Making Estimated Tax Payments

Q. I am a 1 person (no employees) sole proprietor.  What would be the best way for me to calculate taxes and make quarterly tax payments (both Fed. and State)?

A. This is one of the most common questions I get from self-employed individuals who are just starting out.  Basically, estimated payments in a self-employed environment is the equivalent to withholding from an employee.  The object is to not pay too much and of course, not pay too little.  Let’s look at a few scenarios to answer your question completely:

1. new business with no history
2. business with history
3. going out of business

You must make estimated payments if you think your tax liability will be more than $1,000 in a calendar year.  The tricky part however is guessing how much income, and therefore tax liability, you will have.  In scenario 3, if your business is losing money and you anticipate having no profit, you may not actually need to make payments.    In scenario 1, if you previously had W-2 wages, you may wish to make payments equivalent to the previous year’s liability.  This number is found on your tax return.  In scenario 2, you need to pay at least 90% of the estimated liability due for the current year, or 100% of the tax liability from the previous year as estimated payments.

There are penalties for underpaying your liability as well.  The best way to get this right is to meet with a CPA or well-qualified tax preparer and go over your estimates for the current year.  CPAs can also help with other parts of your business plan as well to set you up for the best chance of success.

Also keep in mind that the IRS no longer accepts paper coupons for estimated payments.  You need to remit through the Electronic Federal Tax Payment System (EFTPS).

The rules for making estimated payments to your state depends on the state.  Check with the Department of Revenue in your states. Your CPA/tax preparer can help with this as well.

Self-Employed on Unemployment?

Q. I am a OTR driver and am the only person working for this company. Now he’s shutting down the company. He classified me as self employed. Can I draw unemployment? I do not have a home, but license is North Carolina. Employer was in Nebraska.

A. The arrangement between you and the company providing your work is very important to get right.  The key here is, how much financial and behavioral control over your work did the hiring entity have?  If he provided your truck and directed all of the shipments you hauled, you may have been an employee.  If you have your own truck and were allowed to contract with other companies, you may actually be independent.  How have you filed your tax return since working with this individual?  Did you use Schedule C, which is typical for self-employed individuals?  Were you provided a 1099 or W-2 at the end of previous years?

The biggest problem with mis-classification is when termination, layoff or work stoppage occurs.  Employers typically attempt to avoid the employee classification simply to save money on the Social Security/Medicare match, unemployment taxes and workmen’s compensation insurance.  If you were actually an employee, then you are due unemployment compensation.  If you were not, then you are not eligible to collect unemployment benefits.  It makes sense that as a self-employed individual, it is my responsibility to keep myself busy.  If I am not finding enough work and lose clients, it is my own responsibility to find more business. No unemployment benefits should be received.  In an employee/employer situation, it is the employer’s responsibility to pay into the unemployment system and thus provide benefits for those employees who are terminated.

The state where you were based is likely the state where you will need to attempt to collect unemployment.  That state will make the determination if you were truly an employee or not.  If it is determined that you were not, you are out of luck.  This may take some time to sort out unfortunately.  In the meantime, the best thing you can do is find another source or income instead of waiting around for an answer. You can read a more in depth article a few years back regarding this topic as well.

The IRS also has a very good publication regarding worker classification.  You can read it here.

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Samuel Kerch, CPA

Circular 230 Disclosure: To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code, or (ii) promoting, marketing or recommending to another party any matters addressed herein.Circular 230 Disclosure: To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code, or (ii) promoting, marketing or recommending to another party any matters addressed herein.

Taxes Cause Fireworks Too?

Q. We recently ran a fireworks stand for a business in another state.  They have stands over about 4 different states and they hire people to manage them for them.  This was our first year running the stand.  We sold off of commission.  We were to receive 20-25% of net sales that we took in.  I just received the check from the company.  The check made out to me in the amount of just over $6,000.  It is my understanding that when tax time comes, I will be receiving a 1099 for that amount.

Here is my problem, I do not want to have to pay taxes on the full amount when I’m planning on giving about $4,500 in wages to 9 workers.  I also have about $500 in expenses.  The way it looks to me right now, is that in April, I will be paying income tax on the whole amount.  Can I write them checks as contract labor?  If so, what is the max on it?  How do I show those expenses after I get the 1099 so it doesn’t look like I received the whole $6,000?

A. Taxes, Taxes, Taxes.  Everyone seems to want to avoid paying taxes on their income for some reason.  Actually, it is your legal right to only pay the taxes you actually owe.  You should be taking advantage of all possible legal deduction opportunities that are available in the tax code.  In your case, yes, you will receive a 1099 for the amount you earned running the stand.  The arrangement described almost sounds like a franchising opportunity. I wonder whether you are actually “self-employed” as you are being classified or if you are indeed an employee.  I wrote an article about that one awhile back that you can read here.

If you are actually considered a small business, then you need to track your expenses incurred while running the stand like a regular business would.  As a self-employed individual, the income and expenses from your business will be reported to the IRS on Schedule C of the tax return.  Schedule C allows many types of deductions.  You can read instructions for that form here.  Valid expenses could be everything from vehicle mileage or depreciation, office supplies, employee and benefit expenses, licenses you were required to purchase, business meals, commissions, insurance, etc.  If you paid people to run the stand with you, those people were likely employees and should have been paid and reported properly through a payroll system.  Basically a valid expense is something that a an auditor would allow during the course of an examination.  If you take a conservative approach and have receipts and documentation for expenses, you are much more likely to keep your claimed expenses from being denied if you are audited.

Of course, the best way to make sure you are doing this correctly is to retain the services of a knowledgeable accountant.  Both the IRS and the state government will have unique tax laws relating to your situation.  Your accountant will become your trusted advisor while guiding you through the labyrinth of tax laws that exist today and helping you make better business decisions.  Good luck!

—–
Samuel Kerch, CPA

Circular 230 Disclosure: To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code, or (ii) promoting, marketing or recommending to another party any matters addressed herein.Circular 230 Disclosure: To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code, or (ii) promoting, marketing or recommending to another party any matters addressed herein.

Sole Proprietor on Payroll?

A good question today for discussion:
“My husband is self-employed with no other employees.  I generate his paychecks.  This year, he has been doing a few jobs outside of our county; therefore, the local tax amounts vary from county to county.  The payroll program I use is a very basic program so there are not a lot of different options to use.  (This is a new program I started using this year.)  To keep local taxes correct, I have to issue him a check for each job completed outside of our county.  When I generated a paycheck to him for a small job in a different county, ($300 paycheck), I noticed there were no federal withholding taxes.  I didn’t know this before, but it appears tax calculations are different based on daily, weekly, monthly, etc. pay periods.  I played around with this in the program and noticed the variance each time I changed this option.  With the flexibility of him being self-employed, I generate a paycheck on an as-needed basis to cover our personal needs.  It is never a fixed amount and the frequency varies. Taking the issue of local tax variances out of the picture, I am now worried if the federal and state taxes are being calculated correctly because of the varied amounts and time frames of the paychecks.  I don’t know whether to choose the option of him getting paid daily, weekly, bi-monthly or monthly. The federal and state withholdings changes in each of these categories.  I feel that it is incorrect to have no federal withholding if I generate a paycheck to him for only $300.00.  Can you help?”

A.  Your question contains one of the most common misconceptions of those who are self-employed.  You did not state if you were an LLC, S corp or a C corp.  I assume by your use of the words “self-employed” that you are simply a Schedule C filer with the IRS.  Most of the included fact pattern is actually irrelevant to answer your question.  Simply put, schedule C sole proprietors do not receive paychecks.  The profit earned from the business each year is the “paycheck” for your husband for tax purposes.  You will pay income taxes based on the profit of the business, less any allowed personal deductions on the form 1040.  Self-employed individuals make estimated payments to the IRS based on their estimated tax liability each year.  These estimated payments are made on a quarterly basis.  Your CPA or tax adviser should be able to look at your situation and determine what estimated payments are required.

While you do not have employees now, it is important to note that when you do have employees, you should match your pay frequency with the way you pay.  If you are having employees work in a different city each day, and your payroll system cannot accommodate multiple city tax rates, you would pay based upon a daily frequency for federal, state and local purposes.  If you pay daily and use any other table, the amount of wages will be too low to trigger withholding for federal and state in most cases.  If you think about it, $300 per day is about $81,000 when annualized (assuming a 270 day work year).  If you annualized $300 using a weekly table, it only adds up to $15,600 of gross wages.  There must be a low-cost system available that could handle such a problem when you get to the point of actually having employees and needing it.

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Samuel Kerch, CPA

I Can’t Get An Unemployment Check

Q. I was fired from my job last week. When I tried to file for unemployment, they said I couldn’t claim because I was self-employed.  I thought unemployment was for this reason.  What do I do?

A. Unemployment benefits are designed for employees who are unemployed, under-employed, downsized, rightsized, or fired.  If you were actually an employee, then your employer should have been paying unemployment tax to the state where you performed your duties.  You would then be given benefits by the state if one of the above-listed events actually occurred.

If you are actually a contractor or self-employed, then you are really out of luck.  The problem with your post is that it looks like you assumed you were an employee, but were classified as self-employed.  This may be a sneaky trick by your former employer not to pay taxes for your situation.

There are specific guidelines as to what actually qualifies as an employee vs. and independent contractor.

• Did the establishment provide you an office?
• Were you required to supply your own tools?  This could mean anything from a computer to actual tools used by laborers.
• Were you issued a 1099 at the end of the year instead of a W-2?  While this one doesn’t actually prove anything, it does show the intent of the hiring organization.
• Who controlled the work you performed?
• Who set your hours?

Companies can get into all kinds of trouble for taking the easy route and calling their employees something else.  Check with your State’s Department of Labor for details.

Managing an IRA is a business?

Q. I will be self directing an IRA to generate income. I will need a computer, software, attending investing seminars, and a host of other expenses in order to self direct it. Can any of these be business deductions?

A. Wouldn’t it be nice if we could get paid for every activity that we undertake.  I think that producers should Read more »

How much tax for self-employed

Q. Is there a calculator that would help someone determine how much estimated payments I can make since I am self-employed?

A. Unfortunately, there is no easy-to-use tool for calculating self-employment liability for estimated payments. Because the self-employed have to match Social Security and Medicare, yet get a credit for it above the line on the 1040, the actually liability is much more complicated to determine.

The number you would start with is based on last year’s tax liability. This is determined by your accountant when you complete your 1040 form and associated schedules. Essentially, you can split last year’s liability into Read more »

FICA and Medicare Tax Payments

Q. Where do I send FICA, Medicare, taxes?

A. If you are an employer, FICA, Medicare and Federal withholding taxes should be deposited according to the schedule assigned by the IRS to your company. Very small employers can deposit and report these withholding amounts on Form 944 annually. The other deposit requirements are Monthly, Semi-weekly and Daily depending on the amount of the deposit. All of this is discussed in Publication 15 in section 11, “Depositing Taxes.”

To answer your question, you can Read more »