Choosing a Tax Accounting Method

Choosing a Tax Accounting Method

by | May 29, 2016 | News and Social

Choosing a Tax Accounting Method

Choosing-Tax-Accounting-Method

Do you know that accounting method actually used on the initial return is an election of that method, so tax payers should carefully analyze financial data to ensure that the method is applied properly. A business must use the same accounting method to figure its taxable income and to keep its books, and the method must clearly reflect its income. Understanding Accounting Methods

An accounting method is a set of rules used to determine when income and expenses are reported on your tax return. In general, there are four types of accounting methods, which dictate how business transactions are recorded in the business financial books:

  • Cash Method – income is recognized in the year received, and expenses in the year paid.
  • Accrual Method – Income reported in year it is earned and deduct or capitalize expense in the year incurred.
  • Special Method – This method of accounting is for certain item of income or expenses and it’s include for Amortization, Bad Debts, Depletion, Depreciation, Installment Sales.
  • Hybrid Method – Any combination of two or more above methods of accounting methods, if the combination clearly reflects business income and use it consistently.

 

Why Method Matters

Choosing-Tax-Accounting-Method-01

The accounting method a business uses can have a major impact on total revenue the business reports as well as on expenses that it subtracts from revenue to get the bottom line. The core underlying difference between these two methods is the timing of transaction recordation. The timing difference between the two methods occurs because revenue recognition is delayed under the cash method until payments arrives in the business.

Similarly, the recognition of expenses under the cash basis can be delayed until such time as invoice paid.

BASIS FOR COMPARISON CASH ACCOUNTING ACCRUAL ACCOUNTING
Meaning The accounting method in which the income or expense is recognized only when there is actual inflow or outflow of cash. The accounting method in which the income or expense is recognized on mercantile basis.
Nature Simple Complex
Applicability of matching concept No Yes
Recognition of revenue Cash is received Revenue is earned
Recognition of expense Cash is paid Expense is incurred
Degree of Accuracy Low Comparatively high

Changing your accounting method

Generally, you can use any permitted accounting method when you file your first tax return and you don’t need any IRS approval for the first time. However, you have to use the selected method consistently from year to year and it must clearly reflect your income.

Any business that wants to change its accounting method, need to take permission from IRS for change in accounting method by using Form 3115 to request a change.

A change in your accounting method includes a change not only in your overall system of accounting by also in the treatment of any material item. A material item is one that affects your income or your ability to take a deduction.

Timing and application process:

Applications can be made at any time during the tax year, but the earlier the better.

You may also get a six month of extension to file the application so long as your tax return for the year in which the change is requested is filed on time.

The IRS looks at two things when deciding whether or not to approve a request for a change in accounting methods:

  • Whether the new method will accurately reflect income
  • Whether the new method will create or shift profits and losses between businesses.
Are you Aware That Employing your Child will Reduce your Family Tax Burden?

Are you Aware That Employing your Child will Reduce your Family Tax Burden?

by | May 29, 2016 | Deduction & Credits

Are you Aware That Employing your Child will Reduce your Family Tax Burden?

Employing-Child-Reduce-Family-Tax

Generally, taxpayers who own a business are quite conscious about their taxes. Well, for those it is important to know that employing family members who are in a lower tax bracket than the business owners (Usually children or grandchildren) can shift taxable income to them, thus reducing the family’s tax burden.

IRS is well aware of this technique of shifting income to child and is likely to examine any family employment arrangement to make sure the compensation allotted is reasonable.

If it is unreasonable relative to the services performed, it may be recast as income to the business owner.

 

Advantages of hiring children in the family business:

  • If business owner deducts reasonable compensation paid to the child and the child receives and reports earned income from compensation which would be often taxed at a lower rate than the business income.
  • Wages and compensation paid by a sole proprietorship (or partnership, if the parents of the child are the only partners) child who is under age of 18 are exempt from FICA payroll taxes.
  • Compensation is exempt from FUTA tax if the child of the proprietor (or partner) is under age of 21.
  • Earned income paid to the child enables the child to fund an IRA contribution.
  • Child employee may be eligible to participate in employer-sponsored fringe benefits such as health and disability insurance or employer-provided vehicles for business travel.
  • Child will qualify to make a deductible contribution to a traditional IRA since he is either not covered by an employer retirement plan or his income is beneath a certain level.

 

EXAMPLE:

Nick hires her 14 years old son George to work in her restaurant, which operates as a sole proprietorship. The restaurant employees earn $10 per hour; George is paid $6 per hour based on the types of services he is able to perform. In 2015, George earned $1700 in wages from the restaurant. His other income is $425 of dividends.

George avoids paying federal income tax on the entire $1700 of wages since he is entitled to a standard (lesser of $6300 or $300 plus his earned income, if it exceeds $1050) and Nick business is entitled to a $1700 deduction for the wages paid to George. In addition, only $125 ($425 – $300) of George’s unearned income is taxed and it is taxed at 0% dividend tax rate. Hence, in either ways it is beneficial to reduce business and family tax burden.

Significance of “Outsourcing – BookKeeping”

Significance of “Outsourcing – BookKeeping”

by | May 29, 2016 | News and Social

Significance of “Outsourcing – BookKeeping”

outsourcing-of-bookkeeping

One of the biggest challenges for small to mid-sized companies is efficiently managing and updating financial records. The task often falls on the company’s owner who is busy enough trying to run the day to day business functions. If financial record keeping responsibilities doesn’t fall to the owner, they are often delegated as an additional responsibility to another employee who may not be fully trained in accounting and bookkeeping.

Bookkeeping and your overall financial management are the one area in your organization where it’s dangerous to have a multi-tasking staffer.

 

Outsourcing-Bookkeeping

Wouldn’t it be great to have expertized paid bookkeeper always at your fingertips? What would be even better than that having confidence that those figures computed are current and accurate, for small to mid-sized businesses, outsourcing accounting and bookkeeping functions can increase efficiency, profitability and the company’s long-term viability.

 

What does a Book Keeping really mean?

outsourcing-of-bookkeeping-meaning

When you run your own business, no matter what size, what form of business a limited liability company, limited liability Partnership, S-Corp or a C-CORP, your financial transactions must be formally recorded. They are done so in the company’s books. And the process of doing so is called bookkeeping.

You may have heard of accountancy terms like balance sheets, profit & loss, accounts payable and receivable – they are all components and functions of bookkeeping. The rules and complexities of book keeping have changed immeasurably in last decade. The tools used to record them have evolved just as much.

But the raw essence and purpose of bookkeeping has stayed more effective and important to record and store activities accurately and honestly.

 

Importance of bookkeeping:

There are two basic reasons to encourage and practice good bookkeeping. The first is that the financial records contained within your

books will provide a fundamental barometer as to the underlying health of your business, more on that a bit later.

The second is that as a business you’re required by the letter of the law to keep your house in order. There are some basic financial records that you are legally obliged to keep, and report.

 

Few of the important key benefits of outsourcing Bookkeeping:

  • Effortless in Tax planning
  • Audit protection
  • Expertise professional hand always at your fingertips
  • Improved business decision-making efficiently
  • Less stress and more sanity
  • Reducing risk possibility
  • Steering clear of Bookkeeping at time of Fraud & Other Issues
Do you Know That you Can Claim Casualty and Theft Losses On your Personal Tax Return?

Do you Know That you Can Claim Casualty and Theft Losses On your Personal Tax Return?

by | May 29, 2015 | Tax Planning

Do you Know That you Can Claim Casualty and Theft Losses On your Personal Tax Return?

 

Claim Casualty and Theft Losses ,Many people are not aware, and thankfully so, that in some instances the IRS will give a tax deduction for casualty, theft, and disaster losses relating to a home, household items, vehicles, and other tangible personal property owned by individual. If your property is destroyed, damaged, or stolen due to casualty or theft, you may be entitled to a tax deduction. A casualty is a damage, destruction, or loss of property resulting from an identifiable event that is sudden, unexpected, and unusual.

A sudden event is one that is swift, not gradual or progressive. It does not include damage from events such as termite infestation or deterioration from normal wind and weather.

 

What is a Casualty?

A casualty, for federal income tax purposes, is a sudden, unexpected, or unusual loss or damage to some property you own.

If something bad happens to your property, such as a flood, fire, vandalism or theft that is out of your control, the losses associated with that bad event are called casualty losses. Typically these bad events are sudden, unexpected or unusual. Casualty losses can be fully or partially deductible. There also typically needs to be some external force at play rather than something being lost or damaged due to your own negligence.

Casualty losses can include the following events:

  • Terrorist attacks
  • Car accident (if not caused by your negligence)
  • Storms and aftermath
  • Hurricanes
  • Tornadoes
  • Fires (as long as the fire is not arson)
  • Flooding
  • Mine cave-ins or shipwrecks
  • Volcanic eruptions
  • Vandalism
  • Earthquakes
  • Government-ordered demolition
  • Landslides
  • Oil spills

The amount you can deduct from a casualty loss depends on whether the property involved was stolen, completely destroyed or partially destroyed. It also depends on whether the property was covered by insurance.

You must reduce the deduction by the amount recovered from insurance and, if the loss is fully recovered by insurance, you do not get a deduction at all.

A theft is when someone steals your property and includes:

  • Blackmail
  • Burglary
  • Embezzlement
  • Extortion
  • Kidnapping for ransom
  • Larceny
  • Robbery

To claim tax relief after a casualty or theft, you must provide proof of loss. You must prove that your property was damaged from disaster or theft, and that you were the owner of the damaged assets. The IRS also needs to know whether you’ve filed an insurance claim to recover or repair your property, and whether you can reasonably expect your property to be found or fixed.

 

Few basic considerations that will help you while deducting any casualty or theft losses.

  • A casualty does not include normal wear and tear or progressive deterioration from age or termite damage.
  • You may not deduct casualty and theft losses covered by insurance unless you file a timely claim for reimbursement. You must reduce your loss by the amount of the reimbursement.
  • If your property is not completely destroyed or if it is personal-use property, the amount of your casualty or theft loss is the lesser of the adjusted basis of your property, or the decrease in fair market value of your property as a result of the casualty or theft, reduced by any insurance or other reimbursement you receive or expect to receive.
  • The damage must be caused by a sudden, unexpected or unusual event like a car accident, fire, earthquake, flood or vandalism.
  • If business or income-producing property, such as rental property, is completely destroyed, the amount of your loss is your adjusted basis in the property minus any salvage value, and minus any insurance or other reimbursement you receive or expect to receive.
Are You Planning To Incorporate a Business! Why Not an S-Corporation?

Are You Planning To Incorporate a Business! Why Not an S-Corporation?

by | May 29, 2015 | Tax Planning

Are You Planning To Incorporate a Business! Why Not an S-Corporation?

When you are planning to start a company, one of the key considerations you will have to make is what type of business entity to form. There are so many options:

  • Corporation
  • LLC
  • Partnership
  • LP
  • LLP, etc.

Then, within corporations there are different types as well:

  • C corp
  • S corp

Plus, each entity type comes with further differences from state to state. It can be overwhelming to wrap your head around it all. Many people are especially confused about the difference between a C corporation and S corporation.

An S corporation is a regular corporation that lets you enjoy the limited liability of a corporate shareholder but pay income taxes on the same basis as a sole proprietor or a partner.

Unlike a C-Corp, which is a more conventional type of corporation, an S-Corp is a “pass-through” entity, meaning that it does not pay any income taxes on the corporate level. Instead, it passes the income tax responsibility on to employees and shareholders who receive their income through the company.

In an S-Corp, however, the IRS requires owner-operators who have direct control over operations to allocate a reasonable salary to themselves instead of relying completely upon income through corporate ownership. As with other pass-through business owners, S-corporation owners face the similar marginal tax rates as individual wages earners. However, how much owners pay in taxes can differ based on how much they participate in the business. These businesses are only allowed to have 100 shareholders, their shareholders must be U.S. citizens.

All owners of S-corporations need to pay federal individual income taxes (top marginal rate of 39.6), state and local income taxes (from 0 percent to 13.3 percent).

No Self-Employment Tax for S-Corporation shareholders business’s profits

The big benefit of S- corp taxation is that S-corporation shareholders do not have to pay self-employment tax on their share of the business’s profits.

The big catch is that before there can be any profits, each owner who also works as an employee must be paid a “reasonable” amount of compensation (e.g., salary).

This salary will of course be subject to Social Security and Medicare taxes to be paid half by the employee and half by the corporation. As such, the savings from paying no self-employment tax on the profits only kick in once the S-corp is earning enough that there are still profits to be paid out after paying the mandatory “reasonable compensation.”

Restrictions on S Corporations

There are a few key restrictions on S corporations as well.

For one, an S corporation may not have more than 100 shareholders, and all shareholders must be US citizens or US residents. There are no such shareholder restrictions for a C corporation.

Furthermore, C corporations are allowed to divide up voting rights by issuing different classes of stock.

S corporations are limited to one class of stock, giving all shareholders equal voting rights.

Finally, some types of businesses are not permitted to become S corporations. These include banks and some insurance companies, among other business types. C corporations are usually a better choice for large businesses with their sites set on an IPO due to their greater flexibility because an S corporation is restricted to not more than 100 shareholders.

Other Taxes

While paying yourself as an owner rather than as an employee reduces the employment taxes you must pay, income that you receive as the business owner is still subject to other taxes. As partial owners of an S-Corp, shareholders must report any income they receive on the IRS 1040 form K1, which makes this income subject to dividend or capital gains taxation.