Category: Taxes
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Do You Have a Privileged Relationship? Not With Your CPA!
So, have you heard any juicy stories lately? Have you told any? You know, like that income you forgot to report on your tax return, or fake deductions you took on your business? Do you think you have a privileged relationship with your CPA?
Whatever you do, don’t tell me! I don’t want to hear it! Yes, even though I am a CPA and am fully qualified to help you with your tax problems, please do not tell me your guilty tax secrets, especially if they involve criminal intent (aka you knew what you were doing was against tax law when you did it, and you did it anyway). Why? Because you and I do not have a privileged relationship, and if the IRS comes and asks me about anything – ANYTHING you told me – I am bound by law to tell them. You and I (or you and **any** CPA) do not have a privileged relationship, even if you hire one of us to help you catch up on back taxes, and I am bound to let you know that in advance.**
You’ve heard that familiar wording: anything you say can and will be held against you in a court of law? That’s the common Miranda warning, and I certainly don’t have any authority to arrest you (nor desire to do so), but the fact is that you should not tell your CPA anything you don’t want reported to the authorities.
So, who can help you if you have done something wrong, and you need to get your tax situation straightened out?
A Tax Attorney, that’s who! There is a concept called “attorney client privilege” which will protect the confidentiality of any discussions, admissions, or anything else you tell to a tax attorney, as long as you do so according to the “rules,” which the attorney can explain to you in a way that you understand. He can legally refuse to answer questions asked by any governmental authority, including the IRS, state taxing authorities, and any court of law. Not only can he do so, he is legally bound by his oath and licensing to do so, as your advocate.
Tax Attorneys are also better versed on the newer and more technical laws behind taxation (and many are also CPAs as well). Yes, as a CPA, I know the general rules and have the knowledge to help you file a good tax return, but when it gets down to the details of arcane and unusual tax situations, I can’t help you with those. Sometimes even a tax attorney can’t actually resolve the problem, and the situation has to be straightened out in court, and a tax attorney is qualified to do that. Interestingly, a CPA and an EA (Enrolled Agent) are also permitted to appear before the bench in tax court, but if it’s confidentiality you need, the tax lawyer is your guy.
If the worst happens and you end up in court, or if the IRS starts making demands, your tax attorney also has the ability and training to negotiate on your behalf. And while CPAs take training every year to maintain their license, the training that tax attorneys take centers more on the finer points of the newer laws.
It’s a good idea to pre-interview your accountant to make sure they are able to do what you need for them to handle. If the scope of the work you need done falls within the category of confidentiality mentioned above, you should go to a tax attorney. If you have a good relationship with your CPA he or she may be able to refer you to a good attorney. Otherwise, ask for references from other attorneys, the state licensing board, other CPA’s and other business owners. Just like you would in any business situation, be sure to ask about fees and expenses before you make any agreements with the attorney. And honestly, find one you like. If you discover you don’t like the tax attorney you are working with, you will never be satisfied with his or her work.
So, if you ever find yourself needing help with a serious tax problem, before you spill the beans to anyone, including your CPA, head for the tax attorney’s office first and get some confidential assistance.
Always remember: it’s your name that gets signed on the bottom line of the tax return, and it’s your responsibility to pay all of your taxes, so be sure you understand what your CPA, EA, or tax attorney is doing with your tax return.. If for any reason you feel like you are getting the run-around, request all of your records back -they are required by law to give them to you – and go to another tax professional).
To Recap:
- Your relationship with a CPA is not legally protected
- Tax attorneys can provide legally protected confidentiality
- When choosing a CPA, an EA, or an attorney, be sure to choose one you like and feel comfortable with.
**I use the term “You and I” loosely here for an example, as I am not currently in the public practice of accounting. Although I am a licensed CPA, the “public practice of accounting” requires certain permissions that I have held in the past, may hold in the future, but do not currently hold.
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August – The Time (not) to Buy…
In August, there are usually lots of sales on things like school supplies, and it doesn’t take much shopping around to find good deals in that area. Also, in some states (like here in Texas), there are sometimes “tax holidays” for school supplies, which sometimes extends to other items such as children’s clothing. Depending on the sales tax rate, this can be a substantial incentive to buy these items.
However, there are several things that are typically a better bargain in September or October, including some big-ticket items that might surprise you.
Things to Avoid in August
Photo Credit: aLindquist via Compfight cc - Home appliances. New models of major appliances typically come out in September, so if you can wait until late September or early October (and you are ok with buying last year’s model), you can save 20% or more on your new refrigerator or washer/dryer combo.
- Patio furniture. You can see patio furniture “on sale” in August, but if you wait a month or so, you will see even better prices. October discounts can be over 50%.
- Grills. Here again, you will see some discounts for grills in August, but the big push to sell grills is Labor Day weekend, when you will see some good discounts, especially if you can get a floor demo. Just make sure that you have the time, tools, and skill needed to assemble it yourself (or know a friend who can be bribed with an invitation to your Labor Day party), or the savings could be negated by having to pay somebody to assemble it for you at weekend overtime rates.
- Fall and Winter clothing. Most merchants are just ramping up for Fall in August, and aren’t ready to discount until October or later. On the other hand, you can find really good deals on Summer duds, assuming they aren’t all sold out.
- Jeans. While you might think of jeans as “school supplies,” they typically have more of a discount in October. However, if your state has a “tax holiday” weekend, it might be worth getting your new jeans then.
- Mobile phones. The best time to get a new phone is usually just after a new model comes out, provided you don’t have your heart set on the new model. The introduction time varies a bit from year to year, but for the last couple of years, September and October have seen better mobile phone deals.
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Choosing Your Entity Type
Self-Employment can be complicated!
One of the best things you can do for yourself, if you have any sort of side gigs, blogging for money – any type of self-employment income, is to formalize the relationship of your work, by choosing your entity type. As an individual, you can easily file a Schedule C, using your regular 1099 income, deducting the direct expenses, and being done with it.
If, however, you want a better tax environment, you might want to create a more formal business structure to receive your income and protect your assets.
There are several entities you can use to help do this; some are more effective than others. The main types are:
- sole proprietorships
- partnerships
- limited partnerships
- LLC’s
- Corporations (both C-Corp and S-Corp)
Depending on your state of residence, and the state where you choose to establish your entity (they don’t necessarily have to be the same), some of these entities may or may not actually be available to you. There are a number of websites that can help you do a proper job of choosing your entity type and they can also help you form it. While they are not going to do this for free, these companies can save the money you spend a dozen times over by helping you avoid some common traps that as an inexperienced person, you might not realize are there. Keep in mind that there will be state registration fees as well, so this is not a process to be undertaken lightly.
What type of entity is best?
Sole proprietorships and partnerships are the simplest of the types, and they are the least protective. That is: you pay taxes on your share of the income, and you are personally liable for the entire amount of any business debt and claims.
Limited partnerships are expensive to obtain and maintain; I wouldn’t recommend this to the budding entrepreneur. An LLC has a general manager who handles all the details of day-to-day operation; however the limited partners are not liable for business debts or claims.
Corporations and LLC’s do limit the owners’ personal liability for any court judgments or debts created by the business, but they are a bit more complex and difficult to set up. And in fact, the corporation is an independent entity that survives independently of the owner who controls and manages it. The C-Corporation pays tax on its own profits, and the business owners only pay tax on their personal tax returns for money they receive from the corporation (in salaries, bonuses, etc.). The S-Corporation does not pay tax on its profits (at a federal level, though states laws can easily differ), and the income flows directly through to the individual who reports it on his income tax return. The C-Corporation files a separate tax return on a Form 1120, and the S-Corporation (even though it doesn’t pay taxes) reports its income on a Form 1120S.
Observing the corporate formalities
Today, the President and Treasurer of my corporation, Pro-Count, Inc. observed the corporate formalities. What does that mean? A corporation, being a separate entity with a separate life, must be run by elected officers. The elected officers of my corporation are me (the President) and Mr. BFTROU (Treasurer). We both hold director status, and once a year, the Board of Directors must hold an annual meeting. Since our corporation was formed on approximately this date in 1996, we hold our Board of Directors meeting around this time every year. It’s a good time to plan what we expect for the coming year and make corporate resolutions. So, that’s what we did.
While this year, our meeting was held at Chili’s, we did set a formal goal to have one of our directors’ meetings not too far in the future, in the middle of the Atlantic Ocean. Sounds good to me! For us, cruising’s where it’s at. We also decided that we are going to establish a Section 105 Healthcare Reimbursement Arrangement, so the corporation can pay our medical expenses for us. While this will definitely save us in tax money, it’s not exactly “free” money. Somebody (mostly Mr. BFTROU) has to actually earn the money before it can be spent on health care or anything else. We just hope that there’s enough to pay the healthcare costs AND actually, you know, have some left over for us to buy groceries.
After this meeting, we will draft a document detailing the minutes of the meeting, just as someone would with any formal meeting, we will both sign it, and we will have observed the corporate formalities. This is very important because the IRS takes this sort of thing very seriously. If you are going to obtain the tax advantages of having a corporate entity, they want to see that you aren’t doing it just in name, but in actuality behaving as a business. If, in fact, you don’t observe these formalities, the IRS can perform an act called “piercing the corporate veil” which will change all that corporate protection into personal liability for every aspect of your business. That is not an appealing thought.
Due to the vagaries of Mr. BFTROU’s employment, we have always needed a corporation to maintain organization. So, as President and Boss Lady of the corp, I am happy to make sure we Observe the Corporate Formalities every year at this time.
If you should decide to use a Corporation or LLC to “contain” your business activities, be sure you observe the corporate formalities too.
To Recap:
- Choose an external entity type to hold your business dealings
- Set it up according to the rules (and if you don’t know how, find a business to help you get it right)
- Observe the formalities required by the form of business you have chosen, to protect yourself against any piercing of the corporate veil.
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Why You Should Loan Money to the Government
I’m a contrarian – that’s something you will probably always be able to say about me, and something you are likely to notice right off the bat. First, I start out telling you it’s okay to throw away food, and now, well, let’s see what anti-conventional wisdom I am coming up with next. But before I go any further, let me just be very clear on a few things: No matter what you think about taxes, whether they are fair or not, or whether you think you should have to pay them, I do not ever advocate paying anything less than all the tax you owe, but I also don’t think you should pay one penny more. Also, if you don’t like taxes, blame Congress, not the IRS. Congress sets the taxes, and the IRS gets the blame. While sometimes IRS methods are draconian, at least you should know that they act at the direction of Congress.
Now, back to the topic: In the current economic climate, there’s really no great reason NOT to loan money to your government (an interest-free loan, by the way) in the guise of a very large tax refund for yourself at the end of the year.
Image: FreeDigitalPhotos.net Yes, I know all the conventional wisdom: If your tax return is larger than about $100, you are doing yourself a very bad service, since that’s money you could have put in the bank and earned interest on! And so of course, you should always make sure your tax refund is as small as possible, and not loan money to the government, especially interst-free.
I disagree. Why? Because, as I mentioned previously, in this current economic climate, you aren’t going to gain much advantage by keeping that extra cash in your paycheck for two reasons:
- Interest rates are in the cellar (just in case you didn’t notice), and
- Those “savings” will probably never make it into a savings account anyway
But, really, don’t take my word for it. Let’s look at some interest rates to see what you actually would earn if you put an extra $1,000 in the bank and saved it for a year. Now realize that this $1,000 (which represents the amount of tax refund you could get in this example, if you are over-withholding your tax) is most likely going to be spread out over the year and divided by all your paychecks. So, if you get paid once per month, that $1,000 will be roughly $84.00 per pay period.
I went to several bank websites to get a feel for interest rates (they are pitiful!!) and the best I could come up with in a “high-yield” bank account that isn’t restricted by location or occupation (like most credit unions are) is 0.84% at Ally Bank with no minimums and no maintenance fees. So, we are going to figure the total interest on a series of payments of $84.00 for 12 periods, compounded monthly. Using these figures, at the end of one year, your total amount saved will be $1,012.60. You will have earned an interest amount of $12.60 for the year. Whoopie Doopie!
And if that weren’t bad enough, you know and I know that the $84.00 is likely going to be gone before it ever hits the savings (unless you’re really smart and have it direct-deposited there, which is not a bad idea). But for many people, $84.00 isn’t really enough to make a big difference in their lives, and it would easily and quickly be absorbed into one night out at a good restaurant, a really hot summer electric bill, or one very minor auto repair. In other words, you would never even notice it.
BUT! If you did like many people do, and deliberately overwithheld your taxes directly out of your paycheck, there is actually some advantage to be gained. <=Click to Tweet! At the end of the tax period, usually as early as the middle to end of January, you can get your money back and it will actually be enough that you can use it for something very necessary or very special. And you would have had all year to decide what that would be!
Remember, though: quickie tax services and refund anticipation loans are not your friend. Having owned a tax service in the past, it really bothered me to see people who needed the money so badly, paying it out in bank fees and loan application charges, simply because they just couldn’t wait any longer to get their money back (there is a reason why my ownership of this type of service is in the past, and this is one of the reasons). Most of these people also could have filed their taxes for free, if someone had just told them that the IRS allows most lower-income people to e-file for free on their website. In addition, many of the tax return software companies allow free e-file for all taxpayers on their websites! You just have to know where to look! This is a topic I’ll cover more in the future.
So save smart by having a little extra (or a lot if you can) withheld every pay period, and have significant money to show for it at the end of the tax year!
To Recap:
- If you deliberately overwithheld your taxes directly out of your paycheck, there is actually some advantage to be gained
- You have a whole year to decide how to use this money you saved up – that gives you plenty of time to choose the best use of your newly-saved money
- Don’t be taken in by tax return services that charge exorbitant fees for tax return preparation and refund anticipation loans. Keep that money for yourself!
