If you are self-employed and use space in your home for an office or other business purposes, you can save self-employment taxes (Social Security and Medicare) if you rent part of the business-use space from your spouse, even if you file a joint income tax return.
This tax saver was given the "go" in a recent tax court case. The case involved a self-employed taxpayer who owned a home jointly with his wife and filed a joint income tax return with her. Instead of taking the normal allowable home office deduction on his self-employed tax return form (Form 1040 Schedule C), the tax-payer paid himself rent then took the rent deduction on his Schedule C. The Tax Court disallowed him this tactic (you can’t pay yourself rent). However, the court surprised the IRS by allowing the taxpayer to pay his wife rent on the portion of the home that belonged to her. Since the husband and wife were joint owners, the wife was presumed to be half owner, and one-half of the rent was allowed as a deduction on the husband’s Schedule C as a business expense.
This tactic won’t save you income taxes, because the rent deducted on the self-employed business form Schedule C must be taken into income on the rental form Schedule E. So, for income tax purposes, the rent transaction is a wash. But since deductions on the Schedule C also save self-employment taxes (and no self-employment taxes are due for the Schedule E rental income), and shifting from Schedule C to Schedule E (business expense to rental income) will save you employment tax.
You can’t deduct your full home office? No problem. Deduct your phone
expenses!
According to a recent Tax Court case, if you are self-employed you can deduct your
telephone costs, even if your home office expenses are not currently deductible. This is
great news for the start-up self-employed individuals, and "sideline"
self-employed individuals, who use a home office space but generate little or no gross
income from their business.
The cost of basic phone service for your home phone cannot be allocated to business use. It does not matter how much you use your phone for your business. It is best to have a second phone line installed for business use because all costs associated with this second line are deductible. If you do not have a second line installed, specific costs from the first one are deducible and should be documented.
Many self-employed don’t know that they can deduct tax preparation fees as
an expense.
Until a few years ago, the IRS required that all tax fees be deducted as a miscellaneous
personal itemized deduction on Schedule A. It did not matter whether most of the fees were
paid for preparing business-related tax forms. But the IRS changed its position.
Tax-payers who are self-employed are now allowed to deduct the portion of their tax
preparation expense allocable to business-form preparation as a self-employed business
expense on their Schedule C.
If you are self-employed and pay a tax preparer to complete your Form 1040 income tax return, make sure that you get an itemized bill that shows the portion of the tax preparation fee allocated to preparing your Schedule C (and any other related business tax forms attached to your form 1040). We can do this for you.
Replace nondeductible business interest with deductible business interest.
If you are self-employed, there is no reason for you to pay nondeductible personal
interest. Or, at least, you should use your self-employed status to minimize your
nondeductible personal interest expenditures. You can do this by borrowing to meet your
business expense expenditures and using business receipts to pay off personal debt. Doing
this, you "replace" your nondeductible personal interest expense with deductible
business expense.
You can deduct lawn maintenance, landscaping and driveway repair costs.
If you run your business out of a home office, you probably already know that you are
allowed a business expense deduction for the home office portion of expenses (like home
mortgage interest, property tax, insurance, utilities, maintenance and repairs, and
depreciation). Don’t shortchange yourself! If you use a home office on a regular
basis to meet customers, the home office portion of any lawn maintenance, landscaping and
driveway repair cost is deductible as a home office cost.
There’s a way to write off 100% of insurance premiums.
By the year 2007, 100% of annual health insurance premiums paid by self-employed people
will be deductible. For several years, lawmakers limited the deduction self-employed
people take for health insurance premiums to a percentage of the amount of the premium.
However, the limitation is now going to be eased. In 1997, a self-employed individual can
take a tax deduction for 40% of any health insurance premiums paid. And the deduction will
increase every year until 2007.
But no one wants to wait until 2007! Instead of paying for your family’s health insurance, hire your spouse to work in your self-employed business and pay health insurance on your spouses behalf as an employee. If you provide health insurance for your spouse as an employee, you have the option to ensure your spouse’s family as well—including yourself!
Simple IRAs
A self-employed person can establish a SIMPLE-IRA, for which the IRS provides model
plan documents. To make contributions to a SIMPLE-IRA for 1997, the plan must have been
set up before self-employment income was earned. The maximum annual contribution to a
SIMPLE-IRA is $12,000, or total compensation, if less (the maximum contribution will be
lower if net self-employment income is less than $200,000). In some cases, the maximum
contribution allowed for a SIMPLE-IRA would be more than the maximum allowed under an SEP
or Keogh plan. The elective contribution to a SIMPLE-IRA is limited by the amount of the
taxpayer’s income, while both the SEP and Keogh contributions are limited by a
percentage of income.