As early retirement and quasi-retirement are easier than ever in our expanding “sharing economy”, the IRS is clarifying the rules on how much you need to share with your least favorite Uncle. For many people “sharing economy” jobs are their real jobs, for others, a way to fill time during retirement or as an adjunct to early retirement.
The goal here is to drive taxes to zero. The “sharing economy” has several opportunities to earn thousands of dollars per year and legally not report it on your tax return. In cases where you are required to report the income we can use tax strategies to significantly reduce or eliminate income or self-employment taxes.
The IRS recently published a new page on their site outlining the rules for taxpayers participating in activities like Uber, Airbnb, DogVacay, TaskRabbit and other similar sources of income.
Some areas of tax law are still unclear as the Tax Court is hearing cases determining issues between independent contractors and employees. These major tax issues generally affect large companies like Uber rather than individuals. As of this writing, most “sharing economy” jobs are treated as small business income and are reportable even if you do not receive a From 1099-MISC.
Renting Your Personal Residence
Across the lake from where I live is the City of Oshkosh. Every summer around the end of July the Experimental Aircraft Association (EAA) hosts the EAA AIRVENTURE air show, making Oshkosh the busiest airport in the world for a week. People from around the world flock to NE Wisconsin to see aircraft of all shapes and sizes take to the air. The sky above my home is abuzz for the week; no need for me to spend money on a show I can see from the comfort of my yard.
The EEA air show fills every hotel within a hundred miles. Renting your home or even a few spare rooms is worth a lot on money. Renting out a few spare bedrooms (another reason to move your adult children out) can bring $300-$500 per day! Two thousand dollars for a week in common. Many people want a place to stay for a few days on either side of the air show as well and book 10-14 days.
The IRS has special rules when you rent your personal residence for fewer than 15 days in a calendar year. You don’t report rent income of your personal residence if it is for less than fifteen days. In other words, the rent is tax-free! You are not allowed expense deductions either, but mortgage interest and property taxes are still deducted on Schedule A, same as always. If you have a local event similar to the EAA air show in your area you can rake in $3,000 – $5,000 tax-free every year! Not bad for a week or two.
More Tax Benefits From Your Home
The above example should have business owners thinking. This 15 day rule on a personal residence opens some juicy opportunities to convert taxable income into tax-free (not even reportable) income. Every year after tax season my team gathers at my home for a day of good food, games, and conversation; no phones, clients, or demands allowed. I also host a summer picnic and the Christmas party at my home. With a stocked pond Karen can wet a line while Chris hikes the trails I cut in the back 10. The get-togethers are great fun and a way to build camaraderie.
Many years ago I held these events at a local restaurant or hotel. It was expensive! By hosting the event at my home I am able to charge the company a normal rate for renting my place for a day, plus the cost of food and beverages provided. The normal rate charged by a hotel or restaurant for a room for the day is around $750. That means for three days a year I rent my home to my business $2,250. The company writes off the expense and I don’t have to report the income. (Note: This only works if your company is an LLC or corporation; sole proprietorships do not count.)
Even More Home Goodies
Having a home is really a major tax advantage when you start thinking about it. Let’s say you use your home for doggie daycare on the side using DogVacay. To deduct the business use of the home the area used must be “regular and exclusive”. What this means in words normal people use is that the area of your home you want to deducts expenses against for business use must be used for the business on a regular basis and for nothing else. The corner of the living room does not count.
However (the tax code has a lot of these however’s), if you engage in more than a cursory amount business you can organize your sideline, part-time business as an LLC. (Don’t worry about extra tax returns and such; you will not need them.) You do nothing as a single member LLC treated as a disregarded entity for IRS purposes. Again, in English, this means you report your business income and expenses as a sole proprietor. But, you can rent part of your home to the LLC! Now the rules are easier than “regular and exclusive”; now it just has to be for the benefit of the business. By charging a reasonable rent you get a deduction on the business return and claim the income on Schedule E as rental income. Pro-rate home expenses to the rental portion: insurance, property tax, mortgage interest, et cetera.
Removing the income from the business and turning it into passive rental income saves 15.3% self-employment tax on the rental portion. You must have a rental agreement. It does not have to be anything special. The contract between you and the business needs to cover all the points of a normal commercial lease. You can find one online. You sign as landlord and tenant. Wasn’t that fun?
Remember the Saturday morning cartoon from the 1970s? “Conjunction junction, what’s your function…” Yeah, it warped my brain, too. Today we have a different tune: deduction junction. And we know your function. To cut our tax bill.
There are so many things you can deduct when you have a business, and income from the “sharing economy” is a business entitled to all the deductions a normal business gets. The IRS said so. Each business is different, but let me throw a few nuggets out there for you to get a firm idea of what you might be missing.
Uber drivers know to deduct either their business miles or actual expense of the business use of their vehicle. If memory serves, Uber sends a nice form in January listing your income (Form-1099-MISC) with a note on how many deductible miles you have. But the Uber number is WRONG! Yes, you deduct the miles for carting around clients, but you get more than just the miles when a client is in your vehicle. ALL business miles are deductible! That means miles driven to the accountant’s office to discuss business issues or to Office Depot to pick up a mileage logbook. It also means all miles driven for your Uber business whether Uber includes all the deductible miles or not. Keep a mileage log.
Any training or educational programs are now deductible when you have a business as long as it is connected in some way. Business seminars generally count for all business owners.
Advertising in the “sharing economy” is different from past businesses. You may pay a fee to Uber or the company providing the client. The fee can be monthly or based on sales or per client; it is all deductible. If you use DogVacay, but also use Facebook or other social media to advertise you need to track and deduct the expense. I know it is so easy to set it and forget it, but check that credit card statement and get every deduction you can get your fingers on. Be sure to download a receipt for your tax records.
The Big Time
That quasi-retirement or sideline business sometimes takes on a life of its own. I know what you mean. I wanted a part-time seasonal job 30 years ago and can’t get away from the thing.
Once your business profit exceeds $30,000 you need to consider alternatives to your business structure. For most people, once you cross $50,000 it becomes a no-brainer. Taxes on a sole proprietorship are high; the highest anywhere in the tax code. The sole prop is also audited more frequently by the IRS. They tax the crap out of ya and then audit you blind until they put you out of business. I have a better idea.
Remember that LLC I asked you to set up? Well, now might be the time to tell the IRS you elect to be treated as an S-corporation from now on. I covered this topic in the past. You can review that article here.
A Good Start
The largest number of questions I receive now involve people working in the “sharing economy”. Covering every facet of every opportunity is impossible in one short post. Hopefully I provided a flavor for what is possible. The points I touched seem to be the ones most often overlooked. If you want to run something by me in the comments section I will do my best to give a solid answer.
Sunday 6th of November 2016
I'm curious how it would be best to handle such things like when children babysit (or tutor or dog sit) occasionally and get cash. You can save in a taxable account in that child's name (or not) but this is 'under the table'. If you want the child to have a Roth IRA, does she need to report those meager earnings to the IRS on 1040 despite the missing 1099-Misc? If you get such a gig via TaskRabbit or similar website maybe they would issue a 1099-Misc (do they?). At what point do you need to start calculating SS and self-employment taxes? No wonder, many people attempt to work on cash basis as they'd have not much left after taxes and SS.
Sunday 6th of November 2016
I think occasional babysitting is more a hobby than a business so there is no SE tax. At some point it might be considered a business, but most minors I doubt get there (facts and circumstances will determine). If they have a profit too many years in a row they are automatically a business. The good news is that by the time they get to that point they don't babysit anymore. As for working for cash, cash is still reportable income. If your child works for you or your non-entity business they do not pay SE prior to 18.
Monday 19th of September 2016
Thanks WA. Would you recommend setting up an LLC in anticipation of side-hustle money, or wait to see if you Side gig pans out? (keeping good records either way, of course)
Monday 19th of September 2016
I would wait until an LLC is needed. Why spend money until it works to your advantage. Once it makes sense to to use some tax strategies I mention you can always form an LLC. It only takes a few minutes and some cash. This is only a tax opinion, however. There may be legal issues to have an LLC right out of the gate.