Americans love puzzles, games, and brain teasers. Newspapers publish crossword puzzles, word-search puzzles, and word jumbles. Bookstores sell jigsaw puzzles. And airport gift shops stock Sudoku puzzles to pass the hours in the sky. We love puzzles so much that someone found their way to a basement office in Washington where the Department of Bogus Holidays litters our calendars with junk celebrations like National Talk Like Yoda Day (May 21) and National Eat Your Beans Day (July 3), and made it official. And so Tuesday, January 29 will be #NationalPuzzleDay.
Most people think of puzzles as trivial diversions. But planning to avoid taxes is a puzzle, too. And, as the English economist John Maynard Keynes once said, "The avoidance of taxes is the only intellectual pursuit that still carries any reward." So, while tax planning may not be as fun as finishing a crossword puzzle (in ink), we think you'll agree it's far more rewarding.
Consider the basic challenge of choosing how to organize your business. If you operate as a sole proprietor (or an LLC taxed as a sole prop) and earn $200,000, you'll pay self-employment tax on every dime of it. On the bright side, that's $21,836 that gets credited to your Social Security account. Of course, that won't mean much if you don't believe Social Security will still be there for you when you retire. (Rule of thumb: if you're young enough to have tattoos, don't count on it.)
Now, if you elect to be taxed as an S corporation, and the reasonable compensation for the work you do is $100,000, you could save yourself a sweet $6535 in tax. It's even sweeter than contributing to a retirement plan or buying new equipment for your business because you aren't spending anything to get a deduction. You're just paying employment tax on less income. That doesn't sound like much of a puzzle, right?
But consider this . . . if you want to hire your minor kids to shift income to their lower bracket, now they'll owe FICA they wouldn't if you were still a sole proprietor. Oh, and now you can't use that corporation to cover yourself under a medical expense reimbursement plan. But wait, there's a workaround to that problem. You can just buy a high-deductible health plan and establish a health savings account. Or maybe you could establish another proprietorship, or C corporation, and pay MERP benefits from that business.
Having fun yet? Of course, now your "covered comp" for determining retirement plan contributions will be based on the salary only, not your whole income. If you're used to maximizing a SEP contribution, you'll find yourself saving a whole lot less with the S corp.
Aren't puzzles great? Now, at that point, you could switch from the SEP to a solo or safe harbor 401k, perhaps with a cross-tested profit-sharing contribution. You could even look at a defined benefit pension plan. (Yes, it's the Studebaker of retirement plans, but sometimes it's the right answer). But that raises the question whether you belong in a traditional qualified plan at all — or whether you're better off with a Roth or insurance-based plan.
All of a sudden, that National Puzzle Day that sounded so much fun about seven paragraphs ago is starting to look about as fun as that new Escape Room movie, right? Don't worry . . . when it comes to organizing your business, or any other tax challenge, we're here to find the best solution. We really like these puzzles, and nobody does it better!
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2019 is here, and it's almost time to file your first tax return under the new law. But you probably sat around watching sports all weekend instead of talking taxes, didn't you. (Did Santa bring a new TV?) So, as we ring in the New Year, let's take a look at how the new tax bill affects some of those athletes you've been watching.
Washington sold the Tax Cuts and Jobs Act as "tax simplification." And really, who can't raise a toast to that? Lower rates! Higher standard deductions! A 1040 you can fill out on a postcard! But many taxpayers, especially those in high-tax states like New York and California, can be forgiven if they feel like they woke up with a massive hangover. Deductions for state and local income and property taxes are now capped at $10,000, regardless of income. And employee business deductions are nixed entirely. That's going to be pricey for the Very Large Men we mentioned in the title.
Take 6'8" NBA superstar Lebron James. He's played in Cleveland, where state and local taxes total 7.5%. He's played in tax-free Miami. And now he's playing in Los Angeles, where he pays 13.3%. (13.3% going to California sure sounds like a technical foul.) Under the old rules, he could deduct whatever he actually paid. Now the refs limit him to the same $10,000 as the rookies earning the league minimum. Granted, that minimum is $838,464. But doesn't it make sense to let a guy paying tax on 43 times that amount actually deduct 43 times as much?
Income taxes won't be the only expense to bite King James under the new rules. He owns a $9 million house in his hometown of Akron (where $9 million buys a lot of house), a $21 million house in Brentwood (where $21 million still buys a pretty nice crib), and a $23 million house in Brentwood. (Not a typo.) Property taxes on those homes reach well into six figures, if not seven. But now he'll watch those deductions bounce off the rim and rebound into IRS hands.
Even athletes who play in states with no income tax used to be able to deduct non-employee business expenses: agents' and managers' fees, health club and training expenses, travel expenses, and players' union dues. But now those are gone, too. Agents typically take 10% of a client athlete's salary and endorsement income, which means losing that deduction alone can eliminate the benefit of lower overall rates.
The new law does give LeBron one potentially important break. Charitable deductions used to be capped at 50% of adjusted gross income. The new law raises that limit to 60%. LeBron is famously charitable, especially for educational causes, and may appreciate that change someday.
As for that postcard-sized tax return? Well, yes, the IRS has released a new Form 1040. And yes, you can print it on a postcard. But don't get too excited. They've just stripped out half of the information from the old 1040 and dumped it into six pages of Schedules. Have capital gains to report, or student loan interest to deduct? You'll have to file Schedule 1. Owe AMT? Schedule 2 is just four lines . . . but there goes your postcard. Need to pay self-employment tax? Welcome to Schedule 4. And who wants to report their income where the mailman can see it on its way to the IRS, anyway?
This New Year, millions of Americans will pick cliched resolutions like eating less, exercising more, crying less, or smoking more. (Possibly a typo.) We'd like to suggest something a little more profitable: minimizing the bite that taxes take out of your year. Call us to save, and make 2019 your best year ever!
"10 Most Expensive Tax Mistakes That Cost You Thousands"
"5 Things You Forgot About with Your Small Business That Are Costing You Money"
John Leidy, EA
DIY Books Coach
It was the third day of the very first income tax course when I realized that it will become my mission to help people understand their taxes better to be able to make better decisions and STOP wasting money on taxes they should not have to pay.