Link to special CCH Tax Briefings on key topics from 2003:
 

• Year-End Tax Legislation Update (Dec. 10)
• Corporate Income Tax and 'Bonus' Depreciation
  (Dec. 4)
• Military Family Tax Relief Act (Nov. 11)
• Jobs and Growth Tax Relief Reconciliation Act of 2003 (May 28)

CCH can assist you with stories, including interviews with CCH subject experts. Also, the CCH Whole Ball of Tax 2004 is available in print. Please contact:
 
Leslie Bonacum
(847) 267-7153
mediahelp@cch.com
 
Neil Allen
(847) 267-2179
allenn@cch.com

Welcome to the World of Self-Employment: Please Pay Taxes Before Proceeding

CCH Outlines Taxing Details As More Workers Join Entrepreneurial Ranks

(RIVERWOODS, ILL., January 2004) – During the past year, several hundreds of thousands of individuals have entered the world of self-employment, but whether or not these newly minted sole-proprietors will remain entrepreneurs once the job market improves remains a topic for debate. One thing is certain, however: They have entered the realm of an entirely new tax environment, according to CCH INCORPORATED, a leading provider of tax information and software.

"One of the often-emphasized benefits of being self-employed is the extent of expenses that you can write off," said Mildred Carter, JD, CCH federal tax analyst. "However, being self-employed is by no means a tax-free situation. They have to keep records of all their expenses, file estimated quarterly taxes and, while employee wages are only taxed at 7.65 percent for Social Security and Medicare under FICA, the self-employed have to pay a 15.3-percent tax on their earnings, making both the employee and employer contributions."

That said, there still are many steps that those who make the plunge into self-employment can take to help make sure they keep more of what they’ve earned.

Setting Up Shop

Once the decision to start a business has been made, one of the first choices is where to work. Depending on the type of business, there may be several, or just a few, options. If you rent space or devote a spare room in your apartment as an office, for example, you can deduct that portion of your rent.

If you decide to work from home, your home office can be deducted as long as that space is regularly and exclusively used as the principal place of business or used as the place to meet with clients or customers. You can deduct expenses for a separate free-standing structure, such as a studio, garage or barn, if you use it exclusively and regularly for your business. The structure does not have to be your principal place of business or a place where you meet patients, clients or customers.

There are a few exceptions to the "exclusive rule," for example, you can deduct expenses related to storage of inventory or product samples in your home if it’s the only fixed location for your retail or wholesale business. A home day care operator also can take the deduction even if that portion of the home is not used exclusively for the day care, however, the operator may only be able to deduct expenses for the actual time the day care center is open.

Before claiming the home-office deduction, however, individuals should be aware that current law allows $250,000 in capital gains (or $500,000 on a joint return) to be excluded on sale of the home, if the home has been used as a principal place of residence for two out of the last five years before the sale.

If you go to sell your home and you have been claiming part of your house as a home office for more than three years out of the last five years, the IRS has recently clarified that you can meet the "two out of five years" residence rules for that portion of the home as long as it is part of the principal residence. You still need to recapture depreciation on the home office. Whether or not you take the home office deduction, utility expenses, including the cost of adding business phone lines are deductible.

The Ins and Outs of Deductions and Depreciation

Trying to determine what can be deducted versus what must be depreciated can often be among the first areas of confusions for the newly self-employed as they assess their tax situation.

Business expenses are the normal and current costs of operating a business. A proprietor is permitted to deduct these expenses from gross profit to figure the net income or loss of the business. Business taxpayers may fully deduct most of their ordinary and necessary expenses in one tax year.

Of particular note, 2003 marks the first year that self-employed individuals are able to deduct 100 percent of the cost of health insurance for themselves and their dependents. Among other deductible expenses:

Meals, entertainment and travel also are deductible, within certain limits. For example, you can deduct 50 percent of your business meal and entertainment expenses, but you must conduct business during that time, or it must precede or follow a substantial business meeting.

Typical travel expenses often are deductible as well. You can always deduct items such as airfare, bus or train tickets, car rental expenses, fax machine charges, passport fees, telephone calls, etc. In addition, if your business requires you to be away from your town for significantly longer than a workday, you can deduct the costs of lodging, laundry and 50 percent of meals for yourself.

The self-employed also can deduct the cost of operating a car, truck or other vehicle in their business using either the actual cost or the standard mileage method.

The actual cost method allows taxpayers to deduct all costs of operating the vehicle for business including gas, oil, repairs, license tags, insurance and depreciation. Other individuals may opt for the standard mileage rate method which uses a flat rate, which was 36 cents per mile in 2003 (and is 37.5 cents per mile in 2004). Business taxpayers must prove the deductions for operating a vehicle by adequate records or by sufficient evidence that corroborates their statements.

Depreciating Assets

Other expenses, such as capital expenses, are generally not currently deductible. Instead, the amount of the expense must be recovered through depreciation deductions over a set period of time. However, rather than depreciating a capital expense, a taxpayer may be able to deduct the cost of certain depreciable business assets as a Section 179 expense.

In an attempt to jump-start the economy, the amount a small business can deduct under Section 179 has increased from $25,000 to $100,000 for 2003. Section 179 deductions only apply to certain tangible assets such as office equipment or equipment used in the manufacturing process. However, it does not apply to real estate or buildings or to property you have been using for personal purposes and then convert to business. (For more on small business depreciation and expensing, see Release 10.)

Tax Savings through Retirement Plan Contributions

One of the significant advantages for the self-employed, particularly the successfully self-employed, is the increased amount they can save tax-free toward retirement. For 2003, the annual amount you could contribute to a 401(k), 403(b) annuity or SEP was $12,000. Contributions to 401(k) and 403(b) programs would have had to been made by the end of 2003; however, small business owners have until April 15, 2004, or later if you file for an extension on your tax return, to contribute to their 2003 SEP plans. Another retirement option is the SIMPLE plan, which has a maximum contribution of $8,000 in 2003. SIMPLE IRA contributions can be made until the due date of the tax return, including extensions, while the SIMPLE 401(k) must be by year-end for the employee deferral portion.

Other retirement options include contributing up to $3,000 to a traditional or Roth IRA.

However, those contributing to any employer-sponsored plans, such as the above, can only qualify for a fully-deductible IRA in 2003 if their income falls below $40,000 phasing out completely at $50,000 for single filers and $60,000 phasing out at $70,000 for joint filers.

Individuals can fund a Roth IRA regardless of whether or not they’re in an employer-sponsored plan. Here the adjusted gross income must be less than $95,000, with benefits phasing out completely at $110,000 for single filers and $150,000 phasing out at $160,000 for married filers.

Self-employed individuals over 50 years of age also are eligible for the catch-up contributions, which for 2003 are an additional $2,000 for 401(k)s, $1,000 for SIMPLE plans and $500 for IRAs.

About CCH INCORPORATED

CCH INCORPORATED, headquartered in Riverwoods, Ill., was founded in 1913 and has served more than four generations of business professionals and their clients. The company produces more than 700 electronic and print products for the tax, accounting, legal, securities and small business markets. CCH is a Wolters Kluwer company. The CCH Federal and State Tax group, CCH Tax Compliance and Aspen Publishers Tax and Accounting group comprise the new Wolters Kluwer Tax and Accounting unit. The unit’s web site can be accessed at tax.cchgroup.com.

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