Tax Planning for Small Business Owners

1. Tax Planning for Small Business Owners Amanda Hansen Laura Robins Holly Thomson

4. Capitalized Cost or Deductible Expense ? • Capitalized Cost – “permanent improvements or betterments made to increase the value of any property” IRC §263(a) • Deductible Expense – “ordinary and necessary expense paid or incurred during the taxable year in carrying on any trade or business” IRC §162(a)

5. Definitions • Capitalized Costs are recorded as an asset on the balance sheet and depreciated over the useful life • “Ordinary” Expense – common and accepted in your field of business • “Necessary” Expense – helpful and appropriate for your business

6. Examples of Capital Expenditures • Costs to acquire buildings, machinery and equipment, furniture and fixtures, and similar property. • Replacing a roof on a building • Additions to a structure • Remodeling • Landscaping • Improvements which add to the value of the building • Architect's fees • Costs incurred to build it yourself

7. Examples of Deductible Expenses • Business bad debt • Car and truck expenses • Depreciation • Routine repairs and maintenance costs • Employee’s pay • Interest on business debt • Legal and professional fees • Contributions to retirements plans • Health insurance premiums • One-half of self-employment tax • State or local personal property tax or registration fees • Business travel expenses • 50% of meals and entertainment • Home office

8. Examples of Nondeductible Expenses • Bribes and kickbacks • Demolitions expenses or losses • Dues to business, social, athletic, luncheon, sporting, airline, and hotel clubs • Lobbying expenses • Penalties or fines • Political contributions • Repairs that add to property value or life

9. What Property Can Be Depreciated? • It must be property you own • It must be used in business or held to produce income • It must have a useful life that extends substantially beyond the year it is placed in service • It must be something that has a determinable useful life • It must not be excepted property

10. Depreciable Lives • 3 year: software • 5 year: automobiles, computers, • 7 year: office furniture and equipment, other property • 27.5 year: residential real property • 39 year: nonresidential real property

11. Using Depreciation Tables $6,000 x 24.49% = $1,469.40

12. Section 179 Depreciation • Asset cost deducted in year placed in service • Tangible personal property used in trade or business • Dollar limits: • $24,000 in 2002 • $25,000 in 2003 • Reduced dollar limit for costs exceeding $200,000 • Recapture if business use drops below 50%

13. Special Depreciation Allowance • Property acquired after Sept. 10, 2001 and before Sept. 11, 2004 • Property placed in service after Sept. 10, 2001 and before Jan. 1, 2005 • Qualified property • Original use • No real property • Additional deduction of 30% of basis

14. Deducting Health Insurance Premiums • Deduct health insurance costs you pay for self, spouse, and dependents • In 2002, 70% expenses deductible • In 2003, 100% expenses deductible • Cannot include actual medical expenses • Cannot deduct if net loss on Schedule C • Can only take deductions for months you and spouse not eligible for employer plan

15. Deducting Car Expenses • If you use your vehicle for both business and personal purposes, you must divide your expenses between business and personal use. • You can choose to expense based on a standard mileage rate (36.5 cents/mile) or your actual expenses. • Actual expenses is an irrevocable election

16. Actual Car Expenses

17. Daily Business Mileage Expense Log Source - IRS Publication 463: Travel, Entertainment, Gift, and Car Expenses

18. When are Meals & Entertainment Expenses Deductible? • You can deduct ordinary and necessary expenses to entertain a client, customer, or employee if the expenses meet the directly-related test or the associated test • Subject to 50% limit

19. Travel Expenses • Must meet two conditions: • Business duties require you to be away for longer than an ordinary days work • You need sleep or rest to meet the demands of your work while away from home

20. Deductible Travel Expenses • Transportation • Baggage and shipping • Tolls and parking fees • Rental car • Meals and overnight lodging (subject to 50%)

21. Home Office Deduction • Must use a certain portion of your home both regularly and exclusively for business • Your home office must be your principal place of business

22. Calculating Home Office Deduction • Go through your records • Determine your office’s share of home expenses • Determine direct expenses of the home office • Calculate your office’s share of the depreciation on your home • Categorize and total your home office expenses • Deduction is limited to business net income

23. Moving Expenses • Closely related to start of work • Incurred within 1 year from date began work at new location • New home must be closer than the former home to the new job • Time test • Employees: work fulltime 39 weeks during first 12 months in new area • Self-employed: work fulltime same as employees AND for a total of at least 78 weeks during the first 24 months

24. Distance test – New job is at least 50 miles farther from former home than old job was from former home IRS Publication 521: MovingExpenses

25. Deductible Moving Expenses • Moving household goods and personal effects • Traveling (including lodging but not meals) to your new home • Must be reasonable • Expenses for yourself and members of your family

26. Where to Get More Information • www.turbotax.com • www.irs.gov • www.toolkit.cch.com