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Income Tax and Other Taxes
Information in this piece created in collaboration with Overdrive Magazine.
The biggest challenges operating your trucking business is understanding how you are being taxed. This is where many owner-operators run into problems when they are first starting out. The last thing you want is to be surprised come April 15. As an owner-operator, it is now your sole responsibility to pay taxes for yourself and calculate the net profit for your business. If you’re going from being a company employee to being your own boss, be ready because this is going to be a major change.
Gone are the days where your employer takes care of your deductions and sends you a W-2. When you start a trucking business, you’re going to start receiving a 1099 MISC tax form which shows the gross earnings your carrier reported to the Internal Revenue Service. When you get your settlement statements, you may be overjoyed that you’re receiving as much as twice what you’re making compared to your time as a company driver. However, for owner-operators, there are no deductions yet. As an owner-operator, you still have to pay the same taxes you were paying as a company driver, but on top of that you have to pay for the employer’s portion of the taxes that you didn’t have to pay before. Company drivers only have to pay 50% for Social Security and Medicare. As an owner-operator, you’re responsible for paying 100% of those taxes. Both Social Security and Medicare are paid on Form 1040 at the end of the year, but you will have to pay the estimated tax payments each quarter. They’re often about 20-30% of the net income received over the previous quarter. Paying these estimated taxes will not only help you avoid a penalty, but it will also eliminate huge tax bill as April 15 approaches.
Types of Taxes
There are several types of taxes that you will need to pay as an owner-operator. The three types of taxes are self-employment taxes, federal and state income tax, and estimated tax payments.
Self-employment taxes equate to the Social Security and Medicare withholdings you would normally have working as a company driver. For 2019, the rates total to 15.3%. This is made up of 12.4% for Social Security and 2.9% for Medicare tax.
Federal and State Income Tax
This is calculated on your yearly tax return. This equates to the estimated amount withheld from your check as a company driver. Where this was done by the company before, as an owner-operator, you are responsible for estimation and payment.
Estimated Tax Payments
Owner-operators who expect to owe at least $1,000 in tax after subtracting withholding and credits are required to make quarterly payments of self-employment taxes and federal and state income taxes. The IRS allows you to make estimated payments based on the previous year’s data. There are financial services such as ATBS that use current data to help you compute estimated tax payments.
For payment vouchers and addresses for estimated payments, including federal tax information, you can go to the IRS Website. Each state that imposes income taxes has a website where you can obtain their payment vouchers and addresses. Just make sure you make the payments on time. Just like any business, the IRS can levy penalties and interest based on the amount of tax due.
Deductions and Recordkeeping
In order to make estimated tax payments, you will need to estimate the profit of your trucking business. The profit is also used to calculate taxes due at the end of the year when the Form 1040 is filed. The equation you should use to calculate profit is:
GROSS PAY (as reported on 1099-MISC) - ALLOWABLE BUSINESS EXPENSES = NET PROFIT
If you don’t show your deductions or if you don’t file a tax return at all, the IRS will determine the taxes that are due based on their estimate of your income from 1099s provided by your business partners and not consider your deductions or you expenses. This amount certainly will be much higher than what you would have been required to pay.
As an owner-operator, you will have many deductible expenses. The main way to determine deductibility are whether you have a record of the expenses and whether they are ordinary or necessary business expenses. Other than honesty, the best way to protect yourself from audits and penalties is through good recordkeeping. Keep any records that support the deductions you claim on your tax return beginning with your logbook for those per diem deductions. With electronic logs, make sure you download your books every month or so for tax purposes. This is because leasing carriers are not likely to keep them beyond the time required for compliance.
In addition, save and label expense receipts, maintain an expense log or spreadsheet, and sort it all at the end of every run. A receipt is the most obvious evidence of deductible purchases, but you can also use canceled checks, bills, credit card statements, invoices, an expense notebook, or anything else showing when, where and what you bought and how much you paid. Also, make sure you label all expenses with as much detail as possible. Included in the expenses you keep track of, make sure you have an account of receipts for lumper fees or any expenses automatically charged to your credit card including tolls, scales, and credit card fees. Many owner-operators have separate cards for business and personal use just to make tracking expenses easier.
Don’t think just because you can expense items that you can overspend on supplies, equipment, and services. Only a portion of those expenses will be recouped through your tax filing. IRS Publication 552 goes into the different aspects of keeping records you might not have considered, such as the kinds of records to keep and how long to keep them. You can download the publication “Recordkeeping for Individuals” from the IRS website or you can it mailed to you by calling (800) 829-3676.
Per Diem Expenses
Per diem expenses as an owner-operator are tax deductible amounts the IRS assumes you spend on meals, beverages and tips when you’re away from home on an overnight business trip. The new tax law, the Tax Cuts and Jobs Act (TCJA), effective January 1, 2018, does not allow taxpayers to deduct unreimbursed business expenses as an itemized deduction on Schedule A. This was passed to simplify tax preparation since most taxpayers do not itemize their deductions. For company drivers, per diem is considered an unreimbursed business expense which means that it is no longer deductible. The only way a company driver can benefit from per diem under the TCJA is if the carrier pays back the per diem as the part of the driver’s pay.
On the other hand, per diem for owner-operators is an ordinary and necessary business expense reported not as an itemized deduction, but as a business expense on the Schedule C form. Adding these business expenses will directly reduce self-employment taxes and income taxes you will owe on your returns. It’s important to keep in mind that you can’t deduct the total amount of your per diem, but you can still deduct 80% of the total per diem of $66 per day or $52.80 (2019). You can also do direct expense deductions, but meals are only deductible at only a 50 percent rate. So that means that to exceed the $52.80 per diem, you would have to consistently spend more than $105.60 per day.
Lastly, you may be asking what qualifies as a per diem. Technically, any time you get behind the wheel you’re on a “business trip”. Per diem falls under any trips where you are away from home for the night which can be proven through your logs. In other words, it’s not about the duration of the trip. For example, if you leave the terminal before dawn, work a 14-hour day and then return home that same night, per diem deductions do not apply because you didn’t spend the night anywhere.
The standard depreciation for a Class 8 truck (a truck with a GVWR between 26,000 to 33,000 pounds) is an evenly paced three-year deduction that’s spread over four tax years. This comes out to 17 percent of the cost of the truck in year one. In years two and three, it’s 33 percent for each year. Lastly, year four is 17 percent. This type of depreciation is also known as “straight-line” depreciation.
Another variation of the four-year formula is known as the accelerated depreciation. It’s an accelerated depreciation plan with 77 percent of the equipment’s value depreciation in the first two years and 23 percent in the final two.
Based on the the TCJA legislation, an owner-operator may choose to deduct 100 percent of the truck and trailer purchases until the end of 2022. Starting in 2023, this bonus depreciation deduction dwindles to 20 percent a year until 2026, and it’s eliminated in 2027. However, the bonus depreciation deduction can be taken only in the year the equipment was first purchased. Another change that this legislation introduced was that the depreciation can be used for both used and new assets. Prior to the TCJA, this depreciation deduction was only available on new assets.
In the case that equipment expenses exceed the operators’ income for the year, which is very likely for the year the equipment was bought, the bonus depreciation deduction cuts your reported income to zero. The TCJA allows owner-operators to carry that loss forward into the next year which will lower their tax bill for that year or even the following year. When the bonus depreciation rate begins to fall in 2023, owner-operators will likely go back to using the standard depreciation deduction we shared above.
This accelerated depreciation deduction is it not for everyone though. It can bring on higher tax bills a lot sooner once the depreciation runs out and it can even kick owner-operators into a higher tax bracket when it does. There are many people who tried the accelerated depreciation deduction or similar tactics only to end up failing to make their estimated quarterly taxes. You can still use this tactic to zero out your tax bills but we highly recommend saving a little extra each year that you make deductions (recommend saving 8% of your gross revenue yearly). You will need that savings on hand the day the IRS finally starts taxing you.
Lease Vs. Purchase: A Tax Analysis
If you are leasing your truck, you can deduct the entire amount of the lease payments each month. For example:
Tom leased his truck January 1. He makes a payment of $2,000 per month. His total deduction for that year is $24,000 ($2,000 x 12).
On the other hand, if you are purchasing your truck, you can deduct the depreciation on the total cost of the truck and the interest charges that are included in your payment. The truck is depreciated through accelerated depreciation over three years. For example:
Tom purchased his truck January 1. The price of the truck is $60,000. He’s paying $2,000 per month for four years to pay off the truck with 80% of the first year going to paying interest. In this scenario, his depreciation deduction for the first year of ownership is 33% of $60,000, or $19,800. His interest deduction is $19,200. Added this up, the total deduction is $39,000.
These two examples illustrate the difference in tax deductions between those who lease and purchase. Owner-operators who purchase their vehicles will have a deduction that’s over $10,000 greater than the lease driver. But the deductions will decrease over the four years. However, the lease driver will have a consistent deduction of $24,000 each of the four years.
The owner-operators that purchase their vehicles will have higher deductions in the first three years with the fourth year’s deduction being nearly equal to the deductions you get if you were leasing the vehicle. These taxes will be paid in later years if they were not eliminated by depreciation. Also note that if you trade every three years, erosion of depreciation may have set in by your fourth or fifth trade, and you would lose much of the tax benefits enjoyed by people who buy less often.
When looking at all in costs however, it usually costs less to buy a truck or equipment in the long term. For example, when comparing a five-year lease compared to a five-year note on a new truck: you can purchase a truck for $118,000 and the tax savings will be greater in the lease by almost $7,000 more over five years. However, all things being equal, it’ll make more financial sense to purchase considering that the conventional loan financing will oftentimes be $10,000 less than the cost of a leased vehicle after a 20% buyout at the end of the term.
How Do I Minimize My Taxes?
Looking to save on your tax bills and get tax deductions? Check out the following tips to help increase your tax reductions.
The U.S. Internal Revenue Code is 3.4 million words long. It’s very complex. As an owner-operator, you’re not a tax expert so it’s time to call one in. Reach out to professionals who specialize in owner-operator businesses.
Save Money Tax-Free
If you don’t have a retirement account, start one up! Up to a certain point, the money you put into an IRA, SEP or a 401(k) is tax-exempt until you start pulling funds out many years later. Put money into it regularly.
Track Personal Vehicle Miles
You can track mileage on your personal vehicles to make business related trips. You can deduct mileage from your personal vehicle if it’s business-related trips to the bank, the post office, a business meeting, a truck show, a dealership, a supply store, parts yard, or anywhere - as long as it’s business related, you can deduct it. The only exception is mileage gained by driving to and from work. As for 2018, deduction for business miles is at 54.5 cents per mile. There are other deductions as well including 18 cents per mile for medical-related trips and 14 cents per mile driven for charity.
Give to Good Causes
Donations to churches, charities such as the Red Cross and the Salvation Army, and other nonprofits like Trucker Buddy all are tax-deductible. Gifts to business associates are tax-deductible but limited to $25 in gifts per associate per year.
Get your kids into the workforce! If you put an adolescent child on the payroll, you can pay the child just enough so that neither you or the child will have to pay taxes for it. Just make sure to keep documentation, file a W-2 and make sure the child is doing age appropriate work (don’t put the child behind the wheels!)
Claim Tuition Tax Credits
If you are paying tuition for yourself or for your children who are attending a qualified educational institute, then you take advantage of the tuition tax credit. It’s a dollar-for-dollar savings off of your tax bill up to $2,500. Paying off the tuition by the end of calendar year (Dec. 31) will allow you to credit the entire amount of the tuition on your taxes. This only works for students seeking an undergraduate degree and are also enrolled at least half-time. Keep in mind that there is a four-year limit on this credit.
Use the Calendar
Keep a trucking-specific tax calendar at your home or in your truck so can stay on top of important tax deadlines. This way, you’ll never miss a deadline and incur a penalty. Also, purchase big-ticket business equipment prior to December 31 - things like new tires, laptop, or in-cab heater. Even if you have to buy these things on credit, you can get the tax benefit quickly while postponing the cost.
Deduct Anything Business Related
Here are a few other examples of things you can deduct:
- If you wash your truck at home, you can deduct the cost of the household water detergent you used for the truck.
- You can deduct any items for your trucks including things like flashlights, batteries, cleaning supplies, or even fly swatters!
- You can deduct entertainment as well if it’s business related - for example if you purchase dinner for a driver you’re trying to recruit into your operation.
- Clothing is a bit tricky - you can deduct coveralls, but not blue jeans; steel-toed shoes, but not tennis shoes.
The IRS usually has three years to challenge your deductions or income stated on your return by requesting an audit, so you should make sure to keep your records for at least three years. The statute of limitation can be up to six years for returns where there is evidence of understatement of your income by 25%. If the IRS deems your return to be fraudulent with the intent to evade tax, they can take action against you at any time.
If the IRS does audit your return, it doesn’t necessarily mean that you or your CPA made a mistake. The IRS will randomly select returns from time to time to determine compliance with its tax rules. If you receive a notice that you are being audited, the first thing you should do is to contact the person who prepared your return. However, only a Certified Public Accountant (CPA) or Enrolled Agent can represent you in an audit. The IRS says that 4% of the tax returns filed by self-employed business owners with at least $100,000 in revenue get special attention.
What may trigger an audit? An audit can be triggered if an owner operator claims expenses that are uncommon to single-truck owners such as utilities, advertising, or inventory. Also, an engine rebuild can spike expenses can introduce enough volatility in your expenses which may trigger an audit. The fact is, independents may face a lot of volatility in income so if you end up becoming the 4% who have to face an audit, make sure you have your documentation.
There are potential audit problems you should look out for. They include:
- No fixed residence - Make sure you have an established residence where you can collect mail from. It can even be your parents home. Without a home to be away from, your per diem write offs for meals won’t qualify.
- Questionable Home Office - The IRS rules for setting up a home office are so strict that most owner-operators do not qualify. Deductible home office must be used exclusively for the business and nothing else - not even at nights and on weekends. This also goes for anything you may buy for the home office such as a computer or a television. In addition, this home office must be the trucking business’s primary place of business and must be used regularly. In most instances, the home-office deduction is legitimate only when a driver has a spouse or partner who stays at home and regularly does the business side of the operation including load booking, dispatching, handling of multiple trucks or other business functions. If you do decide to make a home office, have a business services provider help with the paperwork as the IRS Form 8829 that is required to establish the home office can be very tricky.
- Mingled Accounts - You don’t need to have a separate business and personal checking account or credit card, but it’s probably a good idea to keep them separated. It’s a lot easier to prove an expense was for business if it was deducted or charged to a business account rather than trying to prove it on a shared account.
Figuring out taxes as an owner-operator may seem complicated but it’s not impossible. As long as you keep proper records and make your quarterly payments on time you should be good to go. There are many tax service providers that specialize in the trucking and transportation sector so use all of the resources at your disposal. For support in other areas of your trucking business, turn to TBS for help in cash flow and in compliance. If you need help getting paid off of your unpaid invoices, make sure to visit our freight factoring page to learn more. For anything compliance, drop by our Truckers Bookkeeping Service website to get help with fuel permits, compliance packages, and more.
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