Each year, right about this time, individuals begin to consider things that need to do before the end of the year. Moreover, they ponder those issues that will have an impact on their tax exposure. Less traditional businesses like real estate, freelancing or rideshare drivers should understand their specific tax implications as well. The key is to maximize deductions while minimizing tax exposure. The challenge, for many, is that they are not aware of what deductions they qualify for or exactly how to take them. We’ll look at some common deductions and general recommendations on how to take advantage of them. Important to note, that every individual should consult their tax advisor or CPA for decisions on your specific tax situation.
Deductions for Real Estate
For those that own fixed property, either as a homeowner, landowner or owner of an office building, you will most likely be subject to property taxes. In most cases, state and local governments levy property taxes based on the value of the property. These taxes are usually deductible on federal tax returns and can lessen your tax burden. Entrepreneurs should stay updated about caps associated with real estate tax deductions due to the Tax Cuts and Jobs Act of 2017. In 2019 and likely for 2020, the cap for this deduction is $10,000.
For real estate purchased during 2019, property tax deductions are only allowed for the period in which you owe the property. Also, if you did not own property but paid any real estate taxes as an “equitable” owner, you may be able to deduct real estate taxes paid on that property. An equitable owner is one who has the economic benefit and burdens of ownership.
If Airbnb hosts paid taxes on a given property, they are eligible to deduct the percentage of the space used as a rental on a Schedule E of their tax returns. Itemization of personal taxes may include the ability to deduct the remaining part of their property tax paid on Schedule A.
Deductions for Home Office
Individuals working out of a home office dedicated only to their business can deduct a part of their home expenses.
Individuals can take a $5 per square foot deduction for each square foot of their home used for business purposes, up to 300 square feet. Or, they can track home expenses, such as real estate taxes, repairs, maintenance, etc. and take a part of those expenses as a deduction. Expenses that only benefit the home office are 100% deductible as a business expense.
Deductions for Sole Proprietors
Businesses set up as a sole proprietorship are easy to set up and maintain. The only thing a sole proprietor needs to do to begin work is to start working. Despite its simple structure, there are some disadvantages. For one, the individual is liable for business issues rather than having the protection of a corporation. Also, the sole proprietor pays taxes at the personal income rate. Furthermore, the sole proprietor has to pay extra self-employment tax, such as Social Security and Medicare.
The Tax Cuts and Jobs Act of 2017 allows a business income deduction to lower tax burden. That deduction can be up to 20% after deducting business expenses dependent on the business nature and taxable income. One more benefit of being a sole proprietor is the ability to file only a single tax return rather than separate personal and business returns.
Deductions for Independent Contractors
Whether the business is set up as a sole proprietorship or a corporation, independent contractors should follow the appropriate tax guidelines. Deductions for sole proprietors is outlined above. For others, it will depend on whether the business is set up as a corporation, LLC or partnership.
If you are hiring independent contractors, it’s suggested you request they complete a W-9 to ensure you have the necessary information to issue a 1099 at year-end. You can deduct payments to independent contractors in several different ways depending on the nature of the work. This may include different lines of your Schedule C or your Schedule E.
For example, you can deduct payments made to an accountant on line 17 of your Schedule C while that made to a graphic designer on line 11 of your Schedule C.
Meal and Per Diem Deductions
The per diem rate is a fixed amount paid to an employee or individual to compensate expenses incurred while traveling on business. This is used rather than tracking specific or actual expenses incurred. For employees of companies, the per diem can include meals, lodging, and incidentals. For sole proprietors and the self-employed, the per diem only applies to meal expenses and incidentals, not traveling expenses such as lodging. This means that records must still be kept for those other expenses. It’s also worth noting that the per diem rate must be multiplied by 50% for each day, the exception being actual travel days where the per diem can be multiplied by 75% of the rate.
The per diem for sole proprietors and the self-employed varies, depending on the location and sometimes the industry. For example, the standard per diem for most states $96 for 2020. For high-cost areas, the per diem can be much higher, such as $298 for New York City, $302 for San Francisco and $256 for Washington, D.C.
Deductions for Mileage
The IRS provides a mileage reimbursement rate for companies and individuals who use their vehicles for work. For individuals such as freelancers, rideshare drivers, and sole proprietors the IRS standard mileage rate might be easier to use than tracking every expense associated with your automobile. The 2019 rate was 58 cents per mile. Under the changes in the rate each year for the last ten years, you should expect the rate for 2020 to be within a few cents of this year’s rate.
The easiest way to track and submit mileage expense is through the smart phone app available from TripLog. Those working in small business and in the gig economy, such as freelancers, contractors and rideshare drivers, can easily track their mileage using the iOS and Android app.
Deductions Not Allowed
While there are many deductions available to entrepreneurs, sole proprietors, and independent contractors, the IRS does not allow certain expenses as deductions. For example, any illegal expenses, fines, penalties to a government agency, lobbying expenses and certain business assets such as cars or equipment are not deductible.
There are a variety of deductions available for those making the most of their financial opportunities outside the more traditional employer-employee relationship. It’s recommended that those doing so consult with their tax advisor or CPA to ensure compliance with all applicable tax requirements.