Technology has made it easier to work from home so lots of people now commute each morning to an office down the hall. However, just because you have a home office space doesn’t mean you can deduct expenses associated with it.
Regularly and exclusively
In order to be deductible for 2019 and 2020, you must be self-employed and the space must be used regularly (not just occasionally) and exclusively for business purposes. If, for example, your home office is also a guest bedroom or your children do their homework there, you can’t deduct the expenses associated with the space.
If you qualify, the home office deduction can be a valuable tax break. There are two options for the deduction:
- Write off a portion of your mortgage interest, property taxes, insurance, utilities and certain other expenses, as well as the depreciation allocable to the office space. This requires calculating, allocating and substantiating actual expenses.
- Take the “safe harbor” deduction. Only one simple calculation is necessary: $5 times the number of square feet of the office space. The safe harbor deduction is capped at $1,500 per year, based on a maximum of 300 square feet.
Changes through 2025
Under prior tax law, if you were an employee (as opposed to self-employed), you could deduct unreimbursed home office expenses as employee business expenses, subject to a floor of 2% of adjusted gross income (AGI) for all your miscellaneous expenses. To qualify under prior law, a home office had to be used for the “convenience” of your employer.
Unfortunately, the TCJA suspends the deduction for miscellaneous expenses through 2025. Without further action from Congress, employees won’t be able to benefit from this tax break for a while. However, deductions are still often available to self-employed taxpayers.
If, however, you’re self-employed, you can deduct eligible home office expenses against your self-employment income. Therefore, the deduction will still be available to you through 2025.
Be aware that we’ve covered only a few of the requirements here. We can help you determine if you’re eligible for a home office deduction and, if so, establish the appropriate method for getting the biggest possible deduction.
© 2019 Covenant CPA
If you’re adopting a child, or you adopted one this year, there may be significant tax benefits available to offset the expenses. For 2019, adoptive parents may be able to claim a nonrefundable credit against their federal tax for up to $14,080 of “qualified adoption expenses” for each adopted child. (This amount is increasing to $14,300 for 2020.) That’s a dollar-for-dollar reduction of tax — the equivalent, for someone in the 24% marginal tax bracket, of a deduction of over $50,000.
Adoptive parents may also be able to exclude from their gross income up to $14,080 for 2019 ($14,300 for 2020) of qualified adoption expenses paid by an employer under an adoption assistance program. Both the credit and the exclusion are phased out if the parents’ income exceeds certain limits, as explained below.
Adoptive parents may claim both a credit and an exclusion for expenses of adopting a child. But they can’t claim both a credit and an exclusion for the same expense.
Qualified adoption expenses
To qualify for the credit or the exclusion, the expenses must be “qualified.” These are the reasonable and necessary adoption fees, court costs, attorney fees, travel expenses (including amounts spent for meals and lodging) while away from home, and other expenses directly related to the legal adoption of an “eligible child.”
Expenses in connection with an unsuccessful attempt to adopt an eligible child can qualify. However, expenses connected with a foreign adoption (one in which the child isn’t a U.S. citizen or resident) qualify only if the child is actually adopted.
Taxpayers who adopt a child with special needs get a special tax break. They will be deemed to have qualified adoption expenses in the tax year in which the adoption becomes final in an amount sufficient to bring their total aggregate expenses for the adoption up to $14,300 for 2020 ($14,080 for 2019). In other words, they can take the adoption credit or exclude employer-provided adoption assistance up to that amount, whether or not they had $14,300 for 2020 ($14,080 for 2019) of actual expenses.
Phase-out for high-income taxpayers
The credit allowable for 2019 is phased out for taxpayers with adjusted gross income (AGI) of $211,160 ($214,520 for 2020). It is eliminated when AGI reaches $251,160 for 2019 ($254,520 for 2020).
Taxpayer ID number required
The IRS can disallow the credit and the exclusion unless a valid taxpayer identification number (TIN) for the child is included on the return. Taxpayers who are in the process of adopting a child can get a temporary number, called an adoption taxpayer identification number (ATIN), for the child. This enables adoptive parents to claim the credit and exclusion for qualified expenses.
When the adoption becomes final, the adoptive parents must apply for a Social Security number for the child. Once obtained, that number, rather than the ATIN, is used.
We can help ensure that you meet all the requirements to get the full benefit of the tax savings available to adoptive parents. Please contact us if you have any questions
© 2019 Covenant CPA
There’s a tax-advantaged way for people to save for the needs of family members with disabilities — without having them lose eligibility for government benefits to which they’re entitled. It can be done though an Achieving a Better Life Experience (ABLE) account, which is a tax-free account that can be used for disability-related expenses.
ABLE accounts can be created by eligible individuals to support themselves, by family members to support their dependents, or by guardians for the benefit of the individuals for whom they’re responsible.
Eligible individuals must be blind or disabled — and must have become so before turning age 26. They also must be entitled to benefits under the Supplemental Security Income (SSI) or Social Security Disability Insurance (SSDI) programs. Alternatively, an individual can become eligible if a disability certificate is filed with the IRS for him or her.
Here are some other key factors:
- Distributions from an ABLE account are tax-free if used to pay for expenses that maintain or improve the beneficiary’s health, independence, or quality of life. These expenses include education; housing; transportation; employment support; health and wellness costs; assistive technology; personal support services; and other IRS-approved expenses.
- Anyone can contribute to an ABLE account. While contributions aren’t tax-deductible, the funds in the account are invested and grow free of tax.
- If distributions are used for nonqualified expenses, the portion of the distribution that represents earnings on the account is subject to income tax plus a 10% penalty.
- An eligible individual can have only one ABLE account. Contributions up to the annual gift-tax exclusion amount, currently $15,000, may be made to an ABLE account each year for the benefit of an eligible person. Starting in 2018, if the beneficiary works, the beneficiary can also contribute part, or all, of their income to their account. (This additional contribution is limited to the poverty-line amount for a one-person household.)
- There’s also a limit on the total account balance. This limit, which varies from state to state, is equal to the limit imposed by that state on qualified tuition (Section 529) plans.
- ABLE accounts have no impact on an individual’s Medicaid eligibility. However, ABLE account balances in excess of $100,000 are counted toward the SSI program’s $2,000 individual resource limit. Thus, an individual’s SSI benefits are suspended, but not terminated, when his or her ABLE account balance exceeds $102,000 (assuming the individual has no other assets). In addition, distributions from an ABLE account to pay housing expenses count toward the SSI income limit.
- For contributions made before 2026, the designated beneficiary can claim the saver’s credit for contributions made to his or her ABLE account.
We can help with the options
There are many choices. ABLE accounts are established under state programs. An account may be opened under any state’s program (if the state allows out-of-state participants). The funds in an account can be invested in a variety of options and the account’s investment directions can be changed up to twice a year. Contact us if you’d like more details about setting up or maintaining an ABLE account.
© 2019 Covenant CPA
There are several ways to save for your child’s or grandchild’s education, including with a Coverdell Education Savings Account (ESA). Although for federal tax purposes there’s no upfront deduction for contributions made to an ESA, the earnings on the contributions grow tax-free. In addition, no tax is due when the funds in the account are distributed, to the extent the amounts withdrawn don’t exceed the child’s qualified education expenses.
Qualified expenses include higher education tuition, fees, books and room, as well as elementary and secondary school expenses.
The annual limit that can be contributed to a child’s ESA is $2,000 per year — from all contributors for all ESAs for the same child. The maximum dollar amount that any individual can contribute is phased out if the contributor’s adjusted gross income (with certain modifications) exceeds $95,000 ($190,000 for married joint filers).
However, this phaseout is easily avoided. A child can contribute to his or her own ESA, so a parent or other person whose contribution may be limited by the phaseout rule can give the money to an ESA as custodian for the child. Under those circumstances, the child is considered to be the contributor and, if the child’s adjusted gross income is below $95,000, the phaseout won’t apply.
Contributions that exceed $2,000 in total for a child for a year are subject to a 6% penalty tax until the excess (plus earnings) are withdrawn.
How long can you make ESA contributions? They can be made until a child reaches age 18 (but this age limit doesn’t apply to a beneficiary with special needs who requires additional time to complete his or her education). A beneficiary doesn’t have to be your own child.
Taking money out
Withdrawals from an ESA during a year that exceed the child’s qualified education expenses for that year are included in the child’s income (to the extent of the earnings portion of the distribution) and are also subject to an additional 10% tax.
Tax-free transfers or rollovers of account balances from an ESA benefiting one beneficiary to another account benefiting another person are allowed, if the new beneficiary hasn’t reached 30, and is a member of the family of the old beneficiary. (The age limit doesn’t apply to a beneficiary with special needs.)
If you’re interested in discussing a Coverdell ESA, or other education planning options, please contact us.
© 2019 Covenant CPA
As teachers head back for a new school year, they often pay for various expenses for which they don’t receive reimbursement. Fortunately, they may be able to deduct them on their tax returns. However, there are limits on this special deduction, and some expenses can’t be written off.
For 2019, qualifying educators can deduct some of their unreimbursed out-of-pocket classroom costs under the educator expense deduction. This is an “above-the-line” deduction, which means you don’t have to itemize your deductions in order to claim it.
Here are some details about the educator expense deduction:
- For 2019, educators can deduct up to $250 of trade or business expenses that weren’t reimbursed. (The deduction is $500 if both taxpayers are eligible educators who file a joint tax return, but these taxpayers can’t deduct more than $250 each.)
- Qualified expenses are amounts educators paid themselves during the tax year.
- Examples of expenses that educators can deduct include books, supplies, computer equipment (including software), other materials used in the classroom, and professional development courses.
- To be eligible, taxpayers must be kindergarten through grade 12 teachers, instructors, counselors, principals or aides. They must also work at least 900 hours a school year in a school that provides elementary or secondary education as determined under state law.
Educators should keep receipts when they make eligible expenses and note the date, amount and purpose of each purchase.
Teachers or professors may see advertisements for job-related courses in out-of-town or exotic locations. You may have wondered whether traveling to these courses is tax-deductible on teachers’ tax returns. The bad news is that, for tax years 2018–2025, it isn’t, because the outlays are employee business expenses.
Prior to 2018, employee business expenses could be claimed as miscellaneous itemized deductions. However, under the Tax Cuts and Jobs Act, miscellaneous itemized deductions aren’t deductible by individuals for tax years 2018–2025.
© 2019 Covenant CPA
If you read the Internal Revenue Code (and you probably don’t want to!), you may be surprised to find that most business deductions aren’t specifically listed. It doesn’t explicitly state that you can deduct office supplies and certain other expenses.
Some expenses are detailed in the tax code, but the general rule is contained in the first sentence of Section 162, which states you can write off “all the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business.”
In general, an expense is ordinary if it’s considered common or customary in the particular trade or business. For example, insurance premiums to protect a store would be an ordinary business expense in the retail industry.
A necessary expense is defined as one that’s helpful or appropriate. For example, let’s say a car dealership purchases an automatic defibrillator. It may not be necessary for the operation of the business, but it might be helpful and appropriate if an employee or customer suffers a heart attack.
It’s possible for an ordinary expense to be unnecessary — but, in order to be deductible, an expense must be ordinary and necessary.
In addition, a deductible amount must be reasonable in relation to the benefit expected. For example, if you’re attempting to land a $3,000 deal, a $65 lunch with a potential client should be OK with the IRS. (Keep in mind that the Tax Cuts and Jobs Act eliminated most deductions for entertainment expenses but retains the 50% deduction for business meals.)
Examples of not ordinary and unnecessary
Not surprisingly, the IRS and courts don’t always agree with taxpayers about what qualifies as ordinary and necessary expenditures.
In one case, a man engaged in a business with his brother was denied deductions for his private airplane expenses. The U.S. Tax Court noted that the taxpayer had failed to prove the expenses were ordinary and necessary to the business. In addition, only one brother used the plane and the flights were to places that the taxpayer could have driven to or flown to on a commercial airline. And, in any event, the stated expenses including depreciation expenses, weren’t adequately substantiated, the court added. (TC Memo 2018-108)
In another case, the Tax Court ruled that a business owner wasn’t entitled to deduct legal and professional fees he’d incurred in divorce proceedings defending his ex-wife’s claims to his interest in, or portion of, distributions he received from his LLC. The IRS and the court ruled the divorce legal fees were nondeductible personal expenses and weren’t ordinary and necessary. (TC Memo 2018-80)
Proceed with caution
The deductibility of some expenses is clear. But for other expenses, it can get more complicated. Generally, if an expense seems like it’s not normal in your industry — or if it could be considered fun, personal or extravagant in nature — you should proceed with caution. And keep records to substantiate the expenses you’re deducting. Consult with us for guidance at 205-345-9898 and email@example.com.
© 2019 CovenantCPA
Have you recently started a new business? Or are you contemplating starting one? Launching a new venture is a hectic, exciting time. And as you know, before you even open the doors, you generally have to spend a lot of money. You may have to train workers and pay for rent, utilities, marketing and more.
Entrepreneurs are often unaware that many expenses incurred by start-ups can’t be deducted right away. You should be aware that the way you handle some of your initial expenses can make a large difference in your tax bill.
Key points on how expenses are handled
When starting or planning a new enterprise, keep these factors in mind:
- Start-up costs include those incurred or paid while creating an active trade or business — or investigating the creation or acquisition of one.
- Under the federal tax code, taxpayers can elect to deduct up to $5,000 of business start-up and $5,000 of organizational costs in the year the business begins. We don’t need to tell you that $5,000 doesn’t go far these days! And the $5,000 deduction is reduced dollar-for-dollar by the amount by which your total start-up or organizational costs exceed $50,000. Any remaining costs must be amortized over 180 months on a straight-line basis.
- No deductions or amortization write-offs are allowed until the year when “active conduct” of your new business commences. That usually means the year when the enterprise has all the pieces in place to begin earning revenue. To determine if a taxpayer meets this test, the IRS and courts generally ask questions such as: Did the taxpayer undertake the activity intending to earn a profit? Was the taxpayer regularly and actively involved? Has the activity actually begun?
Examples of expenses
Start-up expenses generally include all expenses that are incurred to:
- Investigate the creation or acquisition of a business,
- Create a business, or
- Engage in a for-profit activity in anticipation of that activity becoming an active business.
To be eligible for the election, an expense also must be one that would be deductible if it were incurred after a business began. One example would be the money you spend analyzing potential markets for a new product or service.
To qualify as an “organization expense,” the outlay must be related to the creation of a corporation or partnership. Some examples of organization expenses are legal and accounting fees for services related to organizing the new business and filing fees paid to the state of incorporation.
An important decision
Time may be of the essence if you have start-up expenses that you’d like to deduct this year. You need to decide whether to take the elections described above. Recordkeeping is important. Contact us about your business start-up plans. We can help with the tax and other aspects of your new venture. 205-345-9898 and firstname.lastname@example.org.
© 2019 CovenantCPA
In the course of operating your business, you probably spend time and money “wining and dining” current or potential customers, vendors and employees. What can you deduct on your tax return for these expenses? The rules changed under the Tax Cuts and Jobs Act (TCJA), but you can still claim some valuable write-offs.
No more entertainment deductions
One of the biggest changes is that you can no longer deduct most business-related entertainment expenses. Beginning in 2018, the TCJA disallows deductions for entertainment expenses, including those for sports events, theater productions, golf outings and fishing trips.
Meal deductions still allowed
You can still deduct 50% of the cost of food and beverages for meals conducted with business associates. However, you need to follow three basic rules in order to prove that your expenses are business related:
- The expenses must be “ordinary and necessary” in carrying on your business. This means your food and beverage costs are customary and appropriate. They shouldn’t be lavish or extravagant.
- The expenses must be directly related or associated with your business. This means that you expect to receive a concrete business benefit from them. The principal purpose for the meal must be business. You can’t go out with a group of friends for the evening, discuss business with one of them for a few minutes, and then write off the check.
- You must be able to substantiate the expenses. There are requirements for proving that meal and beverage expenses qualify for a deduction. You must be able to establish the amount spent, the date and place where the meals took place, the business purpose and the business relationship of the people involved.
Set up detailed recordkeeping procedures to keep track of business meal costs. That way, you can prove them and the business connection in the event of an IRS audit.
What if you spend money on food and beverages at an entertainment event? The IRS clarified in guidance (Notice 2018-76) that taxpayers can still deduct 50% of food and drink expenses incurred at entertainment events, but only if business was conducted during the event or shortly before or after. The food-and-drink expenses should also be “stated separately from the cost of the entertainment on one or more bills, invoices or receipts,” according to the guidance.
Another related tax law change involves meals provided to employees on the business premises. Before the TCJA, these meals provided to an employee for the convenience of the employer were 100% deductible by the employer. Beginning in 2018, meals provided for the convenience of an employer in an on-premises cafeteria or elsewhere on the business property are only 50% deductible. After 2025, these meals won’t be deductible at all.
As you can see, the treatment of meal and entertainment expenses became more complicated after the TCJA. Your tax advisor can keep you up to speed on the issues and suggest strategies to get the biggest tax-saving bang for your business meal bucks. Contact us at 205-345-9898 and email@example.com.
© 2019 CovenantCPA
Tax planning is a year-round activity, but there are still some year-end strategies you can use to lower your 2018 tax bill. Here are six last-minute tax moves business owners should consider:
- Postpone invoices. If your business uses the cash method of accounting, and it would benefit from deferring income to next year, wait until early 2019 to send invoices. Accrual-basis businesses can defer recognition of certain advance payments for products to be delivered or services to be provided next year.
- Prepay expenses. A cash-basis business may be able to reduce its 2018 taxes by prepaying certain expenses — such as lease payments, insurance premiums, utility bills, office supplies and taxes — before the end of the year. Many expenses can be deducted up to 12 months in advance.
- Buy equipment. Take advantage of 100% bonus depreciation and Section 179 expensing to deduct the full cost of qualifying equipment or other fixed assets. Under the Tax Cuts and Jobs Act, bonus depreciation, like Sec. 179 expensing, is now available for both new and used assets. Keep in mind that, to deduct the expense on your 2018 return, the assets must be placed in service — not just purchased — by the end of the year.
- Use credit cards. What if you’d like to prepay expenses or buy equipment before the end of the year, but you don’t have the cash? Consider using your business credit card. Generally, expenses paid by credit card are deductible when charged, even if you don’t pay the credit card bill until next year.
- Contribute to retirement plans. If you’re self-employed or own a pass-through business — such as a partnership, limited liability company or S corporation — one of the best ways to reduce your 2018 tax bill is to increase deductible contributions to retirement plans. Usually, these contributions must be made by year-end. But certain plans — such as SEP IRAs — allow your business to make 2018 contributions up until its tax return due date (including extensions).
- Qualify for the pass-through deduction. If your business is a sole proprietorship or pass-through entity, you may qualify for the new pass-through deduction of up to 20% of qualified business income. But if your taxable income exceeds $157,500 ($315,000 for joint filers), certain limitations kick in that can reduce or even eliminate the deduction. One way to avoid these limitations is to reduce your income below the threshold — for example, by having your business increase its retirement plan contributions.
Most of these strategies are subject to various limitations and restrictions beyond what we’ve covered here, so please consult us before you implement them. We can also offer more ideas for reducing your taxes this year and next. Call us at 205-345-9898.
© 2018 Covenant CPA
As we approach the end of the year, it’s a good idea to review your business’s expenses for deductibility. At the same time, consider whether your business would benefit from accelerating certain expenses into this year.
Be sure to evaluate the impact of the Tax Cuts and Jobs Act (TCJA), which reduces or eliminates many deductions. In some cases, it may be necessary or desirable to change your expense and reimbursement policies.
What’s deductible, anyway?
There’s no master list of deductible business expenses in the Internal Revenue Code (IRC). Although some deductions are expressly authorized or excluded, most are governed by the general rule of IRC Sec. 162, which permits businesses to deduct their “ordinary and necessary” expenses.
An ordinary expense is one that is common and accepted in your industry. A necessary expense is one that is helpful and appropriate for your business. (It need not be indispensable.) Even if an expense is ordinary and necessary, it may not be deductible if the IRS considers it lavish or extravagant.
What did the TCJA change?
The TCJA contains many provisions that affect the deductibility of business expenses. Significant changes include these deductions:
Meals and entertainment. The act eliminates most deductions for entertainment expenses, but retains the 50% deduction for business meals. What about business meals provided in connection with nondeductible entertainment? In a recent notice, the IRS clarified that such meals continue to be 50% deductible, provided they’re purchased separately from the entertainment or their cost is separately stated on invoices or receipts.
Transportation. The act eliminates most deductions for qualified transportation fringe benefits, such as parking, vanpooling and transit passes. This change may lead some employers to discontinue these benefits, although others will continue to provide them because 1) they’re a valuable employee benefit (they’re still tax-free to employees) or 2) they’re required by local law.
Employee expenses. The act suspends employee deductions for unreimbursed job expenses — previously treated as miscellaneous itemized deductions — through 2025. Some businesses may want to implement a reimbursement plan for these expenses. So long as the plan meets IRS requirements, reimbursements are deductible by the business and tax-free to employees.
The deductibility of certain expenses, such as employee wages or office supplies, is obvious. In other cases, it may be necessary to consult IRS rulings or court cases for guidance. For assistance, please contact us at 205-345-9898.
© 2018 Covenant CPA