Many busy professionals don’t pay much attention to income taxes until the filing deadline looms. “That’s a mistake that can cost you,” says Jay Blumenthal, a public accountant from Abington, Pennsylvania. “One of the most effective ways to pare your taxes to the legal minimum is to start your tax planning early and make it a year-long effort.”
As a business professional, it’s only natural for you to devote most of your business time to developing income and reducing expenses. Yet, it’s important to remember the effect that taxes have on those profit dollars. Here are some easy tax-planning tips that will help you maximize your after-tax income for 2010 and beyond.
1. Organize Your Records Now
“If you scramble at tax time looking for receipts and other records to pass along to your accountant, you’re probably missing out on some healthy deductions,” Blumenthal says.
“By keeping your records up-to- date, you’ll make your accountant’s job easier next April, and an easier job for your accountant means a savings on your tax preparation bill, as well as your taxes.”
2. Look for Deductions That You May Have Missed Last Year
Many taxpayers miss out on important deductions by waiting until the last minute. “I’m willing to bet that every taxpayer misses at least one deduction on their tax return each year,” says Roni Deutch, tax attorney and author of The Tax Lady’s Guide to Beating the IRS.
“Keep receipts for everything,” says Bridget Crawford, professor of law and associate dean at Pace Law School. “The cost of office supplies and Internet services are easy to track, but keep in mind the minor expenses that keep your practice going day to day.”
3. Finance Purchases on Your Credit Cards
“Most of the time, financing purchases on your credit card is a bad idea,” Deutch says. “However, since the interest paid on business expenses is tax deductible, there are exceptions, especially toward the end of the year when you need to rack up a few more deductions. Simply pay some business expenses or purchase some office supplies on your business credit card before December 31, 2010. You get the deduction on your 2010 tax return, but you don’t have to pay the bill until next year.”
4. Take Advantage of Section 179
Most new business equipment can either be depreciated over its useful life or expensed immediately under Internal Revenue Code Section 179. This provision of the law permits you to deduct the full cost of capital assets in the year of purchase. The current deduction limit is $250,000. “If you’re not taking advantage of the Section 179 deduction, you’re missing out,” Deutch says, “even on small capital purchases.”
Taking the 179 deduction is easy. Simply fill out part one of IRS form 4562, available free from the IRS (www.irs.gov). Attach it to your tax return as you would any other additional form, such as a Schedule C.
Consider making any capital expenditures you’ve been planning before year-end in order to lower this year’s tax bill. Purchases made right up to December 31, 2010, are eligible for the Section 179 tax deduction.
5. Combine Pleasure Trips with Some Business
If you’re planning any pleasure trips this year, consider adding in a little business. Can you visit a therapist or professional organization in your destination city to discuss business techniques that may help to improve your practice management?
When you travel away from home on business, you may deduct fares, meals, lodging, and incidental expenses (as long as they are reasonable). The definition of “away from home” is any trip that takes enough time that the traveler could reasonably be expected to need sleep or rest.
The definition of “home” is the location of your practice. When the primary purpose of the trip is business, you may deduct travel expenses even if you enjoyed some nonbusiness extracurricular activities.
If more than 50 percent of the time you spend away from home is spent on pleasure, the cost of transportation will be disallowed. However, if more than 50 percent of your time is devoted to business, all travel expenses are deductible.
6. Maximize Your Tax-Deferred Retirement Account Early
Make the maximum allowable deposits into your 401(k) or IRA account as early in the year as possible. This is universally regarded by financial experts as one of the most important tax-savings techniques.
“When you’ve got a stack of bills, it’s easy to forget the person you should be paying first—yourself,” Crawford says. “I don’t mean a salary. I mean contributions to your retirement account, even if you can only manage $50–$100 each month. And don’t wait until next year, hoping that you’ll have extra cash; you want to ride that line of compounding interest as long as possible.”
7. Make Charitable Contributions
If you plan to make charitable contributions this year, consider donating long-term appreciated securities instead of cash. You’ll receive a full fair market value deduction and pay no capital gains tax on the securities. Or sell depreciated securities for the tax-deductible loss and then give the cash from the sale to charity.
8. Consider Changing Your Business Structure
Are you operating your practice as a sole proprietorship? “Many professionals operate their practices as sole proprietors, unaware that net profit from a sole proprietorship is subject to self-employment tax,” says enrolled agent Karla Dennis. “Self-employment tax is comprised of Social Security tax and Medicare tax. The Social Security tax rate is 12.4 percent and the Medicare rate is 2.9 percent. By switching to a corporation or a subchapter S corporation, a business owner could eliminate a great chunk of this tax.”
Dennis points out that when switching to a corporation, the owner must take an adequate salary and pay the appropriate employment taxes. “But this will be far less than exposing all net income to Social Security and Medicare taxes,” she says. “Medicare is taxed against all income and never caps out. The Social Security tax stops when your net income reaches $106,800.”
9. Balance Investment Gains and Losses
Keep a close eye on your personal investments during the year. By selling appreciated assets and liquidating under-performing investments, you may match gains and losses to minimize your personal income taxes.
If you have sufficient losses to offset your gains, you may deduct the losses on sales completed by December 31. Note, however, that the amount of capital losses that you can use to offset ordinary income is limited to $3,000.
If your net loss totals more than $3,000, you may carry losses over $3,000 forward every year until you use them up.
10. Claim the Newcomer
If you’re expecting the stork to visit your house this year, remember to obtain a social security number for babies born in 2010. Put the newcomer on your personal tax return to receive the benefits of claiming the child as a dependent or claiming head of household status.
11. Prepare to Pay Taxes Quarterly
If you file a Schedule C to report your earnings income, you are likely required to pay your taxes in quarterly installments (in April, June, September, and January). If you wait until April 15 to pay your bill in full, you may be in for a surprise about the total amount due. Failure to make quarterly payments on time can result in a penalty and interest charges on the amount you didn’t pay on time. Your tax professional can help you by preparing estimates of how much you will owe each quarter for both your federal and state taxes, so you can set aside money to make those payments in full and on time.
12. Value Yourself
Many bodywork professionals are good community members who donate some of their time and expertise to charities. “The cost of your time for those efforts is not deductible,” Crawford says, “but any expenses associated with rendering the services are. So if you do any work for a nonprofit, the cost of travel is deductible. So are photocopies, long distance phone calls, or office supplies directly related to the charitable service you render.”
Keeping your annual contribution to Uncle Sam to the legal minimum is the smart way to increase your after-tax dollars. Getting an early start on the task and keeping tax reduction in your plans all year long is a basic requirement for solid practice management.
William J. Lynott is a former management consultant and corporate executive who writes on business and financial topics for a number of consumer and trade publications. His latest book, Money: How to Make the Most of What You’ve Got, is available through bookstores. You can reach Lynott at wlynott@cs.com or www.blynott.com.