Commonly Overlooked Tax Expenses for Self-Employed Individuals
The tax season for self-employed individuals can sometimes be a minefield, especially when it comes to claiming expenses. However, with a bit of knowledge and strategic planning, you can significantly reduce your tax liability by taking advantage of a range of deductions. This article explores some of the common expenses that self-employed individuals often overlook while filing their taxes, from the depreciation of business assets to the potential benefits of retirement plans.
Depreciation Costs and Business Assets
One of the first areas where self-employed individuals can make significant tax savings is through the depreciation of assets. Depreciation is the process of allocating the cost of a tangible asset over its useful life. For instance, if you use your car in your business, you can claim a full deduction in the year it is placed in service, provided you use it for business purposes.
Similarly, your computer, peripherals, and other equipment can also be claimed as business assets. It’s essential to keep detailed records of when you purchased these items and their cost, as it will help in claiming these expenses accurately.
The Advantage of SEP Plans
Another crucial expense to consider is contributing to a Simplified Employee Pension (SEP) plan. This retirement savings plan can be especially beneficial if your business is profitable after deducting depreciation. By contributing to an SEP plan, you can reduce your taxable income significantly, thereby lowering your overall tax liability.
It’s important to note that the self-employed individual is considered both an employer and an employee for SEP purposes. This means that they can set up the plan and contribute to it even if they do not have any employees. There are no limits on how late you can establish or contribute to an SEP plan - the extended due date for filing includes an extension for 2023 returns, which is October 15, 2024. Contributions are also due by this date. The maximum annual contribution is the lesser of 20% of net self-employment income, or $66,000. For more detailed information, you can refer to IRS Publication 560 on Retirement Plans for Small Businesses.
Other Business Expenses
Self-employed individuals often overlook many other expenses that can be claimed as deductions. For example, internet and TV bills can be partially claimed as business expenses, especially if you use these services for business purposes such as watching business programming. Improvements to your computing equipment, from computers to software, all come with their depreciation value.
Similarly, expenditures such as cell phone bills, printers, and printer ink can also be claimed. If you drive for business, make sure to keep a log of your mileage. The IRS allows 56 cents per mile as a deductible expense for 2021. This is a significant deduction that can add up over time, so be sure to track your miles.
Even expenses like coffee and meals can be deductible up to 50%. Be sure to keep receipts and detailed records to back up these claims.
Home Office Deduction - Think Twice
While there are numerous benefits to claiming business-related expenses, one common area that often causes trouble is the home office deduction. This deduction can trigger a red flag with the IRS and may result in an audit. It's generally not worth the hassle, especially if the benefits in terms of tax savings are outweighed by the potential frustration of undergoing an audit.
Instead of focusing on deductions that may attract scrutiny, it's wise to consider other avenues that can provide substantial savings, such as the SEP or Solo 401k plans. Another alternative is a Solo 401k plan, which allows for larger contributions but comes with a higher setup and maintenance cost. It's crucial to weigh the benefits and costs before deciding on this option.
Remember, strategic planning and thorough record-keeping can help self-employed individuals claim the most significant deductions legally and save money on taxes. Always consult with a tax professional or accountant to ensure you are claiming all allowable deductions and complying with tax laws.