Author Topic: first year self employed, wondering about write off's, IRA, etc.  (Read 3095 times)

leonard

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I became self employed this year starting a service oriented business. I currently have not incorporated or anything like that as my field does not require it. So I have a few questions based on filing jointly married this tax year. My wife works for a company and gets a 401K there. We maxed it out this year so i am looking for more tax free retirement savings options.

Being self employed I assume I qualify for the maximum annual deduction if I wanted to add 5500 to a traditional IRA. Is this correct?

Also could we do the same for the wife even though she has 401k at work?

As far as write offs go, I plan on writing off all my materials and tool purchases? Is there a limit on this?

Also I saw somewhere I could potentially write off some of the mortgage as I work out of the house, primarily the garage since I store tools there and use it as a shop for the business. Also a home office might factor in, however it is not a dedicated office for business only.

Any advice would be appreciated. Thanks!


terran

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Re: first year self employed, wondering about write off's, IRA, etc.
« Reply #1 on: December 16, 2016, 08:24:21 PM »
Here are the relevant income limits for whether or not you can make a deductible IRA condtribution: https://www.irs.gov/retirement-plans/plan-participant-employee/2016-ira-contribution-and-deduction-limits-effect-of-modified-agi-on-deductible-contributions-if-you-are-not-covered-by-a-retirement-plan-at-work

If you don't have any employees you can set up a solo 401k (fidelity or vanguard would be good options). Make sure you open by December 31st, 2016, and set the effective date as January 1st 2016 -- that way you'll be able to contribute based on all of this years income. You can make the actual contribution any time up to the tax filing deadline. Here's a calculator to give you an idea of what you'll be able to contribute: http://www.bankrate.com/calculators/retirement/self-employed-401-k-calculator.aspx

If you do sign up for a self employed retirement plan (like the solo 401k, or a SEP IRA or Simple IRA would be be other options with generally lower limits), then you WILL be covered by a retirement plan at work, in which case your regular IRA deductibility limits become https://www.irs.gov/retirement-plans/plan-participant-employee/2016-ira-contribution-and-deduction-limits-effect-of-modified-agi-on-deductible-contributions-if-you-are-covered-by-a-retirement-plan-at-work

You can claim a deduction for your office/shop only if it's your principal place of business and it is used exclusively for business, so it sounds like your office would not qualify, but maybe your shop would? If the space qualifies you can choose to write off a portion of your mortgage, insurance, utilities, etc based on the proportion of the square footage used for business to the whole house square footage. Alternatively, you can claim up to 300 square feet using the simplified method ($5/sq ft I think). In addition to being easier to calculate, the simplified method does not require depreciation recapture when you sell your home, which the regular method does. This should get you started: https://www.irs.gov/businesses/small-businesses-self-employed/home-office-deduction

Materials I would think you can certainly write off as business expenses. I think Taxact tries to walk me through a COGS (Cost of Goods Sold) section, but it doesn't really apply to me since I'm a web developer.

Tools I think would be capital expenditures which are normally depreciated over time, but I think there are some options for accelerated depreciation where you can write the whole thing off in the first year. I think this is a section 179: https://www.irs.gov/publications/p946/ch02.html

The other (potential) biggie would be business use of your car, so keep track of any miles driven for business purposes (including bank visits, supply runs, etc).

The long and short of it is, if there's something that costs you money that is used for business purposes, there is probably a way to deduct it, but you have to be careful to follow the rules and make sure there are clean and clear lines between personal benefit and business use. Since business owners have so much control over their expenses the IRS just wants to make sure it really is a business expense and not a personal expense masquerading as a business expense.

Hopefully that gets you started.

DavidAnnArbor

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Re: first year self employed, wondering about write off's, IRA, etc.
« Reply #2 on: December 18, 2016, 09:23:32 AM »
The GoCurryCracker blog has had some recent posts about depreciating business assets - I found it informative:

http://www.gocurrycracker.com/depreciation-for-side-hustlers/

SeattleCPA

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Re: first year self employed, wondering about write off's, IRA, etc.
« Reply #3 on: December 19, 2016, 07:45:03 AM »
Two points to add to what others have already discussed:
1. I would strongly recommend you use an accounting system to track your income and then (most importantly) track your business expenses. You will capture more deductions if you track them through the year. Boring, I know. But it really works.
2. I would not capitalize tools. Rather, I'd use the tangible property regulations "de minimis" approach to write off immediately anything that costs less than $2500. And then, I'd use Sec. 179 to try and write off (immediately) anything else.

P.S. Agree with Terran that you don't qualify to write off home office.

tralfamadorian

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Re: first year self employed, wondering about write off's, IRA, etc.
« Reply #4 on: December 19, 2016, 08:00:50 AM »
Also a home office might factor in, however it is not a dedicated office for business only.

Is there a way you can dedicate a portion of the office for business use only?  I don't know how big the space is but if you can set aside part of the room for only business you can deduct that.

SeattleCPA

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Re: first year self employed, wondering about write off's, IRA, etc.
« Reply #5 on: December 19, 2016, 08:13:53 AM »
Also a home office might factor in, however it is not a dedicated office for business only.

Is there a way you can dedicate a portion of the office for business use only?  I don't know how big the space is but if you can set aside part of the room for only business you can deduct that.

You can do this. E.g, maybe you can't write off your entire den.. but if one corner of the den is used exclusively and regularly... those are the two requirements... you might get to treat a corner of your den as a home office.

BTW, home office deduction saves renters operating an unincorporated business lots of taxes...

If someone owns their home and/or operates as an S corporation, it often isn't worth the hassle because you're maybe not savings self-employment taxes in that situation and mostly you're moving deductions from Schedule A to Schedule C.

leonard

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Re: first year self employed, wondering about write off's, IRA, etc.
« Reply #6 on: December 19, 2016, 12:13:48 PM »
Great stuff here. Much better than I was able to find searching on my own. Thanks!

The next question I guess I need to answer is do I need to set up a proper business in order to claim certain deductions? I have heard that if I set a LLC I then have to pay tax on all the materials that I use and later bill to a client. Under an LLC materials are viewed as income, but if I setup an S corp than materials are excluded from income? Can anyone confirm this or have any better insight into this?

oldtoyota

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Re: first year self employed, wondering about write off's, IRA, etc.
« Reply #7 on: December 19, 2016, 01:06:31 PM »
I don't have an answer as to whether the LLC or S corp is better for you. I chose LLC for various reasons.

I did want to say that I recommend using FreshBooks to track invoices and expenditures throughout the year. This tool means I can look up everything I need to know in minutes in order to see how much I'm allowed to tuck away in my new self-employed 401K.

nereo

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Re: first year self employed, wondering about write off's, IRA, etc.
« Reply #8 on: December 19, 2016, 01:10:46 PM »
...posting to follow

CareCPA

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Re: first year self employed, wondering about write off's, IRA, etc.
« Reply #9 on: December 19, 2016, 01:29:29 PM »
Great stuff here. Much better than I was able to find searching on my own. Thanks!

The next question I guess I need to answer is do I need to set up a proper business in order to claim certain deductions? I have heard that if I set a LLC I then have to pay tax on all the materials that I use and later bill to a client. Under an LLC materials are viewed as income, but if I setup an S corp than materials are excluded from income? Can anyone confirm this or have any better insight into this?
I'm not sure I understand the question. An expense is an expense and income is income regardless of your structure.
If you buy materials, it will be an expense no matter which entity you choose.
If you then bill those materials to a customer, that will be income no matter which entity you choose.
It will be a wash, other than your markup on these items. If you are making money just on service and don't mark up your materials, then it will have no net impact on your income, but will still flow through income and expense.

tralfamadorian

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Re: first year self employed, wondering about write off's, IRA, etc.
« Reply #10 on: December 19, 2016, 02:28:53 PM »
Under an LLC materials are viewed as income, but if I setup an S corp than materials are excluded from income?

I own a production based small business- so I buy lots of materials, COGS- and materials are not income.  As far as I know, materials are treated the same when you do your books whether you are a LLC or an S corp.

I'm not a CPA but as I understand it, the best way to go about it is to register the LLC.  Then you can decide later if you would like the LLC taxed as a LLC, Schedule C, or as a S corp, W2 + dividends. 


leonard

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Re: first year self employed, wondering about write off's, IRA, etc.
« Reply #11 on: December 19, 2016, 02:51:26 PM »
Great stuff here. Much better than I was able to find searching on my own. Thanks!

The next question I guess I need to answer is do I need to set up a proper business in order to claim certain deductions? I have heard that if I set a LLC I then have to pay tax on all the materials that I use and later bill to a client. Under an LLC materials are viewed as income, but if I setup an S corp than materials are excluded from income? Can anyone confirm this or have any better insight into this?
I'm not sure I understand the question. An expense is an expense and income is income regardless of your structure.
If you buy materials, it will be an expense no matter which entity you choose.
If you then bill those materials to a customer, that will be income no matter which entity you choose.
It will be a wash, other than your markup on these items. If you are making money just on service and don't mark up your materials, then it will have no net impact on your income, but will still flow through income and expense.

I guess to clarify my question is do I need to incorporate at all for tax purposes ? or is incorporating primarily for separating and protecting your personal assets from your business assets?

CareCPA

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Re: first year self employed, wondering about write off's, IRA, etc.
« Reply #12 on: December 19, 2016, 02:56:28 PM »
Great stuff here. Much better than I was able to find searching on my own. Thanks!

The next question I guess I need to answer is do I need to set up a proper business in order to claim certain deductions? I have heard that if I set a LLC I then have to pay tax on all the materials that I use and later bill to a client. Under an LLC materials are viewed as income, but if I setup an S corp than materials are excluded from income? Can anyone confirm this or have any better insight into this?
I'm not sure I understand the question. An expense is an expense and income is income regardless of your structure.
If you buy materials, it will be an expense no matter which entity you choose.
If you then bill those materials to a customer, that will be income no matter which entity you choose.
It will be a wash, other than your markup on these items. If you are making money just on service and don't mark up your materials, then it will have no net impact on your income, but will still flow through income and expense.

I guess to clarify my question is do I need to incorporate at all for tax purposes ? or is incorporating primarily for separating and protecting your personal assets from your business assets?
No, you don't need to (as in it is not required). Whether you choose to or not is up to you, the pros and cons of which you can probably find in an old thread in this section (or just Google).

SeattleCPA

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Re: first year self employed, wondering about write off's, IRA, etc.
« Reply #13 on: December 19, 2016, 04:41:27 PM »
Forming an LLC or incorporating can create some legal benefits. (E.g., once you incorporate or form an LLC, you won't be liable for the debts of the LLC or corporation merely by virtue of your ownership.) And if you're interested, you might want to talk with a local attorney.

Many times small businesses form an LLC or incorporate so they can use the Subchapter S accounting rules. These rules often let you avoid payroll taxes and for a contractor often put another tax deduction on your return (the Sec. 199 DPAD deduction).

Running an S corporation isn't hard. But the math is tricky to make work for most small businesses. You either need to make a profit quite a bit more than what would be a reasonable W-2 wage to pay yourself... or you need to have enough unique stuff on your tax return (health insurance, employer pension contributions, a Sec. 199 DPAD deduction) to pay for the overhead and hassle factor.

 

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