Articles

June 25, 2013

Tax Savings Tips for a Home-Based Business

By Ajay Parikh, CPA

So you have decided to start home-based business.  Whatever the reasons might be, a home-based business is a great start for entrepreneurs and there are many factors to be considered.  One of the most important is Tax Planning.  True tax planning provides concepts and strategies needed to minimize taxes and is one key to financial success in any business venture.  

There are many tax savings benefits available for home-based businesses.  One of the most important is home office deductions.  If you use part of your home for business you may be able to deduct expenses for the business use of your home.  This deduction is available to both homeowners and renters and applies to all types of homes.  To claim the deduction you must prove that the office space in your home is the principal place of your business and is regularly and exclusively used for business purposes.   The deductions can be computed using a simplified method or a regular expense method.  The “regular expense method” requires determination of actual expenses for the entire home, including mortgage interest, insurance, utilities, repairs and depreciation.  Deductions for a home office are based on the percentage of your home devoted to business use.  The “simplified method” is allowed starting 2013 and permits standard deductions of $5 per square foot of home used for business up to a maximum of 300 square feet.  

Another important deduction is Automobile expenses for business use.  Auto expenses can be claimed using standard mileage rate or actual expense method.  For actual expense method, taxpayers must keep track of all expenses related to the automobile including repairs, gas, tolls parking and depreciation.  If the automobile is for both business and personal use, only the portion related to business use is deductible.  The standard mileage rate method does not require tracking actual expenses but provides standard mileage rate of 56.5 cents per mile (for 2013) in addition to parking and tolls.  Taxpayers in this case only need to track mileage driven for the business purposes during the year.  I recommend computing both methods to see which produces the most deductions.

Self-employed taxpayers can deduct health insurance premiums on their personal income tax returns instead of itemized deductions which is subject to limitations.
Self-employed taxpayers often overlook qualified pension plan contributions which are tax deductible.

Another tax-savings idea is to hire your child for your business.  Wages paid to a child are deductible business expenses.  Your spouse also can be hired as an employee.  Family members can contribute money towards individual retirement accounts, which is another legitimate way to reduce tax burden.  It is very important however, to hire family members to fill a business need and not just hire them for tax savings purposes.

Self-employed individuals are subject to estimated tax payments.  Probably the most common mistake among self-employed individuals is neglecting to put aside enough money for estimated taxes.  Making sure to pay estimated taxes quarterly is as important as running your business.

Incorporating a business (Corporation or LLC) may provide home-based business owners legal protection, so if your business is operated as sole proprietorship, consider incorporating.

Good tax planning begins with getting organized—particularly when it comes to keeping records about the things you spend money on for your business.  Keeping track of auto mileage, business income and spending will ensure proper tax treatment of business related income and expense.   Whether you decide to follow just one of these tips or all of them, talk with your accountant and start planning for next year now.