We never make tax deposits for our small business because we don’t know what we’ll owe.

We just wait til the return is prepared and try to pay then, he explained.

But, again this year, he couldn’t write a tax check for a year’s worth of income.

So the client sitting across the table from me had an $8,000 tax bill for last year, and in mid October, had made no deposits toward this year’s taxes.

Waiting for certainty about what he’d owe, he racked up penalties for not making advance deposits, penalties for not paying when the return was filed, and interest on the unpaid tax.

And he was positioned to do it again this year.

Ouch!

Quarterly tax deposit trap

I’m sure the provision that the self employed make quarterly deposits, rather than more frequently, for the current year taxes was thought to be a convenience for small business.

Instead, in my opinion, it is a trap.

It calls on entrepreneurs to estimate what they’ll owe, set money aside as it comes in, and, every three months, have enough money on hand to cover the check for the taxes.

That’s often a tall order for the self employed, who wear lots of hats and juggle lots of responsibilities in their business.

And it’s costly and uncomfortable when you don’t manage to do it.

Replace the quarterly tax deposit

Discard the quarterly tax deposit.  Instead, make a monthly tax deposit.

Treat income taxes as one more regular, monthly expense of being in business.

Deal with current year taxes each month so you don’t have to save up the money to cover the tax bill.

How much to pay

Start with your tax liability for last year.  Deposit 1/12 of that amount each month toward your current year taxes.

Write on the check your tax ID number, and a notation that the check represents estimated [current year] tax liability.

As the year goes on, you can estimate how this year’s income compares to last year and adjust that monthly check up or down as the facts suggest.

Breaking the tax delinquency cycle

For the man in my office, I had this suggestion:  rather than  paying $1000 for last year, when you’ve paid in nothing for this year, split up the money available for taxes.

Make a smaller payment toward the already delinquent taxes, say $250;  pay $750 toward the current years taxes.

It’s already October, so he probably can’t pay in enough to avoid all penalties for being underwithheld for this year, but it’s a start on changing his ways and paying less in tax penalties in the future.

More on taxes

When taxes are dischargeable in bankruptcy

Tax question round up

If you haven’t filed returns

Image courtesy of Flickr and 401(k) 2013  

The expenses your paycheck has to cover go on and on.

Each dollar is stretched;  each expense clamors for attention.

Too often, the expenses go on long after the available money is gone.

What seem like immediate needs squeeze out those necessities that only come round occasionally but in big numbers:  car repair, medical incidents, college.

And when the “occasionals”  do come round, you’re caught short.

I generally see families to talk about bankruptcy when things have gotten so out of balance that better budgeting won’t fix the problem.

So, let’s take a tour of the cost of living so you can stay in balance, and we’ll never meet face to face in my law office.

What daily living costs

Consumer Credit Counselors  proposes a model allocation of your income among all of those categories on your household expense list.

The headings in blue are the big wedges of the pie;  below are all of the expenses to be paid from that percentage of your income.

So, how do your monthly expenditures line up against this model allocation?

I was struck by how many of my standard expenditures are slated to come out of just 25% of my income.  That’s a long list.

Reshuffle the cards

Another way to look at your allocation of money comes from now-senator Elizabeth Warren’s book, All Your Worth:

• 20% to savings;
• 50% to must-haves; and
• 30% allocated among your “wants”.

How does it work in your household?

Enjoy your money without worry about your creditors taking it from you.

That describes asset protection.

A substantial industry run by expensive professionals will scatter your money between interlocking partnerships and off-shore corporations to keep it away from those who might sue you.

And, of course, a bunch of your money lands in their pockets. 

All to keep your assets safe from unexpected, catastrophic lawsuits.

For most of us, we don’t need to go there:  Uncle Sam lays out the first step in asset protection.

Retirement plans safe from creditors

Federal law puts pensions, 401(k) plans, and employee benefit plans beyond the reach of even a creditor with a judgment.

The power of a legal judgment

Any plan qualified under ERISA has an anti alienation clause that forbids transfer of plan benefits, except to the beneficiary.

It takes no special set up, no high-priced lawyers,  no costly maintenance, just regular savings in an appropriate plan to put your retirement assets beyond the reach of a financial catastrophe.

If you file bankruptcy, ERISA qualified accounts don’t even come into the bankruptcy estate.

It takes a plan

To get the protection of law for retirement savings, they have to be in a plan.

It doesn’t work to merely label an asset or an account as your “retirement plan”.  It needs to be part of a federally recognized plan for tax advantaged retirement savings.

I can’t tell you how many of my bankruptcy clients tell me that their small business or their expensive home  is their retirement plan.

That’s not a plan, it’s a pipe dream.

And any non exempt equity they have in either of those assets is available for creditors. Worse, a creditor with a judgment can force the sale of non exempt assets, and leave you with the tax bill for capital gains, etc.

Employer match swells account

Employers seldom just hand you cash to save for retirement, but they do frequently match your contributions to a 401(k) plan.  That match represents an immediate 50-100% return on your money.

Again, all tucked away where no taxes are due on its growth and beyond the reach of creditors.

Until you’ve maxed out your ERISA qualified retirement savings, don’t fret about finding other forms of asset protection.

Uncle Sam, in this regard anyway, has your back.

More

The real threat to your retirement savings

The only three times bankruptcy makes sense

Your home is a lousy retirement “plan”

It’s so easy to get a tax filing extension and put off the unpleasant work til fall.

Procrastination is easy, and even sanctioned by the simplicity of an extension.

But doing it now is important to your financial wellbeing

From a purely selfish point of view, you need to know where you and Uncle Sam stand.

Really it’s all about next year.  What did Goldilocks know about taxes?

Getting withholding just right

Your withholding for next year’s tax bill needs to be just right, not too large, not too small, but right close to what you’ll owe.

Just like Goldilocks and her porridge.

And a good estimate of what you’ll owe for this year is what you owe for last year, the return we’re preparing this spring.

Unless your finances are wildly variable, last year may not be a surefire template for this year, but it’s usually close.

But you don’t know what you owed for last year til you do the math.  (I know, math, but it can’t be helped).

Scared to know?

Fear keeps many from figuring out what they owe on their taxes.  Fear that it’s a number bigger than they can pay.  Fear of drawing attention to themselves.

So, let’s look at the downside of putting it off til October.

For starters, it costs you to be underwithheld.  There’s a penalty for not prepaying enough of this years taxes during the year. [Read more…]

Just because you don’t work outside the home doesn’t mean you can live on nothing in your old age.

If you are married and your spouse has qualifying income, you can contribute to a spousal IRA.

And you should.

The IRA rules for a nonworking spouse are essentially like the rules for an employed person:

• have a spouse with earned income
• contributions capped at $5500 or  $6500 if you are over 50
• age less than 70 1/2
• choose between traditional IRA and Roth IRA

The Motley Fool has a fuller yet readable treatment of rules and options for spousal IRA’s.

So, even if paycheck comes with your spouse’s name on it, you can save for retirement in your own name.

Or plan to die young

I know that’s harsh, but it gets attention.

The alternative to taking responsibility for your retirement is, of course, to plan to die young. [Read more…]