Bonus Depreciation for Self-Employed Musicians

We’ve written extensively about the loss of tax deductions for W-2 musicians under the new Tax Cuts and Jobs Act (TCJA). For self-employed musicians, however, there are some changes for 2018 which may benefit you if you are an Independent Contractor (1099), Sole Proprietor, or have formed an LLC or Corporation. Specifically, Section 179 has been expanded, which enables business owners to expense certain items (take an immediate tax deduction) instead of depreciating those purchases over a longer number of years.

Section 179 has existed for many years, but Congress has continually changed the rules, setting caps on how much you can deduct. At the start of 2017, you could only take bonus depreciation of up to 50%. Under the TCJA, for 2018, bonus depreciation is increased to 100%, the cap increased from $520,000 to $1 million, and now you can also purchase used equipment and receive bonus depreciation.

As a self-employed musician, Section 179 can help you deduct:

  • Equipment for the business, such as musical instruments, sound gear, or accessories
  • Office furniture and office equipment
  • Computers and off the shelf software
  • Business vehicles with a Gross Vehicle Weight Rating (GVWR) of over 6000 pounds

You cannot use Section 179 to deduct the costs of real estate (land, buildings, or improvements), for passenger cars or vehicles under 6000 GVWR, or for property used outside of the United States.

One of the most attractive benefits of Section 179 is the ability to deduct a vehicle for your business. Under Section 179, your first year deduction on a 6000 GVWR vehicle is limited to $25,000. You would first deduct this amount. Second, you are eligible for Bonus Depreciation, which used to be 50%, but now is 100%. That means that a self-employed musician can effectively deduct 100% of any qualifying vehicle in 2018, even if it is a $95,000 Range Rover.

To be deductible, you must use the vehicle for business at least 51% of the time. If you also use the vehicle for personal use, you may only deduct the portion of your expenses attributable to the percentage of business miles. The way to maximize your Section 179 deduction, is to use the vehicle 100% of the time for your business. If the IRS sees you claim 100% business miles on your tax return, you had better have another vehicle for personal use. You might use your spouse’s vehicle, or perhaps keep your old vehicle, for personal miles.

Don’t forget that commuting between home and the office are considered personal miles, not business miles. This works best if your primary office is at home and all of your concerts, gigs, or teaching, are self-employed or 1099. If you are self-employed, then any driving to rehearsals, performances, teaching, business meetings, auditions, etc., would be business miles.

The 6000 pound GVWR requirement doesn’t mean that the vehicle literally weighs over 6000 pounds, but has a total load rating (vehicle, passengers, cargo) over this weight. If a manufacturer lists the weight of the vehicle, that is not the GVWR; the GVWR is often 1500 or more pounds higher than the vehicle weight. Make sure you are looking specifically at the official GVWR. You can generally find the GVWR printed on a sticker in the driver’s door frame to confirm.

The list of qualifying vehicles varies from year to year and from model to model, but includes most full-size trucks, vans, and SUVs. Be careful – sometimes a 4WD model is over 6000, but the 2WD version is not. On one SUV, a model with 3rd row seating was over 6000, but without the extra seats, it was under 6000. An another SUV, 2016 models were over 6000 GVWR, but the new and lighter 2017 model was not.

There are many lists on the internet of which vehicles qualify; in addition to full-size pick-up trucks and vans, most large SUVs such as a Tahoe, Suburban, Expedition, or Escalade are also above 6000 GVWR. Several mini-vans qualify (Honda Odyssey, Dodge Grand Caravan), as do some more medium size SUVs (Jeep Grand Cherokee, Toyota 4Runner, Audi Q7, BMW X5, Ford Explorer). Again, be absolutely certain your vehicle will qualify before making a purchase. One of the nice things about the new law is that now you do not need to buy a new vehicle to qualify for bonus depreciation; used vehicles are also eligible.

Please discuss this with your tax preparer. You cannot deduct more than you earned, so don’t buy a $50,000 SUV if you only show $30,000 in net profits. Similarly, you might be able to now deduct a $100,000 violin, but if you don’t have $100,000 in self-employment income, you might be better off depreciating the instrument over several years. Lastly, consider these caveats:

  • You have a choice between taking the “standard mileage rate” of 54.5 cent/mile for 2018, or using the “actual cost” method. When you take the standard rate, that already includes depreciation. If you use Section 179 to purchase a vehicle, you are going to be locked in to using “actual costs” for the life of that vehicle. You cannot take the Section 179 deduction upfront and later switch the standard mileage rate.
  • If you are using “actual costs”, you can also deduct your other operating expenses such as gasoline, oil changes, maintenance/repairs, insurance, tolls, and parking, but will need to document your costs. Keep those receipts!
  • You may still be required to keep a mileage log (“contemporaneous record” in IRS terms) to prove you are using the vehicle for more than 50% business miles. If business use falls below 50%, you may be required to pay back some of the depreciation. Let’s just say that would be expensive and a headache.
  • If you depreciate 100% of the cost of the vehicle upfront, that will reduce your cost basis to zero. When you sell the vehicle, you may be creating a taxable gain.
  • You may be able to finance a vehicle and still claim an upfront deduction under the Section 179 rules.

Under the TCJA, these expansions to Section 179 are temporary through 2022; after that time, bonus depreciation will be phased back down from 100% to 0%. So if you want to buy an SUV or truck, you have a five-year window to take advantage of this full depreciation.

This tax deduction is especially effective if you have a banner year of high income and anticipate being in a higher tax bracket, because it will let you accelerate future depreciation on a vehicle into the current year, provided the vehicle is purchased and placed into service that year. Please remember that this section 179 deduction is available only to the self-employed and not to W-2 employees.

I feel I should point out that driving a large SUV or truck may not always be the most cost effective decision. I am not suggesting everyone rush out and buy a Suburban just to get a tax deduction. But if you were thinking about buying a vehicle this year, it can certainly help to know about this tax deduction. And it might influence which vehicle you choose to buy!

I see a lot of musicians who keep good records and find out after the fact which expenses they can deduct. But I don’t see a lot of musicians who are proactively making business decisions to maximize their economic benefit. If you’re going to need a vehicle to haul your drums, or harp, amps, or even just yourself, why not choose one where you can potentially deduct the full cost of the vehicle? With the high costs of operation, insurance, and depreciation of any vehicle, I think there are a lot of musicians who would benefit from an actual cost approach, rather than tracking miles using the standard mileage rate. If your musical life involves a lot of windshield time, know your options.

Tax Bill Passes; Strategies for Musicians

Two weeks ago, we posted how musicians would lose their tax deductions under the proposed tax bill in the Senate. Let me again state that this applies to musicians who take itemized deductions on Schedule A against their W-2 income. For 1099 income or self-employment income reported on Schedule C, there will be little or no change in claiming those business expenses.

While there have been many last minute changes to the version passed in the Senate, I am sad to report that all of concerns which I have for my clients (and myself) have made it into the final version passed at 1:51 AM in Washington. The last step will be for a committee to reconcile the House and Senate bills into a final version to be signed by President Trump. They will begin work on the process on Monday.

The bill applies to your 2018 tax year, so your 2017 tax return (due April 15, 2018) is still under the old rules. Here is an overview of significant changes which will be relevant to musicians as you prepare your taxes.

  1. The Senate version keeps our current seven bracket structure, but lowers everyone’s marginal tax rate by a percent or two. The current brackets of 10, 15, 25, 28, 33, 35, and 39.6 percent will become 10, 12, 22, 24, 32, 34, and 38.5 percent. Additionally, the income levels for these brackets are increased at the high end. The income brackets will be linked to inflation, but the IRS will use chained CPI, which will likely have a lower growth rate than the current method of calculating CPI. Most significantly, the lower tax brackets have a sunset after 2025 at which time, the higher rates return. (Note that the corporate tax reduction from 35% to 20% is permanent. That will have to be a conversation for another day!)
  2. The Standard Deduction will increase from $6,350 single ($12,700 married) to $12,000 single ($24,000 married). However, the personal exemption of $4,050 is eliminated. So the net change is only from $10,400 to $12,000 single, or $20,800 to $24,000 for a married couple. Additionally, since the personal exemption applies to dependents, a family of four would actually see their standard deduction and personal exemptions drop from $28,900 to $24,000. Offsetting this is the child tax credit, which will increase from $1,000 to $2,000 in the Senate bill. The additional $1,000 increase under the Senate plan will be non-refundable, meaning it can reduce your tax liability to zero but will not be paid back.
  3. With a higher standard deduction, it will be more difficult for musicians to have enough itemized deductions to claim a tax deduction. As a reminder, itemized deductions currently include state and local income, sales, and property taxes, mortgage interest, charitable donations, and miscellaneous itemized deductions such as unreimbursed employee expenses.
  4. The Senate Bill eliminates the tax deduction for state and local income and sales taxes and caps the property tax deduction to $10,000. Starting in 2018, you will no longer be able to deduct home equity loans or interest on a second home. Another change: in order to receive the capital gains exclusion on the sale of your home, you must have had the house serve as your primary residence for 5 of the past 8 years. (An increase from 2 of the past 5 years.)
  5. Also eliminated are the Miscellaneous Itemized Deductions. This is on page 83 of the Senate Bill. This category includes unreimbursed employee expenses which are very significant to many musicians. You will no longer be able to claim the following as itemized deductions: tools and supplies, required clothing, home office expenses, mileage and travel, union dues or professional organization dues. Again, this applies to your expenses in generating W-2 income and not to 1099 income. It is essential to know how you are paid.
  6. The Senate version increased the above-the-line deduction for teacher classroom expenses from $250 to $500. This was eliminated in the House bill, to universal outrage. You do not have to itemize to take this deduction. Let’s hope this makes it into the final bill.
  7. There are many other changes to Alternative Minimum Tax, the Estate Tax, the individual mandate of the ACA, pass-through entities, and allowing 529 Plans to pay for private and religious schools for K-12. The student loan interest deduction is eliminated. We’re aware of these changes and others and are happy to discuss those on an individual basis.

While I cannot provide personal tax advice to non-clients, I can make some general recommendations you may want to consider for your own tax situation.

If you currently itemize, you may want to accelerate as many of your deductions into 2017. Before December 31, consider:

  • Paying your property taxes. Next year, you will be capped to $10,000. But even if you are below $10,000, only your itemized deductions above $24,000 will net you any additional tax savings versus the standard deduction. Will you have more than $24,000 in itemized deductions in 2018? It will be more difficult under the new rules.
  • If you have unreimbursed employee expenses, you might want to make those purchases in 2017: concert clothes, sheet music, tools and supplies, or musical instruments. Buy your plane tickets now for 2018 travel. Pay your dues and subscriptions. Remember that to count as a 2017 expense, you just have to put these on a credit card by December 31.
  • Making your charitable donations. If you are over age 70 1/2, you really have to look into doing a Qualified Charitable Donation from your IRA rather than trying to deduct a charitable donation.
  • Reviewing your sources of 1099 /  Schedule C income. If you have both W-2 and 1099 income, you will want to tie your expenses to your Schedule C business expenses instead of Schedule A itemized deductions starting in 2018. If you are primarily W-2, having some 1099 gigs may allow you to claim expenses which will otherwise be lost.

As a musician and the spouse of a musician, I have spent hundreds of hours in keeping receipts and detailed records of expenses which will no longer be tax deductible for us. It’s frustrating, and I believe our taxes will be higher in 2018 as a result. Being a musician is already a challenging way to make a living and this change will complicate things further for many of us.

Musicians want financial security and we can help you achieve those goals. If you’re ready to have a financial plan that is specific to your life and needs, please contact me and we can discuss how we work with musicians.

As an aside, I’d like to applaud Senator Bob Corker who was the sole Republican to vote against the Bill, because it will increase deficits by $1 trillion over the next decade. Corker – who is retiring and not running for re-election – was the only Senator who did not vote along party lines. The Bill passed 51-49. Interesting times, indeed.

Is Your Car Eligible for a $7,500 Tax Credit?

As a free-lance musician, I can think of many times when I have spent three hours or more in the car, round-trip, for a two and a half hour rehearsal. In most cases, our pay for a gig is fixed, so the only way to take home more money is to reduce our expenses.

If you are in the market for a fuel-efficient vehicle, you may want to know about a tax credit available for the purchase an electric or plug-in hybrid vehicle. Worth up to $7,500, the credit is not a tax deduction from your income, but a dollar for dollar reduction in your federal income tax liability. In other words, if your tax bill was $19,000 and you have a $7,500 credit, you will pay only $11,500 and get the rest back.

This credit has been available since 2010, but in the last two years a significant number of new car models have become eligible for the tax credit. If you drive a lot of miles, these cars may be worth a look.

The credit includes 100% electric vehicles like the Tesla Model S or the Nissan Leaf, and it applies to the newer plug-in hybrid models, including the BMW i3, Chevrolet Volt, Ford C-Max Energi, Hyundai Sonata Plug-In Hybrid, and others. The credit does not apply to all hybrid vehicles, only those with plug-in technology. While the plug-in cars may be more expensive than regular hybrids, they are often less expensive once you factor in the tax credit.

The amount of the credit varies depending on the battery in the car, and may be less than $7,500. The credit is phased out for each manufacturer after they hit 200,000 eligible vehicles sold, with the credit falling to 50% and then to 25%. So, for those 400,000 people who put down a deposit on the Tesla Model 3, most will not be getting the full $7,500 tax credit. Only purchases of new vehicles – not used – are eligible for the credit.

The program is under Internal Revenue Code 30D; you can find full information on the IRS website here. An easier-to-read primer on the program is available at www.fueleconomy.gov.

Some states also offer tax credits or vouchers for the purchase of a plug-in hybrid or electric vehicle. Unfortunately, Texas is not one of those states! You can search for your state’s programs on the US Department of Energy website, the Alternative Fuels Data Center.

Do you have a plug-in hybrid or electric vehicle? Send me a note and tell me how you like it.

The Musician’s Guide to Mileage, Part 2

Are you missing out on driving expenses you could be deducting from your taxes? In Part 1 of this series, we differentiated between commuting and types of travel which are tax deductible for professional musicians. Now, in Part 2, we will consider which will maximize your tax deduction: using the IRS Standard Mileage Rate or the Actual Cost method.

The Standard Mileage Rate is used most often by musicians because of its ease and simplicity. Each year, the IRS sets a rate which is supposed to reflect the current costs of driving a car. For 2016, the rate is 54 cents per mile. Is this a good rate or a bad rate? There’s no way to know the answer to that question, because it will vary from situation to situation and person to person. For some people 54 cents will be more than their actual costs. For many others, however, 54 cents doesn’t even come close to covering the actual costs you have in operating your car for business purposes.

The IRS doesn’t care which method you use, as long as you can document your expenses. In fact, in Publication 463 “Travel, Entertainment, Gift, and Car Expenses”, the IRS shares this tip: “If you qualify to use both methods, you may want to figure your deduction both ways to see which gives you a larger deduction.” But very few musicians actually bother to do this. Most just use the Standard Rate, which could be less than your actual costs by thousands of dollars a year.

The Actual Cost method means that you can deduct all of your car expenses, including not only gasoline, but also depreciation (if owned), lease payments (if leased), registration fees, oil changes, tires, repairs, insurance, garage rent, tolls, and parking costs. If you use your car for both personal and business use, than you will calculate the percentage of business miles to your total miles driven that year. If 80% of your miles are for business, then 80% of these actual costs are tax deductible.

Gas is almost never your largest expense as a car owner. At 25 mpg, driving 10,000 miles a year costs only $900 at today’s price of $2.25 for gas. You probably pay more for insurance than gas. Your largest expense is almost always depreciation. A car generally loses at least 50% of its value in 5 years, but the IRS may allow you to depreciate your vehicle even faster than this. I think a lot of tax payers are scared away from using the Actual Cost method because of the complexity of depreciation.

There are a number of depreciation methods that the IRS uses, including Modified Accelerated Cost Recovery System (MACRS), straight-line, and section 179. It’s beyond the scope of this article to define these, but suffice it to say that a CPA will understand these, and frankly, so will most tax software, and guide you to the correct method.

Your actual costs might look something like this:

  1. Depreciation $3050
  2. Insurance $1622
  3. Gasoline $900
  4. Registration $73
  5. Oil Changes $97
  6. Repairs $388
  7. Tolls $526

Total Actual Costs: $6,656. If you drove 10,000 business miles, then you could choose between a $5,400 deduction using the Standard Mileage Rate, or a $6,656 deduction using your Actual Costs. In this case, using the standard rate would mean that you missed out on $1,256 in additional deductions that you could have claimed.

In general, if you have high fixed costs like depreciation or insurance, and average or low miles, you will probably be better off with actual cost. The same is true for years when you have expensive repairs. The Standard Mileage Rate may be higher when you drive a ton of miles, or if your fixed and operating costs are low.

One of the most effective ways to use the Actual Cost method is by using one car exclusively for business, so you can deduct 100% of the costs. How to do this? If you are married or have a partner, and your spouse has also has a car, use that car for personal uses like getting groceries. This is important, because if you claim a vehicle is 100% used for business, one of the first things the IRS will ask you is if you have another vehicle available for personal use. And the answer had better be yes.

If you do end up using the Standard Mileage Rate, please note that you can also deduct any tolls and parking costs for your eligible business driving. A lot of musicians miss this one. Here in DFW, it seems like all the highway construction of the past 15 years has been to build toll roads, so we are paying tolls more frequently and in larger dollar amounts to get to gigs. Download your Tolltag statement, compare it to your datebook and highlight the trips you made for business each month. Or if you do use one car 100% for business, you can simply deduct all the tolls for that vehicle.

Lastly, if you are self-employed, you can deduct any interest you pay on a car loan, in the percentage of miles that you use the car for business. However, if you are a W-2 employee, you cannot deduct the interest, even if you use the car 100% for business.

There are a lot better uses for your hard earned money than paying taxes. That’s why I want musicians to use every available legal tax deduction to minimize your tax bill each year and keep more of your income in your pocket. Being a musician is a passion, but it also is a business, which means keeping good records and being smart about taking whatever tax deductions are allowed. The mileage deduction is a big one for many musicians.

Was this article helpful? I’d love to hear from you. What topics would you like to see in future articles? Email scott@goodlifewealth.com.

The Musician’s Guide to Mileage, Part 1

When can you deduct your driving expenses as a musician?

Between travelling to rehearsals, concerts, or lessons, you probably spend a fair amount of time in your car, and it is a legitimate, and often significant, business expense for the professional musician. In Part 1 of this guide, we will look at when you can and cannot deduct mileage and your driving expenses. In Part 2, we will compare using the IRS standard mileage rate versus your actual costs.

It’s easiest to begin with what is not a deductible travel expense: you can never deduct “commuting”, which the IRS defines as driving between your home and primary workplace. For example, if you work at a University as a full-time tenured professor, then your drive to your office or studio would be considered commuting.

Before we dive into situations which are deductible, let me first explain what we mean by “deductible”. If you are a W-2 employee, you would list qualifying driving expenses as an unreimbursed employee expense on your itemized deductions on Schedule A of your tax return. You would take the Standard Deduction of $6,300 (single, 2016) or $12,600 (married), unless your itemized deductions exceed these levels. Until you have $6,300 in total itemized deductions, mileage isn’t going to reduce your taxes as a W-2 employee. If you are self-employed or receive a 1099 as an Independent Contractor, you will have an easier time by deducting your driving as a business expense on Schedule C. For most musicians, you will have some work which is W-2 and some which is 1099, so your mileage for each of these jobs needs to be deducted appropriately.

Here are types of mileage which you can deduct:

  1. Second job of the day. If you teach during the day and then drive to a rehearsal for a different employer in the evening, your drive to the rehearsal – as the second job of the day – is deductible.
  2. Temporary job sites. If you are working at a site that is not your primary work site, and the job is reasonably expected to last less than a year (and does), then your travel is deductible. For example, if you play a musical for six weeks, that would be a temporary job site. When you are called to sub with a group for a week or two, that’s a “temporary job site”. A non-tenured position with a 8-9 month contract, for a per service orchestra or adjunct teaching position, may also qualify. Your position could be renewed the following year, but in each case, the contract is temporary without any permanent guarantee of employment, and you are not employed by that organization for the 3-4 months between seasons.
  3. Travel “between offices”. If your home qualifies as your primary place of business, then driving to any secondary offices (such as schools, venues, etc.) would be deductible. Link: Home Office Deduction 101 Or, if you drive from your primary office (studio, concert hall, etc.) for run-out concerts or events, that travel would be deductible.
  4. Driving to the airport for business travel.
  5. Job interviews and auditions.
  6. Trips for errands or supplies, meals and entertainment, and customer visits are also deductible.

The key to successfully deducting these expenses is to have contemporaneous documentation, showing the dates, locations, and mileage covered. The most common reason expenses are disallowed by IRS auditors is lack of supporting evidence. Keep a detailed mileage log, keep contracts showing dates of gigs, and be organized.

There are a number of apps to track your mileage, such as MileIQ, QuickBooks Self-EmployedEverlance, and others. These use your phone’s GPS to track your distances automatically, and then you can later categorize each trip as business or personal. This is very helpful if you, like me, often forget to write down your mileage! Just remember that you may be required to produce this documentation up to seven years in the future, so make sure you have saved your information in a hard copy or other permanent location.

I know it is a pain to keep track of all this mileage, but it’s likely that your regular trips of 10 or 20 miles each way can add up to thousands of miles per year. For 2016, the IRS standard mileage rate is $0.54 per mile, so for every 1000 miles you drive, you can deduct $540 from your income. If you are in the 25% tax bracket, that will lower your tax bill by $135. If you are in a higher tax bracket, your savings will be even higher.

Next up: Part 2, where we compare the Standard Mileage Rate and Actual Cost methods for taking the deduction.

This information is for educational purposes only and should not be construed as individual financial advice. Please talk to your CPA or tax preparer regarding your personal situation.