Proactive Accounting & Tax Services Tax Deduction

2021 Last-Minute Business Income Tax Deductions

The IRS is not likely to cut you a check for this money, but you’ll realize the cash when you pay less in taxes.

Here are six powerful business tax deduction strategies that you can easily understand and implement before the end of 2021.

1. Prepay Expenses Using the IRS Safe Harbor

You just have to thank the IRS for its tax-deduction safe harbors.

IRS regulations contain a safe-harbor rule that allows cash-basis taxpayers to prepay and deduct qualifying expenses up to 12 months in advance without challenge, adjustment, or change by the IRS.

Under this safe harbor, your 2021 prepayments cannot go into 2023. This makes sense because you can prepay only 12 months of qualifying expenses under the safe-harbor rule.

For a cash-basis taxpayer, qualifying expenses include lease payments on business vehicles, rent payments on offices and machinery, and business and malpractice insurance premiums.

Example. You pay $3,000 a month in rent and would like a $36,000 deduction this year. So on Friday, December 31, 2021, you mail a rent check for $36,000 to cover all of your 2022 rent. Your landlord does not receive the payment in the mail until Tuesday, January 4, 2022. Here are the results:

  • You deduct $36,000 in 2021 (the year you paid the money).
  • The landlord reports taxable income of $36,000 in 2022 (the year he received the money).

You get what you want—the deduction this year.

The landlord gets what he wants—next year’s entire rent in advance, eliminating any collection problems while keeping the rent taxable in the year he expects it to be taxable.

2. Stop Billing Customers, Clients, and Patients

Here is one rock-solid, easy strategy to reduce your taxable income for this year: stop billing your customers, clients, and patients until after December 31, 2021. (We assume here that you or your corporation is on a cash basis and operates on the calendar year.)

Customers, clients, patients, and insurance companies generally don’t pay until billed. Not billing customers and patients is a time-tested tax-planning strategy that business owners have used successfully for years.

Example. Jim, a dentist, usually bills his patients and the insurance companies at the end of each week. This year, however, he sends no bills in December. Instead, he gathers up those bills and mails them the first week of January. Presto! He just postponed paying taxes on his December 2021 income by moving that income to 2022.

3. Buy Office Equipment

With bonus depreciation now at 100 percent along with increased limits for Section 179 expensing, buy your equipment or machinery and place it in service before December 31, and get a deduction for 100 percent of the cost in 2021.

Qualifying bonus depreciation and Section 179 purchases include new and used personal property such as machinery, equipment, computers, desks, chairs, and other furniture (and certain qualifying vehicles).

4. Use Your Credit Cards

If you are a single-member LLC or sole proprietor filing Schedule C for your business, the day you charge a purchase to your business or personal credit card is the day you deduct the expense. Therefore, as a Schedule C taxpayer, you should consider using your credit card for last-minute purchases of office supplies and other business necessities.

If you operate your business as a corporation, and if the corporation has a credit card in the corporate name, the same rule applies: the date of charge is the date of the deduction for the corporation.

But if you operate your business as a corporation and you are the personal owner of the credit card, the corporation must reimburse you if you want the corporation to realize the tax deduction, and that happens on the date of reimbursement. Thus, submit your expense report and have your corporation make its reimbursements to you before midnight on December 31.

5. Don’t Assume You Are Taking Too Many Deductions

If your business deductions exceed your business income, you have a tax loss for the year. With a few modifications to the loss, tax law calls this a “net operating loss,” or NOL.

If you are just starting your business, you could very possibly have an NOL. You could have a loss year even with an ongoing, successful business.

You used to be able to carry back your NOL two years and get immediate tax refunds from prior years, but the Tax Cuts and Jobs Act (TCJA) eliminated this provision. Now, you can only carry your NOL forward, and it can only offset up to 80 percent of your taxable income in any one future year.

What does this all mean? You should never stop documenting your deductions, and you should always claim all your rightful deductions. We have spoken with far too many business owners, especially new owners, who don’t claim all their deductions when those deductions would produce a tax loss.

6. Deal with Your Qualified Improvement Property (QIP)

In the CARES Act, Congress finally fixed the qualified improvement property (QIP) error that it made when enacting the TCJA.

QIP is any improvement made by you to the interior portion of a building you own that is non-residential real property (think office buildings, retail stores, and shopping centers) if you place the improvement in service after the date you place the building in service.

The big deal with QIP is that it’s not considered real property that you depreciate over 39 years. QIP is 15-year property, eligible for immediate deduction using either 100 percent bonus depreciation or Section 179 expensing. To get the QIP deduction in 2021, you need to place the QIP in service on or before December 31, 2021.

Planning note. If you have QIP property on an already filed 2018 or 2019 return, it’s on that return as 39-year property. You need to fix that—and likely add some cash to your bank account because of the fix.

SCHEDULE A CALL FOR YOUR OWN TAX PLANNING STRATEGY SESSION

Proactive Accounting & Tax Services Tax Deduction

Ready, Set, Depreciate

Are you thinking about buying personal property (such as a car, a computer, or other equipment) or real property (such as a building)?

If you use the property for personal purposes, it’s not deductible.

But if you use it in a business, you can deduct the full cost using regular depreciation, bonus depreciation, or IRC Section 179 expensing.

Regular depreciation takes three to 39 years depending on the property involved, while bonus deprecation allows you to deduct 100 percent of the cost of personal property in one year through 2022. Up to $1,050,000 of personal property may also be deducted in one year under IRC Section 179.

But depreciation won’t begin if you purchase property with the intent of beginning a new business. You must actually be in business to claim depreciation. This doesn’t require that you make sales or earn profits—only that your business is a going concern.

Also, depreciation doesn’t begin the moment you purchase property for your business. It begins only when you place the property in service in your business. You don’t have to use the property to place it in service, but the property must be available for use in your active business. This could occur after you purchase the property.

Finally, if you use regular depreciation, you must apply rules called conventions to determine the month in which your depreciation deduction begins. The earlier in the year, the larger your deduction for the first year.

The default rule is that regular depreciation for the personal property begins July 1 the first year (mid-year convention). But if you purchase 40 percent or more of your total personal property for the year during the fourth quarter, your depreciation begins at the midpoint of the quarter in which it is placed in service (mid-quarter convention).

First-year depreciation for the real property begins at the middle of the month during which the property is placed in service (mid-month convention).

Proactive Accounting & Tax Services Small Business Owners, Tax Deduction

How to Deal with the New $142,800 Base for Self-Employment Taxes

What happens when lawmakers enact a new tax?

It starts small.

It looks easy.

In 1935, the self-employment tax topped out at $60. Those 1935 lawmakers must be twirling in their graves with the new rules for 2021, which levy the following taxes:

  • A self-employment tax of up to $21,848, which comes from the 15.3 percent rate that applies to self-employment income of up to $142,800.
  • A 2.9 percent tax that applies to all self-employment income in excess of the base amount.

Beware

You know the expression “Don’t let the camel’s nose get under the tent”? It applies here.

Look at what has happened to self-employment taxes since they first came into being in 1935, assuming you earn at the base amount:

  • $60 in 1935
  • $60 in 1949
  • $3,175 in 1980
  • $7,849 in 1990
  • $14,413 in 2006
  • $21,848 in 2021

To put the rates in perspective, say you are single and earn $150,000. On the last dollar you earned—dollar number $150,000—how much federal tax did you pay? The answer in round numbers—39 cents (14 cents in self-employment and 24 cents in federal income taxes).

Wow! That’s a lot. Then, if you live in a state with an income tax, add the state income tax on top of that.

Tax Planning

Two things to know about tax planning:

  1. Your new deductions give you benefits starting at your highest tax rates.
  2. In most cases, the return on your planning is not a one-time event. Once your plan is in place, you reap the benefits year after year. Thus, good tax planning is like an annuity.

Checklist

Here is a short checklist of some tax-planning ideas. Review these ideas so you can identify new business deductions for your tax return. You want business deductions because business deductions reduce both your income and your self-employment taxes.

  • Eliminate the word “friend” from your vocabulary. From now on, these people are sources of business, so start talking business and asking for referrals over meals and beverages.
  • Hire your children. This creates tax deductions for you, and it creates non-taxable or very low taxed income for the children. Also, wages paid by parents to children are exempt from payroll taxes.
  • Learn how to combine business and personal trips so that the personal side of your trip becomes part of your business deduction under the travel rules (for example, traveling by cruise ship to a convention on St. Thomas).
  • Properly classify business expansion expenses as immediate tax deductions rather than depreciable, amortizable, or (ouch!) non-deductible capital costs.
  • Properly identify deductible start-up expenses ($5,000 up-front and the balance amortized) rather than letting them fall by the wayside (a common oversight).
  • Correctly classify business meals that qualify for the 100 percent deduction rather than the 50 percent deduction.
  • Know the entertainment facility rules so your vacation home can become a tax deduction.
  • Identify the vehicle deduction method that gives you the best deductions (choosing between the IRS mileage method and the actual expense method).
  • Correctly identify your maximum business miles, so you deduct the largest possible percentage of your vehicles.
  • Use a 1031 exchange to defer taxes (perhaps until death, when the tax code marks up your assets to fair market value and the income taxes disappear).
  • Qualify your office in your home as an administrative office.
  • Use allocation methods that make your home-office deductions larger.
  • If you are married with no employees, hire your spouse and install a Section 105 medical plan (Health Reimbursement Arrangements) to move your medical deductions to Schedule C for maximum benefits.
  • Operate as a one-person S corporation to save self-employment taxes.
  • If you are single with no employees, operate as a C corporation and install a Section 105 medical plan so you can deduct all your medical expenses.

If you would like my help implementing any of the ideas above, please don’t hesitate to contact us.

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Proactive Accounting & Tax Services Small Business Owners, Tax Deduction

Deduct 100 Percent of Your Business Meals under New Rules

Since 1986, lawmakers have limited business meal deductions: first to 80 percent, and then to 50 percent (unless an exception applies).

But on December 27, 2020, in an effort to help the restaurant industry due to the COVID-19 pandemic, lawmakers enacted a new, temporary 100 percent business meal deduction for calendar years 2021 and 2022.

To qualify for the 100 percent deduction, you need a restaurant to provide you with the food or beverages.

The law requires only that the restaurant provide the food and beverages. You don’t have to pay the money directly to the restaurant. For example, you qualify for the 100 percent deduction if you order a restaurant meal that’s delivered by Uber Eats or Grubhub.

Your deductible business meals must be tax code Section 162 ordinary and necessary business expenses, and they must not be subject to disallowance under tax code Section 274.

You must be present at the business meal, and you must provide the business meal to a person with whom you could reasonably expect to engage or deal with in the active conduct of your business, such as a customer, client, supplier, employee, agent, partner, or professional advisor, whether established or prospective.

Remember, to qualify for the 100 percent deduction, you need a restaurant. The IRS recently provided definitions and examples of what is and is not a restaurant.

A restaurant is “a business that prepares and sells food or beverages to retail customers for immediate consumption, regardless of whether the food or beverages are consumed on the business’s premises.” It is not any of the following:

  • Grocery stores
  • Specialty food stores
  • Beer, wine, or liquor stores
  • Drug stores
  • Convenience stores
  • Newsstands
  • Vending machines or kiosks

In general, the 50 percent limitation applies to business meals from the sources listed above.

The restaurant creates the 100 percent deduction.

To help you get ready, check the table below for what you can do in 2021 and 2022 as the law stands now:

Description (Deductible for Tax Years 2021-2022)100% Deductible50% DeductibleZero Deductible
Restaurant meals with clients and prospectsX  
Entertainment such as baseball and football games with clients and prospects  X
Employee meals for convenience of employer, served by in-house cafeteria X 
Employee meals for required business meeting, purchased from a restaurantX  
Meal served at chamber of commerce meeting held in a hotel meeting roomX  
Meal consumed in a fancy restaurant while in overnight business travel statusX  
Meals cooked by you in your hotel room kitchen while traveling away from home overnight X 
Year-end party for employees and spousesX  
Golf outing for employees and spousesX  
Year-end party for customers classified as entertainment  X
Meals made on premises for general public at marketing presentationX  
Team-building recreational event for all employeesX  
Golf, theater, or football game with your best customer  X
Meal with a prospective customer at the country club following your non-deductible round of golfX  
Proactive Accounting & Tax Services Tax Deduction

New Stimulus Law Grants Eight Tax Breaks For 1040 Filers

As you doubtlessly know, Congress recently passed a massive new stimulus bill that was enacted into law on December 27, 2020. Most of the public’s attention has been focused on the bill’s authorization of additional stimulus checks and new PPP loans and other aid targeted to struggling businesses.

But Form 1040 American taxpayers who are not in business are struggling as well. The stimulus bill contains a hodgepodge of eight new or extended tax breaks intended to help Form 1040 taxpayers.

None of these tax breaks are earthshaking by themselves, but together they add up to a nice tax present for COVID-19-weary Americans.

Here are eight new tax breaks that can help you

  • deduct cash contributions to charity if you don’t itemize,
  • deduct up to 100 percent of your adjusted gross income (AGI) as a charitable deduction,
  • lengthen to one year the time you have to repay your 2020 employee Social Security taxes if you had them deferred by your employer,
  • deduct medical expenses in 2021 using the now-extended 7.5 percent of AGI floor for this deduction,
  • carry over unused flexible savings account (FSA) funds to next year,
  • use your 2019 income to qualify for the earned income tax credit and/or child tax credit if you’re a lower-income taxpayer,
  • deduct out-of-pocket expenses for personal protective equipment (PPE) if you’re a teacher, and
  • take advantage of the lifetime learning credit in 2021 if you’re a higher income taxpayer.
Proactive Accounting & Tax Services Small Business Owners, Tax Deduction

How Many Whole or Partial Rooms Can You Use for Your Home Office?

With the COVID-19 pandemic still going on, you may be spending more time working from your home office.

You may have taken some extra rooms for your business use. Is that okay?

Section 280A(c) states that you may claim a home office based on the portion of the dwelling that you use exclusively and regularly for business. Thus, the law dictates no specific number of rooms or particulars regarding the size of the office.

The courts make this rule clear, as you can see in the Mills (less than one room) and Hefti (lots of rooms) cases described below.

The Mills Case

Albert Victor Mills maintained an office in his apartment from which he conducted his rental property management business. The apartment was small, totaling only 422 square feet. In the office area of the apartment where Mr. Mills had his desk, he also kept tools, equipment, paint supplies, and a filing cabinet.

The court agreed with Mr. Mills’s allocations and awarded the home-office deduction based on his claimed 23 percent business use of the 422-square-foot apartment.

Planning note. Mr. Mills did not have a single room dedicated to a home office. He had only an area of the apartment where he grouped his office furnishings, equipment, and supplies. If you have a similar situation, make sure your business assets are located in a group.

The Hefti Case

Charles R. Hefti lived in a big house, totaling 9,142 square feet. He claimed that more than 90 percent of his home was used regularly and exclusively for business.

Based on its review of the rooms, the court concluded that 13 rooms, totaling 19 percent of the home, were used exclusively and regularly for business.

Insights

The deductible portion of your home for an office includes the area used exclusively and regularly for business.

Let’s say you have an office in one room and your files in a second room, and you never use these rooms for personal purposes. Further, let’s say you use the office area on a daily basis and the file area in connection with that daily work.

Both rooms would meet the exclusive and regular use requirements, just as Mr. Mills’s and Mr. Hefti’s offices met these rules.

But Not This

“Exclusive use” means that you must use a specific portion of the home only for business purposes. You must make no other use of the space.

Exception. One exception to the exclusive use rule is storage of inventory or product samples if the home is the sole fixed location of a trade or business selling products at retail or wholesale.

Example 1. Your home is the only fixed location of your business, which involves selling mechanics’ tools at retail. You regularly use half of your basement for storage of inventory and product samples. You sometimes use the area for personal purposes. The expenses for the storage space are deductible even though you do not use this part of your basement exclusively for business.

Example 2. In Pearson, Dr. Pearson practiced orthodontics in a downtown medical building but retained the dental records of more than 3,000 patients in 36 file drawers (each measuring 26 inches by 14 inches by 12 inches) and had 1,461 boxes containing orthodontic models (each box measuring 10 inches by 6 inches by 2 1/2 inches).

He stored the records in the attic and basement of his home. The areas used for such storage were not separate rooms, and the remaining portions of the attic and basement were used by Dr. Pearson and his family for personal purposes.

The court ruled that Dr. Pearson may not treat the storage areas as home-office expenses because the records were not inventory or samples and Dr. Pearson did not operate a wholesale or retail trade or business from his home.

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Proactive Accounting & Tax Services Small Business Owners, Tax Deduction

Working at Home? Don’t Overlook These Deductions

Whether you claim a business office in the home or are simply working at home, say because of COVID-19, you likely have some former personal assets that you now use for business.

Ah, new tax deductions!

Yep. Say you don’t claim a home-office deduction but now you are working at home and sitting in the fancy chair you inherited from your grandmother.

Let’s say you use the fancy chair 85 percent for business purposes. Can you depreciate 85 percent of that chair?

Yes.

Let’s say that grandma’s estate was appraised and this chair had a value of $10,000 when you inherited it about a year ago. It’s an antique, so it’s not gone down in value since you inherited it.

Depreciating a Formerly Personal Asset

When you convert the fancy chair to 85 percent business use, the law sees you as placing the item in service in your business at that time. That means you can begin depreciating the asset and claiming your tax deductions.

To determine the basis to use for depreciation, use the lesser of

  • fair market value on the date of conversion from personal to business use, or
  • adjusted basis of the property (generally the amount you paid for the asset plus the cost of any improvements).

With the fancy chair, your adjusted basis is the inherited value.

But say you bought the chair for $8,000. Suppose it was worth $10,000 when you converted it to personal use. You would use the $8,000 figure to determine your depreciation deductions.

Bonus Depreciation and Section 179 Expensing

Unfortunately, unlike assets directly purchased for your business, you may not use Section 179 to immediately expense assets that you convert from personal to business use.

Bonus Depreciation Is a Different Story

If you acquire bonus depreciation qualified property for personal use after September 27, 2017, and convert it to business use this year (or anytime before 2027), you must use 100 percent bonus depreciation if you don’t elect out of it.

Example. You purchased an antique clock for $9,300 in January 2018. Yesterday, you placed the clock in business service by moving the clock from your entryway to your home office. If you don’t make a formal election in your tax return to elect out of bonus depreciation, you must claim a $9,300 depreciation deduction on the antique clock this year.

Basis When You Sell

There’s a trick to basis when you sell converted property—you use a different rule for calculating losses than you do for calculating gains:

  • Losses. To calculate losses, use your adjusted basis (conversion basis as discussed above minus depreciation).
  • Gains. To calculate gains, use original cost basis minus post-conversion depreciation. In most cases, original cost gives you a higher basis and thus less tax. So don’t accidentally use adjusted basis.

Note. For inherited assets, your cost basis is the estate value (generally, the date of death value).

Clarifying Examples

Let’s say you bought a personal use desk/credenza/bookcase set for $8,000 and then converted it to business use when its fair market value had fallen to $6,000. Here are the tax consequences for three different sales scenarios (to make the examples clear, we ignored depreciation):

  • Loss. If you sell the desk/credenza/bookcase set for $4,000, you have a $2,000 deductible loss ($6,000 – $4,000). Note. This is much better than if you sold the desk/credenza/bookcase set as a personal asset, which would create a zero deductible loss.
  • Gain. If you sell the desk/credenza/bookcase set for $10,000, you have a $2,000 gain ($10,000 – $8,000).
  • Gray area. If you sell the set for $7,000, you have neither gain nor loss on the sale. That’s a decent result—it means no taxes for you (but no deductible losses either).
Proactive Accounting & Tax Services Rental Properties, Tax Deduction

Does Renting My Home for Two Months Kill the $500,000 Exclusion?

Here’s how renting out your home while you take a two-month vacation interacts with your ability to use the $500,000 home-sale exclusion ($250,000 if single).

Remember, you have to use the home as a home for two of the five years before sale to qualify for the home-sale exclusion.

Exclusion Rule

The tax code allows you to exclude from gross income up to $500,000 of gain (joint return, $250,000 if single) from the sale or exchange of your home if

  • during the five-year period ending on the date of the sale or exchange
  • such property has been owned by you or your spouse for periods aggregating two years or more and
  • used by both you and your spouse as your principal residence for periods aggregating two years or more.

Planning note. The ownership and use periods do not have to be the same.

Vacation Rule

Here’s what the IRS said in an example that fits the vacation activity:

Taxpayer E purchases a house on February 1, 1998, that he uses as his principal residence. During 1998 and 1999, E leaves his residence for a two-month summer vacation.

E sells the house on March 1, 2000.

Although, in the five-year period preceding the date of sale, the total time E used his residence is less than two years (21 months), the section 121 exclusion will apply to the gain from the sale of the residence because, under paragraph (c)(2) of this section, the two-month vacations are short temporary absences and are counted as periods of use in determining whether E used the residence for the requisite period.

To summarize, E was living in the house for 21 months and on vacation for four months, giving him a total of 25 months. To take advantage of the $500,000 home-sale exclusion, E had to use the home for 24 months or more. The IRS says he meets the 24-month rule because his vacation time counts as use of the home as a home.

Rental

Your home is going to be a home under the vacation-home rules when you use it as your home for a number of days that exceeds the greater of

  • 14 days, or
  • 10 percent of the number of days during such year for which such unit is rented at a fair rental.

Example. You rent the home for 60 days and live in it for 305 days. Your home is a home under the vacation-home rules because your personal use is greater than 14 days and greater than six days (60 x 10 percent).

At the end of the year, you need to tally the rents you received and allocate the home expenses to the rental based on the ratio of rental days to personal days.

If you have a tax loss on the rental part, it’s not deductible against other income, but all is not lost. The law allows you to carry over any losses to the next tax year, when they again become available against your home-rental activity.

Proactive Accounting & Tax Services Small Business Owners, Tax Deduction

COVID-19 Strategy: Hire Family Members to Create Tax Benefits

The COVID-19 pandemic may create tax benefit opportunities for you and your family members.

For example, you could hire your under-age-18 children, pay them, say, $10,000 each, and they could pay zero federal income taxes. And you or your corporation, the employer, would deduct the $10,000 you paid to each of the children.

The child wins. You win. There’s more.

Schedule C Business

Let’s say you operate your business as a sole proprietorship, a single-member LLC that’s treated as a sole proprietorship for tax purposes, a husband-wife partnership, or an LLC that’s treated as a husband-wife partnership for tax purposes. Good!

That means you can hire your under-age-18 child, and the child’s wages will be completely exempt from Social Security and Medicare taxes (FICA tax) and FUTA taxes.

To be clear, the FICA tax exemption applies to the employee’s share of FICA tax that’s withheld from the employee’s paychecks and to the employer’s share of FICA tax that your business must pay over to the Feds. You have to like that!

For 2020, your under-age-18 employee-child’s standard deduction will shelter from federal income tax the first $12,400 of wages received if the child has no taxable income from other sources. No federal income taxes for this child. You have to like that too!

You can hire the under-age-18 child part-time, full-time, or whatever works for you and the child. Right now, children in this age category are probably not attending school, and the school district’s lengthy summer vacation may have already begun.

In the fall, will your under-age-18 child be attending school in person or online? You probably don’t know anything for sure at this point. But in the COVID-19 era, your under-age-18 child’s availability to work in your business may be at an all-time high.

The wages received by your child can be used to help keep the family afloat financially. If the family is not so financially stressed, your child can use some or all of the wages to fund a college savings account or make a Roth IRA contribution.

What if My Business Is Incorporated?

If you operate your business as an S or a C corporation, your child’s wages received from the business are subject to FICA and FUTA taxes, just like any other employee, regardless of the child’s age.

What if I Hire a Family Member over Age 21?

Do it! The wages received from your business are subject to FICA and FUTA taxes, just like any other employee. This is the case whether you operate your business as an unincorporated sole proprietorship, a partnership, or an LLC or as an S or a C corporation.

Tax Advantages for Your Business

When you hire a child or other family member, your business deducts the wages paid.

  • If you operate the business as a sole proprietorship, a single-member LLC that’s treated as a sole proprietorship for tax purposes, a husband-wife partnership, an LLC that’s treated as a husband-wife partnership for tax purposes, or an S corporation, the wage expense deduction reduces (a) your individual federal taxable income, (b) your individual net self-employment income, and (c) your individual state taxable income (if applicable).
  • If you operate the business as a C corporation, the corporation deducts the wages paid to a child or other family member. The deductions reduce the corporation’s federal taxable income and probably the corporation’s state taxable income (if applicable).
  • If your business will be unprofitable this year due to the COVID-19 fallout, deductions for wages paid to a child or other family member can create or increase a net operating loss (NOL) for 2020. If so, you can carry back the 2020 NOL for up to five tax years—back to 2015. The NOL carryback can trigger a refund of income taxes paid for the carryback year. That can really help. An NOL carried back to a pre-2018 tax year can be especially helpful, because tax rates were generally higher in those days.

Keep payroll records just like you would for any other employee to document hours worked and duties performed (e.g., timesheets and job descriptions).

Issue W-2s just like you would for any other employee.

Proactive Accounting & Tax Services Small Business Owners, Tax Deduction

Create Deductions: Use Your Vacation Home for Business Lodging

Here’s good news: the properly used business vacation home or condo does not suffer from

  • the vacation-home rules,
  • the passive-loss rules, or
  • the entertainment-facility rules.

In these days of COVID-19, you may have solid reasons to use your vacation home or condo for two purposes only, which are

  • personal pleasure, and
  • business lodging.

How Business Use Escapes the Dreaded Vacation-Home Rules

Do you use your business vacation home or condo solely for business lodging? If so, you escape the vacation-home rules and may deduct your business-lodging costs. The law is very clear on this. The vacation-home section of the tax law, Section 280A(f)(4), states that nothing in the vacation-home rules shall disallow any business deduction for business travel.

Example 1. You use your beach home for overnight business lodging 37 times during the year. You have no personal or rental use of the beach home. Your beach home is a 100 percent business asset and deductible as such.

One exception to this business-lodging rule. The law does not grant the business-lodging exception to landlords who rent dwelling units. If you have apartment buildings or other residential rentals, staying at your vacation home or condo to look after your rentals does not let you escape the unfavorable vacation-home rules.

Example 2. Fred uses his beach home for 70 nights of business lodging and 30 nights of personal lodging. He has a 70 percent business-use beach home and a 30 percent personal-use beach home.

Planning note. Fred has his tax home where he regularly works, in New Jersey. He travels to his South Carolina beach home location to conduct business in South Carolina. His business activity is what makes his overnight stays at the beach home business stays.

How Rental Use Changes the Landscape

If you rent the vacation home or condo, you really change the tax picture. For example, if you use the vacation home or condo for personal, business, and rental purposes, you could trigger

  • vacation-home rules that require a split between the rental- and personal-use deductions;
  • vacation-home rules that classify the rental part of your property as either a personal residence or a rental property;
  • loss of tax-favored hotel status for qualified rentals; and
  • passive-loss rules that defer current tax benefits to future years.

Looking at this list, you might ask, “How can I avoid all these additional considerations and still rent out the vacation home or condo?” Answer: rent for 14 days or less. Technically, that works.

Build Proof

In addition to keeping receipts for the business condo’s expenses and improvements, you need to prove how many nights you slept in the vacation home or condo for both business and personal purposes.

Notations on your business and personal calendars are helpful but not conclusive. For your business activities, you want proof of why you had to be at the beach home.

Example 3. Sara sells real estate at both her tax and beach home locations. She tracks her prospects and activities at each location.

Do as Sara does. Also, keep your eyes open for third-party and other corroborative evidence of use. Do you have emails, letters, and other proof of why you had to travel to the beach home? If so, print the emails and save them along with the written letters in your tax file.

Do you have evidence of being in the area, such as gas, grocery, and dining receipts? Proving use of your business condo is easy and takes very little time. Documentation is essential. Don’t pass over this critical step.

Ownership

Do you own the vacation home or condo in your personal name?

If so, and you operate as a

  • proprietorship or LLC taxed as a proprietorship, no problem. Simply treat the business percentage as business expenses on your Schedule C.
  • corporation, submit an expense report to the corporation to obtain reimbursement.

Why not use a rental arrangement with your corporation? Because you are an employee who likely uses the vacation home or condo for more than 14 days of personal use, you want to avoid a rental arrangement that could cost you your depreciation, repairs, and similar deductions. The reimbursement method works and creates no complications. Use it.

If the corporation owns the vacation home or condo, you should reimburse the corporation for your personal use so as to avoid the monies showing on your W-2 and costing you payroll taxes.