You must pay taxes. But there’s no law that says you gotta leave a tip.
-Morgan Stanley Advertisement
Although it may not be tax season anymore, networkers should keep taxes in mind all year long, saving their receipts and keeping track of business expenses. If you take your network marketing business seriously, you may qualify for some serious tax advantages that are available to business owners, and in particular, home-based business owners.
That’s the good news. The bad news is that the tax deductions that you may be able to take are shrouded in volumes and volumes of IRS codes, regulations and interpretations that could (and in fact do) keep a small army of tax lawyers and accountants busy for years.
Even though these deductions are often confusing and unclear, it is better to have an understanding of them and take advantage of them rather than to pay more taxes than you need to year after year. With that in mind, consider these first important foundational tax points and take them up with your CPA or qualified tax advisor:
No Hobby Losses, Please!
Remember to be able to take advantage of tax deductions for your network marketing business, it has to be a real business. The IRS says that you can’t deduct business expenses unless you engage in the business on a “for profit” basis – not just as a “hobby business.”
How do you tell the difference? The IRS will look at one of two tests. The first objective test is whether you have made a profit in three out of five years. The second subjective test is whether or not you are prepared to demonstrate that you engage in your business in order to make a profit. Here, the IRS is looking at whether or not you carry on the business in a businesslike manner; the time and effort you put into the activity; whether you depend on income from it; your expertise in the business; how much profit the activity makes in the years it does profit; and other pertinent considerations.
The Home Office Deduction
You can deduct the costs associated with your home office, but be prepared to show how you use it.
Assuming you qualify, you can deduct a share of the expenses related to your entire home, such as mortgage interest, insurance, utility bills, and home repair. That share is based on the size of your office as a percentage of the size of your home. Let’s say you have a 3,000 square foot home, and your office is 300 square feet. That means you could deduct as a home office expense 10 percent of the mortgage interest and other applicable costs relating to your whole house. A depreciation deduction for the business portion of your home also comes into play here.
However, the space must be used regularly and exclusively for business. Second, you must use it for administrative or management activities of the business and you cannot have another fixed location for your business where you conduct substantial administrative or management activities. This can be a tough deduction and one that you should be confident in, because it is one of the “red flags” that has a higher risk of triggering an audit than many other deductions.
Record Keeping – The Name of the Game
If you talk to our friends at the IRS, they will tell you time and time again that the most important aspect of claiming your expenses and deductions is keeping adequate records. The IRS will suggest that you keep a separate bank account, make a record of all business transactions, and retain all your records. Record keeping and substantiation are particularly important for deductions for travel expenses, entertainment expenses and gift expenses. And, the IRS will always tell you that a receipt is ordinarily the best evidence to prove the amount of expense.
Is It All Worth It?
Should you take advantage of the expenses and deductions in the Internal Revenue Code? Absolutely, they are there for you. And beyond the home, and for another discussion, are ordinary business expenses, travel, entertainment, business gifts, automobiles, computers, furniture, equipment, etc. The IRS will tell you that those expenses and deductions are there for you as long as you don’t abuse them.
For more information on taxes and network marketing, read the article “Taxes and the Network Marketer,” visit our tax page (Internal Revenue Service (IRS) Advises Direct Sellers) or watch the video: What are the Central Tax Issues for MLM?