Posted on: Thursday, June 9, 2005

AKAMAI MONEY
Self-employment doesn't always mean double the taxes

By Deborah Adamson
Advertiser Staff Writer

Q: I became a massage therapist last year, as a private contractor for a spa. I filed taxes for my business and as an individual. Should I have filed in both cases or am I being taxed twice? i Kent Heilbrown, Kailua

A: As a business owner, you most likely are paying estimated income tax quarterly and then paying again after the year ends, but that doesn't mean you are paying double. Your estimated taxes go toward the total you owe. If your income exceeds your estimates, you will have to pay more after the end of the year.

Self-employed taxpayers generally have to file the following:

Federal and state income taxes every quarter based on estimated income for the year.

Let's say you made $10,000 in the first quarter, so at that pace you might make $40,000 a year. Your estimated annual taxes after expenses and deductions are $3,000. You can pay one-fourth of what's due, or $750, since only one quarter has passed, said Marilyn Gagen, a certified public accountant in Honolulu.

In the second quarter, you made more than the first quarter so you now project annual revenues of $50,000 and taxes owed at $4,000. Since half a year has passed, you should pay half of taxes owed — $2,000 — minus the $750 you already paid in. So you send in a check for $1,250. And so on.

Beware of penalties if you underestimate your taxes.

At the end of the year, if you owe more than $1,000 on your federal tax return ($500 for state), you could be assessed a penalty, Gagen said.

But there are exceptions.

If you already paid at least 90 percent of what you owed in federal taxes, even if the remaining 10 percent is more than $1,000, you will escape the penalty. For example, your federal tax liability owed for the year is $100,000 and you already paid $90,000 throughout the year. Even though the $10,000 you owe is higher than the $1,000 threshold for a penalty, you won't be penalized, Gagen said.

The state's minimum percentage is 60 percent.

Another exception: if the taxes you paid in the current year is equal to the prior year's taxes, you also will escape the penalty.

But being self-employed also comes with perks, one of which is the opportunity to deduct business expenses. That includes business transportation costs, depreciation on capital expenditures, advertising, rent, business meals, among others.

One major benefit is deduction of health insurance premiums. Self-employed folks can deduct any amount they paid in premiums up to their taxable business net income, said Shawn Hasegawa, a certified public accountant with Matsuno, Fukuya & Co. in Honolulu.

If you have a home office, you can deduct a portion of your housing costs excluding the principal payments on your mortgage. But your home office must be exclusively used for business. For example, your home office takes up 100 square feet of a 1,200-square-foot home. You can take 1/12th of the housing costs as a deduction.

One often overlooked deduction is for gifts to clients. Federal and state laws let you deduct up to $25 per recipient a year in business gifts, Hasegawa said.

But don't go overboard with your deductions because you don't want an audit.

Be careful about deducting auto expenses, such as for gas, repairs and maintenance, insurance or lease payments. Make sure to keep detailed mileage records of your business trips, which must be listed in your tax return, to take a deduction, Hasegawa said.

Make sure to distinguish between commuting and business-related trips. Going from your home to your place of business is commuting and thus not deductible, according to the state. But if you travel from the office to a client's home, that's considered a deductible business trip.

It's easy to go overboard and deduct anything that's even remotely related to business. But that could trigger an audit if you deduct excessive amounts, Hasegawa said. Keep receipts and good records to withstand any IRS scrutiny.

For help, call the IRS at (800) 829-1040 or the state at 587-4242.

This will be Deborah Adamson's last column. She thanks her readers for their support and bids everyone a warm aloha. Future questions should be sent to Business Editor David Butts at dbutts@honoluluadvertiser.com or 535-2453.