 Income tax 2022-2023. Schedule C impact on tax return, tax software example. Let's do some wealth preservation with some tax preparation. Support accounting instruction by clicking the link below giving you a free month membership to all of the content on our website broken out by category further broken out by course each course then organized in a logical reasonable fashion making it much more easy to find what you need than can be done on a YouTube page we also include added resources such as Excel practice problems PDF files and more like QuickBooks backup files when applicable so once again click the link below for a free month membership to our website and all the content on it. Here we are in our example form 1040 populated using LASERT tax software you don't need tax software to follow along but it's a great tool to run scenarios with you can also get access to the form 1040 and related forms and schedules at the IRS website irs.gov irs.gov we're gonna start at our standard starting point a single filer Mr. Anderson no dependents we're gonna start with the W2 income and then look at the change from W2 income to a schedule C type of income situation then we have the standard deduction at the 12,950 that gets us down to the 87,050 we can mirror this information in a tax worksheet which is often helpful to do because it can give us a better idea of double checking the numbers double check the numbers I triple check my friend and seeing all the different areas that are affected as we rework it in a formula format so we got the hundred thousand we got the 12,950 getting us down to the 87,050 we typically rely on the software to calculate the tax on page 2 14774 we're gonna say there was $15,000 withheld from the W2 income to start out with gets us to the 226 marrying that over here we've got the 14774 we plugged in from the software and then we got the 15,000 withheld gets us to the 226 now what we want to do now is just get a feel for all of the changes that could happen when we have a schedule C sole proprietor shut type of business now note that when you're doing taxes if you're doing your own taxes you want to consider do you want to do your taxes yourself or when does it get complicated to the point where it might be useful to get more advice and if you're doing tax preparation then you might want to think about where do you want to specialize in your tax preparation do you want to specialize for example in lower income tax returns more basic tax returns generally although they are getting more complicated with changes to tax credits and refundable credits in that case you would be doing more tax returns trying to scale up the tax returns that you do and have a lesser profit margin per return or do you want to specialize on higher income tax returns and in that case they're going to be more complex you're not going to be able to do as many of them but you'll have a higher profit margin per return if you're doing more complex returns then the question is what kind of complexity do you want to be taking on do you want to be taking on complexity of taxpayers that have multiple states for example versus one state taxpayers that have foreign income and citizen kind of situations they could have complications to the tax code and another place you could specialize is business do you want to deal with people that have a business type of income such as a schedule C type of income which will add more complexity now if you're thinking about a business type of income then you often are kind of dipping into the world of accounting and bookkeeping as well because in particular many small businesses might need help with adjusting entries at least or possibly with their bookkeeping and invite advice on that realm in that area so you might if that's a specialty that you're in that's usually more on the CPA route of tax preparers but or bookkeeping people that have to bookkeeping and taxes or you can work with bookkeepers that can help you out with that kind of component of it and then of course we can specialize within the industry within a business meaning we might be working in construction business might be our specialties or basically small businesses service businesses businesses that deal with inventory or not and then oftentimes we often also have to specialize in the type of entity that could be structured for taxes meaning do we want to specialize just in schedule C type of businesses or do we also want to specialize in S corporation pass through entities LLC pass through entities partnership pass through entities and and C corporation type of business entities note most of the time the type of business entity will also be linked to some degree to the location and to the industry so different industries may tend towards certain industry structures like an S corporation versus an LLC or the other way around and so you could specialize in that way as well but note that adding any kind of business tax return even just a schedule C which is the most basic of all of them because that means we don't have to file another separate tax return adds a lot of complexity to the software even if we're not even getting into like the bookkeeping side of things and we also have tax planning side side of things that could come up as we add more complex tax return so that's the first thing you want to kind of keep in mind note that if you have an S corporation or an LLC that would be separate entity tax returns that would then flow in to your your 1040 and if you're in that situation you might still be able and you might still say hey look I'm willing to populate the form 1040 but I don't want to get to dive into the weeds on the bookkeeping side of things and you might just say someone else would be specializing in doing the tax return for the for the corporation entity and then you put in the K1 into your system that's another way that you might want to structure it but remember that you want to be able to tell clients no you want to be able to say I'm gonna do what I'm gonna do this is my specialty this is my business plan you either fall within it if you fall outside of it then you've got to be able to say I'm not gonna take on clients that aren't in that category otherwise you're gonna you're gonna deviate from your business plan and you're gonna be doing a lot you could end up doing a lot of work a lot of accountants including myself this has happened to me you end up doing a lot of work that are beyond your the scope because you you let the job creep start in basically without just defining what you want to do and saying no I'm only gonna be picking up clients that are within the range that I'm focused on because that's my business plan type of thing okay so that said let's see what happens let's see what changes here if I just do a basic kind of schedule see just to look at the differences in all the different impacts on the tax return so I'm gonna go to the data input I'm gonna say the W2 is gone let's remove the W2 and say that is gone and then let's just add a schedule see now I'm just gonna add a very basic type of schedule see not getting into the bookkeeping just to see what pulls over on the tax return so I'm gonna just put a miscellaneous here principal business code you would want to make sure that you're setting up the principal business code properly but I'm gonna choose I'm just gonna pick a business code I'm gonna say other support services you might be able to pull that from the prior your tax return if you're picking up a client from another if you're picking up a new client or something like that business name if it's different from the name on the 1040 because it's a sole proprietorship so the actual name might be just the name of the taxpayer for example accounting method cash versus accrual I'm gonna say cash we'll talk about that later if accounting method change inventory are you dealing with inventory I'm not gonna deal with inventory right now that is an added level of complexity and oftentimes could have an impact on whether you choose cash or accrual method is this for the taxpayer spouse or joint note when you're talking about a married couple then there you have to start to think about who is this being applied to this business because you will be paying self-employment tax on it if you have income and that self-employment tax is gonna be applied to the social security number of one of the spouses even though your income tax is kind of a joint return situation so it's important to kind of think through that we'll talk more about that later first schedule see I'll keep that there and then I'm just gonna say income let's say the income is 120,000 and then I'm just gonna put in one expense right now let's just say advertising of 20,000 just to see an element of an income statement clearly getting the income statement from the client is gonna be part of the situation note what I do not have here is a balance sheet we only have an income statement so if I go back on over the schedule see as you can see is just an income statement so we've got the information up top and then we've got 120,000 minus the 20,000 so clearly the schedule see itself can be quite complicated depending on you know how extensive the income statement is and in order to get the income statement you're gonna need some kind of bookkeeping there's no double entry accounting system in the tax software because there's no balance sheet but you may still want to recommend a client use software that implies or implements a double entry accounting system like a quick books or zero or that kind of software because that makes your accounting system more reliable and your income statement more reliable so it also means that we have to double check our number when we do the data input because we don't have as much of a double check with the double entry accounting system we might talk about more of that later but the net income in essence is what then flows through to the rest of the form it would flow through to the schedule one here as we can see schedule one which is additional income and adjustments to income this is the business income or loss schedule see so that makes sense that sums up down below that's pretty straightforward and it pulls into the 1040 so 1040 we no longer have the W2 income up top but rather we've got the other income from schedule one that's all making sense that doesn't seem too much more complicated other than the fact that we have to deal with the income statement the bookkeeping and so on with regards to it if we want to help a client out with that and then we've got but then it gets a little funny down here because we also have to deal with the added taxes so we've got something happening here that wasn't there before and then we've got this qualified business deduction that wasn't there before and then on page two we're not only calculating the taxes but we also have this other taxes including self-employment tax so that's got messy all of a sudden let's first take a look at this self-employment tax so the self- employment tax is over here on schedule se so self-employment you can think of it as like the equivalent for for a self-employed individual as the as the payroll taxes if you were in an employee employer situation so in other words if you were an employee of a of someone else then you would be paying social security and Medicare tax as well as withholding for federal income tax and the employer would also be paying social security and Medicare kind of matching is the kind of concept that they were trying to set up there if you are self-employed then they still want you to pay into the social security system right so how are they gonna make you pay into the social security system if I don't have any employees I'm not giving myself a W to clearly I'm the one doing most of the work if I'm the the owner of the business and I have no employees so the IRS says hey we're gonna take that 100,000 and we're gonna we're gonna force you to pay not only this the federal income tax but also the social security and Medicare tax not only that but we're gonna force you to pay in essence the employee and employer portion of the social security and Medicare tax it's not exactly like that we'll talk more about the calculation later but in essence it's it's it's kind of like twice the tax on the net income so the net income of the Schedule C is kind of treated at as though it's your earnings like W to earnings from the employer and as though you're the employer paying the social security and Medicare so that means it's an added tax now this form 1040 we usually just think about the the income tax because that's the thing we're focused on and oftentimes the W to has the information of the social security and Medicare but it's already been taken care of by the employer unless they went over the cap or something like that so there's nothing we have to do but here we do have to do something because nobody else is taking care of the self-employment tax because we're self-employed so the tax I won't go through the calculation now we'll talk about it later but you could see it's kind of a messy calculation and we get down to the 14129 which is significant obviously which is now going to the 1040 page 2 so not only do we have the tax income tax but now we've got the self-employment tax increasing the total tax significantly alright so not only that but then we've got this above the line deduction here see we've got this 7065 where did that come from let's go to the Schedule 1 page 2 this time there's the 7065 it says it's the deductible part of self-employment tax that came from the Schedule SE let's think about that back to the Schedule SE we calculated we just determined that the 14129 is our portion of like the Social Security and Medicare like payroll taxes as though we were the employee and employer of ourselves on the Schedule C but they're trying to mirror this situation to match what would happen in an actual C corporation in a C corporation what would happen is that the person paying the wages would get to deduct the wages the income the W2 wages and in our situation the W2 wages our income to us because we're kind of paying ourselves because we are the we would be like it would be like similar to us giving our self a W2 of a hundred thousand which would bring the net income to zero right we're just saying that's kind of like our W2 income so half of that tax would be like similar to us paying the the withholdings for Social Security and Medicare but then they they also pay the employee or half of the tax which we had to employ to but they get to deduct the employee or half of the tax when they do that so now they're going to try to fix the sole proprietor to mirror what happens on the business side they want to allow us to deduct the employee or half of the Social Security tax which is similar to the employee or half of the payroll taxes which you would think would happen somewhere on the Schedule C but you can't put it on the Schedule C because if I deducted on the Schedule C that would cause a loop reference because this 100,000 would then be decreased which would recalculate the amount that's going to be the actual tax and so on and so forth so we have to deduct it somewhere else and that's going to be this half that they calculated here is they took half of it 14 129 half of that 50% 7065 pulls in to page or Schedule one page two there's the 7065 which sums up down below and then that pulls into the form 1040 so now we've got the 100,000 minus the 7065 gets us to the 92935 AGI adjusted gross income and then we've got the standard deduction that was there before it's the same because we're still a single file or no change there but then we've got this qualified business income deduction on form so the form here is 8995 so if I go to 8995 qualified business income deduction and this was a rule that came in a little bit a little while ago when they were trying to simplify the tax code but then trying to again it kind of came about that they were trying to make the taxes simplified and lesser for the flow through entities like a Schedule C and the LLC and the corporations and then again just like normal they kind of left out or forgot about the sole proprietors as they did that and then they had to kind of fill in the gap with this kind of plug the qualified business income deduction so this deduction is somewhat of a mess but it's a huge component as you can see so this is being used to pull in to calculate the 1040 and here's the worksheet here the trader business income the 100,000 minus the 7065 gets to that 92935 which is the qualified business income which is then what is used to calculate the deduction so hopefully we'll be able to dive into that a little bit more in a future presentation but I just want to point out to now that that obviously adds a level of another kind of weird level of complexity here and then that's going to give us our taxable income which is at the 63,988 and then page 2 now we've got the tax being calculated and then of course we already saw that we had this self-employment tax that's going to be included now down below with the withholdings the payment side of things we no longer have the W-2 withholdings anymore that means that we can't we can't just fill out a W-4 and then have our employer withhold the withholdings we have to make estimated tax payments and those estimated tax payments are all often another mess especially for new sole proprietors and that's because people when they move from a W-2 employee situation to a sole proprietorship they just they just don't really even think about the taxes oftentimes for one and number two they don't know how much they're earning because if you're a new Schedule C business you can't actually calculate the tax until you actually calculate your income and you don't know what your income is going to be until the end of the year typically now you might say hey look I can just say as I go I might have in the first quarter I might have earned 20,000 and so why don't I just take the 20,000 times the tax rate I'll say you know 15% or something and then I can calculate my tax as we go well that would work if it was a flat tax but it's a progressive tax so I can't take I can't take like 20,000 of earnings and then try to know what tax rate I have to I have to project out what I'm going to earn on the entire year to see what the actual tax rate should be my my actual tax rate that I'm going to use to calculate my estimated tax payments down here in a progressive tax system so that messes people up and it also messes people up that that they have to account for the Social Security and Medicare the payroll taxes not just the federal income taxes because those are again our taxes that they don't even really see ever because they're pulled out of their wages and you don't even see them on the form 1040 they're totally just it's just phantom money it was lost when they're a W-2 employee before they even got their paycheck and they're not even really checking it or on the on the 1040 so if you're a sole proprietorship you have to take that into consideration so a lot of people get behind even though they're a profitable business because they don't do their estimated their estimated payments and then they they have a completely they get behind of their taxes which kind of messes them up from there so these are the withholdings let's go ahead and say put some estimated payments in so I'm just gonna just put a random estimated payment payment of let's say five thousand paid and let's bring it up to like 15,000 we also could have rollovers from the prior period we'll dive into that later but you know the general idea is that we'd have the estimated payments that are gonna roll in as well so we can see a lot of different you know components that that are happening now on top of that you also could have other planning components which are gonna be related to business tax returns so inevitably if someone has a schedule see business if they starts to do well at some point they're gonna ask or they're gonna talk to someone that talks about whether or not they should they should start an LLC a pass-through entity a flow-through entity or an S corporation and you'll get into a bunch of topics about that and people that are lawyers or people that are tax professionals that specialize in the creation of S corporations and LLCs are gonna be quite persuasive to say that they should go this way I'm not saying that you shouldn't do an LLC or S corporation I'm just saying that that you know there's incentives involved there with the people that that make money from setting up those kinds of entities so then the question so then you're gonna have those kind of questions that could come up and there's also questions with regards to other kinds of deductions that might be applicable when you have your own business such as the the if I go to page two of the deductions here you might be able to deduct an IRA because you don't have access to a 401k plan anymore right so you might be able to deduct like like an an IRA deduction but it's limited so then in order to be able to deduct more you could think about other kind of retirement plans a 401k is usually too complicated for a small business so possibly a self-employed SEP plan may allow a business to put more money into it and do some more planning give you a little bit more time to put the money in or simple or other qualified plan you also could have health insurance issues that's tied to the sole proprietorship and whether or not you can deduct self-employed health insurance so all these other kind of weird you know things kind of come up with the sole proprietorship so it does open up another can of worms and if you're a if you're a business doing tax preparation you want to kind of parse out which one of those things you're you're willing to deal with and where you might say okay this is beyond me I'm gonna recommend someone else in these areas which will cause clients to complain bitterly maybe but you've got to do what's you know what's what you got to do in order to keep your business plan a business plan yes and going so you've got to tell clients no sometimes let's put this into the our tax software over here and we'll say let's say that we have a schedule C business and let's I'm gonna put the income statement in now we might talk about another worksheet that you might use to like calculate your your your schedule C income statement and then and then maybe any kind of tax versus business deductions later but I'll just put a basic income statement in here there's the hundred thousand that's pulling into my income now instead of from a W to from schedule C just to mirror what's happening on the tax return and then I'm gonna have the self-employment tax which I'm gonna say is other taxes now I could get into more detail calculating the tax we much dive into that later but for now I'm gonna let the software do it I'm gonna say okay software calculate the tax it's at 14129 so 14129 14214129 14129 that then is pulling over to the first page again so it's included in the other taxes now which is other taxes here and then I could see that on my form 1040 page to other taxes pulling in here and then we got half of that which is deductible on line 10 or schedule 1 page 2 right here I'm gonna mirror that over here so I should have an above the line deduction which is up here which is gonna be an adjustment to income I'm gonna do a little formula for that I'm gonna say this is gonna be not alimony where what did I have it this is gonna be half of self-employment equals the self-employment tax one other taxes that 14129 divided by 2 there's the 765 765 I'm gonna pull that into the first page there it is so now my AGI is at 92 936 and so that pulls over here just to mirror that 92 936 and then the standard deduction 12,950 is the same I don't have any itemized right now so I'm gonna take the standard and then the qualified business income deduction now we could do another worksheet just to double check this this is one of course you want to dive into and kind of look into a bit to make sure but I'm gonna let the salt word calculate it for now just to represent it huge amount here 15997 so I'm gonna say 15997 that gets us to 63989 so 63988 so I'm off by a dollar six that's fine and then I'm gonna say page two does the calculation 9692 I'll let the software do that 9692 so I'm gonna plug that here 9692 letting the software do that calculation because it's calculating based on the taxable income using the progressive tax tables so it's not just a flat rate this is the average rate which is calculating this divided by this to get the average and then we've got the other taxes which was the 14129 that means total taxes Social Security Medicare which is the which is the payroll equivalent self-employment taxes plus the income tax gets to the 23821 23821 and then we said there were estimated payments of 15,000 so I'm gonna say here's my estimated payments but that's a W2 payment so I'll just move the W2 down to the estimated payments let's do I need another area down down here I'll say insert and and man let's do this I'm gonna format paint this up here and I'm gonna say this is estimated tax payments my voice cracked payment okay payments and I'll just say this was 15,000 you might have like four estimates you might want like enough room for like four or five lines I'll make this black and white I know I'm doing this fast but I'm just trying to we're running long on the time let's do a spell check either because your spell is horrible your spell is horrible it's ridiculous I spelled it right what are you talking about let's insert this is gonna be total estimated tax payments summon it up on the outside summon it up and then we'll put that brings it over to the first page so there's our payments gets us to the 8821 and so over here we're on 8954 there's a 133 penalty so I'm gonna say 133 let's put that the penalty 8954 8954 so I know I did this worksheet quite quickly we built this worksheet in another section when we were looking at individual income taxes so if you haven't seen it built it might look a little bit overwhelming but the idea is here that we can do a double input into a system like this double checking our numbers and also kind of seeing where things go a little wrong and we can we can dive into them a little bit more so hopefully it helps us to kind of double check things and solve data input errors or find data input errors as well as look at those areas where we should get a little bit more understanding of what's happening but the general idea we want to look at now is that there's a lot going on just with us just with adding a schedule C versus a W2 and so we want to know where those different components are and then as we look at the some more this information going forward we'll try to zoom in to specific areas but whenever we do so you got to realize that any change I make to the schedule C is gonna have a change to everything else right because now the if I change the number on the schedule C that's gonna have a change to the self-employment which is gonna have a change to the schedule one which on the income side as well as page 2 on the half that's gonna be deductible and that's gonna change so all this stuff is gonna change every time I make a make a change anywhere right right so all they're all connected and it gets kind of complex especially if the schedule C is is also conjoined with a bunch of other stuff that's going on with with the tax return so we'll dive into more specific components in future presentations