There are many benefits to being self-employed: you’re your own boss, you get to choose your own hours, and come and go as you please. You get to choose what work you take on and kindly demure projects you’d rather not be a part of. But what you don’t get to do is have your taxes magically handled for you. Unlike people who work for a larger business or corporate, you don’t simply receive a W-2 in the mail. A sole proprietorship means you’re likely doing your taxes alone or hiring someone to do them for you.
So how can you give yourself a tax reduction without too many headaches? Quite a few ways, as it turns out. In this guide, we’ll look at 6 proven tax reduction strategies for the self-employed that you can begin to implement today.
- Establish a Home Office (1)
Work from home a portion or all of your time? Then you need to be claiming a home office. By doing so, you can take the home office deduction which allows you to convert items such as utilities and insurance, into deductible business expenses as well as depreciate a portion of your home as business property.
As of 2013, the IRS has made taking the home office deduction even easier by establishing a simplified option for computing it. While you should still keep records of your business expenses that apply to your home office, this change has made the process of recording your home office significantly easier.
- Hire Your Kids (2)
Sounds crazy, but by hiring your children who are 18 and younger and you can deduct payroll taxes. This is because the IRS has offered a tax break to those who employ family members and its especially attractive for those who run an LLC or sole proprietorship.
Basically by hiring your child under 18 you don’t have to pay any payroll taxes, and unlike a traditional employee whose payroll taxes include FICA (aka social security and Medicare taxes) those are off the table too.
Plus, it’ll teach your kids a lesson in hard work, so win/win.
- Go ahead, enjoy some fringe benefits (3)
“De minimis” is a Latin expression meaning “about minimal things.” Basically, that boils down to “too trivial to matter.” And that’s exactly how the IRS sees items such as flowers, occasional snacks (read: doughnuts), holiday gifts, fruit baskets. You know, the tiny little perks that make work bearable.
Or as the IRS puts it: “a de minimis benefit is one for which, considering its value and the frequency with which it is provided, is so small as to make accounting for it unreasonable or impractical.”
This is to say you can give yourself a fruit basket and deduct it without much fear provided you do it infrequently and keep it within a price range. How frequently and what price range? That’s a tricky question.
In 2000, Jerry E. Holmes Chief, Employment Tax Branch 2 Office of Assistant Chief Counsel for the IRS wrote a memo that suggested that anything over $100 would not count as de minimis. So it’s probably best to keep it in that range.
As to how frequently you can enjoy your fruit basket, deduce what you will from the IRS which states: “An essential element of a de minimis benefit is that it is occasional or unusual in frequency. It also must not be a form of disguised compensation.”
- Deduct Your Vacation (4)
Are you going on a trip that includes business? Then you can almost certainly deduct some of those expenses on your taxes provided your trip falls under the two distinguishing characteristics of:
- And necessary
If that sounds a bit murky, well, it is. A better way to figure out if your trip qualifies is to ask yourself:
- Do the purposes of the travel help you make money (aka provide a profit motive)?
- Does it require you to stay overnight? You can deduct business expenses when required to stay away from the home you pay taxes on.
- Does it meet the “for only” test? This means any normal business person would go only for the business part of the journey, not for the perks of the personal portion.
If you can qualify for all of the above, then provided you’ve kept good records you should sleep easy (on your four-star hotel pillow) knowing the trip is deductible.
- Deduct your Smartphone (5)
For so many people these days their one and only smartphone is both their only means of personal and business communication. So why not take the tax-free fringe benefit deduction on it?
Not to mention the fact that you can also give this fringe phone benefit and pay for their phone too all without needing to keep phone records. Once again this perk is thanks to the de minimis deduction and is therefore excludable from income.
- Hire Your Spouse (6)
For couples who started a business together, shifting the structure of the business to a sole proprietorship where one spouse is employed may sound counterintuitive but it can actually be a tax savings win. Here’s how:
As a sole proprietor, you can hire your spouse and therefore deduct as business expenses their salary and benefits. Even better, by also providing them health insurance you can get a tax-free benefit by using Section 105- Amounts Received Under Accident and Health Plans. This allows you to take a business tax deduction on medical costs for both you and your employee-spouse.
Using or all of the six tax reduction strategies above, you can improve your self-employed tax situation. Just remember, with good tax research can come big rewards.