subtracting expenses from the business income—is carried over to the taxpayer’s 1040. (An exception to deducting the business loss may apply if the activity is considered a “passive” activity, but most Schedule C proprietors actively participate in their business, so the details of the passive loss rules aren’t included in this article.)

Hobbies – Hobbies, on the other hand, are not entered into for profit, and the government does not permit a taxpayer to deduct their hobby expenses, in excess of any hobby income, on their tax return. Thus, hobby income is reported directly on their 1040, and any expenses not exceeding the income are deductible as miscellaneous itemized deductions on their Schedule A, assuming the taxpayer is not claiming the standard deduction, in which case they would be reporting income but not deducting the expenses.

So, what distinguishes a business from a hobby? The IRS provides nine factors to consider when making the judgment. No single factor is decisive, but all must be considered together in determining whether an activity is for profit. The nine factors are:

  1. Is the activity carried out in a businesslike manner? Maintenance of complete and accurate records for the activity is a definite plus for a taxpayer, as is a business plan that formally lays out the taxpayer’s goals and describes how the taxpayer realistically expects to meet those expectations.
  2. How much time and effort does the taxpayer spend on the activity? The IRS looks favorably at substantial amounts of time spent on the activity, especially if the activity has no great recreational aspects. Full-time work in another activity is not always a detriment if a taxpayer can show that the activity is regular; time spent by a qualified person hired by the taxpayer can also count in the taxpayer’s favor.
  3. Does the taxpayer depend on the activity as a source of income? This test is easiest to meet when a taxpayer has little income or capital from other sources (i.e., the taxpayer could not afford to have this operation fail).
  4. Are losses from the activity the result of sources beyond the taxpayer’s control? Losses from unforeseen circumstances like drought, disease, and fire are legitimate reasons for not making a profit. The extent of the losses during the start-up phase of a business also needs to be looked at in the context of the kind of activity involved.
  5. Has the taxpayer changed business methods in an attempt to improve profitability? The taxpayer’s efforts to turn the activity into a profit-making venture should be documented.
  6.  What is the taxpayer’s expertise in the field? Extensive study of this field’s accepted business, economic, and scientific practices by the taxpayer before entering into the activity is a good sign that profit intent exists.
  7. What success has the taxpayer had in similar operations? Documentation on how the taxpayer turned a similar operation into a profit-making venture in the past is helpful.
  8. What is the possibility of profit? Even though losses might be shown for several years, the taxpayer should try to show that there is realistic hope of a good profit.
  9. Will there be a possibility of profit from asset appreciation? Although profit may not be derived from an activity’s current operations, asset appreciation could mean that the activity will realize a large profit when the assets are disposed of in the future. However, the appreciation argument may mean nothing without the taxpayer’s positive action to make the activity profitable in the present.
There is a presumption that a taxpayer has a profit motive if an activity shows a profit for any three or more years within a period of five consecutive years. However, the period is two out of seven consecutive years if the activity involves breeding, training, showing, or racing horses.

All of this may seem pretty complicated, so please call this office if you have any questions or need additional details for your particular circumstances.

Can You Deduct a Home Office, and Is It Worth It?

Home office is a term used to describe the tax deduction for the business use of your home, which may or may not be an office. It is often misunderstood and claimed by those who don’t qualify for it or not claimed to the taxpayer’s best advantage. Understanding the requirements, options, limitations, advantages and disadvantages will help you determine if you qualify for the deduction and whether it is right for you.

Qualifications – In general, for you to deduct home office expenses, the office area must be used exclusively (no personal use) in your trade or business on a regular, continuing basis, and one of the following must apply—it is:

  1. Used for storing inventory for a wholesale or retail business for which your home is the only fixed location. Use of the area need not be exclusive under this test, but it must be regularly used;
  2. Used as a licensed day care center (exclusive use not required);
  3. A separate structure not attached to your home but used for business;
  4. A place where you meet with customers, patients or clients (just telephone contact with clients isn’t enough to meet this test); or
  5. The principal place of business for any of your trades or businesses.

Employee Issues – If you are an employee, in addition to the general qualifications for a home office discussed above, the home office use must also be for the convenience of your employer. Convenience of the employer means a business necessity—the use of the home must be a condition of employment. The employee needs a place to work, but the employer doesn’t provide one (or the office provided by the employer is inadequate or unsafe). Usage by the employee for personal convenience is not enough.

Method Options – Two methods are available for determining the amount of the home office deduction: the actual expense method and the simplified method (sometimes termed the safe-harbor method).

  • Actual Expense Method – The actual expense method uses home expenses that are prorated based upon the portion of the home that qualifies as a home office, generally based upon square footage. The prorated expenses include mortgage interest, real property taxes, insurance, heating, electricity, maintenance and depreciation. In the case of a rented home, the interest, tax and depreciation expenses are replaced by rent. Besides the prorated expenses, 100% of the costs directly related to the office, such as painting the office or repairs specific to the office, are allowed.
  • Simplified Method – In lieu of the actual expense method, the simplified method can be elected annually. The deduction is $5 per square foot, with a maximum square footage of 300. Thus, the maximum deduction is $1,500 per year. If the space was not used the entire year as a qualified home office, then this simple method becomes a little more complex, as the deduction must be limited to $5 times the average monthly square footage. Under the actual expense method, since part of the home mortgage interest and taxes are deducted as home office expenses, only the difference between 100% of the mortgage interest and taxes and the amount claimed for the office expense is allowed as a Schedule A itemized deduction. With the simplified method, all of the qualified home mortgage interest and taxes can be deducted on Schedule A.

When using the actual method, the unused deduction as a result of the income limitations (discussed below) carries over to future years, but none of the unused deduction figured by the simplified method will carry over.

Income Limitations – Even if you qualify for a home office deduction, the home office deduction is limited to the business activity’s gross income or, in the case of an employee, wages from the employer. Many people mistakenly believe that the limitation is the activity’s net income. The gross income limitation is actually the gross sales less the cost of goods sold, the business portion of the home’s mortgage interest and taxes and the otherwise deductible business expenses that are not related to the home’s business use. If the simplified home office deduction is used, there is no adjustment for home mortgage interest and taxes.

Relocation – There are additional things to consider when you deduct a home office and subsequently leave the rental or sell the home.

  • Renter – When you rent your home, move and use space at the new location as a home office, for the year of the move, you’ll need to figure the deduction separately for each home office based on the specific expenses and business use area of each home. If you don’t use space at your new living quarters for business purposes, then your home office deduction for the year of the move will only need to factor in the expenses for the time you lived in the first home.
  • Homeowner – If you own the home, sell it and had lived in it for 2 of the 5 years prior to the sale date, you can exclude up to $250,000 of gain ($500,000 for a married couple). However, you cannot exclude the part of any gain to the extent of depreciation you claimed for the home office after May 6, 1997.
    In addition, if the home office was within the same structure as the home, the exclusion will apply to the entire gain from the home except for the deprecation claimed. On the other hand, if the office was within a separate structure, then the sale must be treated as two sales – one for the home and one for the office – and the gain from the home office portion cannot be excluded, which can be a huge negative to claiming the home office deduction in the first place.

As you can see, there is more to the home office deduction than meets the eye. If you have questions about how a home office might fit into your tax situation, please give this office a call.

Uber (and Lyft) Drivers’ Tax Treatment

If you are one of the many individuals in the ridesharing business who is working through services such as Uber or Lyft – or if you are thinking of getting into this business – you may have some questions about the tax issues associated with this fast-growing business model. Generally, these drivers do not work full time, and their driving jobs are supplementary to their primary employment.

Uber and Lyft treat drivers as independent contractors as opposed to employees. However, more than 70 pending lawsuits in federal court, plus an unknown number in the state courts, are challenging this independent contractor status. As the courts have not yet reached a decision on that dispute, this analysis does not address the potential employee/independent contractor issue related to rideshare divers; it only deals with the tax treatment of drivers who are independent contractors, using Uber as the example.

How Uber Works – Each fare (customer) establishes an account with Uber using a credit card (CC), Paypal, or another method. The fare uses the Uber smartphone app to request a ride, and an Uber driver picks that person up and takes him or her to the destination. Generally, no money changes hands, as Uber charges the fare’s CC, deducts both its fee and the CC processing fee, and then deposits the net amount into the driver’s bank account.

Income Reporting – Uber issues each driver a Form 1099-K reflecting the total amount charged for the driver’s fares. Because the IRS will treat the 1099-K as gross business income, it must be included on line 1 (gross income) of the driver’s Schedule C before adjusting for the CC and Uber service fees. Uber then deposits the net amount into the driver’s bank account, reflecting the fares minus the CC and Uber fees. Thus, the sum of the year’s deposits from Uber can be subtracted from the 1099-K amount, and the difference can be taken as an expense or as a cost of goods sold. Currently, a third party operates Uber’s billing, coordinates the drivers’ fares and issues the drivers’ 1099-Ks.

Automobile Operating Expenses – Uber also provides an online statement to its drivers that details the miles driven with fares and the dollar amounts for both the fares and the bank deposits.

Although the Uber statement mentioned above includes the miles driven for each fare, this figure only represents the miles between a fare’s pickup point and delivery point. It does not reflect the additional miles driven between fares. Drivers should maintain a mileage log to track their total miles and substantiate their business mileage.

A driver can choose to use the actual-expense method or the optional mileage rate when determining operating expenses. However, the actual-expense method requires far more detailed recordkeeping, including records of both business and total miles and costs of fuel, insurance, repairs, etc. Drivers may find the standard mileage rate far less complicated because they only need to keep a contemporaneous record of business miles, the purposes of each trip and the total miles driven for the year. For 2017, the standard mileage rate is 53.5 cents per mile, down from 54.0 cents per mile in 2016.

Whether using the actual-expense method or the standard mileage rate, the costs of tolls and airport fees are also deductible.

When the actual-expense method is chosen in the first year that a vehicle is used for business, that method must be used for the duration of the vehicle’s business use. On the other hand, if the standard mileage rate is used in the first year, the owner can switch between the standard mileage rate and the actual-expense method each year (using straight-line deprecation).

Business Use Of The Home – Because drivers conduct all of their business from their vehicle, and because Uber provides an online accounting of income (including Uber fees and CC charges), it would be extremely difficult to justify an expense claim for a home office. Some argue that the portion of the garage where the vehicle is parked could be claimed as a business use of the home. The falsity with that argument is that, to qualify as a home office, the space must be used exclusively for business; because it is virtually impossible to justify that a vehicle was used 100% of the time for business, this exclusive requirement cannot be met.

Without a business use of the home deduction, the distance driven to pick up the first fare each day and the distance driven when returning home at the end of a shift are considered nondeductible commuting miles.

Vehicle Write-off – The luxury auto rules limit the annual depreciation deduction, but regulations exempt from these rules any vehicle that a taxpayer uses directly in the trade or business of transporting persons or property for compensation or hire. As a result, a driver can take advantage of several options for writing off the cost of the vehicle. These include immediate expensing, the depreciation of 50% of the vehicle’s cost, normal deprecation or a combination of all three, allowing owner-operators to pick almost any amount of write-off to best suit their particular circumstances, provided that they use the actual-expense method for their vehicles.

The options for immediate expensing and depreciating 50% of the cost are available only in the year when the vehicle is purchased and only if it is also put into business use during that year. If the vehicle was purchased in a year prior to the year that it is first used in the rideshare business, either the fair market value at that time or the original cost, whichever is lower, is depreciated over 5 years.

Cash Tips – Here, care must be taken, as Uber does not permit fares to include tips in their CC charges but Lyft does. Any cash tips that drivers receive must be included in their Schedule C gross income.

Deductions Other Than the Vehicle – Possible other deductions include:

  • Cell phone service
  • Liability insurance
  • Water for the fares

Self-Employment Tax – Because the drivers are treated as self-employed individuals, they are also subject to the self-employment tax, which is the equivalent to payroll taxes (Social Security and Medicare withholdings) for employees—except the rate is double because a self-employed individual must pay both the employer’s and the employee’s shares.

If you are currently a driver for Uber or Lyft, or if you think that you may want to get into that business, and if you have questions about taxation in the rideshare industry and how it might affect your situation, please give this office a call.

Important Tax Changes for Small Businesses

Tax legislation passed late in December 2015 (the Protecting Americans from Tax Hikes Act) extended a number of favorable business provisions and made some others permanent. The provisions can have a significant impact on a business’s taxes for 2016. Here is a rundown of important tax changes for small businesses that need to be considered when preparing your 2016 and 2017 returns.

Section 179 Expensing – The Internal Revenue Code, Sec. 179, allows businesses to expense, rather than depreciate, personal tangible property other than buildings or their structural components used in a trade or business in the year the property is placed into business service. The annual limit is inflation-adjusted, and for 2017, that limit is $510,000, up from $500,000 in 2016. The limit is reduced by one dollar for each dollar when the total cost of the qualifying property placed in service in any given year exceeds the investment limit, which is $2,030,000 for 2017, a $20,000 increase from the 2016 amount.

In addition to personal tangible property, the following are included in the definition of qualifying property for the purposes of Sec. 179 expensing:

  • Off-the-Shelf Computer Software
  • Qualified Real Property – The term “qualified real property” means property acquired by purchase for use in the active conduct of a trade or business, which is normally depreciated and is generally not property used for lodging except for hotels or motels. Qualified retail property includes:
    • qualified leasehold improvement property,
    • qualified restaurant property, and
    • qualified retail improvement property.

Bonus Depreciation – Bonus depreciation is extended through 2019 and allows first-year depreciation of 50% of the cost of qualifying business assets placed in service through 2017. After 2017, the bonus depreciation will be phased out, with the bonus rate 40% in 2018 and 30% in 2019. After 2019, the bonus depreciation will no longer apply. Qualifying business assets generally include personal tangible property other than real property with a depreciable life of 20 years or fewer, although there are some special exceptions that include qualified leasehold property. Generally, qualified leasehold improvements include interior improvements to non-residential property made after the building was originally placed in service, but expenditures attributable to the enlargement of the building, any elevator or escalator, and the internal structural framework of the building do not qualify.

In addition, the bonus depreciation will apply to certain trees, vines and plants bearing fruits and nuts that are planted or grafted before January 1, 2020.

Vehicle Depreciation – The first-year depreciation for cars and light trucks used in business is limited by the so-called luxury-auto rules that apply to highway vehicles with an unloaded gross weight of 6,000 pounds or less. The first-year depreciation amounts for cars and small trucks change slightly from time to time; they are currently set at $3,160 for cars and $3,560 for light trucks. However, a taxpayer can elect to apply the bonus depreciation amounts to these amounts. The bonus-depreciation addition to the luxury-auto limits is $8,000 through 2017, after which it will be phased out by dropping it to $6,400 in 2018 and $4,800 in 2019. After 2019, the bonus depreciation will no longer apply.

New Filing Due Dates – There are some big changes with regard to filing due dates for a variety of returns. Many of these changes have been made to combat tax-filing fraud. The new due dates are effective for tax years beginning after December 31, 2015. That means the returns coming due in 2017.

Partnerships

  • Calendar Year: The due date for 1065 returns for the 2016 calendar year will be March 15, 2017 (the previous due date was April 15).
    Fiscal Year: Due the 15th day of the 3rd month after the close of the year.
  • Extension: 6 months (September 15 for calendar-year partnerships).

S Corporations

  • Calendar Year: 2016 calendar year 1120-S returns will be due March 15, 2017 (unchanged).
  • Fiscal Year: Due the 15th day of the 3rd month after the close of the year.
  • Extension: 6 months (September 15 for calendar-year S Corps).

C Corporations

  • Calendar Year: The due date for Form 1120 returns for the 2016 calendar year will be April 18, 2017 (the previous due date was March 15). Normally, calendar-year returns will be due on April 15, but because of the Emancipation Day holiday that is observed in Washington, D.C., the 2017 due date is the 18th.
  • Fiscal Year: Due the 15th day of the 4th month after the close of the year, a month later than in the past (exception: if fiscal year-end is June 30, the change in due date does not apply until returns for tax years beginning after December 31, 2025).
  • Extension: 6 months. (Exceptions: [1] 5 months for any calendar-year C corporation beginning before January 1, 2026, and [2] 7 months for June 30 year-end C corps through 2025.) Thus, the extended due date for a 2016 Form 1120 for a calendar-year C Corp will be September 15, 2017.

W-2s, W-3s and 1099-MISC reporting non-employee compensation  

  • Due Date: For 2016 W-2s, W-3s, and Forms 1099-MISC reporting non-employee compensation, the due date for filing the government’s copy is January 31, 2017 (the previous due date was February 28 or March 31 if filed electronically). The due date for providing a copy to the employee or independent contractor remains January 31.
  • Extension: The 30-day automatic extension to file W-2s is no longer automatic. The IRS anticipates that it will grant the non-automatic extension of time to file only in limited cases in which the filer or transmitter’s explanation demonstrates that an extension of time to file is needed as a result of extraordinary circumstances

Work Opportunity Tax Credit (WOTC) – Employers may elect to claim a WOTC for a percentage of first-year wages, generally up to $6,000 of wages per employee, for hiring workers from a targeted group. First-year wages are wages paid during the tax year for work performed during the one-year period beginning on the date the target-group member begins work for the employer.

This credit originally sunset in 2014, but the PATH Act retroactively extended the credit for five years through 2019.

  • Generally, the credit is 40% of first-year wages (not exceeding $6,000), for a maximum credit of $2,400 (0.4 x $6,000).
  • The credit is reduced to 25% for employees who have completed at least 120 hours but fewer than 400 hours of service for the employer. No credit is allowed for an employee who has worked fewer than 120 hours.
  • The legislation also added qualified long-term unemployment recipients to the list of targeted groups, effective for employees beginning work after December 31, 2015.

Research Credit – After 21 consecutive years of extending the research credit year by year, the PATH Act made it permanent and made the following modifications to the research credit:

  • For years after December 31, 2015, small businesses (average of $50 million or less in gross receipts in the prior three years) can claim the credit against the alternative minimum tax.
  • For years after December 31, 2015, small businesses (less than $5 million in gross receipts for the year the credit is being claimed and no gross receipts in the prior five years) can claim up to $250,000 per year of the credit against their employer FICA tax liability. Effectively, this provision is for start-ups.

What is in the future?
With the election of a Republican president and with a Republican majority in both the House and Senate, we can expect to see significant tax changes in the near future. President-elect Trump has indicated that he would like to see the Sec. 179 limit significantly increased and the top corporate rate dropped to 15%. Watch for future legislation once President-elect Trump takes office.

If you have questions related to the business write-offs or filing due dates, please give this office a call.