Five Year-End Tips for Self-Employed Entrepreneurs
Can you believe there is only a month left in 2022?! That means, there are only a couple more weeks until we close our books for the year, and now is the time to make any necessary changes. So, I’m sharing my top five year-end tips for self-employed individuals.
#1 - Time Income and Expenses
This is probably the easiest tax-saving strategy that there is!
If you have invoices that you'd normally send out at the end of December, wait and save those until January of 2023. Because, if you're in a cash-basis accounting system, you pay income tax on income that you received that year, so not billed out, but received. So, any money that you put into your bank account before December 31, 2022, you will pay income tax on it for 2022. That is your deferred income.
The second part of this is to accelerate your expenses. So, go ahead and pay all your bills before December 31. Reach out to your service providers and make sure you pay them before the end of the year. Remember, cash basis. You dumped all expenses that had been paid in the tax year.
So, we're going to defer income by not collecting on some of that income until January and then you're going to accelerate expenses before the new year hits.
#2: Make the most of depreciation.
Well, what the heck is depreciation? Let me explain. When you go and buy large items, maybe it's a computer, maybe it's a vehicle for your business, a large piece of equipment... those types of items are not just write-offs, like your utilities would be or your rent would be. Those are assets to your company, and those have to be depreciated.
I'm thankful for a tax code that allows us to write off up to 100% of most of the assets that you are purchasing in the year that they are purchased. That does not mean you have to have paid for the entire item. So, maybe you bought a $100,000 piece of equipment that typically you would write off over seven years, and you set up payments on this piece of equipment. You don't write off the payment, you write off the $100,000 for that piece of equipment. And as you pay the payments on that equipment, you're going to write off the interest. That is a one-time write-off.
So, make the most of that if you are in need of an item, go ahead and purchase that before the end of the year. Now, I'm not a fan of just going out and buying things because you show a profit on your profit and loss. Don't do that. Buying items are not dollar for dollar so if you go spend $100,000 It doesn't mean you save $100,000. Just make sure that you're making wise, calculated business decisions.
#3 - Fund Your Retirement Accounts
This one gets missed a lot, and not a lot of people talk about this because it's not directly related to tax. Being self-employed, you're not working for a company that is matching your contributions. It's really easy when you're an employee that you just say ‘yes’ - 3% off the top and your company matches 3%. Then by the time you retire, you’ve got a nest egg sitting there.
Being self-employed is much more difficult than that. You have to make an effort to put up money for retirement. Admittedly, I myself was really, really late on this bandwagon. So I'm preaching to the choir when I tell you this, but learn from my mistakes and start early. Just put it away. You're not going to miss it.
As far as choosing, setting up, and funding those accounts, you have a few options. So the first one when you're self-employed is a SEP IRA, and in those, you can actually contribute up to 20% of your net earnings from self-employment.
Option two, if you have a payroll in your company - if you are an S Corp - you can do 401Ks, so that is an option as well.
And then you have the regular just IRA accounts, and those are broken up into two different categories. Both of those have a max limit of $6,000 a year or $7,000 if you're over the age of 50. There are also some other income limits and exclusions that apply to that as well. But the two types of IRAs are your traditional, which most people think ‘that's the one that I want because I'm gonna save right now.’ If I contribute $6,000, that's $6,000 of income that I don't have to pay tax on right now, and then I'm good to go. But it’s not necessarily the best option, I will tell you that.
The second option for an IRA is a Roth IRA. A Roth IRA is not going to give you the tax savings now because you're paying taxes on that money, but you're going to save later when you draw the money out of the Roth. I'm going to tell you personally, I think the Roths are best. I'm not a financial adviser and I'm not giving you advice for yourself, but I would say talk with a financial advisor on this because Roth IRAs are going to be, in my opinion, your best route.
So you have SEP IRA, self-employed 401Ks, and you have traditional and Roth IRAs as well. See a financial adviser on these if this is something that you want to do, but I highly recommend if you are self-employed, don't wait another year. Go ahead and start putting funds away for retirement. You can't live off of social security, and who knows if it's even going to be there by the time we retire.
#4 - Make Payroll Changes
I have two different things to note on this one.
First, a lot of companies who had employees on payroll love to give out year-end or Christmas bonuses, and now is the time to start thinking of those. You've got a few weeks until Christmas and you have just a few more days after that until the end of the year. This payroll has to be done before the end of the year, and you have to write those payroll checks before 2022 comes to an end.
Second, if you have children that are of working age, and I do not mean 16 or 18 to be a working age - I have a 10-year-old who helps within my business. What can a 10 year old do? Well, he can take out the trash, he can shred, he can stuff envelopes for me. Those types of things are legit jobs that my 10-year-old can do. I also have an 18-year-old who helps me with marketing and emails. She helps me with a lot of things. So they're still my dependents, I'm still claiming them on my tax return, but I'm also paying them out of my business because they legitimately helped me in my company.
With that being said, that's a write off for my business number one, and number two, my children who are working (you can't just pay your children, they have to work in your business) can make up to $12,950 and not pay a dime of federal income tax.
So I had two children and say they both made that much money - that's around $25,000 right there in payroll that they're not paying any income tax on, and neither am I because it's a write-off.
#5 - 2022 is Not the Year to DIY
I say that for several reasons. Number one, tax codes are changing. If the past two years have taught us anything - we have no clue what's going to happen, and your situation may have shifted!
For example, if you work from home (like so many of us do these days), you may be able to utilize the home office deduction. In order to claim this deduction, the space must be regularly & exclusively used for business (it can’t be a corner of your bedroom or living room), and you must also show a profit in your business. You’ll be able to deduct a percentage of home expenses based on heated square feet of home/office area. Even if you didn’t keep up with the home expenses, IRS allows you to use a Simplified Method to calculate your deduction.
So, a quick run-through one more time: time income and expenses, make the most of your depreciation, fund retirement accounts, make payroll changes, and lastly, 2022 is not the year to DIY.
Did any of these surprise you? It’s so important to have a good tax accountant to help you navigate deductions to benefit from all of the deductions you qualify for!
If you have any questions at all or learn how Calculated Profits can support you to stay on top of your books and prepare your next tax return, click here to get in touch with us!
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**DISCLAIMER: This blog post is meant for educational purposes only. This is not to be relied on or considered a substitute for advice on your specific situation from your tax advisor. See Disclaimer for additional information.
