Get your tax straight: all the last-minute financial secrets you'll need to get out from under some of that tax burden before 2002 comes to a close

Entrepreneur, Dec, 2002 by Joan Szabo

As 2002 WINDS DOWN, IT'S A GOOD IDEA TO REview your tax situation. With several new provisions in effect, there are plenty of deductions and deferrals to take advantage of.

"With declining income tax rates, entrepreneurs with limited liability companies, S corporations, partnerships or sole proprietorships who file individual returns will probably do well to defer as much as possible into next year when the rates will be even lower," says Arnie Koonin, tax partner in charge of personal financial services in the Washington, DC, office of accounting firm PricewaterhouseCoopers.

For example, self-employed, cash-basis businesses can delay billing so payments won't be received until next year, advises Jennifer Jones, a CPA in Fairfax, Virginia.

Here are some other ways to make the federal tax laws work for you:

Great Expense

Take steps to increase deductions. The larger the number of deductions you claim, the smaller your taxable income will be and the less taxes you'll owe. One of the best ways to boost deductions for cash-basis businesses is to pay as many of your business expenses as possible during this year. With the cash method of accounting, income is taxable when you receive it, and expenses are deductible when they are paid.

To beef up those deductions, stock up on business supplies or get equipment or vehicle maintenance done this month if you planned to incur these expenses in 2003 anyway. You also will want to consider prepaying some deductible business expenses, including any rent, taxes and insurance due on the first month of the new year.

Thinking about buying some new equipment? Do it now and place it in service before the end of the year. Under the federal expensing provision, you can deduct the full cost of your equipment purchase rather than depreciating it over several years. The amount you can deduct for qualifying equipment in 2002 is $24,000. That will increase to $25,000 in 2003. The $24,000 is reduced for every $1 of new equipment in excess of $200,000.

Beware: Under the expensing provision, you're not allowed to expense more than t he amount of your trade or business income, and thus produce a net loss. Remember, you can use a credit card to charge your purchase before the end of the year and still claim the deduction in 2002--even if the bill is not paid until next year as long as the equipment is placed in service before year-end.

In addition to the expensing provision, the Job Creation and Worker Assistance Act of 2002 provides entrepreneurs with a temporary depreciation bonus. Under the new law, small firms can deduct an additional 30 percent of the cost of most new equipment purchased during a specific time period. (See "What a Relief!" at left for more information.)

The new laws have proved to be a good area to strengthen deductions for entrepreneurs like Terri Bowersock, founder and owner of Terri's Consign & Design Furnishings Inc. in Phoenix. Her company has already taken advantage of this temporary provision by upgrading its computer equipment. With $36 million in annual sales, the company has 17 consignment furniture stores throughout the United States and recently launched a furniture trade-up business.

Gimme an "S"

Look into the tax savings available by electing subchapter S corporate status in the new year. Accountant Jones says such a step could help you reduce your payroll taxes by taking a lower salary, with the remaining profit distributed as a dividend, which is subject only to income taxes. The salary must be reasonable for the services performed and not set artificially low.

With certain exceptions, a corporation that has an S election in place does not pay federal corporate income taxes. Instead, S corporation income, losses, deductions and credits "pass through" to the owner to be reported on their individual returns, explains Mallory Collier, with accounting firm Jackson, Rolfes, Spurgeon & Co. in Cincinnati.

As a result, S corp income generally is taxed only once to the shareholder. With a C corporation, income is taxed twice--once to the corporation and again to the shareholders when dividends are paid.

Bowersock says using this strategy in her company at the beginning of 2002 was a huge advantage, especially with profits on the rise. "With S corporation status," she says, "we are able to avoid the double taxation we felt as a regular C corporation."

Odds and Ends

Business owners using the accrual method also have some specific tax-saving steps they can follow. Review your accounts receivable if you are an accrual taxpayer to see if anything is partially worthless. If it is, you can take a deduction for a portion of the amount of the uncollected debt. Check with your accountant to determine whether you meet IRS requirements to claim a bad-debt deduction.

Also scrutinize your inventory for obsolete items. If you dispose of the inventory or sell it below cost by the end of this year, you can receive a deduction.

Another strategy for businesses using the accrual method is to delay shipping products or providing services until the beginning of your 2003 tax year.