Transcript
It’s the beginning of tax season. You probably have already started getting your W-2s, your 1099s, your R2-D2s, and WD-40s. Maybe you already have your Tax Day advent calendar set up. Maybe you’ve already decorated your Tax Day tree. We’re only a little more than two months away from the Big Day, so I thought it would be appropriate to invite somebody who knows a thing or two or three or four about taxes.
Chris Haley used to work at the “big show.” He’s a former revenue officer at the IRS. That is the IRS. But before you start leaving some hateful comments, he’s not there anymore. He is a KYC Analyst at a technology staffing firm, if I’m correct, and I was disappointed to learn that has nothing to do with Kentucky or Chicken. What is the KYC analyst exactly?
Chris
So we need to do that again because my LinkedIn is not up to date.
Dave
Whoops.
Chris
I work for Truist Securities, which is the broker dealer portion of Truist Bank, the CIB, which is corporate investment banking anti-money-laundering program lead. And so I set up the program and work closely with Financial Crimes to execute the anti-money-laundering program within corporate investment bank.
Dave
Thanks for clearing that up. I’m hoping that it’s not too traumatic to ask you to tap back into your past; your days working for The Man. I know you left that behind you. If you could share with us two or three just common mistakes that you see people making that we could learn from and give us some guidance on how to avoid making those mistakes.
Chris
Yes. Primarily what you see with small businesses in this area, when you’re the only one that owns it, maybe you’re the only employee of it. A lot of times we’re seeing it that they’re an LLC. And so the first mistake that I saw is how they set up that LLC, whether they chose to set it up at all and it was a disregarded entity, or whether they made that election to be in 1120 or 1120s and not understanding kind of those implications of that first choice when you set up your business.
Dave
Is an 1120-S the same as an S-Corp?
Chris
Yes. That’s an S-Corp. When you don’t make an election as an LLC, it’s called a disregarded entity. Whatever income is reported on that gets reported on the single owner’s tax return. If you fail to report your taxes, if you fail to file a tax return as an individual and in the end, you filed the return, say, two years late, but you owed no money, you didn’t get hit with any penalties. But if you’re in 1120s and you fail to file the return, even if you owe nothing, if you’re late, you get a penalty. And that penalty increases each month and then you have interest on top of that.
Dave
I recently elected to be an S-Corp, but I have somebody else; another company that’s helping manage the books and take care of the tax stuff for me. So that’s nice. But there are, as I understand, some tax benefits to doing that as opposed to just being like a straight pass through. I can save a little bit on the self employment tax that I’d otherwise have to.
Chris
That is correct. You can save in certain areas, but you have to be careful to meet all of the tax requirements that go with that.
Dave
It sounds like there’s benefits to these different things, but with all the complications, you got to make sure that you’re staying on top of it — or paying somebody else to stay on top of it for you — but still understand it and stay on top of it yourself, because at the end of the day, you’re the one who’s responsible.
Most people, though, are just a straight “disregarded entity”
Chris
Yes. Most people form an LLC and they don’t make an election, which is perfectly fine. And then when you understand the choice that you need to make to benefit yourself and the business, that’s when you can file that form as opposed to right out the gate filing the form and putting yourself in a box that you might not be ready to deal with the implications that are there. The other one that I would see, particularly with small businesses, is paying yourself as a W two too early or not understanding the implications that come from paying yourself as a W2.
Dave
Tell me more about that.
Chris
So what I would see is people that were like, hey, I needed to buy a house. So I put myself as a W2 for a year. And that way I had a W2 to show to the bank to get that approval for the mortgage to buy the house. But what they didn’t account for was the withholding that needs to take place for Social Security, for Medicare, for their taxes, as well as the business portion that’s paid into your Social Security and your Medicare. And so they did all this to buy the house. And then a year later, I’m coming knocking on the door saying, hey, here’s $20,000 worth of taxes that you didn’t pay because they didn’t understand the choice that they were making and the kind of predicament they were putting themselves in with that, as opposed to having that self reported income on your 1040. And I mean, it’s one of those you’re damned if you do, damned if you don’t, because banks really struggle with how do they underwrite a self employed individual for buying?
Dave
I have recently experienced that I pulled the trigger a little too late on trying to refinance our house and wait until August after I had left my employer and I was sniffing around at different rates and was talking to a lender, and everything was looking good. There’s this great rate. We’re like, all right, let’s go for it. And he was like, “so you’re a W2 employee, right?”
“….Actually, no.”
“Oh, I’m going to hang up on you now then.”
Chris
Yeah. And the other pitfall that comes from this is anything that’s withholding taxes, if the IRS comes after your business saying, hey, you owe $20,000 and $15,000 of that is taxes that were withheld from W two wages, they can do what’s called a trust fund recovery penalty, which means anything that was withheld from the employee In trust that the employer was going to pay to the government, they can assess that amount against you as the owner of the business as a personal liability. So it pierces that corporate veil and gives you a personal liability that gets liens in your name that are getting filed, as well as then they can go after your personal bank account. So all the benefits of having that Corporation set up to protect you, to have the difference between the legal entity and your legal person goes away because of that. And that’s the tough thing that people were terrified to find out about us. Like, oh, my goodness, I could be on the hook for all of this money, not just the business where the business fails and shuts down. That’s one thing. But I would carry that debt with me personally.
Dave
So the W2, the main takeaway for me is the W two. It’s not just a form you can fill out. Like, you actually have to go and run the payroll. You have to do the tax withholding. You have to make sure that you’re doing all of the other back office stuff, too, or else that’s kind of like a big red flag once you file that, trying to get some benefit out of it, Chris…. former Chris, is going to crack his knuckles and start looking through and making sure everything else lines up. And if it doesn’t, then…. Dun dun dun.
Chris
Going with that. The other thing that I saw when I was doing my investigations was people not keeping their accounts separate of this is your business account. This is your personal account. I saw very often where you had a lot of personal expenses in that business account, including tuition paid to children’s colleges, amongst many other things. And so when I would come at that and look at that as the government saying, you chose not to pay me, but you paid 30 grand to Columbia University. You basically don’t have a lot of bargaining power at that point because I’m looking and saying, hey, you have a lot of money going out of the business that you didn’t claim as personal income. That clearly was a distribution from the business to you for your benefit. Not having separate accounts or not keeping the accounts separate was a massive thing that I saw as a common denominator with many of the people that I worked with.
Dave
What are some things businesses can do that won’t make you upset?
Chris
How it broke down was you would have probably 85% of the people that I dealt with were good, honest people that legitimately fell on hard times and were left with a tough choice of, do I not pay my vendors, do I not pay my employees, or do I make those payments and not pay the government? And so when those people would come to me, at least my attitude as a revenue officer was, hey, I’m here to stop the bleeding. Like, we’ll deal with all that you owe later, and maybe you can’t pay it, and that’s fine. But we got to make sure that you’re not adding additional debt onto that. You’re adding additional taxes that you owe onto that. And so I had good, heartfelt conversations with people and truly helped them out in situations of, like, I dealt with real estate agents a lot because they get those big payments all at once from doing closing, especially in, like, the Northern Virginia area, stupid, ridiculous prices, which meant very high commissions. And so you had people that they would get these payments all at once and then not put the money aside for taxes, not make that estimated payment.
Chris
And so then the end of the year comes, taxes are due, and they’re basically every year trying to be like, all right, I got to close like, two houses so I can have enough to pay taxes for this year. But not taking out the money that’s due for the taxes based off of the closing, it just keeps snowballing on them.
Dave
I mean, taxes is more than just filing a piece of paper once a year. It’s making sure that you’re managing your finances and tracking things well all the time. And one piece of advice that I always share with people is to head off exactly what you just described. Anytime you’re making money, immediately cut some of that out and put that aside into a separate tax account.
Chris
25% immediately and put towards your taxes. Everyone can calculate 25% of whatever money is coming in and putting that aside, because you also realize that they’re going to have expenses that they write off. Like, even though their tax liability may be higher than 25%, it’s going to be that, hey, they have all of these expenses that they write off at the end of the year that’s going to bring it to where that 25 is going to be close enough to where if there’s any amount due when they’re filing their taxes, it’s payable.
Dave
You mentioned business expenses and write offs. What are some things you don’t like to see? People trying to pass off as tax deductions vehicles were a big one for me of trying to write that off.
Chris
I mean, our area wasn’t uncommon to see like, hey, it’s a consulting firm. They’re leasing a BMW, they’re leasing a Mercedes. I had some understanding with that. It’s when, hey, I’m leasing this Porsche that I had a little bit harder time dealing with where it’s like, so you haven’t paid us 25 grand, but you’re paying $1,300 a month for this Porsche. Yes, that’s a problem.
Dave
So is it fair to say as long as you’re doing your best to pay the government what you basically just trying to be fair.
Chris
If you’re doing your best and also if you’re able to enter into a payment plan that will full pay your tax liability, the IRS will be much easier to deal with than when you say, hey, I don’t have the money to pay you. That’s when the IRS is going to have a higher level of scrutiny looking at your bank statements.
Dave
I don’t know if it’s just the way that the IRS has been portrayed in movies and TV, but there’s this fear around just checking the wrong box on one of these complicated forms, and the next thing you know, somebody swinging out of a black helicopter, smashing through your window and dragging you off to tax jail. But how much do you actually care? Like, what does it really take for the audit hammer to drop?
Chris
What it took for the hammer to drop with me was when you were lying to my face. That is what I had a problem with, not just, oh, I’m sorry, I fell on hard times. Like, 85% of the people that I dealt with were that 15% of the time it was people that I would say bordered along the criminal side of straight up lying to me. Falsifying forms. That’s what’s going to get you in trouble if you can’t pay your taxes. If you fell on hard times and you have a tax bill and you can’t pay it, you will not get sent to jail for not paying your taxes. You will get sent to jail for lying on government forms because every single government form you’re signing basically under the threat of perjury. So if the IRS is coming to you because you haven’t filed and you’re like, fine, I’m just going to file zero dollar returns and you’re going to file them. Those are the people that got sent to jail.
Dave
Do you distinguish between, “Yeah, they’re totally trying to pull one over on us” versus “He checked Box A on Schedule Z-22, when he should have checked Box Two….?”
Chris
I am not a lawyer. I want to make that abundantly clear. But you have to have intent to defraud. And when you lie, it has to be something of substance. So checking a box because you don’t understand it is not something necessarily of substance, and it doesn’t prove that you had intent. You can be ill informed and be making an honest mistake. But there’s a higher level before you, like, go down that path. And especially before I went down that path of talking with the criminal side of the IRS to say, hey, we need to start doing a criminal investigation on this person. So the times that I involved that side was one. But again, that comes down to, like, very willfulness that they’re doing it. They know they’re doing it. There’s that intent. It’s not an honest mistake because the IRS does not make simple forms. They don’t make it understandable for the layman, which is why we have to pay so much for accountants.
Dave
It’s not just me. You’re on the inside and you’re like, oh, yeah, this is craziness. I’m glad to hear that. Well, that gives me peace of mind. Hopefully that gives some other people peace of mind, because there is when you’re going through it, and sometimes you just get paralyzed, like, wait, is this the right thing? Or and you fill it out. I always have this moment. I try to stay educated. I have a pretty good grasp of what it is, and I use the software to run through it. But there’s still that feeling of like, wait, did I do it? All right? And I feel like a lot of people just deal with this dread. But thank you. For one, just giving people a face to associate. Not anymore. But it’s nice to kind of hear that. Oh, yeah, there are humans. There are nice Chris’s who are willing to work with you if you did make it hard.
Chris
There are good people there at the IRS that are willing to help and work with you if you’ve gotten behind. There’s plenty of programs, and there’s a lot that the IRS will do to work with you. But if quarter after quarter and year after year, you’re continually accruing new tax debt, that’s where the IRS is going to struggle with finding a way to actually work with you. And that’s when you’re going to hear some of the horror stories about how the IRS treated people.
Dave
That’s a good perspective. It sounds like what you’re describing. It’s not so much the risk of making a mistake. It’s letting that mistake compound into something worse and worse. And not handling it early on.
Chris
The number one thing that I saw that is what caused everyone to kind of like, come into my case file was ignoring letters from the IRS of I would show up, and I had this happen on multiple occasions where I showed up and told them, hey, I’m here to talk. Let’s go over some things, and we sit down in their office and they bring out this rubber banded pile of notices from the IRS. It’s like, so do I have to worry about these then?
Dave
Right? So don’t ignore the IRS. And hopefully hearing Chris seeing his friendly face and his willingness to help people who might have gotten into a complicated situation. If the IRS sends you a letter, it doesn’t need to be this thing to fear and ignore. That’s just going to make it worse. So stay educated and just do your best to be fair. And don’t hesitate to give a call and ask for help. If things are getting a little out of hand, running away is not a good idea.
Chris
And that’s where the horror stories come from, because the IRS does have a lot of power and they can take steps to really hamper your ability to live as a free individual.
Dave
We have a few minutes left. Do you have any good news, Chris? Is there anything that self employed, individually small business could take advantage of?
Chris
It’s death and taxes. You can’t get away from it, unfortunately. But taking that step out, being a self employed individual, I mean, you’re opening up your life for greater freedom and you’re betting on yourself, and that’s always commendable. I’m sorry the IRS doesn’t make it easy, but in the end, it does lead you to a more fulfilling life than that 9-to-5 grind. There’s more ability as a self employed individual to really accumulate wealth and provide for your family. It’s long hours. It’s not easy, but in the end, that’s what we’re doing. We’re looking for a better life for ourselves as well as for our family. And so anyone that’s taking that risk and going out on their own, my hats off to you. Even as an IRS agent, it was something that like, man, I didn’t have the guts to do. I chose, instead of going out on my own to work for any government entity.
Dave
Well, thank you for taking the time to demystify some of this, pull the veil back and show a human friendly face. I like what you said. Yeah, you can’t get away from taxes and all of its complications, but is it worth it? Is it worth having to manage some of the stuff for you to be able to do what you love, do something you believe in, and take a risk on yourself and try to live a life of purpose? Like to do something I call my audience business heroes, not because they’re like Iron Man and they can do supernatural things but because they are playing the main character in their life and they’re not being passive about it, they’re playing the hero’s role and it’s cool to hear you acknowledge that. So thanks for saying those things, Chris and Congratulations. I hear you have a tax credit on the way very soon. I know.
Chris
I wish I would have gotten here December 31 so we got the tax credit with none of the expense. Yeah.
Dave
Well, that’s exciting. Congrats to you and your wife and I pray that everything goes well. We’re excited for your growing family.
Chris
Thank you, Dave. It’s nice being on here and good getting to catch up with you, man.
Dave
Thank you again, Chris and thank you everybody who watched. Hopefully this was encouraging and insightful like this video. Subscribe to the channel for more encouraging, insightful videos like this. And also Chris didn’t talk about this but he has a YouTube channel on his own. Check out story beards. He and a friend actually my cousin are doing movie reviews and it’s pretty fun. Give that a look. I will leave a link in the description and yeah, I get to totally embarrass Chris now. I didn’t know I was going to plug that but thank you for watching. I’ll see you in the next one.
Originally published at https://selfemploymentsidekick.com on February 17, 2022.
