My husband just got an email that’s one of those good news/bad news type of deals.  The writer had a fantastic 2008.  He made money hand over fist.  The problem was, he’d just come off a series of really bad years with lots of losses and had no money to pay his taxes.  Now what?

This is where it got confusing.  He said he had a Sole Proprietorship with a partner.  By definition, a Sole Prop means SOLE - just one person.  So, what he really had was a General Partnership.  If you have a partner and no business structure, you default to GP.  That meant he would pay fed and state income tax plus self-employment tax of 15.3% on his share of the income.  

It’s too late to go back and set up a business structure for 2008.  

But, wait, he had losses for years, right?  So that meant he would have Net Operating Loss (NOL) carry-forwards.  Those losses can be used against his income this year.  THEN the tax would be calculated on any income that is still left.

There’s a problem, though.  They were losses so he never bothered to file a tax return. 

We’re now left with three alternatives (1) go back and file amended returns for the years that are still open & create that NOL carry forward, (2) if possible, make this the first year of operation and all the losses would be considered start-up costs to be amortized and create expenses or (3) bite the bullet and just start this year with a lot of income and tax.

Either way, he’s looking at a lot more cost then if he’d filed his loss returns in the years that he had them.  

Losses can be cash in your pocket, but only if you properly account for them.

If you haven’t yet filed your tax return (and this year is the year you probably REALLY want to extend it due to all the uncertainty with 2009 tax law), you can still select how you want your LLC to be taxed.  

So, for example, let’s say you have a single member LLC and you just read the announcement on this site that the number of IRS audits of Sole Proprietorships is going up to 1 in 3.  You can avoid all that by electing S Corporate tax treatment.  But you didn’t do it yet for 2008.  It’s not too late.  Make sure you have a qualified tax preparer help you with this, though.

The IRS is gearing up for the next onslaught of audit attacks.  This time they’re after Sole Proprietorships aka Schedule C filers.  Remember if you have a Single Member LLC and have NOT elected how to be taxed for your business, you’re going to default right into the Sole Proprietorship category.

Based on the number of auditors moved over to this task force, you can figure that about 1 in 3 Sole Proprietorships is going to get tagged for audit.  If you have a Sole Proprietorship now or an LLC that is taxed as one, change it!

I reviewed a return for a prospective client this past week (as part of our FREE! CPA Tax Review program).  First of all, his cover letter was touching.  He’d had a very hard year, like many of you have.  He’d lost his house in a short sell, but barely managed to hang on to his business.  Then this past month (October), he discovered that he owed over $10,000 in federal taxes.  He kept asking his tax preparer how this could be when he was completely broke and the preparer never gave him a good answer.

So he sent in his tax return for 2007, plus his returns for two years prior.  That’s when I got puzzled.  In the prior year, he filed a Form 1120(S) (S Corporation Income Tax Return) for his business.  But in 2007, the business was filed as a Sole Proprietorship.  In fact, his itemized deductions wiped out the profit from the business so there was no income tax.  The over $10,000 was due to self-employment tax from his Sole Proprietorship.

Now here’s the part that puzzles me.  He didn’t have a Sole Proprietorship!  He had an S Corporation.  He said he kept asking his preparer if he was sure he really owed the money, but he didn’t know exactly what was wrong so he finally went along with it.

The preparer was the same as the prior year.  My guess is that he got busy, or tired, or sloppy and my prospective client paid the price - a very big one to the tune of over $10,000.