Tax Shelter Ideas for Small Business Owners
In general, a tax shelter refers to a program which allows business enterprises or individuals to either defer or reduce payment of income taxes. Such programs may not suit everyone and legitimate ones do involve some level of risk, which not all investors are comfortable to undertake. However, with the correct information, the process of taking advantage of these shelters becomes less involving.
The Internal Revenue Service (IRS) applies huge discretion when applying tax shelters as this area has traditionally been prone to abusive practices by both individuals and businesses.
How IRS Views Tax Shelters
Tax shelters are defined by the IRS as investments that normally requires making substantial contributions which oftentimes are associated with commensurate risk levels. For an individual, tax shelter implies an investment which involves liability incurred within the short-term, with hopes of making appreciable gains across the long term.
For instance, if someone invested in property situated within a low-income environment, depreciation benefits of such property would be termed as legitimate tax shelter.
The losses or tax deductions which a person can take on potential tax shelter gets limited to total worth of investment or amount at risk. The amount viewed as being “at risk” for example might get limited to:
- Adjusted basis of property
- Cash invested
- Loans taken for which someone bears personal responsibility to repay
Treatment of Losses
It is vital gaining the understanding that business activity losses or credits are easily considered passive activity losses or credits. These may only be utilized for offsetting income from different passive activities. You cannot utilize them for offsetting income sources like wages, dividends or interest. Passive losses generated in excess from any tax shelter can be carried forward, or till the investor sells off the asset.
Take care of tax shelters which get marketed with promises of write-offs being more significant that the invested amount. IRS considers such as Abusive Tax Shelters. People generally make investments with hopes of generating huge amounts of profits. Legitimate shelters involve a certain level of risk, cut down fairly on taxes and generate income. If IRS takes note of someone operating an abusive scheme, the individual is then required to pay tax owed along with penalties and interest.
Legitimate Tax Shelters
It is vital knowing how to identify a questionable program. You may achieve this goal by adhering to three primary rules in order to distinguish between legal and illegal tax shelters as follows:
- If the primary purpose of a given transaction is lowering taxes and not offering other economic gains to parties involved, consider such a business deal unethical or questionable.
- Transactions involving exchange of goods, assets or even services at prices which lie well below the fair market value should be viewed with suspicion.
- If the interest rate paid to a different party is unusually high or low, with the sole intention being sheltering income from taxes, such an arrangement should be seen as unethical.
Tax Accrual Work-Papers
The IRS maintains a policy of requesting tax accrual along with other financial audit work-papers that relate to tax reserves. This applies to deferred tax liabilities and footnotes which disclose contingent tax liabilities that appear in audited financial statements.
Owning a legitimate auto repair business enables you take advantage of numerous tax deductions, which are unavailable to mere employees. This includes partial deductions to expenses incurred on housing, automobile, entertainment and meals as well as cell-phone expenditure.
While some expenses get deducted within a year, others get spread out over a number of years.
You can write off full cost of new furniture and computers within this year as per IRS Code Section 179. This might not be significant to a relatively new business that may not generate a lot of income within at first. A wiser strategy therefore might be deferring some portion of deductible expenditure to years in future, which accountants call “depreciation”.
You may deduct some portion of “start-up costs” if this year is your first in business. However, beyond a certain level you will require spreading the remainder of associated costs across your tax returns for the next several years. This practice is termed “amortization” in accounting.
Remember not to overlook the expenses below when filing tax returns:
- Legal and Accounting Fees
- Website/ Advertising costs
- Association Dues
- Truck and Auto Expense
- Computer Expense
- Bank Charges
- Subscriptions and Dues
- Training and Education
- Furniture and Equipment
- Home Office Expense
- Permits and Licenses
- Postage and Delivery
- Meals and Entertainment
- Office Administration Fees and Rent
- Maintenance and Repairs
- Start Up Costs
- Retirement Savings
- Materials and Supplies
- Taxes (Payroll Tax, Property Tax etc)
Knowing the tax code is important for anyone who owns a business and IRS Publication 463 spells out on available business tax credits relating to travel, entertainment, gift as well as car expenses. Think about hiring services of a tax professional to aid in preparing tax returns for your auto repair business.