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Posted 1/1/12 2012Tax Planning for Individuals

Posted 1/1/12 2012 Tax Planning for Business

Posted 11/12/11- Home Insurance Basics

2012 IMPORTANT TAX DEADLINES!

PLEASE MARK YOUR CALENDAR FOR THESE IMPORTANT DATES.

Dear Valued Client:

The following is a list of important tax deadlines for 2012. Please mark your calendar.

Also note the requirement for filing a 1099 with the IRS. Remember you generally must file a Form 1099 on any of the following:
          Any independent contractor who's worked for your business and you've paid $600 or more during 2011.

• Any partnership you've paid more than $600 for work done for your business in 2011.
• Any corporation that you've paid $600 or more for legal or medical services in 2011.
• Anyone you've paid more than $600 in rent - whether for space or for equipment - unless they're a corporation or real estate agent in 2011.
• Anyone you've paid more than $600 in interest in the course of your trade or business in 2011.
• Anyone you've paid more than $10 in royalties in 2011.
• Any attorney you paid more than $600 in the course of your trade or business in 2011.

Generally, you do NOT file a 1099 for:
 Employees. Instead, you file a W-2 for them.

• Corporations that have done work for you. (Except for legal or medical, as noted above).
• Independent contractors who you've paid less than a total of $600 during 2011.
• Work done for you personally rather than for a business.
• Payments made to tax-exempt organizations.

 Although non-profit organizations must file 1099s, your for-profit company does not have to file payments made to charitable organizations or government entities.

If you need help preparing these forms, please contact our office, and we can assist you with the preparation of these documents. Remember the IRS charges a penalty for not filing these forms.

 2012 TAX DEADLINES

January 17-Due Date of the fourth and final installment of 2010 estimated tax for individuals (unless you file your 2011 tax return and pay any balance due by January 31).

January 31-Employers must furnish 2011 W-2 statements to employees. 1099 information statements must be furnished to payees by payers.

January 31-Employers must file 2011 federal employment (Form 941) and unemployment (Form 940) tax returns and pay any tax due.

February 29-Payers must file information returns (such as 1099s) with the IRS (April 2 is the deadline if filing electronically).
February 29-Employers must send W-2 copies to the Social Security Administration (April 2 is the deadline if filing electronically).

March 15-2011 calendar year corporation income tax returns are due.

March 15-Deadline to request 6 month extension of time to file corporate income tax returns. Taxes are due regardless of extension filing.

April 17-individual income tax returns for 2011 are due.

April 17-Deadline to request a 6 month extension of time to file personal income tax returns and/or partnership and LLC income tax returns. Taxes are due regardless of extension filing.
April 17-2011 partnership/LLC returns are due.
April 17-2011 annual gift tax returns are due.
April 17-Deadline for making your 2011 IRA and education savings account contributions.
April 17-First installment of 2012 individual estimated tax is due.

April 30-Employers must file Form 941 for the first quarter of 2012.
June 15-Second installment of 2012 estimated tax is due.
July 31-Employers must file Form 941 for the second quarter of 2012.

September 17-Third installment of 2012 estimated tax is due.
September 17-Deadline for filing your 2011 corporation tax return if you filed an extension on the March 15 deadline.

September 17-Deadline for filing your 2011 partnership/LLC tax return if you filed for an extension on the April 17 deadline.
October 15-Deadline for filing your individual income tax return if you filed for an extension on the April 17 deadline.

October 31-Employers must file Form 941 for the third quarter 2012.

 Please contact our office if you have any questions regarding these requirements and deadlines.

2011 Year-End Tax Planning for Individuals

Year-end tax planning for 2011 presents many opportunities for individual taxpayers like you to reduce or defer your federal income tax liability. You may benefit from an "income shifting" strategy, which equalizes income over a two-year period by properly timing income and deductions. Although the tax cuts enacted in 2001 (EGTRRA) and 2003 (JGTRRA) were extended by the Tax Relief Act of 2010, many of the extended provisions are due to expire at the end of the 2011 or 2012 tax year. This uncertainty over the fate of the expiring tax provisions makes 2011 year-end tax planning a challenge.

Individual income tax provisions that were extended through 2012 by the Tax Relief Act of 2010 include:

Reduced marginal tax rates of 10, 15, 25, 28, 33, and 35 percent

Lower rates of zero- and 15-percent for capital gains, dividends and certain property held for more than five   years

Marriage penalty relief for taxpayers filing joint returns

Repeal of exemption and itemized deduction phaseouts

Various education-related incentives including (1) exclusion from income and employment taxes for employer-provided education assistance; (2) exclusion from income for National Health Service Corps Scholarship and Armed Forces Scholarship programs; (3) student loan interest deduction; (4) Coverdell Education Savings Accounts contribution limit and related provisions; and (5) American Opportunity Tax Credit (AOTC).

Amendments made to the child tax credit by EGTRRA, including the increased credit amount of $1,000 per qualifying child

Child and dependent care credit enhancements, including the increased maximum credit percentage of 35 percent, higher income limits, and increased maximum amount of qualifying expenses

Increased maximum amount of the earned income tax credit and broader AGI phaseout ranges for taxpayers with three or more qualifying children

The following tax incentives, including some that were new with EGTRRA and others that were introduced when the Tax Relief Act of 2010 was enacted, are available in 2011. Barring further extension by Congress, they will not be available for 2012:

Payroll tax cut for employees and self-employed individuals

Tax-free IRA distributions to charity

Increased (to 100%) exclusion for sales of qualified small business stock

Above-the-line deduction for higher education tuition costs

Above-the-line deduction for certain out-of-pocket classroom expenses

Deduction for state and local general sales taxes in lieu of state and local income taxes

Mortgage premium insurance deduction

First-time homebuyer credit for purchase of a principal residence in the District of Columbia

Plug-in conversion credit for vehicles converted from standard to plug-in electric drive motor vehicles

Residential energy property credit for qualified energy efficient improvements and expenditures

Increased AMT exemption amounts for individuals

Nonrefundable tax credit offset of your entire regular and AMT tax liability

Other tax incentives have already expired. For example, the deduction provided by the 2010 Jobs Act for a self-employed individual’s health insurance costs in computing self-employment tax and the self-employment tax deduction was only available for the 2010 tax year.

For 2011, the maximum dollar limit for the adoption credit and the adoption assistance program was increased to $13,170 by the Tax Relief Act of 2010. If you are planning to expand your family through adoption, you should know that this limitation decreases to $13,360 in 2012. For tax years after 2012, the maximum dollar limit drops to $5,000 with no inflation adjustment ($6,000 for children with special needs).

As you may know, regulations governing basis and sales reporting by securities brokers were finalized early in 2011. What you may not know is that you have the right to choose the method that is used to determine your stock or other security's basis. If your broker uses the average basis method, you may affirmatively elect that method also. However, you may change from that method to another at any time during the year; for example, you may choose to specifically identify stock on a sale-by-sale basis. Alternatively, you may authorize your broker to select a basis determination method for you as allowed under general agency principles. The basis determination rules can be complicated, but they provide you with some flexibility in determining the gain or loss when you sell your securities.

If you make a contribution to your retirement plan before year-end, you can generally deduct at least a portion of the contribution amount to reduce your taxable income. An additional “catch-up” contribution is allowed for an individual who is over age 50 by the end of the tax year. Although Roth IRA contributions are not deductible because they are made after-tax, their earnings are tax-free.

Beginning in 2010, Roth IRAs were made available to all individuals, regardless of income amount or filing status. This enhancement enables you to make nondeductible IRA contributions, and periodically convert them into a Roth IRA. Remember, if you made a Roth IRA conversion in 2010 and chose to recognize the income ratably over two years, you must report half of the total amount in 2012.

With the year drawing to a close, now is an ideal time to review your tax situation and evaluate strategies that may help minimize your tax bill. Hopefully, this letter provides some alternatives that you would like to discuss in greater detail. Please call our office at your earliest convenience to arrange an appointment.

Debby Miller, Enrolled Agent

Phases Accounting & Tax Service, hHas been serving the local community since 1987.  Contact her for a free consultation, or 3 year tax review at 719-548-1646

Reproduced with permission from CCH’s Client Letter, published and copyrighted by CCH Incorporated, 2700 Lake Cook Road, Riverwoods, IL 60015.

2011 Year-End Tax Planning for Businesses

Tax planning for year-end 2011 presents new challenges for business taxpayers to reduce or defer federal income tax liability. Although traditional planning techniques remain fundamentally important considerations this year, tax planning is complicated in context of the effective dates for many popular tax incentives, and the anticipation of tax legislation that may be put to a vote in Congress before year’s end.

In March of 2010, Congress passed comprehensive health care reform legislation. The Patient Protection and Affordable Care (PPAC) Act was designed to effectuate fundamental reforms to the U. S. health care system. The new law includes over $400 billion in revenue raisers and new taxes on employers and individuals, including a 40-percent surtax on high-end employer–sponsored health plans, an increase in the employee portion of the Medicare tax for high-income taxpayers, new fees on certain health-related industries, shared responsibility for employers regarding health coverage beginning in 2014, and more.

Although provisions of the PPAC Act will be phased in over several years, eligible employers may claim a tax credit for employee health insurance expenses beginning in 2010; certain medical care tax benefits are extended to children under the age of 27 as of March 30, 2010; and in years beginning after December 31, 2010, certain small employer’s cafeteria plans can qualify as simple cafeteria plans, under which the applicable nondiscrimination requirements of a classic cafeteria plan are treated as satisfied.

In addition to the PPAC Act, Congress also passed the Hiring Incentives to Restore Employment (HIRE) Act in 2010 which provides tax breaks for businesses to encourage hiring and imposes a number of potential burdens with respect to reporting and disclosure of foreign assets. The Small Business Jobs Act of 2010 was designed to increase lending to small businesses and create incentives for small business investment with the extension of first year bonus depreciation, the extension and increased dollar amounts for Sec. 179 expensing, the five-year carryback of qualified small business credits, and the removal of cell-phones as listed property.

At the end of 2010, within weeks of the scheduled sunset of numerous taxpayer-friendly tax rates and incentives, generally referred to as the "Bush Tax Cuts," Congress passed the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (Tax Relief Act of 2010). The Tax Relief Act of 2010 temporarily extends all the Bush tax cuts for two years, reinstates the estate and gift tax (although at higher rates and with higher exclusion amounts than if the sunset had occurred), and extends many other expired tax benefits including business incentives and energy-related tax provisions. The Tax Relief Act of 2010 also includes an extension of unemployment insurance benefits and a one-year payroll tax cut.

Subsequently, the Comprehensive 1099 Taxpayer Protection and Repayment of Exchange Subsidy Overpayments Act of 2011 repeals two recently enacted Form 1099 reporting requirements that many thought were overly burdensome on taxpayers and also makes changes to the recapture portion of the health insurance tax credit.

Considering this legislation, here are a few tax planning tips for year-end:

As of January 1, 2013, qualified dividends will be subject to ordinary income tax rates. Accordingly, corporations with excess earnings and profits should consider making larger dividends in 2011 and 2012.

The Code Sec. 179 deduction is limited to the taxable income of the taxpayer, whereas regular MACRS deductions are not. Foregoing the Code Sec. 179 deduction in 2011 may create a net operating loss for carryback. However, Code Sec. 179 expense deduction in excess of current year income can be carried over to future years and effectively increase the deduction in years when the limitation is expected to decrease. Unless Congress changes the provisions, the expense limitation reverts to $25,000 in 2013.

In addition to the Code Sec. 179 deduction, the bonus depreciation deduction is extended to property placed in service before January 1, 2013.

The 15-year recovery period for qualified leasehold improvement property, qualified restaurant property (including restaurant buildings), and qualified retail improvement property applies to property placed in service before January 1, 2012.

The deduction for energy-efficient commercial building property is available for five years to include qualified property placed in service before January 1, 2014.

The recognition period for the S corporation built-in gains tax has been reduced through 2012. The relief provided by this provision should be valuable to small family or privately-owned businesses that are forced to downsize and sell assets to raise cash.

Advance planning is necessary to minimize the threat of the alternative minimum tax at a flat rate of 20 percent.

Enhanced deduction for food, book and computer donations.

The following credits are available for 2011:

Credit for increasing research activity

Work Opportunity Tax Credit

Credit for employer- provided childcare

Credit for employer's differential wage payments to military personnel

These and other tax planning techniques can be applied to your situation. Please call our office at your convenience for an appointment to discuss your year-end options.

Debby Miller, Enrolled Agent

Phases Accounting & Tax Service has been serving the local community since 1987.  Call her for a free consultation or to learn how to run your business instead of letting your business run you. (719) 548-1646

Reproduced with permission from CCH’s Client Letter, published and copyrighted by CCH Incorporated, 2700 Lake Cook Road, Riverwoods, IL 60015.

Home Insurance Basics

 
One of the largest investments you will make in your life is buying a home. To protect your investment, you need a homeowners insurance policy.  More importantly, you need to know how to choose one that meets your particular needs.  You can get homeowner's insurance to cover a multitude of situations.
 
A) The standard policy will usually cover things like fire, smoke, frozen pipes, ice, snow and theft. It also provides coverage for liability claims and legal or medical costs if you find yourself in a lawsuit. For example, if your dog bites the mailman, or your kids friend falls from a tree on your property and breaks his leg, your insurance will cover the medical expenses. The most common liability coverage is $100,000 but it is important to consider whether that amount is sufficient for you. Home insurance offers a variety of deductibles averaging from $500 to $2000, so shop around and decide on what is best for you.
 
B) Things that are not covered in a standard policy are flood, earthquake and damage caused by an act of war, such as a nuclear accident or terrorism. If you find yourself needing any coverage for these types of things, most companies offer special endorsements, but they cost extra.  An endorsement is not an additional policy, but an addendum to the one you already have. If you want coverage for things like jewelry, art and antiques, sports equipment or collections, you will need to request a Personal Property Endorsement. It is a good idea to have these items appraised beforehand.  Remember to tell your agent about special security features your home has.  This may get you a discount on your premium. Dead-bolt locks, security systems, storm shutters or fire-retardant roofing may lower your premium too.
 
C) Purchase enough coverage to replace what you are insuring. Replacement Coverage gives you the money to rebuild your house based on the value at the time of the loss. You can also get Extended Replacement Coverage which will pay the cost of the dwelling and/or appurtenant structures if the property is damaged beyond repair.  The alternative to Replacement Coverage is a Cash Value Policy which is cheaper, but pays only what your property is worth at the time of the loss, less depreciation for normal wear and tear.

A Realtor or real estate salesperson is much more than the average salesperson.  Their primary job is to help you buy or sell a home and represent your best interests.  If you're unfamiliar with the real estate "game", the resources and expertise they provide is beyond most people's initial understanding.  Unless you are experienced in the biz, you will never know all of the pitfalls that can and do come up.  Most of them will cost you more time, money and grief than the agent's commission is worth.  You may not even be aware of your "mistake" until after the transaction has closed.  What they do is almost considered an art form.  Even with all of the resources out there, primarily the internet, 4 out of 5 people still use an agent for a sale or purchase.  The internet has enabled consumers to gain more information about the process and view some properties on line.  Still, that's the tip of the iceberg.  Seeing all available properties and obtaining the most recent sales data can only be accessed by a licensed real estate agent who is a member of the local MLS.  (Multiple Listing Service)  Like an attorney, CPA or other professional, their skills and knowledge are highly desirable and well worth the price.

For most people, buying or selling a home is near the top of the most important events in one's life.  Sure, some people are able to sell or buy a home without the services of a real estate agent.  For sellers, that's called a for-sale-by-owner, or FSBO.  You attempt to figure out a price, then stick a sign out front.  Next, wait to be contacted in person or by phone.  Then, spend time dealing and negotiating with possible buyers, paperwork, and hope for the best.  Will those buyers actually be able to qualify to buy your home?  Most agents won't show your home for several reasons.  First, they won't get paid.  Second, FSBO's are typically overpriced to begin with.  Third, they will usually not work with a self-represented, inexperienced seller.  Further, you won't be able to use the MLS, which makes your home visible to all potential buyers.
 
Real estate brokers and sales agents are paid to sell properties.  Depending on your area, that could be anything from farms to condos. They also find buyers the properties they're searching for.  Most spend endless hours assessing property values and searching through neighborhoods and cities.  Why?  That's what it takes to best represent each client.  It's a full time job and only a professional can properly handle it for you.  As always, if you need help or advice, just respond to this email.

Maybe you've asked yourself, "Why would I buy a home and make higher payments when my rent is much lower?".  Good question.  For some, that is the best way to go.  Every situation is different.  Sometimes the best way to figure it out is to get out a piece of paper and a pencil.  Make two columns:  Rent and Buy.

On the average, homes appreciate about 5% a year.  Average is the key word.  If you are worried about home prices over the next year or two, don't buy a house.  In some years prices will rise, in others, go down.  On the average over time, figure a 5% increase.  The figure will vary from neighborhood to neighborhood, and region to region.  5% may not seem like very much.  Sometimes stocks appreciate much more, and you could earn over 6% with the safest investment of all, treasury bonds.  The beauty of home ownership is that your money is highly leveraged, unless you pay cash for the home.  For example, let's say you bought a $200,000 house with 10% down and got a 90% loan.  That means you put $20,000 down.  At an appreciation rate of 5% annually, a $200,000 home would increase in value $10,000 during the first year. That means you earned $10,000 with an investment of $20,000 based on the new home value of $210,000. This is because the 5% increase was on the $200,000 of the home, not the $20,000 you put down.  Your annual "return on investment" would be 50%.  ($10,000 is 50% of $20,000) Of course during that time, you are also making mortgage payments and paying property taxes, along with a couple of other costs.  These are expenses and you have to deduct those.  But since the interest on your mortgage and your property taxes are both tax deductible, the government is essentially paying part of your costs.  For example, assume your initial loan balance is $180,000 with an interest rate of 6%. If your first payment were January 1st, your taxable income would be $10,800 less at the end of the year due to the tax benefit. Paying the property taxes reduces your taxable income another $2,000 or so, depending on your location. Your taxable income in this example is reduced by $12,800.
 
So what is the bottom line with all of these numbers?  If your combined tax bracket is 28% (talk to your tax preparer on that one), you get $3,584 "cash back" at the end of the year.  Only homeowners get this benefit.  The other benefit, as mentioned above, is appreciation.  Your property gained $10,000 in value.  That's your money!  Renters don't get anything, but their landlords do.  All of these numbers have the positive effect of reducing the real cost of homeownership.  Over time, buying a home is one of the best investments you can ever make.  As always, if you need help or advice, just respond to this email.

Starting a Business - Maximize Benefits of Start-Up Costs

Planning to get the most out of any new business venture begins with making sure you get the greatest possible tax advantages for your investigation costs, start-up expenses, and other organization costs. These include costs such as advertising, salaries and wages of employees-in-training, travel and other expenses of lining up customers, suppliers, and distributors, and fees paid for consultants and professional services.

You may assume that all of these start-up expenses are deductible as business expenses in the year you pay them, but that is not the case. Such expenses are not considered to be business expenses because they are not incurred in a going business. Instead they must be capitalized unless special rules apply.

For the 2010 tax year only, you may immediately deduct up to $10,000 of qualified trade or business start-up expenses. Congress temporarily increased the deduction for start-up expenses in the Small Business Jobs act of 2010 (H.R. 5297). For 2010, the $10,000 deduction is reduced by the amount’s your total start-up costs that exceed $60,000. After 2010, however, the amounts revert to a $5,000 deduction and a $50,000 phaseout threshold. The increase in the deduction amount is intended to allow entrepreneurs to recover more small business start-up expenses upfront, increasing cash flow and the ability to hire more workers.

Thus, you may elect to deduct up to $10,000 ($5,000 after December 31, 2010) of start-up expenditures in the tax year that the trade or business begins. The catch, however, is that the $10,000 ($5,000 after December 31, 2010) amount must be reduced by the amount of start-up expenditures that exceed $60,000 ($50,000 after December 31, 2010). If an election is made, start-up expenses that are not deductible in the year that the trade-or business begins as a result of the phase-out must be ratably amortized over 180 months (15-years) beginning in the month that the trade or business begins.

Another complication with start-up expenses is that they are amortizable only by the person who incurs them. If your new business is going to be a sole proprietorship, that won't be a problem. However, if the venture is to be a corporation, you can't personally deduct the costs you incur before incorporation. Those costs are part of your investment in the corporation's stock; you may want to contribute the funds to the corporation and let the corporation incur the expenses so that it can amortize them.

It's also important to know that some expenses are treated more favorably than the regular start-up costs we have been talking about, and some less favorably. Start-up expenses for interest, taxes, and research costs usually can be deducted in the year paid. The cost of tangible property purchased for use in the business can be recovered by way of accelerated depreciation deductions over various periods, depending upon the type of asset, but generally faster than if considered under the general start-up cost umbrella.

You want to be sure that you get whatever tax benefit you can from all of these expenses. To do so, you need to coordinate the expenses with the business's starting date, and properly make the necessary elections. If you are expanding an existing business, rather than starting a new one, you may be able to deduct the expansion costs currently. We would be glad to help you explore these possibilities further to be sure that you avoid any costly pitfalls. Please do not hesitate to call our offices if you need any assistance in planning your business start-up.

Moving and Job Hunting Expenses

Individual taxpayers seeking new jobs may incur a variety of expenses, such as the costs directly associated with moving to a new job location or those specifically related to a job search. Many of these expenses are deductible, but the rules are strict, and expenses must be carefully documented and substantiated. You may be able to take advantage of these deductions, if you plan carefully.

Any moving expenses you may incur, including expenses of traveling to the new location and transporting household goods and personal effects, are deductible so long as you meet certain requirements relating to when you begin work at the new position and how far the new job is from the old job and your old residence. These expenses are deductible even if you are seeking employment for the first time or in a completely new field. Also, qualified moving expenses reimbursed or paid by your employer are considered nontaxable fringe benefits.

You also may be able to deduct the expenses you incur in searching for a new job, including the costs of a headhunter or employment service, and the expense of preparing your resume. These expenses are deductible so long as the job being sought is in the same line of work as the old job, even if you are unemployed at the time of the job search. Further, the job search does not have to be successful in order to qualify for the deduction. However, job hunting expenses for a first job, or related to changing to a new career, are not deductible.

Although these are just a few examples, there are many more tax issues that you should consider. We would like to meet with you to discuss your overall tax planning strategies and how you can benefit from these deductions. Please contact our office at your earliest convenience to make an appointment.

Rental Real Estate Activity Compliance

Rental real estate offers tremendous tax advantages and opportunity for tax planning. Taxpayers, such as you, can depreciate property far exceeding your actual investment, deduct interest on borrowed capital, exchange rather than sell properties to defer tax on gains, use installment sales to defer tax on sales, and profit from preferential rates on long-term capital gains. Most importantly, you can generate "positive cash flow," or monthly income, with depreciation deductions that effectively turn the actual income into tax losses.

However, deductions are not unlimited. For example, real estate income and loss is generally considered passive income and loss for tax purposes. Taxpayers generally cannot use passive activity losses (PALs) to offset ordinary income from employment, self-employment, interest and dividends, or pensions and annuities. The rental real estate loss allowance and real estate professional status are two important exceptions to this rule. In addition, the tax consequences of renting out a vacation home depend upon the amount of time the home is rented and the amount of time you use the home for personal purposes.

As one exception to the PAL rules, taxpayers with adjusted gross incomes of $150,000 or less can claim a rental real estate loss allowance of up to $25,000 for property they actively manage. Active management does not require regular, continuous, or substantial involvement. However, it does require that the taxpayer own at least 10% of the property. Also, to qualify for the exception, married taxpayers must file jointly.

The second exception allows real estate professionals not to treat their rental activity as a passive activity. Therefore, their losses are not limited to passive income. This exception requires material participation by the taxpayer which is demonstrated by meeting one of seven tests. These tests are complex and include the number of hours of participation and the facts and circumstances of the participation in the activity.

Vacation homes are taxed under one of three sets of rules depending on how long the homeowner rents the property. If you rent your vacation home for fewer than 15 days during the year, no rental income is includible in gross income. If you rent the property for 15 or more days during the tax year and it is used by you for the greater of (a) more than 14 days or (b) more than 10% of the number of days during the year for which the home is rented, the rental deductions are limited. Under this limitation, the amount of the rental activity deductions may not exceed the amount by which the gross income derived from such activity exceeds the deductions otherwise allowable for the property, such as interest and taxes.

If you have any questions as to how the rental real estate rules apply to your particular situation, please do not hesitate to call for an appointment. We can assist you in taking advantage of the available tax benefits and develop an overall tax plan.

INDEPENDENT CONTRACTORS

Know the Liability Hazards….Whether You Are One or Hire One

By Ronda Jones

Forrest T. Jones & Company

Independent contracting for accounting services is a popular way to handle work overflow.  However, if the contracting relationship is not handled correctly, it can create significant liability exposure for both sides. It is becoming more common for businesses to hire independent contract accounting or tax professionals to help with seasonal workforce needs or special projects. Whether you are the contractor, or are doing the hiring, be informed about liability exposure differences between independent contractors and employees. Minimize disputes by utilizing a suitable contractor agreement, making sure that insurance policies are in place and confirming the policies contain adequate language to appropriately defend either party in the event of an error or injury. (This article doesn’t particularly address the various IRS-determining criteria factors in these relationships). 

Contractual Agreement

The old adage “An ounce of prevention is worth a pound of cure” certainly applies to the decision to utilize a written agreement in an independent contractor relationship, even when involving good friends. Of course, the IRS views a written agreement as one of the determining factors of a true contractor relationship, but here are some considerations about liability. 

An employer should consult an attorney about the language of its basic agreement(s) for each category of contractor and for length of hire, in particular as to hold harmless, non-compete and insurance clauses, and whether a “common-law” employment status could be imposed in your particular jurisdiction or situation. Certain language, such as to non-compete clauses, could impact the way the IRS categorizes the employer-independent contractor status, and sample agreements from “forms” books usually don’t address unique jurisdictional issues. Also, you should expect the need to occasionally modify the basic agreement language for certain hiring circumstances. 

A contractor may wish to consult an attorney before signing a services contract, particularly with respect to any hold-harmless or indemnification agreements to ensure the contractor isn’t being held fully liable for all mistakes, but only those resulting from gross negligence or willful misconduct on their part. Consideration should also be given to insertion of a liability limitation cap for damages clause for errors or omissions you may cause. Confidentiality and non-compete language may need to be modified if it is unrealistic for your future earning potential or tailored to give you adequate protection if you are engaged in a lawsuit.

Insurance

Here are some insurance concerns to consider, and an attorney may suggest that in some circumstances the contractual agreement also address maintenance of insurance policies.  

If you’re the employer, you may require that the contractor provide evidence of certain types of insurance in the event the contractor causes or contributes to a claim. For example, in the case of an accounting firm hiring an independent contractor to prepare and sign off on tax returns for third parties, the employer might require the contractor maintain professional/errors & omissions liability to cover claims arising from errors or omissions. 

If the contractor is meeting your clients at the clients’ home or business, or the contractor’s own home or business, the employer’s commercial general liability insurance likely protects the employer for the contractor’s actions, such as an injury to a client or damage to a client’s property, as long as the independent contractor is performing services within the scope of the engagement; however, it is best to notify your agent anyway (because your initial application may have required such disclosure) and get written confirmation of coverage, especially if you can’t find the applicable policy language. Since there is the possibility of a finding against the employer for joint liability with the contractor, the contractor should be required to provide the employer with evidence of homeowners or general liability to cover injuries like slip and fall or damage to the client’s property, if meeting clients off your premises. If the contractor drives your clients or staff, there are auto liability concerns, both as to the contractor and to your clients/staff. You should also consult your insurance carrier when hiring contract labor to ascertain you are covered under your office general liability policy for the exposure of bodily injury of the contractor, since they aren’t covered by your workers compensation plan for job-related injury and the independent contractor could institute a liability suit against you, just like a business client or visitor might.  

If you’re the contractor, verify that the employer has the above-mentioned insurance policies in place, and discuss your own, additional liability exposures with your agent, whether you meet clients on your own premises, or that of the client or your employer.   

When the employer hiring you for contracting work provides professional services to others (for example, an accounting or tax preparation firm, management consultant, etc., rather than a manufacturer or retail store) and your duties are not performed solely for the employer’s internal accounting functions, it may be appropriate for the employer’s professional/E&O liability insurance policy (if they have one) to cover you as an “additional insured” for errors or omissions involving your services. Here are some examples of appropriate circumstances for you to request “additional insured” protection under an employer’s professional/E&O coverage:  you’re hired to prepare tax returns which the employer signs off on; you’re hired to perform bookkeeping or payroll processing under the employer’s general direction; or you support a review or audit process. In these circumstances, many professional liability/errors & omissions policies cover independent contractors as additional insureds already, because the insurance company would want you to readily engage with them in defense of a claim made against your employer involving your services. The employer’s insurance broker can supply you with a certificate of insurance and may agree to notify you in the event of non-renewal or cancellation of coverage.

General Guidelines

The employer should request and retain invoices from the contractor. You should consider doing a background check of someone you don’t know and check with state boards for disciplinary actions. Many court records are now online so it is easy to check for criminal or civil actions. You may be found liable for not knowing or disclosing a contractor’s criminal history—if a client suffers a theft by your contractor, for example. 

The contractor would be wise to keep a log of what projects you work on, in case your involvement in a matter is ever called into question. In the case of the employer being a provider of professional services for others (such as an accounting firm), this would need to be accomplished without violating the privacy of the employer’s clients and with the employer’s approval, perhaps by logging only a client’s last name, service date and brief description of your duties, with no specifications about the client.

Periodic review by the employer and the independent contractor together of the duties being performed, language of the contractor agreement, and each parties’ insurance policies is the best loss prevention tactic and wise risk management

Since holiday time is right around the corner, I think you will find the following article reprint worthwhile.

Do You Have What It Takes to Deduct Your Holiday Parties?

This article gives you the knowledge you need to deduct your holiday party. The deduction depends on two factors:

First, whom did you invite to the party?

Second, what did you do at this party?

The "whom" and "what" are intertwined, so that's the way we will discuss them in this article.

Employees

The cost of a holiday party for your employees is automatically deductible. No business meeting need occur. No business activity need occur.

Further, this party is not subject to the 50 percent cut that applies to entertainment expenses. Thus, make sure that your chart of accounts or other tax records contain a classification for entertainment that's 100 percent deductible.

Spouses of Employees

You may allow your employees to bring their spouses to the holiday party. You deduct the cost of entertaining the spouses just as you deduct the cost of entertaining the employees. Thus, a holiday party for employees and their spouses is 100 percent deductible.

Documentation of the Employee Party

You do not need a business reason to deduct the cost of a holiday party that is primarily for the benefit of employees.

Because the party is 100 percent deductible, you should enter the cost of the party in a category other than entertainment, because entertainment gets cut by 50 percent once it arrives on your tax return. A simple category name to use is "100 percent deductible entertainment."

To prove your deduction, you should document the names of the employees and spouses who attended the party. Plus, you should have both receipts and canceled checks to prove your expenditures. There are no limits on this deduction other than the standard requirement that the expenses may not be lavish and extravagant. (It is almost impossible for you to be denied a deduction to the "lavish and extravagant" rule.)

What If All Employees Are Family Members?

What if your only employees are your two children and your spouse? Would the holiday party be deductible? No!

Under ownership attribution rules that apply to entertainment expenses, the law deems that your ownership interest applies equally to your spouse and children. Thus, if you own 100 percent of the business, so do your children and your spouse.

In effect, you and your spouse and your children have become one person, and this one person is the owner. This one person may not go out and party alone and deduct the cost.

Losing an entertainment deduction because of this attribution rule has no effect on your other employment deductions. For example, the attribution rule has no effect on the wage deduction for the wages you pay your children. Similarly, the attribution rules do not affect your Section 105 medical plan reimbursements to your spouse.

Inviting Customers or Patients

Dr. Robert Bussabarger operated a medical practice. He gave a Christmas party for 150 people—one-third were employees.

The court held that Dr. Bussabarger could deduct only the one-third of his Christmas party that applied to employees and that he could not deduct the two-thirds that pertained to patients, friends, and neighbors.

To deduct the cost of having patients, customers, prospects, and friends to your holiday party, you must prove that your party is either

• directly related to the active conduct of your business, or
• associated with a directly related discussion that preceded or followed the party.

This requires some effort, as you will learn in a moment. In addition to the extra effort, the law subjects these deductions to the normal entertainment cut, which means your actual deduction equals only 50 cents on the dollar.

Example. If you have 50 employees and 100 customers in attendance at your tax-deductible holiday party, you divide the cost of the evening as one-third to employees and two-thirds to customers. Then, you

• deduct one-third of the cost as entertainment that is 100 percent deductible, and
• deduct two-thirds as regular entertainment.

Spouses of Customers and Patients

If you don't have a business relationship with both husband and wife, then you need a business reason to invite the spouse. A practical business reason for inviting the spouse to the holiday party is that if you don't invite both husband and wife, you substantially reduce your attendance.

What makes spouse attendance deductible? The "closely connected" rule.

Under this rule, you establish an entertainment deduction with your business contact. Then, because of this deduction, you may deduct the cost of entertaining the closely connected person (the spouse). As an additional benefit, you also may deduct the cost of your own spouse's attendance at this event.

Party Trouble

The very nature of a holiday party can make trouble for your directly related business discussion or business environment because

• the presence of cocktails creates a setting presumed to be social, and
• having the party in your home removes the natural business environment of a party in your office.

Fixing the Trouble

Keep in mind that the trouble is caused by your customers, patients, friends, and neighbors, not by your employees.

You increase your chances of your entertainment deductions when you make your holiday party an event directly related to the active conduct of your business. You can make your home a clear business setting for the holiday party when you

• let attendees know that you are directly furthering your business by having this party,
• display your products,
• discuss your products, and
• have as your clear purpose the generation of new business rather than goodwill.

Example. You sell real estate for a living. On a bulletin board near the bar, you post photos and descriptions of eight properties currently for sale. You discuss the properties with anyone who has questions. The bulletin board display establishes a clear business setting and sets the stage for making your holiday party deductible.

With no bulletin board or other display of products, you must discuss future business with your guests to make sure you qualify for the deduction. In other words, if you choose not to have a display of some type, you need to have a directly related business discussion with each customer or patient, friend, and neighbor so that the party itself qualifies as associated entertainment.

Thus, to make deductible the cost of the nonemployees, you have two choices:

1. Make the party a business setting, or
2. Discuss business with the attendees.

If you have the holiday party in your office, you automatically meet the business setting rule.

Key Thoughts

You may deduct the cost of your holiday party when

• the cost is not lavish or extravagant;
• you meet the "directly related" or "associated" standard for business guests and prospects;
• you include employees;
• you make a proper allocation of costs to business guests, employees, and personal guests; and
• there are receipts, invoices, canceled checks, and charge card slips to verify the things you bought and support the monies you spent.

Independent Contractors

For purposes of the holiday party rules, treat your independent contractors the same as you do your customers. They do not qualify as employees for entertainment purposes.

The Presentation Exception

In general, making a presentation at your holiday party will not trigger the 100 percent deductible presentation rule, because you will fail the "general public" test. For the most part, the presentation deduction is available at a show-and-tell and try-to-sell presentation to prospects with whom you have no personal relationships (i.e., the general public).

Document Your Party

To support your deduction, your first step is to have a list of guests.

For employees and their spouses, the employees' names give you the business reason for the party. You still need receipts and other documentation as explained later, but the names of the employees and their spouses take care of the business reason.

To deduct the cost of the party attributable to patients, customers, independent contractors, friends, and neighbors, you must have either

• a directly related business discussion related to the active conduct of your business in a clear business setting, or
• associated entertainment that follows or precedes a bona fide business discussion.

To make this work with the least amount of effort, incorporate group discussion that will help move your business or practice forward.

A good practice is to include your active business pursuit in your invitation, with wording like "Please come for holiday cheer and to help us celebrate 15 years in business."

Another good practice is to take photos of attendees viewing that bulletin board covered with your product brochures. Candid shots are excellent because they illustrate business action.

You might want to forget about having individual conversations with each guest in attendance at the party. This is way too hard because you have to record each conversation. If each is different, you could spend a lot of time writing.

The bulletin board is great proof. You add substantial additional proof if you offer a toast or, better yet, a short speech on how your business can benefit those in attendance. You might mention that the attendees can also help their friends by referring them to you. If you make your formal comments from a written outline, keep the outline in your tax file. If you make the comments off the cuff, record them and throw the recording in your tax file or, better yet, have it transcribed immediately.

Do not deduct the costs attributable to those friends and relatives who are not in attendance for business reasons. For example, say you have 30 people at the party, and three are relatives who will not produce any business benefit for you. Treat 10 percent of the costs (three of 30) as nondeductible personal expenses.

Proving Costs

Although you don't need receipts for entertainment expenses of less than $75, you always are better off with the receipts. Thus, try to have receipts for all costs of the party. If you bought both business and personal items at the same store and those items appear on the same receipt, no problem—simply circle the business items for deduction.

Keep in mind that the receipts show what you bought. You also need to prove that you paid for the items. Excellent proof of payment includes

• a canceled check,
• an ATM receipt, or
• a credit card receipt.

It's possible when you charge a purchase to a credit card that you will get a credit card purchase receipt and a purchase invoice. Keep both. Under tax law, the credit card receipt or statement proves payment and the invoice shows what you purchased.