Teaching Tax Flow: The Podcast

0:00:00 - (John Tripolsky): Welcome back to the Teaching Tax Flow podcast, episode 123 today, the famous 1, 2, 3. We are continuing our A series, part 2 of 3 as we look at schedule C. So before we do that, as always, let's take a brief moment and thank our episode sponsor. 
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 Hey everyone, John Tripolsky here from Teaching Tax fo, joined by my counterpart, Chris Paciro. How's it going, buddy? How are you today?
0:01:01 - (Chris Picciurro): It's going great. How are you doing?
0:01:03 - (John Tripolsky): I'm doing good, man. I'm feeling acy. Feeling like I've got an ace in our hole. So. Yeah, yeah, I had, I had to pull out some jokes there.
0:01:10 - (Chris Picciurro): As everybody knows, you're listening to podcasts, right?
0:01:13 - (John Tripolsky): Dude, that one wins. You, you win, sir. Here you are. If you're watching it, I am bowing to your greatness. And as we get into these, I mean, this is our second part of our three part series, so we're looking at schedule C as far as for 1040s. So if you're not familiar with schedule A, the A and ace, go back to our last episode 122 and listen to that one. Or watch it, it's on YouTube. Go take some time, watch through it, listen to it.
0:01:39 - (John Tripolsky): Tell the wife or the husband or the business partner that you're doing some research. So it's, it's the. Let's say it's relationship deductible, I guess, or a reasonable excuse why you can't do the dishes. So go ahead, flip it on. Learn something. Let's jump into this, Chris. Let's look at form schedule, or I should say Form 1040, Schedule C as it comes to our federal returns.
0:02:02 - (Chris Picciurro): Well, exactly. So we're in part two of our three part A series between schedule A, schedule C, Schedule E, that makes up well over 50% of the people in our teaching tax law community file at least one of these forms. So we wanted to really dive into these forms, especially this time of year. We are on the heavy tax compliance time of the year. So schedule C, what Schedule C is this is where you report your profit and loss for a business if you're taxed as a sole proprietor.
0:02:32 - (Chris Picciurro): Now before I jump into that, I want everyone to understand if you are a single member llc, right, you are a sole proprietor because a single member LLC is a disregarded entity for federal tax purposes. Now if you, if you own rental property in a single member llc, then you go to Schedule E and guess what, listen to this episode and then come back next week for the Schedule E. There are some caveats, you know, if you've made it to S or C Corp Election.
0:03:04 - (Chris Picciurro): But that's the, that's probably the number one question for people that form an llc. They think that, hey, I'm Johnny T LLC now instead of Johnny T, you know, sole proprietor. That's okay, great, congratulations. You still file a Schedule C. And at the top of schedule C, you're going to put your name as the proprietor, your address, but then a business name. So if it's John Tripolsky is the proprietor and you create Johnny T LLC on schedule C, you're going to put your name, your Social Security number, Johnny T llc, and then the federal identification number for Johnny T llc. The other thing you're going to report once and then we're going to dive into the numbers.
0:03:45 - (Chris Picciurro): A couple very, very important things. One did were you required to issue 1099s. Right. This is an enforcement area for the IRS. You have to answer yes or no. The other thing is what is your code? Sic. Sic code, sector industry code. That's very, very important because many audits are based on whatever industry you're in. It's a six digit code and the parameters of that industry. So for instance, John, if you are a CPA firm. Right, that's right. You're a CPA self employed and you report a bunch of cost of goods sold.
0:04:25 - (Chris Picciurro): Or you and you put the, that might trigger an audit because like why would a CPA firm have cost of goods sold? We're not selling a product. Right. So make sure you have the appropriate code, don't be lazy and just put six nines in because those are the little things that go beyond the numbers that could trigger an IRS examination.
0:04:47 - (John Tripolsky): And actually I don't think we've ever brought that up on a podcast before. And we've divvned, you know, diving and oh, here I go making up words again. We've dove into some potential triggering, you know, areas with an audit. So that's a good one. So thanks for, thanks for bringing that up. I know. We, I don't think we've touched on that before. We may have. We have done, you know, 123 of these episodes.
0:05:10 - (Chris Picciurro): I know. No, I don't think we did. I mean, we've talked about the IRS data book, we've talked about a bunch of IRS representation issues, but I don't think we've ever talked about it. So. So who needs to file an LLC or. Who needs to file an llc? Oh, my goodness. You know, there you go.
0:05:24 - (John Tripolsky): I'm making up words, you're making up processes, you know.
0:05:27 - (Chris Picciurro): So who needs to file a Schedule C? Right? Here's the, here's I mentioned single member LLC that are treated as disregarded entities. Independent contractors that especially if you received a 1099. Sole proprietors, gig economy workers. So our friend, you know, we have a soft spot in our heart for those Uber and Lyft drivers. Drivers and then freelancers. So writers, consultants, designers, all those people file a Schedule C.
0:05:53 - (Chris Picciurro): You mentioned it, John. Schedule C is not a separate tax return you file. It gets attached to someone's Form 1040. And we know that 1040 is a personal tax return. So let's dive in.
0:06:08 - (John Tripolsky): Basically a Lego. We're talking about Legos here. You can't, you know, you can't build a house without the roof or something. So just piles it on.
0:06:17 - (Chris Picciurro): You pile it on. So in. So the Schedule C's got five parts, right? The first part is where you report your income. That's really straightforward. Whatever your gross receipts or sales are, you're going to put on that Schedule C part one. And then under that, you're going to report your returns and allowances. So, you know, we've got clients that run Amazon businesses, right? They're retailers, they sell things over Amazon, they sell things online.
0:06:43 - (Chris Picciurro): And for those people, it kind of ties into that sector industry code that, that code, they are definitely going to have returns and allowances. So that would be reported on part one of Schedule C. And you're also going to calculate your cost of goods sold and report that on part one of Schedule C. But we're going to put a pin in that right now because cost of goods sold is a whole other, you know, a whole nother part that we're going to talk about. So part one, you're going to report your gross income.
0:07:17 - (Chris Picciurro): That's anything that has been constructively received by you during the year. And you're going to net that against your returns and allowances and your cost of goods sold. Part two is where you put many of Your expenses. Now, there are a couple expenses that have their own part. Those expenses are going to be your, you know, your information about your vehicle and then other expenses. But part two is where all of your expenses go.
0:07:44 - (Chris Picciurro): When you're looking at schedule E, many common expenses have their own special line. And when we think about that, you know, just from a tax preparation standpoint, that doesn't mean you have to have something to put in all these lines. However, thinking about your self reporting your income statement to the irs, these are the common lines that they're probably taking a look at and determining is does the percentage of sales make sense? Does it seem out of whack?
0:08:16 - (Chris Picciurro): So your common expenses like advertising, commissions, contract labor, insurance, payroll, office expenses, taxes, supplies, repairs, maintenance, utilities, legal and professional expenses, all of that gets reported on part two. Now in part two, you also report your car and truck expense, but that has a whole separate section or part that we're going to talk about. So any of your common expenses or any of your expenses get reported on part two.
0:08:48 - (Chris Picciurro): And remember, what's deductible? There are two things that have. There are two requirements that have to be met for an expenditure to be deductible, and that is one, it's ordinary for your line of business, and two, it's necessary for your line of business. So ordinary and necessary expenses are deductible on Part 2 of Schedule C. And it's very, very important that we take as many deductions as we can because whatever your net income is on Schedule C is not only subject to federal tax and state tax. If you're in a taxable state and local, you also pay something called self employment tax on it.
0:09:28 - (Chris Picciurro): Self employment tax is 15.3% of your net income. Now once you get to over like $180,000 on net income, self employment income or W2HS, you start phasing out of the or you hit your Social Security cap. But the point is it gets every deduction is very, very valuable. Now that's self employment tax, which this form leads to that calculation. John. So if you're an employer and I'm an employee, you know, I've got my own business, but I'm also an employee.
0:09:55 - (Chris Picciurro): There's a couple things I do as far as teaching and that sort of stuff that I receive a W2 for. For that work, I'm paid on a W2 and I have to pay 7.65% of my wages into the Social Security and Medicare system. My employer matches that. That combination is 15.3% but if you're self employed, you have to pay all 15.3% on your own. And that's why the making sure you get as many legal and ethical expenses on this schedule C will lead you to paying the least amount of tax possible.
0:10:30 - (John Tripolsky): And to add on to that too, called icing on the cake. If we want to. We did a great podcast on kind of Self Employed 101, I believe, or multiple podcasts. We've mentioned it. And if anybody's listening to this that hasn't been, let's say, filing appropriately or didn't quite have the understanding of that a business deduction does not mean that the expense or the purchase is free. Just because something is deductible does not mean that it's free.
0:10:58 - (John Tripolsky): And I'll say that one more time, because it is deductible does not mean that it's free. Because I still hear that with people, you know, some of my contacts and contact, you know, contacts and colleagues and some in the past, they always thought that they're like, oh, don't worry about it, it's free, right? It's like, no, it's discounted.
0:11:18 - (Chris Picciurro): At the least you're at a 40% marginal tax rate, John. Yeah, I hear it all the time. Oh, should I go buy a new copier? I don't know. Do you need a new copier if you don't need one, why are you gonna spend $1,000 on a copier to save $4,400? You're still minus $600. Yeah, that drives me a little batty.
0:11:39 - (John Tripolsky): And then I imagine you're upset about.
0:11:41 - (Chris Picciurro): On the S Corp podcast, John, I've gotta cool my jets again.
0:11:44 - (John Tripolsky): I had to find something to poke you a little bit. Right. And I imagine out of everything that's under that second part on this schedule C into the expenses, I, I believe that everything on there is pretty cut and dry, you know, car and truck. So your auto is pretty cut and dry, except for, and this is ironic that, you know, I'm in the marketing world and have been for a while. I feel like a lot of stuff is probably misappropriated or categorized under advertising.
0:12:10 - (John Tripolsky): Because I'm sure some people just kind of use that as almost like a miscellaneous where they're like, oh, I can put it under that. So throw it in there.
0:12:16 - (Chris Picciurro): Right there could be, I mean, there. As long as you're categorizing things in a reasonable way, you know, I mean, you could look at. I'll give you an example. Let's say you leased let's say you leased a copier. I don't know why I'm thinking about, I haven't owned a copier in forever. But let's say you leased a copier, right? There's a line that says renter lease of other business property, but there's also a line that says office expense.
0:12:39 - (Chris Picciurro): I don't think either of those are incorrect. You know, technically it probably should go into lease of business property. But if you are examined, I don't think the IRS is going to throw a fit if you put it into office expense.
0:12:50 - (John Tripolsky): Right, because at least it's in there. It's more the category, right?
0:12:54 - (Chris Picciurro): Yes. And the one thing I want to point out in part two is the home office deduction. Remember, if you take the simplified home office deduction, you just fill out the bottom part of Part 2 on Schedule C. But if you take the actual expense, you file what's called a Form 8829. The point is, don't be afraid of your home office deduction. This home office deduction be very, very, very valuable because with, remember, commuting miles are not deductible.
0:13:22 - (Chris Picciurro): Okay, but so John, if I don't claim a home office deduction and I go visit a client somewhere and I drive 40 miles and then I go to client number two and drive 10 miles to that client and then another 30 miles home, my only deductible mileage is are 10 miles because my first trip was commute go to the second stop. That's mileage. The third trip is commute back. But if I have a home office, remember, it's got to be rate for home office. It's got to be exclusive use and in your primary place of business.
0:14:00 - (Chris Picciurro): If I don't take the home office, if I was taking the home office deduction, my entire trip is now deductible. Especially when you're looking at that automobile expense. You're looking at percentage of miles. This could be a big, big number. So the point is this. And we're going to get into another part about auto expense. If you have an eligible home office, please take that deduction. You can talk to your tax professional about which one you should go, simplified or actual.
0:14:25 - (Chris Picciurro): But just take it and report that on part number two.
0:14:30 - (John Tripolsky): And not to make this the home office episode, because we do have a bunch of them that we've talked about. I think one specifically that we only talked about home office. I'm sure some people are thinking about this. So can you have a physical location? Say you're in manufacturing or even just a professional office and also have a home office. How does that work?
0:14:49 - (Chris Picciurro): Absolutely. Absolutely. You can remember there's two qualifications for home office. One, it has to be exclusive use. So the space you're using for home office exclusive use. Two, it has to be your primary place of business. It doesn't have to be your only place of business. So if you don't. If you what? If I had a manufacturing facility in another state and I work primarily from home, I conduct my meetings here virtually.
0:15:17 - (Chris Picciurro): I do all of my accounting and strategy and work here. This is my primary place of business. There might be an office. Let's say I own a manufacturing facility down in Alabama. There might be a place that I could put my stuff there when I'm there. But I'm here 90% of the time. This is my primary place of business.
0:15:38 - (John Tripolsky): Awesome. No, it makes sense. Awesome.
0:15:40 - (Chris Picciurro): So hold on. So part three is going to be cost of goods sold now. So people in the, in the service industry don't tangle with cost of goods sold. But cost of goods sold could be very complicated. So if you are selling inventory or you manufacture things, it can get tricky. That is reported on part three. And I'm not going to walk through the entire cost of goods sold or cogs calculation. Here's what I want you to understand. If you're listening to this in your mind, you deduct the cost of your products when you sell the product, right? You might be a cash basis taxpayer, but for cost of goods sold in general, you're accrual base.
0:16:21 - (Chris Picciurro): So you deduct the cost of your. So if at the end of the year you have $500,000 of profit, right? And you say, you know what, I'm trying to get rid of my profit. I didn't listen to teaching tax. Well, I didn't listen to any of the one minute tips about what's in your bank account is your profit. And I completely ignored everything these good people are saying. So I'm going to go buy a half a million dollars worth of inventory, make sure I get it dropped in my facility by the end of the year. And guess what? Now I have a $0 in my bank account. So voila. I don't have a profit.
0:16:56 - (Chris Picciurro): No, that inventory that you purchased at the end of the year and did not sell is not deductible in that year. So now you're stuck with zero cash, a $500,000 profit and you probably owe $150,000 of tax on the profit you don't have Any cash to pay it. So think about this. Inventory is deductible when you sell it. And you have to calculate that by knowing what your beginning inventory is during the. At the beginning and then knowing what your ending inventory is and what your purchases during the year. Now we're going to move on to part four because, John, I don't have a blood pressure problem. Knock on wood.
0:17:34 - (Chris Picciurro): But when I start talking about dumb things. Oh, I shouldn't say, miscalculations that taxpayers make because of not planning gets me a little fired up. Yeah.
0:17:47 - (John Tripolsky): And sometimes I think I'm pretty good at raising your blood pressure up. Maybe that, you know, what a great show that would be where we hook you up to a monitor and I just like hammer you with questions that I know are hot topics for you and just watch it change on the screen. We could call it how to, you know, how to piss off your CPA or something.
0:18:06 - (Chris Picciurro): So I don't know, we might have to do, you know, we might be doing some on, I mean, we haven't even talked about this that much, but we might be doing some on site live episodes and we've got huge conferences lined up this year. If we do the blood pressure one, John, we might have to do that in Vegas and we might have to. I might have to sedate myself with some wine or something. I don't know.
0:18:27 - (John Tripolsky): There you go.
0:18:28 - (Chris Picciurro): Could be fun, right? So part 4 out of 5 is information about your vehicle. Why in the heck with irs? John, I'm going to ask you this. I'm going to, I'm going to turn the tables because you like to put me on the spot. Why would the IRS create a whole separate part on a schedule C for information about your vehicle?
0:18:47 - (John Tripolsky): Hmm. Most likely it's going to be going off of what you were talking about earlier about commuting mileage. I'm going to assume business use. So basically my guess is that they're going to want to make sure that what you're claiming is as accurate as it can be, I imagine.
0:19:03 - (Chris Picciurro): No, that's a good answer. Exactly. There's been a lot of abuse for automobile in truck expense. So whenever there's abuse in people taking deductions they shouldn't, the IRS says, I want more details. So, yes, there's a separate section of part four where you have to let the IRS know your, you know, when you put the vehicle into service, your total miles, your commuting miles, your business miles, you answer some questions.
0:19:27 - (Chris Picciurro): Was this available for personal use during off duty hours? Did you or your spouse have another vehicle for personal use? Do you have evidence to support your deduction, AKA a mileage log? Is evidence written? So those are things IRS are asking. So think about this. If you put on this form that you have a business vehicle, you know, 100% business use, and you answer the question, was your vehicle available for personal use during off duty hours? And the answer is yes.
0:19:57 - (Chris Picciurro): And then the next question, do you, your spouse, have another vehicle available for personal use? And the answer is no. Do you think you're going to get audited?
0:20:07 - (John Tripolsky): You might as well walk into an IRS office yourself with a flag that says I'm here, question me.
0:20:13 - (Chris Picciurro): So this is where we know with automobile expense you could take the standard mileage deduction. You could act actual expense. When you take actual expense, you could be you, maybe you're eligible for bonus depreciation or Section 179. That goes beyond the scope of this podcast episode. My point is that's where the value of working with a tax professional comes in. It's not just about the numbers. When you prepare a tax return, there's a lot of other information involved, right?
0:20:41 - (Chris Picciurro): And that information could, could, and I'm not necessarily afraid of an audit, but you just don't want to go through it. You could be innocently triggering an audit. You know, and think about it like, you know, body mass index, like if I told you, John, if I told you, hey, this guy's 6 foot tall, 220 pounds, that doesn't tell me much. Now if the guy's 6 foot 220 and he's in the NFL with, you know, 7% body fat, he's going to look a lot different than a guy that's 6 foot 220 and is, you know, has very thin legs and arms and 30% body fat.
0:21:17 - (Chris Picciurro): Right? So you got to the schedule C could. Look, the point is now I feel like I got to go back to the gym other than that. But the point is it goes beyond the numbers when you're preparing a schedule C. Schedule C is one of the most audited forms. Again, I'm not saying everyone quit your job and go work somewhere. I'm just saying be cognizant. If you're self preparing, you're working with a tax professional on what's going on.
0:21:44 - (John Tripolsky): Schedule C. And really Krista, so I opened up, you know, in front of me here, I was just looking at it as well too, that Schedule C and you're right, right there. I mean you're probably talking a third of a page Is just that part, Part four just on the vehicle. So be very cognizant when you approach that. And you're right, I think. I wouldn't say they're trying to catch you in a line of bs, but they pretty much are and rightfully so. Right. Like I can imagine. This is, you know, what I was talking earlier about. The advertising category is being a potentially abused one.
0:22:20 - (John Tripolsky): I think this vehicle one probably far outweighs that.
0:22:23 - (Chris Picciurro): So I would agree. Part five, a lot less heavy lifting than the vehicle. Part five is just other expenses. So if it's an expense that you have, excuse me, that is maybe more unique to your business, that's not in one of the categories, that's already in part two. You just put it in part five and that flows onto the first page of Schedule C. So there are several expenses that. I'll give you an example, just one example, just because of time.
0:22:56 - (Chris Picciurro): Continuing education. Continuing education is definitely an expense that we incur as a CPA firm. Not every profession has continuing education. So it doesn't warrant there being a separate line on schedule C for that. But that would fall into part five as something that I would report as absolutely a qualified business expense.
0:23:16 - (John Tripolsky): Makes total sense. That's a great way to, great way to get us kind of wrapping up here. And really, I mean, what are, what are some of the things you may want to have this, Are there any keynotes that you might want to toss in here? I know you mentioned, you know that Schedule C is one of the most high, the high. Oh my gosh, now I can't even speak a higher likelihood of an audit that comes from that Schedule C. So even, even maybe give us a little preview of what we might be looking for on that Schedule E.
0:23:46 - (John Tripolsky): So yeah.
0:23:46 - (Chris Picciurro): Definitely, you know, if you have a business, even if you're a self sole proprietor. Here's some tips. Create a separate bank account to keep track of your income and deductions. Because once you're commingling personal expenses and business expenses, it gets real messy. You could misstate something. You could miss deductions. You could be overstating your income, you could be understating your income.
0:24:07 - (Chris Picciurro): So definitely separate that out. Track your expenses. Right? Because a lot of times, you know, you could have expenses that you accidentally put on a personal debit card or a credit card. I'd have one, maybe one business credit card or debit card and then one business bank account specifically just, just for your business. Be very conscientious of classifying labor. So if you are hiring people make sure that you understand if they're properly classified as an independent contractor or employee.
0:24:35 - (Chris Picciurro): And then make sure you pay estimated quarterly taxes if you have a lot of self employment income and work with a tax professional professional on that. Because a lot of things, a lot of times people, especially when that first year when they make that transition from being an employee where all your taxes are withheld out of your pay to being self employed, it comes as a big surprise.
0:24:54 - (John Tripolsky): Awesome. It's a great way to close it out. I appreciate it as always.
0:24:58 - (Chris Picciurro): My pleasure. And we'll see everyone in part three.
0:25:03 - (John Tripolsky): I thought I was waiting for you to say we will see you next week, but you know, I figured all the jokes have sailed. Schedule CC get it. But thank you everybody again for joining us here on episode 1, 2, 3 of the Teaching Tax Flow podcast. Next week, as I mentioned before, we are jumping into part three of three, wrapping up our A series as we look at schedule E. So again, that last one of the series and then we continue, we'll call it our regularly scheduled program.
0:25:33 - (John Tripolsky): I know we got some great topics lined up, but I know we mentioned all the podcasts. Be sure to check out defeatingtaxes.com that's our private Facebook group. Tons of information and individuals in there. You won't always hear from us, you'll hear from other tax pros. But then also, if you're not watching this on YouTube, you're missing out. You're missing out on Chris's wig that he's wearing today. It's very long and it's a very, very good looking wig there, sir. So if you're not watching it, you know exactly, or I would say should say, if you are watching this, you know exactly what I'm talking about. So get on and listen if you're not and we'll see everybody back here next week on the show.
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