We are a small s corp and have not made any 2011 tax payments because our 2010 taxes were filed alst minute and because our income for the year is flexible and can be manipulated. We are trying to figure out best tax strategy. Can we prepay an invoice and minimize our income (so the shareholder is taxed less on his distribution)? Can we minimize income to zero? If our profit is about $6K what is the best amount to minimize it to (by prepaying a large invoice)?
Update:
We operate on cash basis
Update 2:
The company has done it last year. It prepayed a 180K media purchase invoice(classified as cost of goods sold). The payment was made on 12/31/10 and minimized the income by 180K. It was a recomended tax strategy?!?
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Olga,
let me add a few points to the good answers given to you by my colleagues.
1. If your company operates in the $6k zone, you owe it to yourself to hire a competent accountant and tax advisor. Your current one is incompetent, unfortunately, judging from his/her $180k mistake. Any expense classified as Cost of Goods Sold will not reduce your income by prepaying.
2. Some pre-paid expenses can be deducted while others cannot. The rules are technical and complicated, and sometimes contradictory. Even though I included a link below, this is not an area to make guesses or look for quick online answers from strangers. Hire a good accountant.
3. Even if you could prepay expenses this year, you’re simply tapping into next year’s deductions. I really like Tro’s blanket example: cutting a piece from one side and attaching it to other end does not make the blanket longer. The only time such prepayment makes sense tax-wise is if you have an unusually high-income year and expect the next year to be much smaller. Then indeed, robbing next year’s stash of deductions may save you money.
4. There’re a lot of legitimate and commonly used tax-saving techniques available for businesses, not involving what you correctly called “manipulating income.” Not to mention that playing games with the IRS may trigger an IRS audit. Sorry for repeating this third time in a row, but tax planning requires help of a good professional.
5. Finally, your S-corporation may be better off as some other structure, for instance C-corporation. Has it been recently evaluated? Your relatively high income level demands that you take this seriously.
Michael Plaks, EA, Houston TX
www.MichaelPlaks.com
Source(s): http://www.michaelplaks.com/free-irs-tax-advice/ar…
http://www.irs.gov/publications/p535/ch01.html#en_…
http://www.irs.gov/businesses/small/article/0,,id=…
Still no.
Prepayment. You generally cannot deduct expenses in advance, even if you pay them in advance. This rule applies to both the cash and accrual methods. It applies to prepaid interest, prepaid insurance premiums, and any other expense paid far enough in advance to, in effect, create an asset with a useful life extending substantially beyond the end of the current tax year.
Example.
In 2010, you sign a 10-year lease and immediately pay your rent for the first 3 years. Even though you paid the rent for 2010, 2011, and 2012, you can only deduct the rent for 2010 on your 2010 tax return. You can deduct the rent for 2011 and 2012 on your tax returns for those years.
Edit:
“The company has done it last year. It prepayed a 180K media purchase invoice(classified as cost of goods sold). The payment was made on 12/31/10 and minimized the income by 180K. It was a recomended tax strategy?!?”
HIRE SOMEONE. If the media purchase was in fact classified as “cost of goods sold” it would not have decreased the income on the tax return. CGS isn’t recognized as an expense until used.
What accounting method are you on? Cash or accrual? Makes a HUGE difference.
It’s one thing to pay an invoice due in January in December but an entirely different matter to prepay something far enough in advance that it becomes an asset, even if you are on the cash basis. In that case, you can’t expense it until it’s due.
How would paying for goods for sale early save you any money? Whoever recommended that is both a tax and bookkeeping moron. Fire that idiot for your own good! For a real simple example:
Beginning inventory: $0
Plus Purchases: $180k
Less Ending inventory: $180k
Cost of Goods Sold: $0
If it didn’t have to be paid for until mid 2011 you just lost the time value of money for $180k for 6 months.
Since you now find it necessary to ask these kinds of question out here on yahoo answers at this time in your life with and about your S-corp I would really suggest to you that you should find you a good EA enrolled agent that is licensed to practice before the IRS and that specialize in the S-corp business returns and get started with some face to face meeting and get you amd your S-corp operating correctly at this time in your life before you do create some major problems that will only grow and become bigger in your future unless you get this business started of correctly during your first year of operation.
Hope that you find the above enclosed information useful. 11/03/2011
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what you pay in 2011 you can claim in 2011
I have a client who almost always pays his rent and utilities twice in Dec, the Dec charges and those he knows will be charged in Jan
but it usually comes back to haunt you later, it is like tearing the top of the blanket off and attaching to the end to make it longer!–doesn’t work that way