Liberty Tax Service Online Basic Income Tax Course. Lesson 14

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Liberty Tax Service Online Liberty Tax Service Online Basic Income Tax Course.Basic Income Tax Course.

Lesson 14 Lesson 14

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Chapter 13 - HomeworkChapter 13 - Homework

HOMEWORK 1: Use Part II of Form 2106 to figure car expenses for the following. Use both the standard mileage rate and actual expenses to determinewhich is better for the taxpayer and enter that amount on the correct line of Part I of Form 2106.

Barry B. Breene (055-48-0801) purchased a new car on January 6, 2008 for $27,000. In 2008, he drove 28,000 total miles. 22,400 miles were for business use in his job as an engineer. 11,000 of his business miles were driven from January 1, 2008 to June 30, 2008. The round trip commute to Barry’s office is 10 miles and he drove 3,200 commuting miles in 2008. He paid $3,080 for gas, oil, repairs, and insurance. Barry kept records and receipts for all his expenses. Barry wants to elect out of the special depreciation allowance.

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Chapter 13 - HomeworkChapter 13 - HomeworkHomework 1

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HOMEWORK 2: Using the information provided, prepare a 2007 tax return for the following taxpayer.

Andrew L. Jackson (born 1/4/1962) lives with his son John (311-45-9561, born 5/5/1992). Andrew’s wife died in 2007 and he has not remarried. On his joint return in 2007 his itemized deductions were $13,450. Their 2007 state income tax deduction was $1,689 and the sales tax deduction they could have taken was $765.

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In March 2008, Andrew was in a car accident. He had paid $24,000 for his Subaru on February 4, 2006. The FMV of the car before the accident was $17,000. The FMV after the accident was $11,000. His insurance paid him $4,000.

Andrew is a manufacturer’s representative. In 2008, he traveled away from home on business and had the following expenses:

Airfare - $830Meals - $320Entertainment - $55Hotel bill - $600Car rental - $250Parking fees - $12

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Chapter 13 - HomeworkChapter 13 - HomeworkAndrew also had the following expenses:

Doctor’s bills - $650Health insurance - $2,000Prescription drugs - $300Life insurance - $1,500Health club dues - $300Church contributions - $600 (no one contribution over $250)Tax preparation fee - $140Legal fees related to his wife’s death - $400Safe deposit box fee to store his stock certificates-

$120United Way contribution - $25 per monthCar loan interest - $800Gifts to 3 clients - $190Business cards - $45Tuition for a course at an eligible educational

institution to qualify for a new job - $400

Union dues - $300

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Andrew received an expense allowance of $500 for his travel expenses under his employer’s accountable plan (shown with code L in box 12 of his W-2 form). He did not receive a meal or entertainment allowance.

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If tuition had been for a course that qualified as a business expense, all three methods for taking an education deduction (lifetime learning credit (F8863), business expense (F2106) and tuition and fees (F8917, covered in Chapter 16) should be explored to see which gives the largest refund.

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Chapter 14: Profit or Loss from BusinessChapter 14: Profit or Loss from BusinessChapter Content Self-Employment Schedule C: Background Information Schedule C: Income Schedule C: Expenses Schedule C: Profit (Loss) Calculation Business Use of Your Home Form 8829, Expenses for Business Use of Your Home Schedule SE: Self-Employment Tax Key Ideas

Objectives Learn About Self-Employment Understand How to Use Schedule C Be Able to Determine If You Can Take a Home Office

Deduction Be Able to Complete Form 8829 Understand How to Calculate Self-Employment Tax Using

Schedule SE

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Profit or Loss from BusinessProfit or Loss from Business

A. You are SELF-EMPLOYED if you:1. Carry on a business or trade as a sole proprietor2. Are an independent contractor3. Are a member of a partnership4. Are in business for yourself in any other way.

B. An activity qualifies as a business if your primary purpose for engaging in it is for income or profit and you are involved in the activity with continuity and regularity.

C. A sole proprietor owns a business alone and has not incorporated.

D. An independent contractor is actually a sole proprietor.

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E. Report income and expenses on Schedule C unless partnership.1. If your net earnings from self-employment are at least $400,

you must file a return.2. Total profit (or loss) is entered on line 12 of Form 1040 (be

sure self-employment income is reported on Schedule C first before entering on Form 1040)3. Self-employed farmer uses Schedule F.

Form 1040, Page 1

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Statutory Employee

F. A statutory employee is a person who is treated partly as an employee and partly as being self-employed.1. Treated as employee for social security and Medicare purposes.2. Treated as being self-employed for income tax purposes.3. Box 13 of W-2 checked.

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Presumption of Profit An activity is presumed carried on for profit if it

produces a profit in at least 3 of the last 5 tax years, including the current year.

Activities that consist primarily of breeding, training, showing or racing horses are presumed to be carried on for profit if they produced profit in 2 of the last 7 tax years, including the current year.

If your activity is not carried on for profit, your deductions and losses may be limited.

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HobbyG. A hobby is not considered a business because the

activities are not carried on to generate a profit.1. Report hobby income on line 21 (Other Income) of

Form 10402. Hobby expenses are reported as miscellaneous

deduction on Schedule A.

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Profit or Loss from BusinessProfit or Loss from BusinessSchedule C

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4040

SCHEDULE CSCHEDULE CSchedule C is a two-page form which may include expenses

that require you to attach other forms and schedules.

Form 4562, Depreciation and Amortization. Form 8829, Expenses for Business Use of Your Home. Schedule SE, Self-Employment Tax,

Schedule C is divided into sections: Background information (A-H) Income (Part I, lines 1-7 and Part III, Cost of Goods Sold,

lines 33-42) Expenses (Part II, lines 8-27 and Part V, Other Expenses,

line 48) Profit or Loss Calculation (lines 28-31) Information on Your Vehicle (Part IV, lines 43-47b)

4141

SCHEDULE CSCHEDULE C

Background InformationA. If you own more than one business, complete a

separate Schedule C for each one.1. A business code is entered on line B and can be found in the instructions of Schedule C in Appendix E2. Your Employer Identification Number (EIN) (if any) is entered on line D

a. Do NOT enter your SSNb. Obtain an EIN by sending in Form SS-4.

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Satish J. Patel (093-62-7357) owns a tax preparation business called Many Happy Returns located at 1040 Liberty Lane, Chicago, IL 60621. The EIN of Satish’s business is 16-3863117. The business code for tax preparation is 541213. The Schedule C lines A-E for Satish Patel is as follows:

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B. Report your accounting method on line F.1. With cash method, report income when you receive it; deduct expenses when paid2. With accrual method, report income in year sales

occur (even if collected in later year); deduct expenses in year incurred (even if not paid

until later year)3. Hybrid method is combination of cash method and

accrual method.

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Income (Part I of Schedule C)C. Gross income is reported on line 7 of Part I of

Schedule C.1. Gross receipts or sales (line 1) are the total revenue of business from sales and services.2. May receive Form 1099-MISC reporting non-employee compensation (box 7) which is entered on line 1.

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3. Returns and allowances (line 2) are amounts covering any returned products or allowances and rebates from sales price made to customers.4. Cost of goods sold (line 4) is determined by completing Part III of Schedule C

a. Basically difference between inventory at end of year and inventory at beginning of year

with adjustments for purchases, labor costs, materials and supplies and other costs

b. To determine value of good sold, FIFO means product purchased first is considered sold

firstc. To determine value of good sold, LIFO means

product last purchased is considered sold first

5. Gross profit for service business is usually equal to gross receipts.

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SCHEDULE C – Problem 1SCHEDULE C – Problem 1

Gary owns a retail furniture store. In 2008, he purchased two identical tables, one for $850 and the other for $1,050. He bought the $850 table first. He sold one of the tables in 2008. The inventory method that Gary uses determines which table he sold.

Which inventory method is Gary using if the second table purchased was the one sold?

a. FIFOb. LIFO

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SCHEDULE C – Problem 1SCHEDULE C – Problem 1

Gary owns a retail furniture store. In 2008, he purchased two identical tables, one for $850 and the other for $1,050. He bought the $850 table first. He sold one of the tables in 2008. The inventory method that Gary uses determines which table he sold.

Which inventory method is Gary using if the second table purchased was the one sold?

b. LIFO Gary is using the LIFO method because the $1,050

table was the last purchased so it is the first sold.

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SCHEDULE CSCHEDULE CExpenses (Part II and Part V of Schedule C)D. Expenses are reported on Part II and V of Schedule C.

1. Most expenses are deductible.a. Ordinary expenses are common and

accepted in your type of business.b. Necessary expenses are appropriate and

helpful to your business.2. Advertising costs (line 8) include classified ads,

business cards, mailers, television spots, and promotional brochures.

3. Car and truck expenses (line 9) are costs paid to operate a vehicle for business purposes.a. Also enter on Form 4562 (depreciation) if

required to file one.b. Take standard mileage rate 50.5 cents per

mile driven Jan 1 thru Jun 30 and 55.5 per mile driven Jul 1 thru Dec 31 or actual expenses.

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4. Deduct commissions and fees other than contract labor on line 10.

5. Contract labor (line 11) amounts paid to independent contractors.6. Depletion (line 12) is deduction for exhaustible natural resources.7. Depreciation and section 179 expense deduction

(line 13) are covered in Chapter 12.8. Employee benefit programs (line 14) includes payments made for employees for accident and health insurance, term life insurance, and

dependent care assistance programs.9. Insurance (line 15) costs related to operation of

business are deductible.10. Interest (line 16) on any loans used to finance business is deductible.

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11. Legal and professional services (line 17) include fees for tax advice and tax preparation.

12. Office expense (line 18) includes cost of paper, toner and postage.

13. Pension and profit sharing plan contributions (line 19) made to employee accounts are deductible.14. Rent or lease (line 20) payments for:

a. vehicle, machinery, or equipment for business are deducted on line 20a.

b. Other items as for office space, storage, or other real property leases enter on line 20b.

15. Repairs and maintenance (line 21) include costs of labor, supplies, and other items spent for repairs and maintenance that do not add tovalue or increase life of property

a. Do not deduct your own labor

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16. Supplies not covered on line 38 of Part III are entered on line 22, including paper bags, staples, pens and pencils, paper, and invoices.17. Taxes and licenses (line 23) directly related to business are deductible.18. Travel, meals, and entertainment (line 24) related to business are deductible.

a. Generally 50% cost of meals and entertainment.19. Utilities (line 25) including gas, electricity, and telephone directly related to business are deductible.20. Wages (line 26) including total salaries and wages paid to employees are deductible.21. Other expenses (line 27) not listed in other sections of Part II are listed on Part V; carry total of these expenses (line 48) to line 27.

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Profit And Loss CalculationE. Net profit (loss) is entered on line 31 of Schedule C

and line 12 of Form 1040.1. Report it also on line 2 of Schedule SE (see Chapter 17).

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AT-RISK RULESF. Line 32 of Schedule C deals with At-Risk Rules.

1. Limits amount of loss you can claim to amounts you personally have at risk2. If all or part not at risk, complete Form 6198.

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EXPENSES FOR BUSINESS USE OF EXPENSES FOR BUSINESS USE OF YOUR HOMEYOUR HOME

If you use a part of your home for business, even if it is not your full-time job but a secondary one, you may be able to deduct the expenses for business use of your home from your business income.

If you qualify for this deduction, you can include as business expense a portion of:

home mortgage interest or rent insurance, maintenance real estate taxes utilities

May also deduct, as a business expense, a portion of depreciation of home if you own it.

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A. Business use of home deduction is figured on Form 8829 and entered on line 30 of Schedule C.

On Schedule C

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Principal Place Of Business TestB. The two qualifying tests that must be met are: principal

place of business test and regular and exclusive use test.

C. The principal place of business test is met if you use a portion of your home:1. As principal place of business; or2. As place of business used by you to meet your patients,

clients, or customers to meet or deal with you in normal course of running business; or3. In connection with your business if it is a separate structure that is not attached to your home.4. Principal place of business includes part of home used to conduct administrative and managerial functions if

your business does not have another fixed location to carry out these functions.

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EXPENSES FOR BUSINESS USE OF EXPENSES FOR BUSINESS USE OF YOUR HOME – Problem 1YOUR HOME – Problem 1

By day, James works full time as a school teacher. At night, he has a home based business of making greeting cards. His home office is the main placeof business for his greeting card business. Does James pass the principal place of business test?

Yes or No?

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By day, James works full time as a school teacher. At night, he has a home based business of making greeting cards. His home office is the main placeof business for his greeting card business. Does James pass the principal place of business test?

Yes Since his home office is the main place of business for

his greeting card business, he passes the principalplace of business test.

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Elaine paints wall murals for residential and commercial buildings. Her home office is where she keeps her records, books, and schedules appointments. Her home is not the place where she earns her money. The places where she earns her money are the establishments where she paints and therefore, would not meet the principal place of business test.

True or False?

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Elaine paints wall murals for residential and commercial buildings. Her home office is where she keeps her records, books, and schedules appointments. Her home is not the place where she earns her money. The places where she earns her money are the establishments where she paints and therefore, would not meet the principal place of business test.

False

She would meet the principal place of business test because her home office is where she conducts her administrative and managerial activities.

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Ran has a freestanding greenhouse in which he exclusively grows perennials to sell as a business. The home office deduction applies and the greenhouse is considered to be the home office.

True or False?

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Ran has a freestanding greenhouse in which he exclusively grows perennials to sell as a business. The home office deduction applies and the greenhouse is considered to be the home office.

True

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Sean O’Brien sells different types of insurance. He uses a front room in his home exclusively and regularly to meet with clients and manage other insurance-related matters. Sean does sell insurance at several other locations. Does he meet the principal place of business test?

Yes or No?

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Sean O’Brien sells different types of insurance. He uses a front room in his home exclusively and regularly to meet with clients and manage other insurance-related matters. Sean does sell insurance at several other locations. Does he meet the principal place of business test?

Yes

You could debate whether his home office is his principal place of business. However, he meets the test because his home office serves as a regular place to meet clients as a normal part of conducting his business.

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Regular And Exclusive Use TestD. The exclusive use test states that the home office

must be used exclusively for your business and on a regular basis.1. Qualifying day-care providers are exempt from this test.2. Do not have to use entire room exclusively for home office.3. Rules for employees taking work home covered in

Chapter 13.

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Lisa has a TV room in her house which the family uses during the day. In the evening, Lisa uses the room to manage her sideline business. Is the exclusive use test met in this case?

Yes or No?

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Lisa has a TV room in her house which the family uses during the day. In the evening, Lisa uses the room to manage her sideline business. Is the exclusive use test met in this case?

No

Because the room is not used exclusively as her home office.

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Nick has two separate businesses. He is a freelance writer and also runs a lawn mowing business. He has an office in his home for his freelance writing. He also uses this same room to do administrative functions for the lawn mowing business. Can he take the home office deduction?

Yes or No?

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Nick has two separate businesses. He is a freelance writer and also runs a lawn mowing business. He has an office in his home for his freelance writing. He also uses this same room to do administrative functions for the lawn mowing business. Can he take the home office deduction?

Yes, if both businesses pass the exclusive-use test, then the exclusive-use test is met to take the deduction.

No, if one of the businesses using the home office fails one of the other tests.

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Part Of Your Home Used For Business: Form 8829 - Part I

E. Generally, part of home used for business is figured on square-footage basis.1. Day-care providers must figure percentage of time

business operates.

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Gloria’s home office is a room in her house that measures 10 feet by 15 feet. The total area of her home is 1,500 square feet. The area of her home office is 150 square feet (10 ft. x 15 ft.). What percentage of her home is used as a home office?

a. 20%b. 10%c. 15%

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Gloria’s home office is a room in her house that measures 10 feet by 15 feet. The total area of her home is 1,500 square feet. The area of her home office is 150 square feet (10 ft. x 15 ft.). What percentage of her home is used as a home office?

b. 10%

The percentage of her home used as a home office is 10% (150 divided by 1,500).

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Antonio operates a business out of one room of his five-room apartment. All the rooms are about the same size. What percentage of Antonio’s room is used for his home office.

a. 20%b. 15%c. 10%

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Antonio operates a business out of one room of his five-room apartment. All the rooms are about the same size. What percentage of Antonio’s room is used for his home office.

a. 20%

His home office percentage is 20% (1 room divided by 5 rooms).

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Christina runs a day-care business four hours a day for five days a week. She uses 80% of her house, so line 3 is 80%. She figures the days per year she operated the day care by multiplying 5 days by 52 weeks (5 x 52= 260), then, to arrive at the hours per year she operated the business, multiply 260 days by 4 hours (260 x 4= 1,040 hours).

Enter 1,040 on line 4 of Form 8829. For line 6, divide 1,040 hours by 8,784 hours to get 0.1184. Line 7 is calculated by multiplying .1184 by 80% (.1184 x 80%= 9.472%). Therefore, her business percentage for her day-care operation is 9.472%.

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Figure Your Allowable Deduction: Form 8829 - Part IIF. Expenses for home-office deduction are reported as

either direct expenses or indirect expenses.1. Direct expenses are derived solely from the home

office part; examples include refinishing floor of home and painting home office.2. Indirect expenses result from the entire home and

include rent, home mortgage interest, real estate taxes, and furnace and roof repairs.

If your rent is $500 per month and your business use percentage is 20% of your apartment, then you can deduct $1,200 ($6,000 x 20%) as your rent expense for your business use of home deduction. Rent is an indirect expense.

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Depreciation Of Your Home: Form 8829- Part IIIG. Deduct depreciation only if own property.

1. Report on Part III of Form 88292. Refer to Chapter 123. Use table in this chapter to determine percentage

on line 39.

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Karen R. Walsh (310-40-0912) is a freelance writer. She is self-employed and uses one room of her house exclusively and regularly for her writing. She uses 300 square feet of her 1,500 square feet home for her office. She purchased her home in 2006 for $90,000 (the land was valued at $10,000) and started using her home for business that year.

Karen’s business had a profit of $12,000, which she reported on her Schedule C. The following are expenses paid by Karen for her home:

Mortgage interest $4,500 Indirect expenseReal estate taxes 1,500 Indirect expenseInsurance 600 Indirect expenseUtilities 1,800 Indirect expensePainting her office 100 Direct expenseFurnace repairs 1,200 Indirect expenseDepreciation 410

Karen’s Form 8829 is on the next slide.

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Carryover Of Unallowed Expenses To 2009: Form 8829 - Part IV

H. You may carry over excess or unused portion of deduction to future year.

1. Use Part IV of Form 8829.

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Day-Care Providers – Meals for ChildrenI. Child day care providers can use standard meal and

snack allowance in lieu of actual costs

Allowance per child per dayAllowance per child per day U.S. other than AK and HIU.S. other than AK and HI AlaskaAlaska HawaiiHawaii

Breakfast (1)Breakfast (1) $1.11$1.11 $1.76$1.76 $1.29$1.29

Lunch or dinner (1 of each)Lunch or dinner (1 of each) $2.06 each$2.06 each $3.34 each$3.34 each $2.41 each$2.41 each

Snacks (3)Snacks (3) $0.61 each$0.61 each $0.99 each$0.99 each $0.72 each$0.72 each

The table below shows the 2007 standard meal and snack rates:

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SELF- EMPLOYMENT TAXSELF- EMPLOYMENT TAX

A. File Schedule SE with your return if:A. File Schedule SE with your return if:1. Your net earnings from self-employment were 1. Your net earnings from self-employment were $400 or more, or$400 or more, or2. You had church employee income of $108.28 or 2. You had church employee income of $108.28 or more.more.

B. Self-employment tax provides you with coverage B. Self-employment tax provides you with coverage under the social security system.under the social security system.

C. Self-employment tax is 15.3%.C. Self-employment tax is 15.3%.1. 12.4% is social security tax on earnings up to 1. 12.4% is social security tax on earnings up to $102,000$102,0002. 2.9% is Medicare tax.2. 2.9% is Medicare tax.

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Rich earned $74,300 in salaries as an employee and another Rich earned $74,300 in salaries as an employee and another $35,000 as net income from self-employment. The social $35,000 as net income from self-employment. The social security part of his self-employment tax is calculated on security part of his self-employment tax is calculated on $27,700 ($102,000 max - $74,300 salary). The Medicare $27,700 ($102,000 max - $74,300 salary). The Medicare part of his self-employment tax is based on the entire part of his self-employment tax is based on the entire $35,000.$35,000.

D. If reporting only self-employment income, use Section A of D. If reporting only self-employment income, use Section A of Schedule SE. This is the short Schedule SE.Schedule SE. This is the short Schedule SE.

E. If you have both salary income from employer and self-E. If you have both salary income from employer and self-employment income, use long form of Schedule SE.employment income, use long form of Schedule SE.1. Total amounts from boxes 3 and 7 of Form W-2 are 1. Total amounts from boxes 3 and 7 of Form W-2 are entered on line 8a of Schedule SE.entered on line 8a of Schedule SE.

F. Self-employment tax from line 5 of Section A of Schedule F. Self-employment tax from line 5 of Section A of Schedule SE or from line 12 of Section B is entered on line 58 of SE or from line 12 of Section B is entered on line 58 of Form 1040.Form 1040.

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Form 1040, Page 1

Form 1040, Page 2

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Self-Employment IncomeSelf-Employment IncomeG. If a member of partnership, refer to Publications G. If a member of partnership, refer to Publications

541.541.

H. Ministers, Christian Science practitioners, and H. Ministers, Christian Science practitioners, and members of religious orders who have not taken a members of religious orders who have not taken a vow of poverty, in most cases, must pay self-vow of poverty, in most cases, must pay self-employment tax on net earnings.employment tax on net earnings.1. Exemption on certain earnings possible on Form 1. Exemption on certain earnings possible on Form

436143612. See Publication 517.2. See Publication 517.

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Figuring Net Self-Employment IncomeFiguring Net Self-Employment Income

I. Net self-employment income obtained from other I. Net self-employment income obtained from other schedules.schedules.

Schedule C (Form 1040)………………….. Line 31Schedule C (Form 1040)………………….. Line 31

Schedule C-EZ (Form 1040)……………… Line 3Schedule C-EZ (Form 1040)……………… Line 3

Schedule F (Form 1040)…………………... Line 36Schedule F (Form 1040)…………………... Line 36

Schedule K-1 (Form 1065)……………….. Box 14, code ASchedule K-1 (Form 1065)……………….. Box 14, code A

Schedule K-1 (Form 1065-B)…………….. Box 9, code J1Schedule K-1 (Form 1065-B)…………….. Box 9, code J1

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Matthew Calandra is the sole proprietor of two Matthew Calandra is the sole proprietor of two separate businesses. He operates a restaurant that separate businesses. He operates a restaurant that made a net profit of $25,000. He also has a made a net profit of $25,000. He also has a cabinetmaking business that had a net loss of $500. cabinetmaking business that had a net loss of $500. Matthew files Schedule SE showing a net self-Matthew files Schedule SE showing a net self-employment income of $24,500. He also files a employment income of $24,500. He also files a Schedule C for each business - a Schedule C for the Schedule C for each business - a Schedule C for the restaurant showing a net profit of $25,000, and restaurant showing a net profit of $25,000, and another Schedule C for the cabinetmaking business another Schedule C for the cabinetmaking business showing a net loss of $500.showing a net loss of $500.

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To arrive at net earnings, do not reduce your self-To arrive at net earnings, do not reduce your self-employment income by any of the following:employment income by any of the following:

Deductions for personal exemptions for yourself, Deductions for personal exemptions for yourself, your spouse, or dependentsyour spouse, or dependents

The standard deduction or itemized deductionsThe standard deduction or itemized deductions The net operating loss deductionThe net operating loss deduction Non-business deductions (including contributions Non-business deductions (including contributions on on

your behalf to a pension, profit-sharing plan, your behalf to a pension, profit-sharing plan, annuity plan, Keogh, SIMPLE, or SEP plan)annuity plan, Keogh, SIMPLE, or SEP plan)

The self-employed health insurance deductionThe self-employed health insurance deduction The deduction for one-half of your self-employment The deduction for one-half of your self-employment

tax.tax.

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Mike owns a grocery store that had the following Mike owns a grocery store that had the following income, expenses, and net operating loss carryover income, expenses, and net operating loss carryover for the year.for the year.

Gross Income Gross Income $87,400$87,400Salaries Salaries $30,000$30,000Rent Rent $ 6,000$ 6,000Heat, light and airHeat, light and airConditioningConditioning $ 2,400$ 2,400Other expenses Other expenses $ 1,900$ 1,900Gain on refrigerator sale Gain on refrigerator sale $ 350$ 350Fire loss on storeFire loss on storeBuildingBuilding $ 1,200$ 1,200Net operating lossNet operating lossCarryoverCarryover $ 1,000$ 1,000

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To figure taxable income, consider all the above items. But to To figure taxable income, consider all the above items. But to figure figure net self-employment net self-employment income, use only the following:income, use only the following:

Gross Income Gross Income $87,400$87,400Expenses:Expenses:

Salaries Salaries $30,000$30,000Rent Rent $ 6,000$ 6,000Heat, light and airHeat, light and airconditioningconditioning $ 2,400$ 2,400Other expenses Other expenses $ 1,900$ 1,900 $ 40,300$ 40,300

Net Profit Net Profit $ 47,100$ 47,100

The $47,100 is Mike’s net SE income. The refrigerator sale, The $47,100 is Mike’s net SE income. The refrigerator sale, the fire loss, and the net operating loss carried over from a the fire loss, and the net operating loss carried over from a previous year are not included in the calculation.previous year are not included in the calculation.

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Net Earnings from Self-EmploymentNet Earnings from Self-EmploymentJ. There are three ways to figure net earnings from J. There are three ways to figure net earnings from

self-employment: regular method, non-farm optional self-employment: regular method, non-farm optional method, and farm optional method.method, and farm optional method.1. Use 1. Use regular method regular method unless eligible to use one or unless eligible to use one or

both optional methods.both optional methods.a. Using the regular method, you multiply a. Using the regular method, you multiply

your net self-employment income by your net self-employment income by 92.35% (0.9235) to get your net 92.35% (0.9235) to get your net earnings.earnings.

2. Calculations for the optional methods are not 2. Calculations for the optional methods are not covered in this course.covered in this course.

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Figuring Self-Employment TaxFiguring Self-Employment Tax

To arrive at your self-employment tax, you multiply the To arrive at your self-employment tax, you multiply the net earnings you figured by the tax rate. The self-net earnings you figured by the tax rate. The self-employment tax rate is 15.3%. It is the same for net employment tax rate is 15.3%. It is the same for net earnings figured under each method.earnings figured under each method.

Vincent has $30,000 in net SE income and receives no Vincent has $30,000 in net SE income and receives no wages subject to social security and Medicare taxes wages subject to social security and Medicare taxes for the year. Multiply the $30,000 by 0.9235 on the for the year. Multiply the $30,000 by 0.9235 on the short Schedule SE to get his net earnings from self-short Schedule SE to get his net earnings from self-employment of $27,705. His SE tax is 15.3% of employment of $27,705. His SE tax is 15.3% of $27,705, or $4,238.87.$27,705, or $4,238.87.

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Bertha has $120,000 in net SE income and receives no Bertha has $120,000 in net SE income and receives no wages subject to social security and Medicare taxes wages subject to social security and Medicare taxes for the year. Multiply the $120,000 by 0.9235 on the for the year. Multiply the $120,000 by 0.9235 on the long Schedule SE to get her net earnings of long Schedule SE to get her net earnings of $110,820.$110,820.

Since only $102,000 of her earnings is subject to the Since only $102,000 of her earnings is subject to the social security part of the SE tax, her tax for this social security part of the SE tax, her tax for this part is $12,648 (12.4% of $102,000). Since all of her part is $12,648 (12.4% of $102,000). Since all of her net earnings are subject to the Medicare part of the net earnings are subject to the Medicare part of the SE tax, multiply $110,820 by 2.9% on the longSE tax, multiply $110,820 by 2.9% on the longSchedule SE for the Medicare part. The result is Schedule SE for the Medicare part. The result is $3,213.78. Add this to $12,648 for a total SE tax of $3,213.78. Add this to $12,648 for a total SE tax of $15,861.78.$15,861.78.

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Donna has $105,000 in net SE income and receives $15,000 in Donna has $105,000 in net SE income and receives $15,000 in wages subject to social security and Medicare taxes for the wages subject to social security and Medicare taxes for the year. Her net earnings are figured on the long Schedule year. Her net earnings are figured on the long Schedule SE, line 4a to be $96,968.SE, line 4a to be $96,968.

Next, subtract her wages of $15,000 from $102,000, the Next, subtract her wages of $15,000 from $102,000, the maximum income subject to the social security part of the maximum income subject to the social security part of the SE tax. The result is $87,000. Since only $87,000 of her SE tax. The result is $87,000. Since only $87,000 of her earnings is subject to the social security part of the SEearnings is subject to the social security part of the SEtax, her tax for this part is 12.4% x $87,000, or $10,788.tax, her tax for this part is 12.4% x $87,000, or $10,788.

Since all her net earnings are subject to the Medicare part of Since all her net earnings are subject to the Medicare part of the SE tax, multiply all her net earnings from self-the SE tax, multiply all her net earnings from self-employment, $96,968 by 2.9% on long Schedule SE for the employment, $96,968 by 2.9% on long Schedule SE for the Medicare part. The result is $2,812.07. Add this to theMedicare part. The result is $2,812.07. Add this to the$10,788 figured above for the total SE tax of $13,600.07.$10,788 figured above for the total SE tax of $13,600.07.

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KEY IDEAS

♦ A sole proprietor is a person who owns a business alone and has not incorporated the business.

♦ If you are a sole proprietor or a statutory employee, you report your business income and expenses on Schedule C of Form 1040.

♦ Generally, Form 1099-MISC, box 7, shows nonemployee compensation. Payments reported in this box are generally income from self-employment. Since you have received this form, rather than Form W-2, the payer may have considered you self-employed and did not withhold social security or Medicare taxes. Report self-employment income on Schedule C or Schedule C-EZ.

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KEY IDEAS

♦ You must obtain an Employer Identification Number (EIN) if you have employees, have a Keogh plan, or file an excise tax return.

♦ Most expenses you incur for your business are deductible.

♦ All income must be reported even if you do not receive a Form(s) 1099-MISC

♦ You may be able to deduct the expenses for the portion of your home in which you conduct your business.

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KEY IDEAS

♦ Expenses for the business use of your home are reported on Form 8829 if you are self-employed.

♦ Day-care providers can use a standard rate for meals and snacks for children in lieu of using actual costs.

♦ If your net earnings from self-employment were $400 or more or you had church employee income of $108.28 or more, you must file a Schedule SE.

♦ The self-employment tax rate is15.3% and is comprised of both the social security tax (12.4%) and the Medicare tax (2.9%). The SE tax is reported on line 57 of Form 1040.

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CLASSWORK 1: True or False.

(1) An activity is presumed to be carried on for profit if it produces a profit in at least 2 of the last 5 tax years.

(2) The total profit (loss) for all of your sole proprietorships should be entered on line 12 of Form 1040.

(3) To take the home-office deduction, you must meet either the principal place of business test or the exclusive use test.

(4) The closing inventory of one year should be greater than the opening inventory of the next year.

(5) FIFO means that the first product produced or purchased is the product that is considered sold first.

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(6) You may substitute your social security number for an EIN on Schedule C.

(7) If a husband and wife own and operate a business and share in the profits and losses they can report their income and expenses on Schedule C.

(8) You can generally deduct 50 % of the lodging and transportation expenses connected with business travel.

(9) A licensed day-care provider is exempt from passing the principal place of business test for the home-office deduction.

(10) The part of your home used for business to claim a home-office deduction must be figured by using the number of rooms in your house.

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(11) The use of a cleaning service is not considered a valid office expense.

(12) If you are a sole proprietor, you cannot work as an employee for someone else.

(13) In determining whether you can use a business use of home deduction, your principal place of business can include a place you use for the administrative or management activities of your business even if there is another fixed location where you can carry on these activities.

(14) An office in home is depreciated over 27.5 years.

(15) If you had net earnings from self-employment of at least $300, you must file a return.

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(16) If you are self-employed and claim the standard mileage rate for the business use of your car, you can also claim business related parking fees and tolls.

(17) An example of a direct expense for a business use of home deduction is the cost of having the home office professionally painted.

(18) Amortized business start-up costs are deductible expenses.

(19) A day-care provider can alternate between the standard rate method and the actual cost method for meals and snacks in the same tax year.

(20) If you keep an inventory, you must use the cash method of accounting.

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Profit or Loss from BusinessProfit or Loss from BusinessCLASSWORK 1: True or False.

(21) You must always file the long form of Schedule SE with your Form 1040 if the total of your wages and tips subject to social security plus your net earnings in 2008 from self-employment were more than $102,000.

(22) You are a self-employed carpenter. If you have net earnings from self-employment of less than $400, you may be able to use the short form of Schedule SE.

(23) In most cases, ministers, Christian Science practitioners, and members of religious orders who have not taken a vow of poverty can get an exemption from self-employment tax on certain earnings by filing Form 6251.

(24) If you have more than one business, you must file separate Schedules C and Schedules SE for each business.

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(1) An activity is presumed to be carried on for profit if it produces a profit in at least 2 of the last 5 tax years. F

(2) The total profit (loss) for all of your sole proprietorships should be entered on line 12 of Form 1040. T

(3) To take the home-office deduction, you must meet either the principal place of business test or the exclusive use test. F

(4) The closing inventory of one year should be greater than the opening inventory of the next year. F

(5) FIFO means that the first product produced or purchased is the product that is considered sold first. T

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(6) You may substitute your social security number for an EIN on Schedule C. F

(7) If a husband and wife own and operate a business and share in the profits and losses they can report their income and expenses on Schedule C. T

(8) You can generally deduct 50 % of the lodging and transportation expenses connected with business travel. F

(9) A licensed day-care provider is exempt from passing the principal place of business test for the home-office deduction. F

(10) The part of your home used for business to claim a home-office deduction must be figured by using the number of rooms in your house. F

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(11) The use of a cleaning service is not considered a valid office expense. F

(12) If you are a sole proprietor, you cannot work as an employee for someone else. F

(13) In determining whether you can use a business use of home deduction, your principal place of business can include a place you use for the administrative or management activities of your business even if there is another fixed location where you can carry on these activities. F

(14) An office in home is depreciated over 27.5 years. F

(15) If you had net earnings from self-employment of at least $300, you must file a return. F

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(16) If you are self-employed and claim the standard mileage rate for the business use of your car, you can also claim business related parking fees and tolls. T

(17) An example of a direct expense for a business use of home deduction is the cost of having the home office professionally painted. T

(18) Amortized business start-up costs are deductible expenses. T

(19) A day-care provider can alternate between the standard rate method and the actual cost method for meals and snacks in the same tax year. F

(20) If you keep an inventory, you must use the cash method of accounting. F

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Profit or Loss from BusinessProfit or Loss from BusinessCLASSWORK 1: True or False.

(21) You must always file the long form of Schedule SE with your Form 1040 if the total of your wages and tips subject to social security plus your net earnings in 2008 from self-employment were more than $102,000. T

(22) You are a self-employed carpenter. If you have net earnings from self-employment of less than $400, you may be able to use the short form of Schedule SE. F

(23) In most cases, ministers, Christian Science practitioners, and members of religious orders who have not taken a vow of poverty can get an exemption from self-employment tax on certain earnings by filing Form 6251. F

(24) If you have more than one business, you must file separate Schedules C and Schedules SE for each business. F

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CLASSWORK 2: Identify the line of the Schedule C on which the following are entered:

1. liability coverage 2. postage 3. refund for unsatisfactory service 4. car expenses 5. television advertising 6. tax preparation fees 7. business permits

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8. telephone bills 9. employee salaries 10. toner costs 11. employee term life insurance 12. section 179 expense deduction 13. expense for business use of home 14. tentative loss

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1. liability coverage 152. Postage 18, 223. refund for unsatisfactory service 24. car expenses 95. television advertising 86. tax preparation fees 177. business permits 23

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8. telephone bills 259. employee salaries 2610. toner costs 18, 2211. employee term life insurance 1412. section 179 expense deduction 1313. expense for business use of home 3014. tentative loss 29

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Profit or Loss from BusinessProfit or Loss from BusinessCLASSWORK 3: Complete Schedule C and Schedule SE

for the following:

Bonnie I. Nickolaus (SSN 121-94-6001, born 7/11/1946) is single. She lives at 42 Mary Dr., Eden, MD 21249. Since 1995, she has owned and operated a children’s clothing store called Young Styles. Her income consists entirely of the proceeds from the store. Her business (EIN 16-7864713) is located at 17 Iris St., Seneca, MD 21245. Bonnie uses the accrual method of accounting. She does not use her home for her business. Bonnie uses business code 448130.

Bonnie had an opening inventory of $51,368. She had $189,634 in purchases and a closing inventory of $53,624. She uses the cost method of valuing her inventory. Her gross receipts were $297,336.

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She had the following expenses for her business:

Returns $2,200 Store lease $ 9,500Advertising 2,800 Equipment lease 1,600Repairs 290 Business subscriptions 150Attorney fees 800 Supplies 1,750Depreciation for display Cases (placed in service 5/15/2006) 550 Taxes 4,900Theft insurance 450 Business license 185Liability insurance 550 Utilities 3,100Interest on loan for store 2,080 Wages 49,650Tax preparation fee (business portion of fee) 280 Office expense 365Meals for business trip 180 Lodging for business trip 890

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Bonnie first used her car for business 6/22/2005. In 2008, she drove 12,555 miles of which 1,350 miles were for business purposes. She drove 675 business

miles from 1/1/2008 to 6/30/2008. She does not have another vehicle and did keep records of her mileage.

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CLASSWORK 4:Laura K. Washington (SSN 233-15-6774) is a licensed

day-care provider. She operates her business in her home for 4 days a week and 5 hours a day for 52 weeks. Laura uses 8 of the 10 rooms in her home for her business. She had a profit of $8,500, which she reported on her Schedule C.

Laura started her day-care business in May 2005. At that time the adjusted basis of her house was $75,000 including a land value of $10,000. The fair market value of her house was $88,000 including a land value of $15,000.

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Her expenses for the year were:

Mortgage interest $3,800 Real estate taxes $1,700Insurance 1,200 Utilities 1,250Roof repairs 2,100 Painting the house

1,500

Complete Form 8829 for Laura.

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Questions & AnswersQuestions & Answers

Documents

Liberty Tax Service Online Basic Income Tax Course. Lesson 14