(This article is contributed to Freeland Marketing Group by David Freeland, CPA. David has more than 25 years experience in public accounting as a tax partner/director of a large national CPA firm where David headed up the tax department. David’s specialty is Business and Estate Tax Planning. Currently, David is CFO of a software development company in the Columbus, Ohio area.)
BUSINESS AND TAX CONSIDERATIONS
FOR THE
“NECESSITY ENTREPRENEUR”
by David Freeland
In this difficult economy and job market, many individuals
have found themselves downsized and have not yet found a new job. In the
meantime a great number have resorted to consulting and working as independent
contractors instead of the more typical employee/employer relationship in order
to pay the bills. The media has tagged this group “Necessity Entrepreneurs.”
This presents a whole
host of issues and opportunities related to business and tax considerations one
must take into account. Over the next couple of issues, I would like to explore
the challenges faced by the self-employed worker and what they can do to
maximize their profits and minimize the headaches and pitfalls. Throughout, I would encourage feedback and
shared experiences to help other readers through the process.
The initial installment will briefly cover entity selection or how you may want to
structure your business; and insurance
considerations. The second discussion will cover recordkeeping, income and
the all important deductions as
well as tax reporting. Let’s jump
in.
Entity Selection:
The easiest and simplest form of doing business is as a
“sole proprietor.” This does not require any formalities. You simply start
doing business as – John or Jane Smith; no separate legal entity or tax filing
(other than a Schedule C to be covered later). Things can be bumped up a notch
by adding a “doing business as” or “dba” such as John Smith dba Acme Logistics.
The latter would appear on business cards and letterhead to lend the perception
of a bit more credibility to the enterprise. While not absolutely necessary, I
would recommend confirming the name availability and registering your dba with
the Ohio Secretary of State. This will avoid having invested money in
stationery printing costs and promoting the business name only to get a cease
and desist order from Acme Logistics Corporation for using their name.
The main financial downside to operating as a sole
proprietor is the liability exposure. There is no legal entity between you and
business creditors. All of your assets; both business and personal are subject
to creditor claims. Additional liability protection may be obtained by
establishing a Limited Liability Company (LLC) or Corporation. The LLC seems to
be the entity of choice these days as it provides a great deal of flexibility. If
you are comfortable with a bit of self-help, you can file documents yourself by
visiting the Ohio Secretary of State website or adopt documents from other
internet sources such as LegalZoom.com and then file with the Secretary of
State. A single member LLC can provide the best of both worlds. The legal
entity can protect your personal assets from creditor claims but for income tax
purposes it is deemed a disregarded entity, thus not requiring any separate tax
filings. This is essentially a “protected” sole proprietorship.
An LLC can also opt to be treated as a corporation or
partnership. A corporation gets a bit
more cumbersome as it will require its own income tax filings and necessitate
paying yourself a salary to pull money out of the business. Payroll tax filings
will take up a good deal of your time on a quarterly basis. You might consider
this route if your business enterprise really takes off but is overkill for a
relatively small or temporary endeavor. If your business involves another
equity investor, the partnership may be appropriate.
A word of caution, if you go the entity route; respect the
entity. Should you ignore the formalities of the structure adopted, that’s a
sure fire recipe for disaster. Perhaps you have heard the phrase – “piercing
the corporate veil.” This is when creditors are allowed to circumvent the
protection normally afforded an LLC, partnership or corporation because the
principals of that entity did not abide by proper procedure. Treating the entity bank account as just
another personal fund is the easiest way to get there. Don’t mix personal expenditures with business
expenses being paid out of the business checking account. Another big mistake
is to ignore the entity when invoicing or receiving payment. Many landlords
will establish an LLC to hold the property and have the lease drawn up in the
name of the LLC. However, when it comes time to collect the rent, they have the
tenant simply write a check to them personally. The same holds true with
business customers. If the tenant or customer is entering into a transaction
with the LLC, they should be invoiced by and make the check payable to the LLC.
While an entity can help shield personal assets from claims
of business creditors, don’t fall for the common misconception that an entity
will protect you from all claims and liability. Personal and professional
actions causing damages can potentially give rise to claims against you
personally, and for which no entity can provide absolute protection. This is
where I need to tell you to consult your attorney and insurance agent.
Insurance:
Launching a new business is an opportune time to review your
insurance coverage with your agent. No longer are you dealing simply with home
owner and auto insurance issues but may have to be concerned with additional
property insurance coverage or riders, increased dollar limits and additional
types of coverage altogether. Failure to address these items could result in
claims arising, for which you have inadequate or complete lack of coverage.
If you maintain a home office with a lot of expensive office
equipment and computers or store inventory and supplies at the home, make sure
your standard homeowner policy will cover theft or damage and at the appropriate
dollar amount. If customers or vendors will be regularly coming to your home,
be sure you are covered if they are injured while on your property. Having a
customer slip and fall on an icy door step may present a whole different set of
problems as opposed to a neighbor stopping by for a visit.
Review your auto insurance coverage. Since you may be on the
road more and even transporting materials or clients, your exposure will
increase. Be sure to explain how your vehicle will be used in the business so
your agent can properly advise you as to the additional coverage or increased
dollar limits for property and medical claims.
If you don’t already have a personal or business umbrella
policy, now is the time to look hard at putting one in place and making sure
the coverage limits are adequate. Coordinate this coverage with your other
property and casualty insurance to assure there are no gaps that could leave
certain claims uncovered.
If you will be providing professional or consulting
services, look into acquiring errors and omissions insurance. Mistakes happen,
and when someone suffers monetary damages as a result; having a safety net
there is always helpful. Check with your professional or trade organization to
see what is available.
Finally, look at obtaining workers compensation insurance
and personal disability coverage, both short and long-term. These may have been
fringe benefits you received as an employee which are often overlooked by a
self-employed individual. Employers are required to provide workers’
compensation coverage and short-term disability is very often part of the group
health and medical insurance. As a sole proprietor or owner of a business, coverage
under the Ohio Workers’ Compensation program is elective. Your chances of being
injured on the job do not decrease just because you are self-employed. Quite
the contrary, I believe the likelihood increases since you will be taking on
tasks you may not otherwise have been doing. Depending on the type of work you
are doing the risk varies. An architect sitting at a desk all day is less at
risk than a design/build contractor visiting the job site.
I hope this discussion has been informative as well as
thought provoking. I again encourage thoughts and feedback from readers.
Further discussion of experiences and questions will make this all the more
helpful.
This blog is meant to discuss general business concepts and
should not be relied upon for legal or tax advice. You should always consult
your own legal or tax advisor as particular facts and circumstances must be
taken into consideration.
