As a business owner you may be able to convert money you are already spending into business deductions and tax-free fringe benefits for you and your family. Strategic tax planning can put more money in your pocket. It can save you money in both income taxes and employment taxes.
Relieving some strain on your household budget
If you want to take some pressure off of your household budget, it doesn’t have to come from earning more taxable income (which increases your taxes) but instead, by converting the money you are already spending into pre-tax benefits.
The concept of pre-tax dollars v. after-tax dollars is a concept that is not understood by most people. Let’s explain: Generally, when you buy something, you are using after-tax dollars. For example, if you were to buy something for $100, you must actually earn about $150 in order to net the $100 bring-home pay to buy the item.
Here’s how it works
You earn $150 and it’s reported on your W-2 and you’re taxed on it. After payroll taxes and income taxes are withheld, your bring-home pay may only be about $100. Bring home pay is what you buy things with. You must earn $150 to purchase something for $100 using after tax dollars.
If instead, your company purchased the $100 item to be used in business, it deducts the $100, generating about $40 in tax savings (income taxes and employment taxes), reducing your out-of-pocket cost to about $60.
What a contrast! As an employee, you had to earn $150 to buy the same item that you could acquire as a business owner for an out-of-pocket cost of about $60.
For every expense that you can convert to business use, your savings could be 50% or more. The bottom line is: you lose EVERY time you spend after-tax dollars when you could have used pretax dollars.
What other expenses can you convert to business? Some pretax benefits are called employee fringe benefits and require an employee, but sometimes that employee can be you (if incorporated), your spouse or your dependent children.
Hiring your spouse
You may want to hire your spouse to maximize pre-tax retirement plan contributions (401k, SIMPLE IRA, Profit Sharing), health and accident insurance, dependent care, life insurance premiums, education expenses and more.
Hiring your kids (don’t give them an allowance). Hiring your dependent children may allow you to indirectly write off their future college or trade school expenses by deducting their wages and using the wages to contribute to a college fund, traditional IRA or Roth IRA, where the funds could be used later to pay school expenses.