I recently had opportunity to speak with a CPA and tax coach who is married to a licensed therapist. His name is Jay Parks (www.parkscpa.com) and he has 26 years of experience in public practice. He owns his own accounting firm and specializes in small business finance. It was inspiring to speak with him, which was not an emotion I typically associate with taxes or accountants.
Jay shared some interesting information for counselors in private practice, which I will summarize here. Please note that both Jay and those of us at Genesis advise talking with an accountant who is committed to your success. The ideas and tips shared here are not meant to be a substitute for professional financial advice but hopefully will help you think differently about how you manage taxes for your practice.
The following are answers to some common tax-related questions other clinicians and private practice owners often ask us.
What are the key differences between the options for establishing your practice (Sole Proprietor, LLC, and S Corp)?
There are many differences between these options and they can vary by state. The details go beyond our ability to cover them here. In summary, two considerations are tax treatment and personal liability. From a tax standpoint, profits from a sole proprietorship go directly to your individual tax return while those from a LLC and S Corp typically receive “pass through” treatment (e.g., reported on a K-1). In the end, the tax impact may not be much different between these options but certain states (e.g., California) impose additional fees that can be significant depending on your structure.
Perhaps the most important difference revolves around the level of personal liability. Jay suggested thinking of a sole proprietor as having everything you own in a bucket – both personal and business. If someone sues you, they go after your entire bucket. An LLC creates a new bucket for your business that separates your business from your personal finances. Although a LLC and S Corp are more expensive to start they are certainly worth considering depending on your tolerance for personal liability risk.
Do you have any advice on keeping tax records and information?
Keep your business records separate from your personal records. One simple way Jay shared to keep good records is to use a 12 envelope system (by month). Place everything in one envelope for the month. When you make an internet purchase always print something to document what you specifically bought. Remember, tax audits occur two years from now. Leave “bread crumbs” everywhere to provide explanations.
There are also free options for accounting software (e.g., Mint.com, Outright.com) that may be helpful for record keeping. Whatever option you choose, keep in mind that you must have a set of books and records to answer any potential audit questions. If you choose to use a CPA, bring organized receipts and you will be charged less. It’s recommended that you develop a system to provide tax advisor information.
How do I know what is deductible and what is not?
Jay shared two simple tests for determining if an expense is deductible:
- Does the expenditure of the money have a profit motive?
- Would a reasonable and prudent person agree it is a business expense?
Use caution with meals and auto expenses. Not all of these expenses are deductible and these questions will help you make good decisions.
Dry cleaning costs are typically not deductible. However, if you are required to wear a uniform to work, cleaning costs are deductible. Clothing purchases are not deductible unless you advertise such as including your logo embroidered on your shirt.
Is my commute deductible?
A commute to the office is not deductible. However, in many states if you work at multiple offices, some of your mileage can be deducted. This may also be the case if you perform marketing such as dropping off a brochure to a potential referral source on your way to or from work. There are two ways claim your mileage. You may track actual auto expenses allocated for business and personal use (e.g., 60/40) or use the actual mileage rate (e.g., $0.56 per mile). You will need to keep up with how many miles you drove for business but this approach almost always results in a larger deduction.
Be certain to track Who, What, When, Where and Why. Use your calendar and track the number of trips between clinics.
How can I best prepare for what I owe in taxes?
Plan, Plan, Plan… If your tax return arrives and it is a surprise how much you owe or how much the refund is, Jay suggests to consider firing your CPA.
Many businesses fail because of taxation … people get in trouble because of tax problems. Be prepared by looking at your gross revenue. Make sure you are regularly saving the amount needed to cover your taxes by moving funds into a separate account every month. Make sure you build taxes into your budget to avoid a dangerous financial snowball that makes it very hard to catch-up.
A key part of planning is to get a budget on paper. Define what your revenue needs to be, then budget, budget, budget. In this way, nothing sneaks up and creates a financial emergency.
Any other tips for therapists?
A new tax bill was passed on Jan 2, 2013. It represents the second largest tax increase in US history. It was designed to limit personal deductions and raise tax revenue in other ways. As a business owner, you have the opportunity to have broader deductions. Make sure your accountant looks into this so you can take advantage of the opportunities.
As tax day comes and goes this year there is no better time than now to start preparing for next April to help you get control of your taxes and help ensure the success of your practice. If you would like to hear more from Jay download our “Practice Management Live” podcast available on iTunes and on our Podcast page.