Inside Small Business | Small Business & Home Business Marketing

Top Tax Preparation Mistakes

Kay Bell, Principal of Write Here!

Today’s tax code contains more than 66,000 pages, with literally thousands more added each year. No wonder every filing season so many tax returns are riddled with mistakes. And when it comes to a business, those errors can make a big difference in your company’s success.

Exactly which form you’ll use to comply with those pages and pages of tax law depends on your business’ structure. But regardless of the eventual form, there are some basic business tax areas to watch out for. Here are 10 that trip up many business taxpayers.

1. Overlooking deductions
This is the easiest way to reduce your business’ tax burden. But with so many options, filers regularly overlook some. Common write-offs include automobile expenses, business association fees, home office costs, entertainment expenses, convention costs, cell phone charges, depreciation of your computer and salaries. Don’t forget about health-care premiums. In most cases, they are deductible as a business expense instead of a Schedule A medical expense.

2. Forgetting to track expenses
Those deductions will be easier to remember if you’ve recorded them throughout the year. You don’t have to include the documentation when you file, but it will ensure you claim the correct amounts. If the IRS subsequently questions any of your claims, you’ll be doubly glad you have the records. And proof of a business expense is more convincing when it’s on a separate credit card, rather than mixing business and personal expenses.

3. Confusing current and capital expenses
In addition to keeping an eye on what costs are deducible, pay attention to when you can write them off. Expenditures that can be claimed in the year they are incurred are current expenses. These are everyday business operating costs. Write-offs for some purchases, however, are capital expenditures and must be spread out over what the IRS has determined is their “useful life” of a year or longer. These capital assets, such as equipment and vehicles, are viewed as investments that will generate revenue in future years.

4. Shortchanging Section 179
It is possible, however, to get immediate tax relief from capital expenditures under Section 179. This part of the tax code allows a business owner to write off the cost of many types of tangible property (e.g., machinery, furniture, building fixtures and computer hardware and software) in the year purchased. Two basic requirements to keep in mind: First, the deduction is generous but not unlimited. For 2006 returns, up to $108,000 in expense can be deduction under Section 179 expenses. Secondly, the expenses cannot produce a business loss; you can only use them to offset your company’s income.

5. Miscalculating automobile deductions
Yes, this was mentioned in the first tip. But business use of a car is valuable enough to warrant a closer look. In calculating your auto expenses, you can take a standard mileage deduction (44.5 cents in 2006, 48.5 cents in 2007) for each business mile or you can take a deduction for actual expenses, including depreciation of the car. If the car is company owned, 100 percent of the costs can be deducted.

6. Not Doing away with bad debts
If you have debts or payables that are still out, write them off and take a deduction for the amount. But you must be genuinely no longer trying to collect. Similarly, if you have an inventory that’s just sitting in a warehouse, it might be more tax valuable as junk. By disposing of it, you can claim the product’s value as a deduction.

7. Not Setting your salary
As business owner, you know how valuable you are to your company, but many owners opt to put earnings back into the company rather than pay themselves. The IRS, however, prefers that you make some money and pay income as well as self-employment taxes on it. While you have some latitude in setting what you deem is a fair salary, the tax agency expects your pay to be “reasonable.” If an examiner asks, be prepared to demonstrate how you came up with the wage and why it’s appropriate.

8. Not Differentiating between employee and contractor
Pay attention, too, to how you pay others. Many companies trip up by treating an employee as an independent contractor. The line between employee and independent contractor often is unclear, but generally, a worker qualifies as an employee if the person works exclusively for you; is paid by the hour, day or week; and you regularly instruct and train the person in their job duties, as well as provide the necessary tools for the job. An independent contractor, however, works for many people and chooses to perform services for you, supplies the necessary equipment, and runs a business of his or her own.

9. Not making the most of “Made in the U.S.A.”
Does your business manufacture products domestically instead of sending the work overseas? Then don’t ignore the domestic production activities deduction. This write-off offers companies a break of 3 percent of taxable income. The deduction’s rules are somewhat complicated, which probably explains why it is underused, but the savings could more than pay for the cost of hiring a tax accountant to help claim it.

10. Not starting at the beginning
If your business is a new one, you can write off up to $5,000 in business startup costs and another $5,000 in organizational expenses in the year that you open your doors. Start-up costs include not only any amounts incurred in connection with creating a business, but also investigating the creation of one. Organizational costs include the expenses of creating a corporation.

Finally, here’s a bonus tip: Don’t go it alone. You started your business to take advantage of your expertise. Unless your company is an accounting firm, then tax filing and planning is probably not your greatest strength. So don’t make the mistake of trying to maneuver those 60,000-plus pages of tax laws on your own. Let a tax pro help you avoid costly tax prep and planning mistakes.

About the Author
Kay Bell has been principal of Write Here!, an Austin, Texas-based editorial services firm, since May 2005. Her clients range from a major Maryland-based mutual fund company to a Florida bankruptcy law firm to the National Federation of Independent Business, and she writes a monthly finance column for austinwoman magazine. Kay’s diverse career also includes stints as a Congressional staff member, as well as part of the government relations teams of two Fortune 500 companies. Visit her blog at Don’tMessWithTaxes.typepad.com.

Posted on Friday, December 15th, 2006 at 3:06 pm and is filed under Money/Finance, Small Business. You can follow any responses to this entry through the RSS 2.0 feed.