Considering the New Tax Laws, Is Starting a Business the Right Choice for Me?

{6 minutes to read}  During tax season we are often questioned about starting a small business. However, throughout 2018, the two most asked questions we received were:

1. I have been freelancing for some time now; do I incorporate or form an LLC?
2. Since I will lose most or all of my deductions as an employee, I am considering having a conversation with my employer about paying me as an independent contractor rather than as an employee. Do you think this is a wise move?

While one size does not fit all, please know that a vast majority of the new tax rules have an end date; the provisions are effective for 2018-2025. Additionally, I would suggest taking a broader look at lifestyle as a whole before making a decision.

Here are some limitations that may apply:

Question 1: From a personal liability and business growth viewpoint, forming a business seems more appropriate. However, there are other factors to consider if you decide to start a business, such as the cost for formation, and the cost of additional federal and/or state tax reporting.

Question 2: This decision may seem to be the best approach if tax liability is your only focus. There are, however, other factors to consider. Below are three (3) factors that are common for most individuals who would like to make the switch from being an employee to an independent contractor:

1. You are fully responsible for your own insurances, such as health, dental, etc. Additionally, you will lose out on employees benefits since you are no longer covered under a group plan.
2. You are fully responsible for all your taxes, including Social Security and Medicare. As an employee, 50% of Social Security and Medicare taxes are paid by your employer.
3. You may experience an unstable income and lack job security since it may, from a legal viewpoint, be easier for the employer to end the relationship with an independent contractor as opposed to an employee.

The Washington Times performed a study of various positions in the entertainment industry (working actors, entertainers, etc.) and noted the negative impact of the new tax rules for these individuals. Read the article here.

Even considering the above, the new tax rules offer a sweet spot for small businesses — with some limitations.  As a small business or contractor, you have a greater ability to deduct your business-related expenses. Be aware, though, that if you switch from an employee to an independent contractor for the sole intent of deducting expenses, the employer could be faced with a payroll audit. For example, if you were previously employed by company ABC for a few years but now in 2018, you are working for company ABC as an independent contractor. If both you and your employer are willing to face that risk, from an expense deduction viewpoint becoming an independent contractor will be the more beneficial option.

So you have decided to form your own business

Let’s face it; it takes guts to take such a risk, but owning a business brings a sense of pride. I have found, however, that it may be wise to consider a transition period if you truly want to branch out on your own. For example, set a reasonable time to transition from being an employee to an entrepreneur.

Be realistic:

Most individuals start out with all the right intentions and their vision is crystal clear as to how the future will look. But please keep in mind that in order to generate a continuous stream of revenue, you need to have loyalty from customers/clients, and that may take some time to develop. At first, others (mainly employees, investors) may buy into your vision — but they may not be willing to ride the waves with you for too long.

I would suggest that if you can’t get the business off the ground in three years, you may want to honestly consider if you will ever get to your destination or realize your vision. As humans, we don’t let go very easily when we have invested our time, resources and talent in a vision that may not be coming to fruition.

Lastly, our first targets for funding are usually friends and family, but if you are constantly going back to those sources for more funding to stay afloat, you could damage those relationships.

I hope that with these insights you now have a clearer idea of what’s best for you. I have found that providing a client with some guidance in a simple checklist form helps immensely. Click here to find a helpful checklist for starting a business.

In closing, if starting a business is something you truly want to do, go for it! I am here to help you take that leap of faith. After all, who truly knows what tomorrow holds?  

Please reach out for a consultation if your questions and concerns are more specific in nature.

Nadine Riley, CPA
Founder, Masterpiece Accounting Group
Phone: (212) 966-9301
Email: info@mpagroupllc.com