Category: Business Taxes

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Business Taxes Tax Tips

Tips for Investors to Minimize Taxes

How can investors help with irs back taxes san diego

It’s that time of the year again when U.S. citizens have to file their tax returns and pay their taxes. For the first time, taxpayers will also contend with changes in the law through the Tax Cuts and Jobs Act of 2017. Since the law, which amended the Internal Revenue Code of 1986, was passed in the late 2017, its effects and implications will be for the 2018 tax year, which will be filed this year.  

When tax season comes, taxpayers scramble to get the most benefit from the tax refunds and tax credit provisions under the law. For individuals, the tax is pretty much cut and dry. It becomes more complicated with the individual have other entanglements like marriage, children and a business. Everybody wants to pay less. But with investors, there is always that mindset of wanting to spend as little money as possible while earning a lot. There are many strategies that could keep investor taxes at a minimum—legal strategies at that. Don’t even try doing an illegal maneuver or you will end up paying more than you should if caught. Or worse, you may even end up in jail.  

If you are an investor and you want to keep tax at the barest minimum, you will want to get acquainted with the tax-loss harvesting strategy. This will also help you have increased long-term returns. Businessmen usually resort to this approach to taxes when their investments become less than the purchase price. But this strategy is a complicated matter because it has to be countered with other tax rules. 

Here are some things you need to consider when figuring out how to minimize tax due: 

Offset your capital gains 

Based on the tax-loss harvesting strategy, a long-term capital loss could be used to cancel out a long-term capital gain. A long-term investment is assets including bonds, stocks, real estate and cash that a person holds or owns for more than a year. On the other hand, a short-term loss will be considered to offset a short-term capital gain. Those that will be considered as short-term investments are assets owned for less than a year. Excess loss from either short-term or long-term investment could be canceled out by either of the capital gains. Every year, there is about $3,000 in losses that could be applied to a person’s ordinary income. If there is an excess of loss from that, it could be rolled over in the next few years.  

Better tax results from tax-loss selling 

When an investment outperforms a particular index or the overall market, an alpha is created. Additional alpha could be conceived during tax-loss harvesting when a businessman is expected to have better tax results. One may be able to sell stocks or funds via losses. This will offset profitable sales from an earlier period.  

Wash-sale rule 

When an investor sells or trades a security for a loss but then buys a similar stock or security within a month after the sale, a wash-sale occurs. Basically, the purchase washes out the sale that the person was forced to make. Take note of the use of the word “similar” because the Internal Revenue Service (IRS) frowns upon investors selling a security and buying an identical security within a month of the sale. In fact, frowns may be the wrong word as the IRS actually imposes a penalty on that. This is a means to prevent anyone from just making up losses in order to enjoy some tax benefits.  

How tax-loss harvesting could minimize tax due 

Businessmen don’t really need capital gains in order to take advantage of the tax-loss harvesting approach. As earlier mentioned, there is that rule that allows the offsetting of $3,000 in losses from ordinary income. Using that same amount, say an investor sells stock but via losses. That loss could then be utilized for the reduction of taxable income by $3,000. So let’s say a businessman loses a security but sells an asset to cover for the loss. He will then reduce taxable income worth $3,000 for the year and will then let additional losses roll over for the next few years.  

On the other hand, this may also help create greater returns for the taxpayer. So if the businessman saves some amount in taxes every year by using the tax-loss harvesting scheme, he could use those savings and invest them in other forms of assets like in the stock market. Every year, the amount will see interest and would then increase to a hefty sum. In 25 years, your few hundred dollars of savings could already make tens of thousands of dollars.  

There is a caveat though. Earning a hefty sum from tax-loss harvesting would only work for a certain range of income. Experts say tax-loss harvesting is not appropriate for an individual with less than $40,000 in taxable income as well as in a married couple with a joint taxable income of less than $80,000. Records indicate that for individuals making just around $38,600 a year and $77,200 for spouses filing jointly, the capital gains rate is zero.  

Another thing, tax-loss harvesting is not applicable to the 401 (k) or the individual retirement account or other retirement accounts because losses from these accounts cannot be deducted.  

Analyse first before selling stocks 

There is a danger when an investor is only looking at the immediate solution and singling out the tax-loss harvesting strategy as an easy way out. There is a tendency that you sell a stock but within the month, the security rebounds. So always give yourself time to analyze stocks and funds and other related assets. Keep up with earnings calendar or the official public announcement of a company’s profitability over a time period. Never sell around earnings releases because profit reports from every company will immensely affect prices of assets. Give yourself time to analyze the market after earnings releases. Discuss your intention to sell with an expert over coffee. Some experts will definitely welcome the discussion without you wondering if you have to pay for that expert opinion.  

Municipal bonds 

This is one way to hide your money from tax in a very legal way. Very is put there for emphasis because a municipal bond is a debt obligation issued by a government. You basically put in money for the government to roll. Basically, you are allowing the government to loan some money from you. In return, your bond will earn interest. But the best part is, the amount you put in will not be taxed. There are also taxable bonds but why make that option when there are bonds that are not tied with federal, state and local taxes? But it also begs the question: Why is there an option for a taxable bond? Because the income from that type of bond is generally higher.  

There are two types of municipal bonds: general obligation bonds or GOs and revenue bonds. The former is issued in order for government to have money to cover regular operational expenses. The latter is issued in order to fund infrastructure projects. Low-risk investors enjoy these kinds of investments because they will definitely earn from it—after all, nothing can bankrupt the government. It is also another way to minimize tax bill.  

Health Savings Account 

This is another way to have reduced taxes. Since this is for your health, the government is not inclined to pose taxes on any contributions to the Health Savings Account. If you put in the maximum amount possible, the account will grow and you don’t have to worry about tax. Of course, there may be a time that you will need the fund, say an emergency medical expense or even a scheduled medical procedure, withdrawals from such account will not be taxed as well.  

Get an expert opinion 

When you go through the IRS website, you will realize that there are so many tax credits that you could take advantage of that will help you reduce your taxes. Who knows better about these tax credits and forms of tax relief than tax experts like a certified public accountant, tax lawyer or an enrolled agent. Hire an expert to help you get maximum tax credit in order to minimize tax due. You should not worry about the professional fee because for sure, it would be offset—yes, that word is repeated over and over because that’s an important word when talking about minimizing tax—by the possible savings you will get in the end.  

Taxes are never easy—paying them and calculating them. During tax season, many people are left scratching their heads over the simplest tax matters as filling out the forms. But the most headache-inducing part of tax season is the actual paying of taxes. Because it is usually a one-time thing—unless of course you apply for some sort of tax relief—it is a heavy burden. Other countries deduct taxes from an person’s regular income, making it less burdensome for the taxpayer both financially and mentally. But since that is not Uncle Sam’s way, taxpayers have to endure every year in what is known as tax season. It is an obligation that every American must settle if people want to continue enjoying the perks of living in the Land of Opportunity. 

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Business Business Taxes Tax Tips

Best Tax Deductions for Self-Employed

what are the business expenses that are tax deductible

Being your own boss is a dream a lot of people strive for. You have independence from a structure of a corporate environment. You get to manage your own time and your resources as well. 

You deal with your clients, and you come up with an agreement of what can be expected off of each other without having to work under the client’s management.  

Chances of earning more are high because companies will hire you for your skills that they need for a certain time. It is not a longtime commitment, so in the long run, companies get to save on overhead. 

You book your  own clients, you earn your own income and you manage your own affairs. Taxes included. 

While you get to earn more profit, you may not be able to enjoy some things that are enjoyed by folks, who are connected to companies. This could include benefits like health insurance, vacation leave. There is also the security of tenure and the most strenuous of all—taxes. 

Since you work for yourself, you will have to pay taxes through individual income tax and if you are not guided well, you will have to pay a hefty amount of money in taxes.  

That is why, when you can, you should claim every business  tax deductions that you qualify for. This way, you can gain back what you have spent and it will become an income for your small business. 

Credit card fees, maintenance of a business property, buying office supplies are some of the tax deductible expenses as they are all business-related.

What are the business expenses that you can write off as tax deductible?

 

 Home office deduction 

If you work from home, your home is considered your office. Your place of business. Make sure that you prepare a diagram of your office space at home, so that you could show it should the IRS asks. 

The office space and other expenses that a business incurs if it had a real office, are deductible as well. These include: utilities, the mortgage, even the depreciation and the property tax. 

The size of the home office is also proportional to what is deductible from the electricity bill. 

Which means that if your office occupies half your pad, then the deductible from your electric bill is also 50 percent. 

 Internet and telephone bills 

You can deduct your business telephone bill from your taxes and this includes the Internet usage as well. However, it gets a little tricky because you will be using the same line for personal use and not just for business. Make sure you declare the approximate time you spend on the Internet for work and the time spend using the phone and only deduct those. 

However, if you have a separate line for business, then you can deduct that 100 percent from your tax. 

 Health Insurance 

Since you do not have a corporate insurance, you will have to purchase it yourself. Although it comes at a much more expensive price, the good thing about that is it is tax deductible. These include health, dental and long-term care. Most importantly you can also deduct those insurance plans that you purchase for your spouse and your children who are younger than 27 at year-end. 

 Meals 

It can be assumed that you go out on meals to meet with client, entertaining a potential business partner or when you are traveling for business. Fifty percent of the meal’s actual cost can be tax deductible. 

IRS, however, wants you to keep all receipts and records and you must be able to present, records of who you were meeting, what went on during the meeting, when and where it happened and what the reason for your trip was. 

The IRS will. however. question you if your meals were too expensive. 

 Traveling 

You can’t go on a backpacking vacation to Western Europe, hand out business cards and let it pass for a business trip. 

 It must last more than an eight-hour day and must be outside the vicinity of your home office. 

If you claim this to be a tax deduction, you need to have mapped out a business plan ahead of time and you are able to find new customers and have met clients. Keep these records and show this to the IRS, who are strict when it comes to this. 

For legitimate business trips, your transportation (air fare, cab, car rental, bus or subway) are deductible as well as your hotel stay and, of course, the meals.  

 It is wise to note that travel expenses are 100 percent deductible but meals is on 50 percent. 

Again always keep it at a minimal cost, because extravagant meals or accommodations will make the IRS ask questions. 

 Education 

It is only tax deductible when you enrolled in classes that are closely related to your line of business. Enrolling in an auto cad class to further enhance your architects skills or taking up classes in Photoshop to help out a freelance photographer. The costs for these classes are tax deductible. 

Enrolling to be a licensed scuba diver for someone running a pool cleaning business is definitely not tax deductible. 

 Advertising

If you paid to advertise your business, the cost for that are tax deductible 

The ads could be in the form of  ads on social media like Facebook and Instagram, Google ads, on different website and even on the traditional medium like TV and billboard are all tax deductible as well. 

Always remember when filing for your income tax deductibles, that the expenses you claim really are business-related. The IRS can be strict and will most likely audit you if you have questionable claims. 

But if it qualifies, then by all means, claim it. This is one way of  minimizing cost and putting some back into your coffers. 

What are the business expenses that are not tax-deductible?

The 2017 Tax Cuts and Jobs eliminated a few of the self-employed tax deductions. One of these is the entertainment expenses. Keep in mind that the IRS did away with the entertainment deductible. Some businessmen say that they take their clients out to watch NBA finals or a Broadway show. This is no longer acceptable. The law, however, is said to have affected small businesses. 

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What to do if your business gets audited by the IRS

what to do when your business gets audited

A notice was sent to your establishment informing that you’re about to be audited. A whole slew of disconcerting thoughts now run through your mind. But, hold on, the IRS just wants to check if you’ve been paying the correct amounts and that you pay these taxes according to a given schedule. Let’s look at some suggestions to make the scheduled business audit less stressful:

Make sure you give enough time to accomplish what needs to be done

Depending on what needs to be audited, please allocate enough time to really focus on this concern from the time you received the notice of audit. The IRS officer will most probably request for you to mail any material you have on hand to prove what you are claiming. Bank statements, receipts, invoice copies, payroll slips, and such may be part of the list is requested.

For a face-to-face meeting, the time needed may take longer. It may start with a phone call, which can lead to an official meeting at the auditor’s office. It would be an orientation of sorts wherein procedures will be discussed and the issue being questioned will be put forward. The auditor may even schedule a possible visit to your place of business. It is very important to allocate enough time for this. The coordination may take at least half a day and any future visits should be given a couple of hours. Audits may not likely be done in the course of one week. But, several meetings and visits are possible as long as the audit is being conducted during that period.

There’s a reason why the auditor is present

The auditor is here to witness that your accounting process is accurate. It could be a typographical error or a simple mistake on your part, so the auditor just wants to verify if this mistake reveals itself in your returns. The things to look out for could be an erratic increase or decrease in revenues. Expenses are likewise scrutinized. The scenario could be that your business has a consistent sales report detailing out millions of dollars earned. All of a sudden, it plummets to just a few thousand. The reverse also sends out a red flag when your expenses seem to be increasing but your income has remained stagnant or fails to justify an increase in expenditures. The auditor just wants to see how these transactions evolved and if it can be proven to be so.

Your documents must be organized to help prove your claims

The paper trail must exist to show that your books have the evidence to prove what has been reported in the returns. The auditor won’t necessarily look at everything because he or she will figure out what triggered the audit in the first place. Consider if your payroll doubled considerably, but the revenue didn’t come in to support that. The auditor will check the recognized list of employees and the receipts issued when sales were reported.

Bank statements can be reviewed to identify dates of deposits. Receipts issued that don’t match such information may cause some problems.

So, keep all your documentation ready. Any discrepancies may not be a good thing for you and your business.

Prepare for the auditing journey ahead

Do not lull yourself by assuming this audit will be done quickly. This could take really longer.

Visiting the auditor and providing the necessary papers will all involve more work. The office of the auditor may not even contact you for a few months and that can give you a heart attack. Simple issues may be resolved in just a few short weeks. Complicated matters may take a whole lot of back and forth and that may stretch out for quite a while.

Always a good thing to coordinate with your auditor now and again. This can give you a timeframe of sorts as to when he or she will be able to wrap up the report on your audit. This may also prevent you from going a bit stir crazy while waiting for the verdict.

Prepare for time, money, and all the hassles involved

Organizing the important papers really take some time. If the auditor is looking back into several years of your enterprise’s existence, then that again will take some more effort to dig up.

This may place a burden on your business because you won’t be earning when you are devoting a good part of your time and effort to this audit. Especially, if you’re the one bringing in the clientele and closing the sales, that’s an opportunity lost for the company.

Should this audit be taking you away from other important concerns, hiring a representative may be the preferred option. This person can coordinate on your behalf with the auditor so you will be freed up to focus on what your business needs. An attorney or someone familiar with tax matters would be the ideal representative in your stead.

This will cost you because you are retaining such services. Regardless of what happens to the audit, the representative will still be compensated. Make sure to allot a certain budget for this can rise quite a bit due to the professional fees involved. However, if this saves you from the headache of dealing with the auditing process and you now have time to do other critical things, that might be well worth the expense.

Perhaps, by following those suggestions, you may be able to improve your audit process. Again, make sure to prepare yourself to coordinate with the auditor.

 

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Business Taxes Tax Audit

11 Red Flags that Can Trigger a Business Audit

what causes businesses to get audited

No one wants to be audited. It’s just too much hassle for one person to undergo. To be fair, according to CNBC, only 0.7 percent of tax returns are ever audited. It’s too much of a hassle to be audited. You have to focus on the business, but having to prepare documents and calculating numbers are time away from your business. These activities will take your focus away from the business. So prevent a tax audit at all cost. 

Why do companies or businesses get audited? The red flags?

 

Unreported income

All types of income should be reported, whether it’s your regular income or a side hustle. There is a bit of a trend with the Internal Revenue Service (IRS): The more income you earn, the more likely you are to be audited. Of course, if everything is just in order, there will be no chance of you going through an audit. This is why you have to report all kinds of income. If it’s money you earn from a job, then it better be recorded in your tax return.

 

The IRS is the biggest tax collection agency in the world. It is serious about its job. So don’t be surprised why this agency knows about hidden incomes that have not been reported. It has the resource to check records—so just don’t even try to circumvent tax rules. Aside from merely looking at your tax returns, the IRS has the tools to go over your financial records and even bank accounts. If it notices discrepancies in your records—like you have too much money in the bank compared to official records of our earnings— then you are likely in trouble. The wider the discrepancy, the more the IRS will look into your record.

 

A tax audit is just the process wherein the IRS scrutinizes your records. But it’s really the penalties that are the real thorn in your life. A minimum penalty of five percent per month will be imposed in the calculated tax of your unreported income. And if you opt to pay for the taxes in installment basis, interest will also be imposed until such time every cent has been paid off.

 

Self-employment expenses

Expenses for business owners could be tricky because there are many expenses that don’t have receipts. So if you report a lump sum amount in your tax return as an expense without breakdown and without receipt, then chances are you will get under the radar of the IRS.

According to a report, between 2008 and 2010, unreported tax amounted to $458 billion. Of this amount, 60 percent came from business and self-employed income.

This is why it is important to keep receipts and everything should be documented. Since there are some cases where there really are no receipts available, then at least make a business log of expenses you have incurred. Of course, expenses should be related to the business that you run.

 

Overseas accounts

Why keep bank accounts from another country when American banks are perfectly capable of securing your money? And that’s why it is a red flag for the IRS if you have overseas accounts. But if you do have an overseas account, you have to report it—especially if the amount is $50,000. There is a Form 8938 where you can report such account. But this form is different from the Foreign Bank and Financial Accounts report, which is necessary for Americans who have overseas bank account with over $10,000. This report, though, doesn’t go into the tax return, which is why there is a separate form for tax purposes.

 

Rental properties

There are tax benefits to having rental properties. But the advantages are really attached to your profession—if you are a real estate professional, that is. The advantage is that if you have rental losses, these can be deducted to unrelated income. But real estate doesn’t have to be your full-time job to enjoy this benefit. It could be a side hustle and you will enjoy this advantage. However, if you do put rental losses in your tax return, the IRS will look into it. That’s why you have to prove that real estate is something you do. You need at least 750 hours a year working on real property to justify real property experience.

 

Multiple net losses

If you report losses year after year then that’s a red flag. Didn’t you learn from the first year you experienced a loss? You are most likely to be audited if you report losses in two years out of the five years your business is in operation. You are even more at risk if you operate a sole proprietorship. This is because with sole proprietorship, there is no delineation between personal finances and the business. So when you report a loss, believe that the IRS will have a second look at your return and finances. To prevent this, just make sure that you aren’t being excessive with your spending, because if you are, the IRS will have something to blame those losses on.

 

Consistently filing late tax return

Filing a late tax return is already a red flag, but if you do it more than once, then that’s definitely a cause for an audit. When it comes to the IRS, you have to fly under the radar. When you file a late tax return, that’s not exactly going under the radar. In order to prevent getting late, you have to record expenses that could be reported in your tax return. This way, when it’s time to file your tax return, you just go to your record and list them down.

 

Salaries that are too high

So if you own a business along with some other investors, there is a chance you will give you and the others high salaries. Don’t be tempted to do so because this is bait for a tax audit. As earlier mentioned, the more money you earn, the more chances you have of being audited. To prevent this kind of problem, you have to know the base salaries of the kind of job you and the others do in the business.

 

Too many deductions

Choose the deductions that you will record in your tax returns. Deductions are necessary and they are totally acceptable, but having too many of them will of course raise the red flag. Deductions should always be related to the business you run. Travel and meals are usually acceptable, just be careful that you don’t overdo it. One way to get away from the IRS’ senses is to be consistent with your deductions over the years. You may increase them but it has to be at par with the growth of the company. Basically deductions just need to be justified.

 

Giving too much to charity

Yes, giving to charity is good. But sometimes, giving too much is suspicious. Charity is usually what taxpayers use to get away from paying too much tax. That is why it is prone to abuse. And over the years, the IRS has smarted up. That’s why giving too much to charity is a red flag, so just give enough.

 

Excessive business vehicle use

There is such a thing as an IRS standard mileage rate. The following is the standard according to the IRS website:

  • 54.4 cents for every mile of business travel
  • 18 cents per mile driven for medical purposes
  • 14 cents per mile driven for charitable organizations

This is why you cannot possible claim 100 percent business use of a vehicle. But if you don’t use this standard mileage system, you can use the actual expense. However, you cannot use both the official mileage rate and actual use of the vehicle. Doing so would put you in the IRS radar.

 

By the way, here are business-related activities that would merit deduction for tax purposes:

  • traveling to meet a client
  • traveling for research
  • traveling to post mail for business
  • traveling for other business-related dealings

 

Too much cash transactions

No American holds too much cash in the pocket—that’s usually something mobsters do, or those who are up to no good. So of course the IRS will not think too highly of you if you spend too much using cash transactions. The reason why this is frowned upon is because income made through cash is hard to verify. But if you have to pay in cash, just make sure the recording is precise and detailed.

 

It’s easy to assume that if you are just a small business owner, you have a small income and will be safe from audit. That is usually the case, the trend—but it’s not a black and white thing. You could have a low income but if you still have a record of red flags as stated above, then the IRS will still be scrutinizing you, your tax return and your finances. The most important thing is that you don’t do anything out of the ordinary that will get the attention of the IRS.

 

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What You Need To Know About the IRS Failure to Deposit Penalty

Unfiled tax returns help san diego

It is the employer’s responsibility to withhold the income tax on the paychecks of their employees. The United States Treasury monitors the periodic payment of these amounts. Any discrepancy will be assessed by the IRS, and a failure to deposit penalty (FTD) may be meted out. This particular penalty increases with every delay in submitting a payment. Tax penalties can be reduced if the funds are promptly remitted in a timely manner. The FTD penalty may be waived should a reasonable cause be presented and defended. The request for a first-time penalty abatement (FTA) can be another method to take.

What is the Failure to Deposit Penalty?

Federal Income, Social Security, and Medicare taxes need to be withheld from the paychecks of employees by their employers. Make sure to calculate the correct amount so they are as accurate as possible, and follow the deposit schedule for your business so this gets remitted to the Treasury.

Besides depositing on time, make sure to deposit through an electronic funds transfer to avoid this FTD penalty. Do not use unpaid tax deposits to cover pending business expenses. The penalties and interest that will be charged are quite bigger compared to other forms of credit.

Failure to do these obligations will incur you an FTD penalty by the IRS.

How to Avoid the Failure to Deposit Penalty?

Did you know that the FTD penalty starts to accrue on the first day you were behind your tax payments? 

To avoid a penalty even on the first day of late payment, you must get more information about the deposit schedule. It’s important that you won’t incur a penalty because you deposited the payment in an untimely manner. There are quarterly, monthly, or semi-weekly deposit schedules for the taxes you are depositing based on the amount.

To reiterate, your number tax obligation is: PAY ON TIME. But the two other responsibilities include paying the full amount and using the proper payment method. 

If you are unable to use the right payment method or remit the correct amount, the FTD penalty will be charged to your ignorance or incompetence.

What can be a possible charge for the IRS Failure to Deposit Penalty or Penalty for Late Payment of Payroll Taxes?

There are four tiers to the FTD penalty structure. The more you delay the payment, the penalty amount also increases.  Here’s the guide to the amount of FTD penalty or charges:

1 to 5 days late – 2%

6 to 15 days late – 5%

more than 15 days late – 10% 

(This also applies to a 10-day period after the first IRS notice is received requesting for this prompt tax payment)

However, a 15% penalty will be charged if you don’t fulfill your tax obligations within 10 days or after receiving the first IRS notice.

Also, take note that the deposits not made by electronic funds transfer are subject to the 10% penalty rate. If you deposit less than the amount of taxes you owe, the FTD penalty will apply to the part of the payment you still owe. You should pay as much of the required amount as you can and make late payments as soon as possible to reduce penalties and interest you owe.

Please note that if these deposits are not processed through an electronic fund transfer, they will be subject it to a 10% penalty rate. Paying less than what is owed will trigger an FTD penalty to the balance, too. The smart thing to do is to pay the entire amount as much as possible and settle the balance for late payments so your interest and penalties can be reduced.

You’ll face severe Trust Fund Recovery Penalty (TFRP) if the IRS justifies that you willfully avoid paying the payroll taxes. If you are the person responsible for the collection and submission of these payroll taxes and you weren’t able to complete this task, you are liable to pay the TFRP. That penalty is 100% of the unpaid trust fund taxes.

What are the accompanying interest rates for the Failure to Deposit Payroll Taxes?

There is a quarterly publication by the IRS stating the interest rates applicable to late payments. The most recent interest rate for late payments has been pegged around 3 or 4 percent. When this remains unpaid, the interest will continue to accrue until the time the amount is paid in full. Should there be a reasonable cause, the IRS can waive or abate the FTD penalty. Even with penalties deferred, interest on delinquent tax payments still continue to accrue.

With the Failure to Deposit Penalty, is it possible for it to be waived or even reduced?

There are procedures to help make this happen. You can request for a first-time penalty abatement waiver from the IRS for the FTD penalty. But, the business must be free of other significant penalties for the past three years in order to qualify. And the business should still comply with filing standards as well as the payment.

This FTD penalty can also be waived by the IRS if there is reasonable cause. If there had been changes to the schedule or the frequency of your tax deposits and a failure to remit, the IRS can be understanding about this. Make sure that you are diligent in paying taxes so the IRS can waive the penalty because, for instance, the monthly payments became semi-weekly, that switch needs that adjustment period.

The default setting for the IRS is to apply payments to your most recent tax liability. But, you can specify the application of your payments according to your wishes by sending a request to the IRS. The oldest liability can be settled first so that this helps to reduce your delinquencies.

The IRS has the power to collect from you any unpaid payroll taxes. A lien can be placed on your business by the IRS. The FTD penalties can be waived or settled over time if you can negotiate an arrangement with the agency. Seeking professional advice from a tax consultant can provide you with what means are available to you in closing out unpaid payroll taxes.

 

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What is the IRS Trust Fund Recovery Penalty and How do you Settle This?

Trust Fund Recovery Penalty

Medicare and Social Security contributions are usually withheld from your employees’ paychecks. Some income tax is also part of this. These amounts are considered as trust fund taxes, and these must be sent to the IRS. Neglecting your obligation will incur you a Trust Fund Recovery Penalty from the government, which is a very serious charge.

What is this Trust Fund Recovery Penalty (TFRP)?

Because you have neglected or ignored to send the amount from the withheld income tax, Medicare, and Social Security payments that come from the paychecks of your employees, this will incur you

The TFRP or Trust Fund Recovery Penalty happens if you intentionally ignored to send the amount from the withheld income tax, Medicare, and Social Security payments that come from the paychecks of your employees to the IRS. 

This is a serious penalty, and the IRS doesn’t mess around when they discover that you are responsible for missing payments. As soon as the IRS discovers this anomaly, they will seize your personal assets to recoup the money owed to them.

For the TFRP, who is the one held responsible?

The IRS will levy this penalty to those who have intentionally failed to collect and pay trust fund taxes.

The owners of the business, Chief Executive Officers, directors can be held liable. The people working for the company can also be included. Third-partied like payroll administrators, outside accountants, and bookkeepers may also be found responsible. Shareholders of corporations will also be held responsible; while members of a board of trustees for a non-profit may be sought after.

Those who are in charge of collecting and paying these taxes for a particular organization will be held responsible. Even those who feign ignorance but are aware of this unlawful act will be held accountable.

Simply put, the IRS will seek out those who should be responsible for remitting such payments, and this may include multiple individuals.
The IRS needs to prove and establish that the individual(s) in question are aware of this requirement to send these taxes and didn’t do anything about it. There was a decision to ignore the law willfully. Using these trust fund taxes to pay another bill is an example of willful negligence.

How much is the Trust Fund Recovery Penalty?

The amount for the penalty will equal the amount of unpaid taxes and that means all income taxes withheld, including Social Security and Medicare contributions. This falls under the FICA or Federal Insurance Contribution Act taxes.

Let’s consider that one employee gets paid $1,000. That paycheck withholds $100 for income tax, $62 for Social Security and $14.50 for Medicare. If this wasn’t remitted to the IRS, this total of $176.50 becomes the amount of the penalty. The IRS will collect this as a penalty amount, and they’ll also collect the same amount for taxes owed. So, you are being charged double because of non-compliance. This is the total for just one employee. Multiply that for the number of employees in your roster and watch your tax debt grow.

If a Trust Fund Recovery Penalty is assessed by the IRS, what will happen next?

When the IRS suspects the non-payment of trust fund taxes by a certain company, an agency officer will begin assessing who should be responsible. This process means that the IRS requires multiple documents and pertinent information from the company.

These are the documents that the IRS will scrutinize:

  • Bank statements
  • Cancelled checks
  • Passwords for accessing online accounts
  • PINs for bank cards

This will allow the IRS to trace who pays the bills, who control the disbursements, and how was this distributed.

Articles of Incorporation or partnership contracts will also be scrutinized, so the organizational structure can be better determined. The agent then zeroes in on the responsible individual(s) and will request to interview them at the soonest possible time.

 

What is the Interview for a Trust Fund Recovery Penalty?

The Form 4180 interview allows the IRS to summon the owner of a company or the individual the IRS thinks is the one responsible for this mismanagement of taxes to verify their suspicions. There are links available for more detailed information on this interview process, as well as how to avoid an interview.

What are the steps you can take to settle the Penalty?

There are options to appropriately settle this tax debt. There’s a payment plan or an installment payment option in case the amount cannot be immediately settled in full. The offer in compromise program or even a partial payment installment agreement may be able to assist you to settle the debt for a lesser amount.
Don’t wait for the IRS to garnish your wages or even seize your assets. Contact them right away so that an agreement can be arranged. Declaring bankruptcy will not discharge these penalties.

How do you define Non-Trust Fund Taxes?

Employees trust their employers to remit their funds to the government on their behalf so these are called trust fund taxes. The employers must safeguard this money in a trust fund until it gets sent to the IRS. These funds are solely for that purpose.

Non-trust fund taxes are from the time employers match the contributions of their employees for Social Security and Medicare contributions. The IRS looks to the business to be responsible for these non-trust fund taxes. Individuals are not factored into this. The exact liability, however, is dependent on the business structure. Personal liability for both trust fun and non-trust fund taxes may be incurred by those who are self-employed or are found to be the sole principal of an LLC.

What forms are needed?

The IRS will send a Letter 1153 for those that they deem responsible. Attached to this will be a Form 2751. Once this form is signed, you are admitting to such a liability. Check out other links on what to expect and for more information about these forms.

Is there a Statute of Limitations for the Trust Fund Recovery Penalty?

The IRS has a period of 10 years to assess a penalty and to collect from it. In that time frame, the IRS can hold on to your assets because you have been found to be the one responsible for such a liability.

But, the assessment by the IRS has only a 3-year validity. April 15 is the starting point if trust fund taxes haven’t been collected from that date or even a few months before that. If the IRS fails to investigate a company that hasn’t paid any trust fund taxes from a company in a possible period of April 15, 2018, to April 14, 2021, no further investigations or interviews can ever be conducted after that assessment period.

Categories
Business Taxes

Exploring the IRC 183 or IRS Business Hobby Loss Tax Rule

what is the irs hobby loss rules

Hobbies like card collecting, craft-making, embroidery and other activities may just seem like another productive way for others to use their free time. But, by engaging in these activities, they also have the potential to earn a little extra income. There’s an existing IRS requirement that encourages hobbyists to state these income earnings on their tax returns. However, expenses can also be deducted.

There might be a bit of misunderstanding and confusion as to what really distinguishes a hobby from an actual business. The categories seem to overlap in a variety of ways. Let’s just say that if your hobby generates some income, there are a few basic guidelines that need to be understood in the IRS Business Hobby Loss Tax Rule:

What qualifies a certain endeavor as a business and what differentiates this from a hobby?

For the IRS, there are several factors that are taken into consideration when classifying activities considered either as a business or a hobby. It’s that critical relationship to profit, which becomes one of those determining factors. Here are some questions to ponder on which can help you decide if what you are doing is mainly a business or just a hobby:

  • Do you make a sizeable profit from what you are currently engaged in?
  • Is the profit consistent over a number of years?
  • With that income generated from the activity, are you dependent on that for living expenses?
  • Are there any changes implemented in your process to increase your profit?
  • In your past experiences when you were engaged in similar activities, did you get any profit?
  • Would you be able to transform your hobby into a business with the knowledge and experience that you have gained?

Answering in the affirmative to a good number of these questions means that you are engaging in a business. A negative response will indicate that you still have a hobby.

What does the IRS consider a profitable hobby?

When your income is able to exceed your expenses, that’s when a profit is declared. So, let’s say you make unique trinkets and your capital for the materials was only $100. People admired your creations and you were able to sell your trinkets for $800. The profit you made is equal to $700.

The IRS has hobby business tax rules that basically say: if profits are few and far between, you have a hobby; but if the profit comes in regularly, that only means you have a business. If this profit has been consistent for about three to five years, then most probably you have a business.

For breeding horses, showing and training them to even racing them, if a profit was made in two of the last seven years, the IRS considers this particular hobby a business.

For your hobby, are you able to write off expenses?

Expenses related to your hobby can be written off, but these shouldn’t exceed what you bring in. These deductions must be itemized. To claim the standard deduction, this means expenses for your hobby cannot be written off.

Unpaid taxes amounting to about $40 billion per year is a huge loss for the IRS because there are some hobby expenses that aren’t eligible. To qualify as a deductible, the hobby expense should be necessary and useful. A book to organize your stamp collection is a qualified expense.

If you’re paying people to help you with your hobby, or advertise and apply for insurance premiums, then all these fall under the expenses for your hobby. The desk or furniture and equipment you use for your hobby can be considered as depreciating assets. You can claim part of that value as a hobby deduction. Be careful that your expenses do not go beyond what you earn from your hobby.

If you lose money because of a hobby, what should you do?

Because of the expenditures incurred from your hobby, your profit gets all eaten up, technically that cannot be deducted from your income. If it was a business loss, that can be deducted from income in another year. The IRC 183 can give a more detailed explanation of the IRS hobby loss rules.

For a hobby, how do you go about deducting expenses?

Use Schedule A of Form 1040 to deduct hobby expenses. Mortgage interest, charitable deductions, medical expenses, other itemized deductions on your tax return are also part of this schedule.

What happens when the IRS decides to classify your hobby as a business?

That would be a good thing when the IRS thinks that your hobby should be classified as a business. There’s more freedom to claim expenses and these expenses can be deducted whether or not you decide to claim the standard deduction.

Schedule C or C-EZ is the form you use for a business to report income and expenses. The added bonus is that for a loss, there are options to roll the loss backward or forward in order to claim it against profits in another year.

If the opposite occurs, what happens when the IRS classifies your business as a hobby?

The IRC 183 hobby loss rules come into effect should the IRS determine that your business should be classified as a hobby. That means that you will be unable to claim a loss against income in another year. Because your activities should be considered as a business, having them classified as a business will probably make your tax liability go up.

Aside from looking into profitability, the IRS delves deeper into how these activities are treated. For the IRS to consider your hobby as a business, you have to keep the activities like it’s a real business. Organized and detailed records will definitely support this. Invoices to clients, advertising budgets, a business plan produced in writing only prove that you have a business aimed at making a profit.