November 1999

Tax Aspects of a Sole-Proprietorship

Going into business for yourself, as a sole proprietor, can be both exciting and challenging. There are some important tax aspects of your sole proprietorship. As a sole proprietor, you would report net income or loss from your business on your personal income tax return. However, there are several important rules that you should be aware of:

1. For income tax purposes, you will report your income and expenses on Schedule C of your Form 1040. The net income will be taxable to you regardless of whether you withdraw cash from the business. Your business expenses will be deductible against gross income (i.e., "above the line," and not as itemized deductions subject to the 2%-of-adjusted-gross-income floor or the 3%/80% reduction rules). If you have any losses, the losses will generally be deductible against your other income, subject to special rules relating to hobby losses, passive activity losses and losses in activities in which you are not "at risk."

2. If you will be working from an office in your home, or storing product samples or inventory at home, you may be entitled to deduct an allocable portion of certain costs of maintaining your home. If you have a home office, you may be able to convert nondeductible commuting expenses (of going from your residence to another work location) into deductible transportation expenses.

3. You will also be required to pay self-employment taxes at a rate of 15.3% on your net earnings from self employment of up to $72,600 for 1999 and at a rate of 2.9% on the excess. The $72,600 will be reduced by any non-self-employment wages you earn. One-half of your self-employment taxes will be deductible as a trade or business expense (that is, as a deduction against gross income, not subject to the limits that apply to itemized deductions).

4. For 1999, you will be allowed to deduct 60% of your health insurance costs as a trade or business expense. (The nondeductible percentage is treated like any other medical expense, deductible, if at all, as an itemized deduction.) The deduction percentage is 60% through 2001, 70% for 2002, and 100% for 2003 and later years.

5. Your income will not be subject to withholding tax. However, you will be required to pay estimated taxes quarterly. We can work with you to minimize the amount of your estimated tax payments while avoiding any underpayment penalty.

6. You will have to maintain complete records of your income and expenses. In particular, you should pay attention to recording your expenses in order to be able to take the full amount of the deductions to which you are entitled. Certain types of expenses, such as automobile, travel, entertainment, meal, and home office expenses, are subject to special recordkeeping requirements or limitations on their deductibility and require special attention.

7. If you hire any employees, you will have to get a taxpayer identification number and will have to withhold and pay over various payroll taxes.

8. You should consider establishing a qualified retirement plan. The advantage of a qualified plan is that amounts contributed to it are deductible at the time of the contribution but are not taken into income until amounts are withdrawn. Because of the complexities of ordinary qualified retirement plans, you might consider a simplified employee plan (SEP) or a SIMPLE IRA, each of which requires less paperwork. Alternatively, you may be able to make a deductible contribution to a traditional IRA.

If you would like any additional information regarding the tax aspects of your going into business, or if you need assistance in satisfying any of the reporting or recordkeeping requirements, please give us a call.

Please call us if you would like to discuss the details of your particular circumstances.

Veres & Company
Certified Public Accountants
Freedom Square Office Park
4401 Rockside Road, Suite 406
Independence, Ohio 44131
(216) 524-8422
Fax (216) 524-2624
e-mail: staff@veres.com