Month: March 2022

The strategy behind creating an S corporation and then selling your home to that S corporation comes into play when

• you want to convert your home to a rental property and take advantage of the exclusions, or
• you need more time to sell the home to realize the benefits of the $250,000 exclusion ($500,000 if filing a joint return).

With this strategy, one question often comes up: “If a married couple sells their home to their S corporation to be a rental property, can the owners be the renters?”

Answer: No. In this situation, the tax code treats your S corporation as you, the individual taxpayer, and thus you would be renting from yourself, and that would produce no tax benefits.

In effect, the S corporation renting the residence to the owner of the S corporation is the same as homeowners renting their residence to themselves. It produces no tax benefits.

On the other hand, your S corporation could rent the home for use as a principal residence to your son or daughter or other related party, and the tax code would treat that rental the same as any rental to a third party.

If you would like to discuss turning your personal residence into a rental property, please don’t hesitate to call me on my direct line at 408-778-9651.

• By Leon Clinton
• March 9, 2022

As a business owner, you are obligated to collect and remit payroll taxes for your employees. But you are not required to collect and remit payroll taxes for independent contractors.

That’s why it’s important to correctly classify workers as either employees or independent contractors. 

But here’s the problem: the rules for correctly classifying workers as either employees or independent contractors are unclear and confusing. 

And what happens if you misclassify a worker as an independent contractor? Then you can find yourself owing hundreds of thousands of dollars in back employment taxes, penalties, and interest. 

But wait! If this happens to you, the safe harbor of Section 530 may provide relief.

The Section 530 safe harbor was passed by Congress as part of the Revenue Act of 1978 in response to complaints by business owners that the IRS was being too aggressive in reclassifying their workers as employees. 

The possible good news for you is that the Section 530 safe harbor prevents the IRS from retroactively reclassifying your independent contractors as employees and subjecting you to federal employment taxes, penalties, and interest. 

Reclassifications, if any, go forward only. You are not on the hook for any money as of the date of any reclassifications.

To qualify for the Section 530 safe harbor, you must meet all the following requirements:

1. You must have filed all federal tax and information returns consistent with treating the individuals as independent contractors.
2. You must show that you never treated the individuals in question, or other workers in substantially similar positions, as employees for federal employment tax purposes.
3. You must show that you had a reasonable basis for classifying the individuals as independent contractors.

You can meet the reasonable basis requirement by showing that you relied on any one of a number of authorities, including judicial precedents or administrative rulings, a prior worker classification tax audit, or industry practice.

Your classifications of workers for federal purposes do not have to match your classifications for state law purposes.

If you would like to discuss worker classifications, please don’t hesitate to call me on my direct line at 408-778-9651.

• By Leon Clinton
• March 6, 2022

If you do some work at home, you’re probably using your home internet connection. Are your monthly internet expenses deductible? Maybe.

The deduction rules depend on your choice of business entity (proprietorship, corporation, or partnership).

Deduction on Schedule C

If you operate your business as a sole proprietorship or as a single-member LLC, you file a Schedule C to report your business income and expenses. As a Schedule C taxpayer, you may deduct ordinary and necessary expenses, which include business-related internet subscription fees.

You can deduct your use of your home internet whether or not you claim the home-office deduction, as follows:

• If you claim the home-office deduction on your Form 1040, the internet expense goes on line 21 (utilities) of IRS Form 8829 as either a direct or an indirect expense.
• If you do not claim the home-office deduction, enter the business portion of your internet expenses as utilities expenses on line 25 of your Schedule C.

Deduction When You Operate as a Corporation

When you operate your business as a corporation, you are an employee of that corporation. Because of the Tax Cuts and Jobs Act (TCJA), the only way for you to reap the benefits of the home internet deduction is to have your corporation reimburse you for the expense. In the case of a reimbursed employee expense,

• the corporation deducts the expense as a utility expense, and
• you receive the reimbursement as a tax-free reimbursed employee business expense.

Why is the reimbursement method the only way for the corporate owner to get the deduction? The TCJA eliminated the 2018-2025 deduction for miscellaneous itemized expenses. These include unreimbursed employee expenses, such as internet connection fees.

Deduction When You Operate as a Partnership

If you have deductible home internet expenses and operate as a partner in a partnership, you have two ways to get a tax benefit from the home office:

1. Deduct the cost as an unreimbursed partner expense (UPE).
2. Or get reimbursed from your partnership via an accountable plan (think “expense report”).

Substantiating Your Home Internet Expense Deduction

Where business owners can run into trouble with the IRS is in substantiating their internet expense deduction. 

You should have no problem showing the total cost for your home internet connection—just total your monthly bills. The problem is in establishing what percentage of the total cost was for business, because only that percentage is deductible. 

Ideally, you should keep track of how much time you use your home internet connection for business and how much time for personal use. A simple log or notation on your business calendar or appointment book—indicating approximately how many hours you were online for business each day while working at home—should be sufficient. 

Google it, and you can find software and apps that will track your internet use.

Instead of tracking your home internet use every day throughout the year, you could use a sampling method such as that permitted for tracking business use of vehicles and other listed property. There is no logical reason the IRS shouldn’t accept such a sampling for internet use.

If you would like to discuss how your work at home creates tax deductions, please call me on my direct line at 408-778-9651.

• By Leon Clinton
• March 3, 2022