Business Taxes

Active Income vs. Passive Income: Breaking Down the Tax Consequences

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Working hard for the money or letting the money work hard for you? That’s the main difference between active and passive income.

Active income typically comes in the form of your wages earned from working a job or running a business. Passive income includes sources you don’t actively work for, like rental income, investments, shareholder distributions or licensing fees.

While both types of income can support your lifestyle and meet your needs, each has their own set of tax consequences — which can significantly impact your bottom line.

The ins and outs of active income  

When you receive a paycheck for your work, the income is considered active because it is directly tied to your efforts and time spent on the job. As a business owner, you may pay yourself a salary or wages from your company’s earnings, which would fall under the category of active income.

From a tax perspective, active income is subject to federal income tax, as well as payroll taxes such as Social Security and Medicare. And depending on your income level, you may also be liable for state income tax. The tax rates for active income are typically progressive, meaning that the more you earn, the higher your tax rate.

There are strategies to reduce the tax burden on your active income. As a businessowner, you may consider exploring the many tax deductions and credits available. Plus, expenses related to running a business — such as office supplies, equipment and professional services — may be deductible, reducing your overall taxable income.

Additionally, contributing to retirement accounts or health savings accounts can provide tax benefits for all employees, while saving for the future.

Simplifying the tax consequences of passive income

Passive income is generated from sources in which you’re not materially involved. These income streams can be a lucrative way to build wealth and diversify your income sources — as long as you’re staying on top of tax obligations.

Taxes will depend largely on the exact source of your passive income and your financial situation as a whole. Rental income, for example, is typically taxed at your marginal tax rate, but you may be able to deduct expenses related to managing the property — from maintenance and repairs to pet fees and property taxes.

Shareholder distributions from corporations are taxed at the individual level and may be subject to capital gains for qualifying investments held for more than a year. And regarding royalties and licensing fees, the tax treatment can vary depending on the nature of the income and the agreements you have in place.

It’s best to keep detailed records of all income received from passive sources and, as always, consult with a tax professional to ensure compliance with tax laws and regulations.

Optimizing your tax strategy

By carefully managing your income streams, you can minimize your tax liability and maximize your profitability. Remember, it’s critical to stay informed about changes in tax laws and seek guidance from a qualified tax advisor. Get in touch to see how Magone & Co can help.

This document is for informational purposes only and should not be considered tax or financial advice. Be sure to consult with a knowledgeable financial or legal advisor for guidance that is specific to your unique circumstances.

 

 

The IRS’ “Dirty Dozen” — What Tops This Year’s List? Part 2

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Nearly one in three Americans (31%) report being a victim of online financial fraud or cybercrime.

When it comes to protecting your money and your identity, knowledge is power. Here’s a recap of the last six scams on the IRS’s 2024 “dirty dozen” list.

7.  “Ghost” tax return preparers. Be wary of “professionals” who claim they can help you obtain tax credits or refunds that you don’t even qualify for. Watch for red flags like a high fee based on the size of the intended return or their refusal to include their PTIN (IRS Preparer Tax Identification Number) on the return. These ghost preparers can even steal your entire refund before pulling their disappearing act.

8. Trusting social media. This is a message that sadly bears repeating: Social media platforms like Instagram and TikTok are not reliable sources for tax advice. If a Facebook ad suggests filing inaccurate W-2 forms to increase your tax return, for example, don’t give it a second thought. Remember, just because it’s on the internet does not make it true. Always consult with your tax professional.

9. Spearphishing. A targeted form of phishing, spearfishing aims to deceive businesses or individuals within an organization, typically via email. According to the IRS, scammers can pose as new clients or even as an HR department looking to score sensitive employee data. Always use extra caution when opening emails and clicking links. And think twice before sharing any information.

10. Faux art deductions. Taxpayers may deduct an art donation from their tax bill, but beware of deducting it at an inflated valuation. The IRS warns of “promoters” who sell discounted art with the promise it’s worth more, so it can be donated for a hefty write-off. Don’t fall victim to false claims of deductions on art donations. Uncle Sam will eventually find out.

11. Fake tax avoidance techniques. Taxpayers should be on high alert when encountering any schemes that assure you ways to avoid paying taxes. For example, syndicated conservation easement agreements may inflate tax deductions by exaggerating the value of investments. Bottom line: You can’t avoid paying the IRS.

12. International schemes. Individuals should be cautious of offers to contribute to foreign or overseas retirement accounts. Hiding money offshore as a tax reduction strategy can land you in hot water with the IRS.

As scammers continue their relentless attempts to commit fraud, heed the IRS’s warnings to maintain your identity, your reputation and your bank account. For a quick refresh, check out scams one through six. And don’t hesitate to reach out to the tax professionals at Magone & Company with any questions.

This document is for informational purposes only and should not be considered tax or financial advice. Be sure to consult with a knowledgeable financial or legal advisor for guidance that is specific to your unique circumstances.

The IRS’ “Dirty Dozen” — What Tops This Year’s List? Part 1

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Every year, the IRS releases its list of the “dirty dozen” scams that taxpayers, including business owners, should be aware of to protect themselves against fraud and identity theft.

As you begin preparing for tax season, here’s part 1 of our recap so you don’t fall victim to these sophisticated cons and schemes:

  1. Phishing or smishing. Designed to steal sensitive personal information, these scams target taxpayers with fake communications from entities posing as the IRS or state taxing authorities. Phishing schemes are generally sent in the form of an email, luring potential victims with the promise of a phony tax refund or the threat of legal action. Smishing scams use similar intimidation tactics via text or SMS messages. Be cautious of any unsolicited emails or texts requesting personal or financial information.
  2. Aggressive promoters of ERC claims. Many employee retention credit (ERC) promoters are responsible for leading unsuspecting employers astray, causing them to file a claim in error. These questionable claims add up to stiff penalties, hefty interest payments and potentially even criminal prosecution. The IRS urges you to carefully review the ERC guidelines before submitting a claim.
  3. Online account help scams. In this scam, a “helpful” third party offers to assist taxpayers in setting up an online IRS account where users can view balances, see copies of their IRS notices and more. With your log-in information in hand, they can easily access your personal information and steal your identity. Be sure to establish an account directly through IRS.gov to prevent the risk of information theft.
  4. Fuel tax credit claims. Similar to the ERC credit, promoters are pushing improper fuel tax credit claims that taxpayers aren’t qualified to receive — and they charge a substantial fee to the taxpayer to make these false claims. Scammers collect the fees while you are left with the responsibility of righting this wrong. Remain cautious and look to a reputable tax professional for their expertise regarding this credit.
  5. Offer in compromise mills. An offer is compromise is a legitimate IRS program that helps taxpayers settle their tax debt for less than what’s owed. But very few people actually qualify.In this scheme, scammers lure their targets with the promise of resolving debt through negotiating an offer in compromise, often requiring hefty fees for the bogus service. If it sounds too good to be true, it is. The phony deal will cost you, but it won’t deliver on its promises.
  6. Fake charities. Following a natural disaster or hardship, some fraudulent groups prey on good-hearted individuals and pressure them into making donations quickly to support the cause — and claim a deduction on their income tax return. Unless you can research and verify the charity, you could be giving your money away to a scammer. Do your due diligence, especially if you feel coerced into giving.

Stay tuned for continued guidance as we recap more scams from the dirty dozen list. In the meantime, don’t hesitate to reach out to the tax professionals at Magone & Company. We’re here to help.

This document is for informational purposes only and should not be considered tax or financial advice. Be sure to consult with a knowledgeable financial or legal advisor for guidance that is specific to your unique circumstances.

 

Employing Independent Contractors? 1099 Reminders for Small Businesses

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For small business owners, hiring an independent contractor has many advantages. From access to specialized project skills to reduced onboarding time, it’s a strategic way to increase your efficiency and productivity — without adding to your headcount.

Like every worker, they’re compensated. And any independent contractor earning $600 or more should typically receive a 1099 form from your business come tax time.

Sending out 1099s is an important tax-related obligation. Failure to do so can mean significant penalties. Here are some reminders to stay on top of the task:

Collect essential information. Request W-9 forms from your contractors at the start of every engagement to obtain the following:

  • Full legal or business name
  • Mailing address
  • Taxpayer identification number (TIN), Social Security number or Employer identification number

Fill out the correct form at tax time. Form 1099-NEC (Non-employee compensation) is most commonly used for independent contractors, but a 1099-MISC, for example, may be used for specific types of payments.

Double check for accuracy. Complete 1099 forms accurately, including a contractor’s name, address, TIN and the total amount earned during the year, as well as your business’s name, address and TIN. Any errors or discrepancies can lead to delays in processing and potential fines, so allow ample time to review and address any discrepancies.

Provide copies to contractors. Once the forms are ready, distribute them to your contractors and vendors promptly. 1099-NEC forms for the current tax year are due to payees by January 31, 2025. Deadlines for different 1099-MISC forms may vary from late January to mid-February.

File with the IRS. Paper and e-filing due dates are typically at the end of February for paper filings and the end of March for electronic filings. Check IRS guidelines for exact due dates, as they can change. Current deadlines are as follows:

  • 1099-NEC paper and e-filing – January 31, 2025
  • 1099-MISC paper filing – February 28, 2025
  • 1099-MISC e-filing — March 31, 2025

Keep careful records. There’s always the possibility of an IRS audit, so be sure to maintain copies of all 1099 forms, as well as supporting documentation and payments, for a minimum of four years.

Consequences of 1099 noncompliance

Remember, tax laws, requirements and deadlines can always change, so it’s crucial to stay in the know.

If you have any questions or need assistance, don’t hesitate to reach out to the tax experts at Magone & Company. Together, we can ensure that your small business remains in good standing with the IRS. Give us a call today at (973) 301-2300.

Beat the Clock: Critical Year-end Tax Tasks for Your Small Business

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As the calendar year winds down, small business owners have an opportunity to make strategic moves that can significantly impact their tax situation.

Taking the time now to review your tax strategy can lead to substantial savings and help you start the new year on a solid financial foundation. Read on for potential tax-saving moves:

Establish a tax-favored retirement plan

If your business doesn’t already offer a retirement plan, now’s the time as current rules allow for significant deductible contributions.

If you’re self-employed and set up a SEP plan, you may contribute up to 20% of your net self-employment income, with a maximum tax-deductible contribution of $69,000 for 2024. Employed by your own corporation? Up to 25% of your salary may be contributed, with a maximum $69,000 tax-deductible contribution for 2024.

Leverage Section 179 deductions

Under current federal income tax rules, there are generous first-year tax write-offs for eligible assets:

  • Up to the maximum allowable deduction of $1.22 million on qualifying property placed in service in tax years beginning in 2024
  • Up to the maximum annual Section 179 deduction allowance ($1.22 million for tax years beginning in 2024) on certain real property expenditures called Qualified Improvement Property (QIP)

Claim first-year bonus depreciations

A 60% first-year bonus depreciation is available for qualified new and used property that is acquired and placed in service in calendar year 2024. That means your business may be able to write off 60% of the cost of some or all of your 2024 asset additions on this year’s return.

Strategize to accelerate or defer income

Deferring income into next year while accelerating deductible expenses into this year may make sense if you expect to be in the same or lower tax bracket next year. On the other hand, if you expect to be in a higher tax bracket in 2025, you may take the opposite approach — accelerating income into this year and postponing deductible expenses until 2025.

Maximize the Qualified Business Income (QBI) deduction

The QBI deduction is scheduled to sunset after 2025, so maximizing the deduction before it disappears may make sense, depending on your tax situation. For tax years through 2025, the deduction can be up to 20% of a businessowner’s QBI.

Claim the gain exclusion for qualified small business stock

Don’t overlook the 100% federal income tax gain exclusion privilege for eligible sales of Qualified Small Business Corporation (QSBC) stock that was acquired after September 27, 2010. QSBC shares must be held for more than five years to be eligible for the gain exclusion break.

Employ family members

If a family member is a bona fide employee, the taxpayer can deduct the wages and benefits, including medical benefits, paid to the employee on Schedule C or F as a business expense — reducing the proprietor’s self-employment tax liability.

In addition, wages paid to a dependent under age 18 are not subject to federal employment taxes, are deductible at your marginal tax rate, are taxable at the child’s marginal tax rate, and can be offset by up to $14,600 (your unmarried child’s maximum standard deduction for 2024).

Questions? Reach out to Magone & Company
Our goal is to help you make smarter decisions to minimize your small business’s tax liability and lower your next income tax bill. If you have questions or would like our expertise in evaluating your tax planning options, give us a call at (973) 301-2300.

This document is for informational purposes only and should not be considered financial advice. Be sure to consult with a knowledgeable tax adviser regarding your taxes.

The ABCs of an HSA for Your Small Business

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Like any savvy business owner, you may be on the hunt for new ways to make every dollar every count.

If you’re looking for an opportunity to reduce your small business’s taxable income — while offering a strong benefits package to attract and retain talented workers — consider the benefits of offering a Health Savings Account (HSA).

An HSA is a tax-advantaged account that allows participating employees to make tax-free contributions and withdrawals to put toward qualified medical expenses such as:

  • Copays
  • Prescriptions
  • Over-the-counter medications, like acetaminophen or acne medication
  • Vaccinations or flu shots
  • Nutritional supplements and vitamins
  • Durable medical equipment such as wheelchairs and crutches

Your business can set up an HSA for qualifying employees who are eligible for your company’s benefits plan. You can fully or partially fund employee accounts or let employees fund them with salary-reduction contributions.

Considering adding an HSA to next year’s benefits package? Here’s a quick rundown

HSAs are generally flexible and versatile, offering the following tax-saving benefits:

  1. Employers’ contributions are tax-free to their employees
  2. Employees can subtract their contributions from their taxable salaries, equating to a tax deduction
  3. Employees can make tax-free withdrawals to cover qualified medical expenses

HSA accounts may be funded by your business, by employees through salary deductions or through a combination of both. To be eligible for HSA contributions (made by the employer or the employee), your employees must be covered by a qualifying high-deductible health plan (HDHP) and have no other general health coverage.

For employees, eligibility for making HSA contributions isn’t dependent on their level of income. Everyone who’s covered by a qualifying HDHP can have an HSA and enjoy the tax benefits.

As an employer, you can make deductible HSA contributions for your employees. Employer-paid contributions are exempt from federal income tax, as well as Social Security, Medicare and Federal Unemployment Tax Act (FUTA) taxes — a financial benefit for your business.

HSA distributions used to pay qualified medical expenses of the participating employee, their spouse and their legal dependents are also federal-income-tax-free. If no withdrawals are made, an HSA may be used to build up a substantial medical expense reserve fund that can be put aside for the future as needed, all while earning tax-free income.

A win-win for your business?

At Magone & Company, we can help you determine if offering an HSA is a tax-efficient strategy for your small business. Our goal is to help minimize your tax liability now and in the future. Give us a call today at (973) 301-2300.

 

This document is for informational purposes only and should not be considered tax or financial advice. Be sure to consult with a knowledgeable financial or legal advisor for guidance that is specific to your unique circumstances.