Financial Organization, Here We Come!

Did you know that you can get an automatic six-month extension on filing your taxes just by filling out a short form? You don’t even have to give a reason, you can just take six more months to do it. You still have to pay your taxes by April 15th of course (Uncle Sam doesn’t like waiting for his money), but since you pay quarterly anyway, that’s no big deal, and — 

Wait, you didn’t know that you have to pay quarterly estimated taxes as a small business?

Yes, federal and state income tax. Not sales tax, though. You can still pay that annually, but — 

Yes, you have to pay sales tax! You collected it from your customers, didn’t you?

You didn’t know you had to?

And you thought you got to keep it?!

You’ve just overheard me on the phone with my 2004 self. When I started my first business ten years ago, I didn’t know any of these things. I didn’t pay quarterly taxes my first two years. I didn’t know I always had to pay sales tax — even when I didn’t collect it. When Etsy or my online shopping cart collected it for me, I thought I just got to keep it. Luckily I was able to correct these things before they came back to bite me, but I can do you one better.

At the Craftcation Conference next week, I will be launching a small selection of financial organization services to get you on the right track. If you’re at the start of a new business and you want to make sure you’re doing everything correctly, but you still have a lot of “unknown unknowns,” I can help you get organized.  I’m not a CPA or a tax preparer — I won’t be doing your bookkeeping or taxes for you. What I will do is set up a customized financial system for your business and teach you how to use it. Not only will all your i’s be dotted and your t’s crossed, you’ll be able to see the health of your business at a glance, as well as what you need to do to make it more profitable — all for the cost of preparing one tax return. Here are the goods:

  • Squeaky Clean Books ($500 for service-based businesses/ $650 and up for product-based businesses): get a one-of-a-kind, customized Excel bookkeeping ledger that contains exactly the features your business needs and nothing extraneous, plus three hours of private tutoring in proper bookkeeping techniques, using your ledger and your receipts. The ledger is sweet — it does all the calculations for you automatically. Come tax time, all you’ll have to do is print the front page! (does not come with Excel software)
  • My First Quickbooks ($650 for service-based businesses/ $800 and up for product-based businesses): get your Quickbooks software (Pro or Premier Manufacturing & Wholesale edition) set up specifically for your business, plus five hours of private tutoring in proper bookkeeping techniques and how to use the software. (does not come with Quickbooks software)
  • Price Hacker ($300 and up): I will help you set sustainable, market-appropriate prices that you can feel confident about for all of your products and/or services.
  • Wealth Builder ($450): get a personalized financial plan for saving, investing and/or paying down debt, based on your life goals, plus three hours of private tutoring on how to build wealth confidently and painlessly.
  • Sales Tax Master ($200 and up): I will walk you through filling out and filing your California Sales Tax return, and help you set up your records so that it’s a breeze next year.

If you’re looking for something a little different, you can contact me to customize a package just for you. I am also available to consult on specific topics on an hourly basis. If you will be attending the Craftcation Conference in Ventura, you can take my personal finance and/or bookkeeping workshops to get a sense of how I structure things. I’ll also be speaking on a panel about pricing and offering personal office hours for your financial questions. Let’s get in touch!

 

Small Business Jobs Act Helps Independent Creative Professionals

This is a little late in coming, but I wanted to point all of you towards this fantastic post by The Present Group about Obama’s Small Business Jobs Act. The new law is large and complicated, but Oliver and Eleanor did all the hard work for you and pulled out the sections that are relevant to independent creative professionals.

“There are…some especially exciting things for small companies, artists, and freelancers in the tax cuts area.  Hello health care deduction and total cell phone deduction.”

Only two more months until we close the books on 2010.  Make sure you read this before filing those taxes!

The Change in Your Changepurse

That time of year-a
Tax time is here-a
Many lira
Disappear-a

The above is perhaps my favorite all-time tax rhyme.  It’s from a song by Adam Sandler’s “Opera Man,” sung during SNL’s Weekend Update segment.  Even without paying taxes, many of us have recently seen our money begin to evaporate, in the form of slower sales, exhorbitant gas prices and drops in property value.  Some of these issues have been somewhat mitigated by the IRS’s 2008 Tax Changes for Businesses, while others have been made worse.  You can take higher per-mile deductions for your car, for example, but the maximum amount of earnings subject to the Self-Employment (Social Security) tax has increased.  If you’re using current tax preparation software, these changes should all be included, but if you’re filing manually, make sure you take these new rules into account.

Served

I’m sitting in Room 307 of the San Francisco Superior Court.  When I got here, I was the only person in this bank of five seats, but as usual, my presence has managed to act as an asshole magnet.  To my immediate right are two women who have not stopped talking for literally one second since they got here.  Two seats to my left is a man providing running commentary on what he is listening to on his mp3 player.  “Not the day for Slayer!” he announces, a little too loudly.

I get called for jury service every year, but this is the first time I’ve made it as far as the oath-in-the-courtroom.  Jury duty never bothered me before, because as a teacher, I was always paid for the days I spent twiddling my thumbs in windowless rooms.  As a Biz Miss, however, being selected for a jury could do some serious harm to my business.  Never mind the hours of work I might lose right off the bat — I could be out of contact with customers and vendors for days, if not weeks.

So what’s a Biz Miss to do when she gets called for jury service?  What are the rules regarding compensation, or getting excused?  To begin with, you should know that according to the Superior Court web site, your employer does not have to pay you during your jury service, they just have to give you the time off.  If you give them “sufficient” notice of your impending jury service (which remains undefined), they can’t fire you, but you could potentially lose months worth of pay if you get assigned to a long trial.  If this is the case, or if you are self-employed, you can ask for an excuse based on “severe hardship.”  You write on your summons form exactly what sort of impact jury service will have on your financial situation, and then hope for the best.  In hindsight, I sort of wish I had done this, but it seemed dishonest to claim “severe financial hardship” given my ability to run most of my business outside of court hours.  The judge for our case made sure to emphasize that “serious inconvenience” does not equal “severe hardship,” and while having no free time for two weeks is definitely a serious inconvenience, it wouldn’t keep me from being able to pay the rent.

If you end up having to spend more than one day at jury duty you are entitled to compensation.  In San Francisco, if you are a government employee you can only claim a $2.50 “mileage fee” for any days you appear at the courthouse after the first.  If you are not a government employee you can also claim an additional $15 per day “jury fee” from the second day forward.  It’s not much, but at least it covers lunch and public transportation.

What about tax deductions?  Can you deduct meals and travel during jury service?  Sadly, no.  The only jury-related tax deduction I could find occurs if your employer forces you to hand over your jury fees to help them compensate for your lost time.  In that case, you can deduct the total of your jury fees from your gross income.  Otherwise, no dice.

In short, jury duty almost always sucks, but at least there are a few saving graces.  Firstly, we get three breaks a day, including a 90-minute lunch, during which I can both eat and conduct a little business.  Secondly, the courthouse has free wireless, which works with even my ancient 7-year-old laptop.  And finally, there is a lot of downtime during jury duty, in which I can write blog posts, do my bookkeeping, or knit Christmas presents.  Just don’t try to bring a pair of three-inch sewing snips into the courthouse.  They will tell you to “put them outside somewhere,” which actually means “try to hide them in a bush when none of the bums are looking.”

U.S. Customs, or, How to Get Screwed and Pay for the Privilege

Thinking about having goods made overseas? You may want to consider the cost of shipping and customs before you set price points for your merchandise. I budgeted my costs based on a quote from my customs agent, and still came up about $500 short. Here’s a basic list of what you’ll need:

Freight: getting your cargo where it needs to go. If you have small or perishable items, you can use air freight. For bigger stuff, like a whole container’s worth of meat-shaped plush toys, you can use ocean or rail freight, depending on whether the country you’re importing from is connected to you by land or sea.

A customs broker: this guy gets your stuff off the dock and onto a truck. Unfortunately, many of these folks operate like bad movers — they claim zero responsibility for what happens to your stuff and sometimes hold it for ransom. The Dept. of Homeland Security requirement that a customs broker be “of good moral character” is clearly not enforced. Finding a trustworthy customs broker is like finding the holy grail. If you’re in the market for one of these guys, here are some charges to get in a quote:

  • “Door-to-door” freight: this is really dock-to-door freight, since most manufacturers will charge F.O.B. (freight on board) prices for your products, meaning that what you pay for manufacturing includes what it costs to box up your merchandise and get it onto a boat/plane/etc. I was quoted $1,717 for ocean freight from Hong Kong to Oakland, with door delivery in San Francisco. This was for a full 20 ft. container. Transporting less than a container load (LCL) was quoted at $125/cubic meter of cargo. This is because there is a lot more labor involved in separating, moving and accounting for your merchandise when it is mixed up with other people’s stuff. A full container load (FCL) doesn’t need to be opened at all between the overseas factory and your warehouse in the States. When my warehouse turned out to be in Fairfield rather than San Francisco (an extra 30 minutes away from the dock, but in another “zone”), my delivery cost went up $200. If gas prices rise between your quotation and shipment, expect to pay for that as well (an additional $50 in my case).
  • Customer Power of Attorney: allows your broker to conduct Customs business on your behalf (i.e. pay for your inspections to move your cargo through quicker, take your container off the dock, etc. I was quoted $0.35-$0.55 per $100 of merchandise value for this.
  • Insurance: this was included in my freight quote, but you NEED to make sure you have it. Containers fall off those barges on choppy seas all the time, and the last thing you want is to have your entire business end up at the bottom of the ocean.

Money for U.S. Customs fees: here’s the list:

  • Merchandise Processing Fee: 0.21% of Commercial Invoice., Min. USD25 and Max. USD485. $25 for me.
  • Harbor Maintenance Fee: 0.125% of Commercial Invoice. $8.85 for me.
  • Single Transaction Bond: a one-time $50 fee per import. If you import more than 10 times a year, you can use a $500/year bond instead.
  • Customs Clearance: $115.
  • C-TPAT security fee: protects the docks against terrorists. $7.50 per shipment.
  • Document turn-over fee: $55
  • Inspection: this is my personal favorite. Not all containers get inspected, but if you’re a new importer, yours will be. If they inspect by x-ray, you pay an additional $160. If they decide to do a FULL inspection, however, in which they open and rifle through every single box, they will charge you for the labor, which is more like $400-$500.

In the end, just getting my merchandise to the Fairfield warehouse cost almost a third of what it cost to manufacture it. That means I had to figure in a 33% mark-up in my prices, not including the cost of warehousing. If I could have had my plush toys made in the U.S., I would have, and it makes me seriously re-consider what my next product line will be.

**Tip: if you arrange for your freight early enough, you can sometimes “lock in” a rate for local delivery from the dock to your warehouse that won’t go up when your cargo arrives. Get this in writing.

US Customs FAQ on Duty Rates

your shipment of fail has arrived

Image courtesy of the Fail Blog at http://failblog.wordpress.com/2008/01/29/shipments-in

Do I Need an Accountant?

Maybe TurboTax isn’t as easy as it looked.  Maybe you’re seduced by H&R Block’s claims that they save the average tax payer $1800.  Maybe you just don’t know how categorize that shoebox of receipts you keep under your desk, but chances are, you’ve wondered whether you should hire professional help.

This tax season I bit the bullet and hired an accountant.  I hired a guy who is both an accountant and a lawyer, and I figured that he would know enough loopholes and secret deductions to more than make up for his $375 price tag (for comparison purposes, H&R Block charges about $300 in San Francisco).  That did not turn out to be the case, but I’m still glad I hired him.

It turns out, partially due to the research I’ve done for this blog, that I would have paid the right amount of taxes had I filed them myself.  This meant, however, that I did not have a lot to explain to my accountant during our one-hour session and got to spend most of my time asking questions and receiving advice.  Here are some of the things I learned:

  • Unless you run a business that is really open to litigation, you may want to think twice before changing your sole proprietorship to an LLC.  LLCs require a lot of paperwork and things like officers and meetings.  Also, in California, the annual filing fee is $800, which is a lot more than your typical liability insurance premiums, so you’re better off just getting insured.
  • Watch your inventory.  You can only deduct the cost of inventory you sold last year, not all the inventory you bought.
  • Always look out for standard deductions (like 48.5 cents/mile for car costs) and compare them to your itemized deductions.  Very often one will be much higher than the other.
  • If you use bookkeeping software like QuickBooks (which works great with TurboTax), file your taxes according to cash accounting reports, not accrual accounting reports.
  • Gifts under $12,000 are always tax free for the recipient, so that birthday check from Grandma is not taxable income.
  • You can’t deduct your home office if your self-employment income does not exceed your expenses, but the deductions keep carrying over from year to year until you post a profit, so keep track of them as they pile up.

In the end, the knowledge I gained from my meeting was well worth the expense.  I am new to self-employment, and I liked having the peace of mind that I had prepared things correctly. Since next year will be my first year of inventory, I will probably hire my accountant one more time.  In my third year of business, however, I am aiming to strike out on my own and file my taxes by myself.

Dear Diary, Today I Went to Starbucks

If you are self-employed and either eat out or drive on the job, chances are you’ll want to deduct what you spend on those things. But meals and car expenses are two of the most likely things on your tax return to get scrutinized by the IRS, and who wants to organize hundreds of receipts for small dollar amounts? An easy alternative is to keep a spending diary — or two or three. A spending diary eliminates the need for you to keep tons of receipts for tiny amounts and is also one of the only spending records the IRS will accept as legitimate.

I have two spending diaries: a small notebook that I keep in my purse for meals/entertainment/public transportation, etc., and a pad taped to the dashboard of my car for mileage and car expenses. I recommend a separate diary for your car because it will be organized slightly differently than a regular diary. Some people like to use a digital or cassette recorder in lieu of paper (Blackberry/iPhone users, I’m looking at you) but either method is fine as long as it contains the proper information.

Like all documentation prepared for the IRS, a spending diary must follow a series of somewhat complicated rules in order to be admissible. Here’s how to set up an iron-clad meals and entertainment diary, for example:

  • Include only entertainment and meals you ate out (not groceries!) that totaled $75 or less. You will need to keep a receipt for any meal or entertainment expense over $75 (no matter how many people you paid for).
  • Create the following set of columns for your diary:
    • The date
    • The amount you spent
    • Where you spent it (establishment and city)
    • The names and business relationships of anyone you entertained
    • The business you were doing or discussing
  • Fill out the information the day you spend the money

For your car diary, just follow the format from this IRS example:

mileage log

Source: http://www.irs.gov/publications/p463/11081l08.html

Tip: record the entries from your diaries into a spreadsheet every week when you do the rest of your bookkeeping. This will help you to budget future spending and will save you time when you need to prepare your taxes.

Steady at the Wheel: Car Deductions

One of the areas of your tax return at which the IRS looks most closely is the section covering car deductions. There’s a reason for this: it’s a difficult set of tax laws to navigate and many people over-deduct or use sloppy estimates, resulting in more money for the government when they catch you. You don’t need receipts for everything, since it’s difficult to get receipts for things like mileage, but you do need detailed records of everything.

Car deductions are easy if you have a company car. In this case, you can just deduct the whole shebang. What’s more complicated is if you use your personal vehicle for business purposes. If you fall into this latter category and need to itemize your deductions, here are the basic steps:

  1. Keep a mileage diary in your car at all times. Write down the date, the starting and ending mileage, tolls, and one of the following purposes for any business-related trip you make:
    • Overnight travel away from home
    • Shopping for your business (not shopping for yourself, even if you use the purchase at your business, like a suit)
    • Travel to a professional development event such as a seminar or conference
    • Sales calls
    • Deliveries
    • Travel for marketing or promotional purposes
    • Travel to a job site or meeting as an independent contractor — NOTE** if the job site you are traveling to has you on the books as an employee rather than as an independent contractor, you are now technically commuting, which is not deductible.
    • Travel between job sites
    • Any other qualifying travel during your business day.
  2. Keep all receipts and statements for tolls, maintenance and repairs, gas, auto registration, inspections, etc.
  3. At the end of the year, total up your business mileage and divide it by your total mileage for the year. This will give you the percentage of your car that was used for business. Also, look up the amount by which the value of your car has depreciated (must be $2,660 or less if your car was bought new that year or was worth more than $12,800 at the beginning of the year).
  4. Total up your car-related receipts and depreciation for the year and multiply the total by the percentage you just came up with.
  5. Multiply just your business mileage by $0.31. This is the standard automobile deduction, calculated by mile.
  6. Compare the results of steps four and five. You will use the higher of these two numbers to get your deduction.
  7. If you are 100% self-employed, stop here. Your costs are fully deductible.
  8. If you are on the books at anyone else’s business as even a temporary and/or part-time employee, your car costs are subject to the “2% floor.” In this case, total up your Adjusted Income for the year (income minus expenses) and multiply it by .02. Subtract that amount from the business-related car expenses you came up with in step 6. This is the total amount you may deduct. If you come up with a negative number, you may not claim a deduction.

See? It’s complicated. I didn’t even mention things like specific deductions for hybrid vehicles or certain trucks, driving for charitable purposes and deductions for interest on leased vehicles. For all the nitty gritty stuff, start with this page directly from the IRS.

A+BxC=Audit

Most everyone knows that there are certain common parameters that make you more likely to get audited by the IRS, such as:

  • making more than $100,000
  • having low income and high expenses
  • carrying inventory
  • claiming high deductions for meals and entertainment, travel, and car expenses
  • being self-employed and/or claiming a home office
  • holding a mostly cash-income job, such as waiting tables or bartending

But did you know that the IRS actually uses a very strict formula to determine most of the tax returns that get scrutinized? It’s called the “DIF Score,” (Discriminate Income Function) and while the actual formula is very closely guarded secret, it generally works by comparing your income and deductions to other people in your tax bracket. If you donate an unusual amount to charity, or claim an unusual amount of driving mileage compared to others who make about the same as you, your DIF score goes up. The highest scoring returns then get scrutinized by an IRS agent, who determines whether your return warrants an audit. There are other factors that go into your DIF score as well, such as your age and where you live. If you’re 45, live in Beverly Hills, and claim a $25,000 income, for example, your score goes up simply for having unrealistic numbers.

So how can you stay under the radar? There are several strategies, but here are some of the most common:

  • File a neat, professional-looking return. Messy, handwritten returns require closer scrutiny to begin with, and are more likely to include things like mathematical errors.
  • File at the last possible minute. Prepare your return early and have it checked, but don’t turn it in until as close to April 15th as possible. You may even be able to file as late as the October 15th extension date (though you will still need to pay by April 15th). The later you file, the more likely it is that the IRS will have already reached their audit quota.
  • Check and re-check your return. Mathematical errors, wrong social security numbers, lack of signatures, disagreements between your state and federal returns, and numbers that don’t match your W-2 or 1099 forms (of which the IRS gets their own copies) will all red-flag you.
  • Preempt unusual deductions (e.g. your car got totaled or your office burned down) by including a note and receipt about the incident with your return.
  • Watch your medical expenses. You can only claim non-reimbursable expenses (whether you were actually reimbursed for them or not) in excess of 7.5% of your adjusted gross income. This is a complicated deduction, and one that people very often claim incorrectly, so the IRS really likes to pounce on this one.
  • Don’t round numbers up or down.
  • Avoid the use of “miscellaneous” or “other” categories as much as possible.

In the end, even if you manage to blend in with the masses, your return may still be flagged for a random audit. It is therefore best to keep neat receipts and records for everything you claim (see future posts for how to keep proper expense diaries). The more organized you are, the quicker and less painful an audit will be.

Sources: http://money.cnn.com/2004/02/27/pf/taxes/avoidanaudit/index.htm
 http://www.totaltaxsolutions.com/avoid-audit.htm
http://www.askmen.com/money/investing/40_investing.html
http://articles.moneycentral.msn.com/Taxes/AvoidAnAudit/5waysToAvoidAnAudit.aspx

Thanks, Dubya!

Today when I opened my mailbox, I found a notice from the IRS about the “economic stimulus act of 2008.”  I wrote about this back in January, but Congress apparently made it happen in time for this tax season.

There’s plenty of confusing language in the one-page letter, and lots of provisions that don’t fit quite so neatly into their “How to Determine Your Stimulus Payment” chart, but basically it breaks down like this:

  • If you made less than $75,000 in 2007 and you owe income tax (i.e. you’re not expecting a refund), your “stimulus payment” is $600.
  • If you made between $3,000 and $74,999.99 and you are expecting a refund, your payment is $300.
  • If you made less than $3,000 and you are expecting a tax refund, you do not get a payment.

The one thing to watch out for when you do your taxes this year is a calculated refund of less than $300.  If that’s the case, remove enough deductions so that you end up owing the IRS a few dollars.  That way, you’ll get the $600 payment rather than the $300 payment and come out on top overall.

For more specific info like payments for children, reduced payments for higher income taxpayers and what counts as “qualifying income,” you can visit the IRS’s Economic Stimulus Payments Information Center.