Taxation

August 14, 2004 6:20 AM

tax question for a north american.

i have someone who has done odd "stuff" for me (and others) in the usa and, for fairly obvious reasons (more inside) he doesn't want to talk to his employer's accountants about his extra income.

the last year is the first he's made a decent amount of money both from a full-time job and contracting as a web developer of various stripes. recent financial history is:

2002 - tough year. started unemployed, 2k from freelance jobs then, when that dried up, 3k from unemployment. he didn't receive 1099s from the freelance work, so was unsure where to list the money on returns wasn't clear. comparing schedule c (and listing internet expenses for deductions) and "other income" (line 29 of 1040?) showed the latter had decreased tax liability/increased the refund/credit.

since reported income was so low, and the business thing seems counter-intuitive (see below) he never filed for this year (even with the odd stuff thrown in it may not have crossed the line).

2003 - made a half-decent salary plus 4k freelance (nearly all with 1099). used h&r's "tax cut" software and again saw a difference ($500) between having a "business" (itemized internet expenses, 1099 associated with gross receipts) and just throwing in the 1099. the latter gave a return of $100 instead of $400 owing for the former.

since this again seemed odd, he has filed for an extension.

so, first question - shouldn't the business expenses offset the earnings and so be the better option? instead, just having a business (just him, basically) doubled his tax liability. what's happening there? does he need an accountant (he'd rather figure it out himself)?

second question - is not filing for 2002 a problem? a friend (of his) reckons, especially with freelance income, that it's bad to have gaps in filing years.

thanks.

posted by andrew cooke to Work & Money (10 answers total)

I think he really just needs to hire a good tax accountant--if he's making a decent income now, the savings a good accountant can get him for this year alone will probably pay for the work on all this stuff. Not through shaky deductions, but just from a lot of experience in exactly what you can and can't deduct. Before I just started handing over my taxes to an accountant, I spent a few years running the numbers myself, and then seeing what he would come up with, and he paid for himself _every single time_.

Plus, the peace of mind is worth a lot--just knowing that you're in good shape, tax-wise. Who wants to spend the next 10 years worried about getting audited, over $5K in income?
posted by LairBob at 6:35 AM on August 14, 2004

He doesn't even need a full accountant. He's used their software, so he knows of H&R Block. Those are pretty basic questions (if they were Canadian, I could answer them, and I'm just related to an H&R Block tax preparer, I'm not even one myself) that they would be able to answer without even thinking too hard.
posted by jacquilynne at 7:28 AM on August 14, 2004

Granted, jacquilynne--I'm not saying these questions are too hard to answer here...just that if he's making a decent income, a good tax accountant is going to pay for themselves, no matter what. Given that, why not just lump this stuff in?
posted by LairBob at 7:57 AM on August 14, 2004

one reason I can think of: to learn for yourself. A few years ago I discovered that not only was preparing my own return not all that hard (and saved some money), but gave me a better idea of how to keep records and regard purchases throughout the year.

ymmv. And I don't know how to answer this question -- I've noticed that sometimes attaching a schedule C increases tax liability as well. I've heard that self-employment/sole-proprietorship tax rates are among the highest out there, something like 1.5 times more than wage-related taxes, and that's why the schedule C hurts, even after deductions.
posted by namespan at 9:26 AM on August 14, 2004

comparing schedule c (and listing internet expenses for deductions) and "other income" (line 29 of 1040?) showed the latter had decreased tax liability/increased the refund/credit

Yeah, that's because the latter is the wrong way to do it. Income from consulting or contracting is income from a business and goes on Schedule C. You also get to fill out Schedule SE.

Schedule SE is why the tax liability is higher when you go through Schedule C -- you have to pay Social Security (FICA) on that, and not just the portion the employee usually pays, but the employer's portion too. (Though you do get to deduct the employer's portion as a business expense.)

(Note: I am not a tax accountant, but I have filed lots of Form 1040s with Schedule C and SE.)
posted by kindall at 9:27 AM on August 14, 2004

I pay an accountant $70 a year to do my taxes. I collate & categorize all the receipts, he fills in the boxes, and we're both happy.

Although how one can be happy filling in those g.d. tax forms, I'll never understand.
posted by five fresh fish at 10:02 AM on August 14, 2004

fff - I date, on and off, a tax accountant. She loves it. It takes a particular kind of person, but it gives her a sense of satisfaction. Especially when she sorts out something that's totally SNAFU, like a business that hasn't filed taxes for several years.

BTW, yes, it is bad to skip filing years. He'll catch heck from the IRS for that and it could trigger an audit.
posted by SpecialK at 10:12 AM on August 14, 2004

We moved, so we don't use him any more, but the first really great tax accountant we had was actually the VP of a friggin' international bank--I swear to God, doing taxes was like his hobby. We would meet with him in this swank corner office, and every year, we would get this immaculately organized return in the mail. One year, we found out he was in the hospital for something serious, like a heart condition, and he still wanted to do it.

Definitely takes "a particular kind of person".
posted by LairBob at 10:21 AM on August 14, 2004

I don't know a lot about taxes but there is a common misconception regarding tax writeoffs. The first thing is, you take the standard deduction *or* your writeoffs, not both. If the total of your deductions is less than the standard deduction, it's better to take the standard deduction. If the standard deduction is around $4K and you have less business expenses than that, you'll be worse off going with the business expenses.

There are some things you can do to increase your deductions. Some of them are things people want to do anyway. Like, buying a house. You can deduct the interest payments (that is, something like 80-90% of your house payment, which for me is something like $8K or $9K a year). This means that every additonal deduction you can come up with will "count" since you're already doing better than the standard deduction.

I own a small company, but it's a c-corp so it's taxes are seperate from mine. I still do the taxes, but I consult with the accountant at my day-job, a few hours here and there. It's worth it.
posted by RustyBrooks at 11:06 AM on August 14, 2004

Response by poster: thanks for the info, folks. it has been passed on...
posted by andrew cooke at 8:33 AM on August 15, 2004