I wish our tax system were simple. Unfortunately, it is not. Folks who think they are going to save a little by preparing their own returns with online services and/or purchasing off the shelf tax preparation software may be asking for trouble.
I have an ongoing one-time offer for any nonclient to come in and bring their last three years tax returns, and I will spend up to a half-hour going over them for free.
Recently a nice married couple came to visit me. They had used a popular "do-it-yourself" tax program to prepare their returns for at least the last three years.
Not checking one box (that they should have but didn't know enough to understand) caused their returns each year to miss calculating self-employed tax on commissions earned. The taxpayers received 1099s showing over $30,000 of nonemployee compensation for each of those years. They reported it on the "Other Income" line on the first page of their tax return. Unfortunately, they didn't understand that "spiffs" or "commissions" or "sales incentives" or "tips" or (you give it any name you want) that are earned for performing some activity for a business and the business then paid non W-2 compensation in return, are subject to self-employment tax.
There is more than one potential type of tax on an Individual Income Tax Return. The "big ones" are... 1) Federal Income Tax 2) Alternative Minimum Tax and 3) Self-Employment Tax.
Self-Employment Tax is Social Security and Medicare for nonemployee (non W-2) type earnings for services rendered. It is the full amount, not just the half that employees have deducted from their paychecks. (Did you know that your employer pays the other half of your Social Security and Medicare when you are a W-2 employee?) For "self-employed" folks, they must report and pay the full amount of their Social Security and Medicare tax on their Federal Income Tax Return. Basically, it amounts to about 14.2 percent. They get to deduct half of that tax when computing their Federal Income Tax. (To be "fair" since, employees don't include the tax paid by their employer as taxable wages.)
Thus, for these unfortunate folks, not checking that simple box on their computer screen caused their self-prepared Federal Income Tax Return to wrongly miss computing Self-Employment Tax on the "Spiffs" they received. For 2009, they had $34,000 of such "Spiffs." For 2010, they had $32,000. For 2011, they had almost $40,000. (In 2012, they had about $34,000, but they hadn't prepared that return yet, so I'm not counting it.) The accumulated Self-Employment Tax on those three years, plus Interest and penalties, minus a small reduction in federal income tax, comes to a little more than $15,000. If they choose not to amend their returns to pay these back taxes, not only will they be asking for the IRS to eventually investigate (which will not be a "fun" experience), but it will cost them even more in lost Social Security benefits over their retired life-times. (Lower Social Security earnings ends up causing lower Social Security benefits paid.)
The moral of the story? If you have any type of income other than a W-2, go to a professional preparer (such as a CPA) for assistance. Even if it is just to have them look over the return you prepared yourself before you file it.
Did you hear? "Sometimes you get, and sometimes you get got."
• Kelly Bullis is a Certified Public Accountant in Carson City. Contact him at 882-4459.