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101 Online Business Tax LoopholesBy Diane Kennedy, CPA

The best tax loopholes aren’t for the rich versus the poor or middle class. That doesn’t mean that tax loopholes are evenly divided. They are indeed for a special class of people but the division isn’t rich versus poor. The good news is that it’s easy for you to be part of that group that gets the tax breaks.

They exist for business owners and real estate investors. The government rewards certain behaviors that support public policy. In this case, businesses create economic stability and jobs. Small businesses are the biggest employers. In times of economic instability, small businesses can be a stabilizing force. And, let’s be honest, big business has the money to pay lobbyists to get them the tax breaks. That’s really what it’s all about. The tax loopholes are there so that big businesses don’t pay as much in taxes. It just happens that the very same tax loopholes apply to small business.

Want tax loopholes? Start a business. Want the very best? Start an online business. Let’s start there.

Online Business Tax Loopholes

(1)An online business can be started quickly and easily cross state and even international lines. It’s flexible and you can move it quickly. You also may be able to escape some of the common tax problems such as with inventory. (Many online businesses use drop shipping.) You often don’t need employees and can instead use independent contractors, reducing your payroll taxes. Since you’re online, it makes sense that

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your workers are too. That means you can use foreign virtual workers at a much lower cost.

A “regular” business is usually called a bricks and mortar business because it exists in the real, physical world. There is an office, a factory, a store or some other type of place for the business. An online business exists in the cyber world and on websites. It can move quickly and change rapidly.

Regular business loopholes exist for online businesses, too. So let’s go there next and then come back to specific loopholes that are especially for online businesses.

Hobby or Business?

(2)If your business has net income, you pay tax regardless of whether the IRS calls it a hobby or a business. If you have a tax loss, though, it’s only deductible if it’s a business. The IRS has established 9 factors that are used to determine whether you have a real business or just a hobby.

Remember, you want to be a real business to get all the best tax breaks.

(3)DO NOT request a ruling from the IRS unless you are certain you’ll win. You can use Form NAME to give your particular circumstances. It may work, or it may not. If you are denied, you don’t have a business. Period. Sometimes it’s better to build a solid case and wait. Make sure you go through the 9 factors that follow thoroughly.

(4)One more before we get to the 9 factors. You can also use Form NAME to apply for a delay in the decision on whether you are a business or a hobby. I do NOT recommend this either for two big


reasons: you just put the IRS on notice that you’re doing something that you’re not sure of and secondly, you just extended the normal statute of limitations. That means your returns stay open for audit a longer time. That’s never a good thing.

(5)Factor #1: The IRs will want to know whether you carry on the activity in a businesslike manner. Remember the decision is not based on one factor alone. You must consider all factors to establish that an activity is a business engaged in making a profit.

This means you should have a separate checking account for your business, keep track of your income and expenses with a software program like QuickBooks, keep other record and, ideally, have a business structure like an LLC or LLC electing to be taxed like an S Corporation for the business.

(6)Factor #2: The time and effort you put into the activity must indicate you intend to make it profitable. If it’s your full time business, this is easier to prove. If you’re doing it on the side while you still have a day job, you need to show that you are putting in enough time and effort to make a difference. For example, the IRS has said that a case where a couple worked 2 weekends a month and several evenings each week was enough to prove they were diligent about working in their business.

(7) Factor #3: You depend on the income from the activity for your livelihood. This is a tougher one to prove if you’ve been running losses from your business since the beginning. It may be the one you can’t prove.

(8)Factor #4: The losses are due to circumstances beyond your control or are normal in the startup phase of your type of business. Factor #4 goes along with the previous one. If you have a loss that continues, is there a reason that’s reasonable as to why that is occurring? Be prepared for this question.


(9)Factor #5: If you have losses, are you doing something about it? Are you changing your methods or strategies to improve profitability? (Or at least attempt to improve profitability.)

(10) Factor #6: Does your advisor have the knowledge needed to run a successful business? This may very well be the secret factor. Even if you have losses, if you can show you have a CPA, coach or advisor who has successful experience that you regularly work with, you can possibly win this by demonstrating you’re trying. Remember if you have an online business, that CPA, coach or advisor must have online business success.

(11) Factor #7: Did you have financial success in the past with similar activities? This doesn’t necessarily mean that this company made money but that you had a similar company that did. If this is your first time with such a business or if you’ve never had a success before, then it’s more important than ever to use Factor #6.

(12) Factor #8: Did your business make a profit in the past? That’s probably the easiest way to pass the test. If you had net income in the past and expect it in the future, your loss is more understandable.

(13) Factor #9: Will you make a future profit from the sale of assets in your activity? This is the factor that most Internet start-ups use to show year after year of loss. At some point, they hope, they will sell stock in their company, licensing rights or just sell the company outright to a giant and will be rolling in the dough.

Home Tax Loopholes

(14) Most online businesses are home-based. Even if yours is not, I bet you still do work at home. In order to take the home office deduction, you need to first qualify with a business. Your home office space must be regularly and exclusively used for business. It could be


the basement or the attic. It could be a spare room. It can’t be a corner of the dining room table.

(15) Calculate your home office space. Measure the square footage of your home office. I also recommend taking a picture to show the use, in case you are ever asked.

(16) Regular or simplified method for your home office? The IRS offers two different ways for you to calculate the home office deduction. One is the simplified method. You get a standard deduction of $5 per square foot, up to a maximum of 300 SF. You then can’t take a deduction for any of the indirect costs such as mortgage interest, utilities, repairs, etc. Also if for some reason you can’t take the deduction in the year due to loss limitations, it doesn’t roll forward. In most cases, the regular method will be better for you.

(17) Reporting on Schedule C. If you have a single member LLC that has not yet elected how it will be taxed or if you don’t have a business entity, you will report your income and expenses on Schedule C. You use Form NAME to report the home office deductions. You cannot take the home office deduction to create or increase a loss on Schedule C. If you used the regular method, you can roll the amount forward to future years. If you used the simplified method, you lose the deduction for that year.

(18) Employee and rent. The IRS currently says that you cannot pay home office rent to an employee. (If you have an S Corp or a C Corp, you are an employee.) That means you would have to report the rent you received as income and the expenses against it as miscellaneous deductions on Schedule A, subject to limitations. It’s not going to be


an even match and you’ll end up losing money on the deal. There is a solution and that’s Loophole #19.

(19) Reporting on S Corp or C Corp. As you have seen, neither the rental nor the employee business expense proves satisfactory.

The answer is for corporations to reimburse employee-owners for home-office expenses. The concept is easy. The employee-owner submits an expense report that contains the home office, and the corporation reimburses that employee business expense.

Just in case someone wonders about that, IRS Regulation Section 1.62-2(d)(1) allows employee reimbursements. Expenses allowed in this section of the Code include, among others, business expenses, depreciation, interest, and taxes.

That means you deduct the expense as rent on the corporate tax return. You can’t pay rent to yourself because you are an employee.

There is one more step.

For this to work, you need to use an “accountable plan”. This is a written plan signed by both employer (company) and employee (you) with certain terms.

The accountable plan requires that you, the owner-employee, must incur the expenses in the performance of your duties for the corporation andsubstantiate the expenses to the corporation in accordance with the requirements imposed by the tax law.


To meet this requirement, your substantiation must show:o exclusive and regular use of the office in your home;

o use of the office for the convenience of your employer;

o use of the office as a principal place of business or other qualified use under the regulations; and

o expenses to be reimbursed, including depreciation.

(20) The regular method for calculating the home office expense uses both indirect and direct expenses. The indirect expenses are calculated based on the business use percentage of your home. Use your business square footage and then divide it by the total square footage. Apply this percentage to home-related costs that are true for the entire home. Following are some common home-related costs.

(21) Indirect – Mortgage & Property Tax. Mortgage interest and property tax are currently deductible as itemized deductions on Schedule A. However, you may find that your ability to deduct these expenses phases out as your income increases. That’s why taking a percentage of the mortgage interest and property tax as a home office deduction may be important for you. You could get that lost part of the deduction back.

Be careful, though, if you have a Schedule C business and home office is non-deductible because of loss. In that case, you may want to leave the mortgage interest and property tax alone and report it fully on Schedule A.

And on the other hand, which I think makes the third hand, Schedule A phased out deductions do not roll forward. Home office expenses on Schedule C do roll forward.


(22) Indirect – Utilities. Your utilities such as gas, power, water, sewer and garbage are indirect expenses that can be allocated based on your business home office percentage.

(23) Indirect – Janitorial. Your janitorial expenses for the entire house are allocated based on the home office business percentage.

(24) Indirect – Improvements and Repairs. If you make improvements to the general house, such as painting the exterior or putting a roof on the house, you can allocate those as indirect expenses.

(25) Indirect – Landscaping. It’s the same drill. You can allocate those costs based on the business square footage percentage.

(26) Direct expenses. Direct expenses are those expenses that are directly related to the space. It could be painting your home office, putting in new flooring or converting your closet into a functional office space. These expenses are fully deductible as business home office expenses.

(27) Don’t forget personal items you put in the office. Likely there are items you have that you contributed to the business. Some items could be your desk, art work, chairs, computer, printer, cell phone among others. List these items and the fair market value at the time they became business property. The business needs to pay you back at the fair market value price. This becomes a deduction for the business and is not taxable to you personally.


(28) Watch Out for Listed Property Rules. Listed property includes vehicles, computers, computer peripherals, photographic and video equipment and other types of property that could be used both personally and in the business. In order to take the deduction, you must have business use.

There are different rules in order to take a deduction for listed property. You must have over 50% business usage to claim bonus depreciation or to claim the Section 179 immediate expensing. If you use your property less than 50% in your business, you can’t take either of those deductions and additionally must use the Alternative Depreciation System (not the usual Modified Accelerated Cost Recovery System which gives you faster depreciation.

You are required to keep accurate and adequate records for listed property. This means you should keep a log showing when the property was used, for how long and for what purpose.

(29) Depreciation. You have a choice on whether or not to take the depreciation for your home office space. If you take it, it will have to be recaptured when you sell your home for a gain. The current recapture tax rate is a flat 25% for federal.

(30) What if you sell your house? If you sell your qualifying principal residence that you lived in for 2 of the previous 5 years, you can exclude up to $250,000 if you file single or $500,000 if you are married and filing jointly. If your home office is part of the structure, any gain attributable to that business space is also excluded. However, if it is a separate structure, you will have to attribute gain to the space and that gain will be taxable under the capital gains rate.


Kids and Other Dependents

(31) Pay for work they do. If you have dependents, and most especially children, you know you pay for a lot of things with after tax money. You can instead pay them for work they legitimately do in your business. You get a tax deduction and they can earn make up to approximately $6,300 (check for current limits) and not pay taxes. There are three things I like to see for my clients who claim this deduction:

Write a job description, Track hours worked, and Pay reasonable wage for work done.

(32) Not just kids. If you have any dependents you support, even if they’re not your children, this may be a good strategy for them. This might be a good plan for elderly parents that live with you, for example. All the same rules apply.

(33) Kiddie tax and earned income. Your kids get normal deductions for earned income, money they make working. But if they have unearned income like interest, dividends or rent, it will be taxed at your rate. That’s called kiddie tax. It’s applicable up until your child is 19 or 24 (if attending college.)

(34) Who gets to claim the child employee’s exemption? Sometimes the support rule (who provides the most support) can be a little nebulous. If your income phases out the exemption, it’s better for your kids to take the exemption on their return if you pay them more in income. Of course, you have to be able to legitimately take that deduction. Check this because you may end up paying even less in tax than your child as your income is decreased.


(35) Benefits. Depending on the type of business structure, you may be able to have employee benefits for your child. Make sure you take a look at the C Corp deductions.

(36) Paying for school that helps with their work. While private school isn’t in and of itself deductible, you can take a deduction for specific classes or camps that provide education for the child in something he or she can use in their job.

(37) Modeling fee. If your child is too young to work, maybe you can pay modeling fee to have their pictures on your website, brochures or business cards.

(38) 1099 vs W-2. If you pay your child with a W-2, you will need to file quarterly and annual payroll tax reports. You’ll also have to regularly pay payroll tax to state and federal agencies. It’s simpler for you with a Form 1099, but your child then takes on the burden of paying self-employment tax. Usually the way that a child works leave the interpretation open on whether it is self-employment or regular employment.

(39) IRA. Your child can set up an IRA if he or she has earned income. The pension has a long time to build and it means you can shift even more of your highly taxed income to them, where they won’t pay tax.

Hidden Business Deductions

(40) What makes a deduction? In order to take a deduction, the expense must be ordinary and necessary to the production of income,


in your business. That’s the important phrase “in your business”. If you have an online business, you can be even more flexible with this definition as you’ll discover in the later part of this course. For now, though, just consider every expense you have and examine whether there is a way that you could legitimately call this part of your necessary business expenses. Following are some common business deductions.

(41) Cell phone. Chances are you use your cell phone to conduct business. If that’s true, both the equipment and the service charge are deductible.

(42) Auto. There are a number of different ways to take an auto deduction. What is right? It depends on your circumstances. No matter what route you take, you will need to track your business and personal use. A commute, which is defined as going from your residence to business is not deductible. It’s personal use. If you lease your vehicle, a portion of the lease will likely be deductible. It will depend on the value of the vehicle, the amount of the monthly payment and your business use. If you have a heavy vehicle (greater than 6,000 GVWR) that you have purchased, you can take a limited Section 179 ($25,000) and bonus depreciation, if it was purchased new. Otherwise, the amount you can depreciate is based on a chart that the IRS puts out.

Should you lease or buy? The answer depends on the amount of use you’ll have, the cost of the vehicle and whether it qualifies as a heavy vehicle. At that point, it’s simply a question of doing the math.

This is a question that hangs up a lot of people, but in reality it is quite simple. Just do the math.


(43) Travel. If you travel within the US for business, the travel cost is fully deductible. If you travel internationally for business, you need to prorate the cost of the travel based on how many days you spend on business and how many for personal purposes. The cost of housing and meals are deductible on business days.

(44) Meals – 50%. If you have a meals expense where business is discussed, the cost will be 50% deductible. This is the most common meals deductions.

(45) Meals – 100%. If you have a meals expense that is at the employer’s place of business and for the convenience of the business, it is 100% deductible. Track these expenses separately from the 50% deductible meal expenses.

(46) Computer. Don’t forget the cost of your computer when you’re calculating your business deductions. Pretty much every business needs a computer these days.

(47) Printer. Printers are needed in business too. They are a deduction.

(48) Furniture. In this case, we’re talking about furniture that is used for the business wuch as your home office. It’s deductible.

(49) Education. If you take courses or classes that help you in your business, it’s a deduction. If your kids work in the business, specific courses could be deductible as well.


(50) ISP. Your ISP (Internet Service Provider) costs are deductible. It gets a little tricky when they are bundled with other services like your home phone (which may or may not be a business deduction) and your cable. How do you determine how much of your expense is deductible? First determine what features in the bundle are deductible and then allocate based on what costs would be individually. Chances are the bundle gives you much better cost breaks, so you will have to make a judgment call. Just be reasonable in case the IRS ever asks.

(51) Subscriptions (Dues). If you subscribe to a program or pay dues to a group that helps you in your business, the cost will be deductible.

(52) Where does your money go? Finally, the best answer is to look at where you spend money right now. How can these expenses be a business deduction? Don’t spend money just because it’s deductible. You only get a small return on the money spent. For example, if you’re at a 25% tax bracket, you will get $25 back for every $100 you spend. That’s not a good deal for items you don’t need or use.

Pension Strategies

(53) Pension plans. A common, last chance deduction is to set up an IRA. That can work, but a pension plan will usually get you more deduction. If you have full-time employees, you will have to include them as well. So there could be cost you hadn’t expected. Also, don’t expect to set up another company for the pension plan to avoid covering your employees. There is a law known as controlled group that means that all of your employees in companies that you also own or control will need to receive the same benefits that you do in a separate company.


Pension plans like a SEP, KEOGH or Directed Benefit must be set up by the company’s year end. You have until the filing date of your return to fund them, though.

(54) Using your pension plan to fund your business. Once you have a pension plan accumulating funds, you may want to know “what now?” One strategy if you have a 401(k) plan that allows you to invest in such a way is to buy stock in another company. In this case, the company would have to be a C Corp. You could personally own other stock. You could be on the Board of Directors. You could draw a salary. It’s a way to fund a new business with a pension plan. It works in the right circumstances.

(55) Using your pension plan for passive activities. You can also invest your pension into passive activities such as rental properties. You can’t work on the property, though.

Schedule C Businesses

(56) A MERP in a Schedule C. The Medical Expense Reimbursement Plan (MERP) allows you to take a full deduction for medical, dental, vision and most alternative health costs. In order to make it work in a Schedule C (Sole Proprietorship), you will need to employ your spouse. A Schedule C can only have one owner. The owner can’t have a MERP, but his or her spouse can. If you’re not married, there isn’t a solution for you to have a MERP in your S Corp.

C Corp Businesses


(57) MERP in a C Corp. The MERP is a much better choice for covering medical expenses than one of the plans that allows you put money aside from your paycheck. You are reimbursed for expenses in a MERP. In the case of the other plans, you have to put money aside first. So it’s possible you might not put enough away. Plus, you don’t have use of the money while it’s building up and in some cases, if you don’t use it within the calendar year, you lose it. The MERP is much more flexible.

(58) Employee Benefits in a C Corp. The C Corp Employee/Shareholder has many more benefit options. In other business structures, the owner/employee is limited and actually receives less tax breaks and benefits than other employees do. Examples are pension plans, MERP, medical insurance, disability insurance, physical fitness plans and others.

(59) Tax Brackets. The main reason why a C Corporation saves you taxes is because it has tax brackets just like you have with your individual tax bracket. If you can move income from your top tax bracket to the lowest tax bracket in the C Corporation, you’ll save money, up to $12,500 for moving $50,000 in income. Other business structures are flow through, with the income all reporting on your personal return. The C Corporation income does not flow through.

(60) Avoiding PSC. The Personal Service Corporation is a designation given to C Corporations which are owned and run for medical professionals, engineers, architects, lawyers, accountants and other personal service companies. If you have a PSC, you’re going to be stuck with higher tax rates and not get the same C Corp benefits that non-PSC corps will get.


The secret to avoiding the PSC is to have partial ownership by non-professionals or have some of the businesses function be in non-PSC business. For example, a large animal veterinarian set up a horse boarding facility. The vet practice was PSC, but the boarding facility was not. He demonstrated that over half the staff time was spent with the boarding facility and so the company was not a PSC.

Also be careful with the name of your company. A client had used “Engineered” his C Corp name although there was no engineering involved at all. The IRS caught wind of it and he had to go through a lengthy process to prove that the company was not an engineering firm.

(61) Avoiding PHC. The Personal Holding Company is a C Corporation in which more than 50% of the value of the outstanding stock is owned (directly or indirectly) by five or fewer individuals and which receives at least 60% of its adjusted ordinary gross income in the form of unearned revenue.

A PHC C Corp will have a higher tax rate than an ordinary C Corp. So what do you do about it? Usually the easiest answer to structure it so that passive income is less than 60%.

(62) Avoiding Excess Accumulated Retained Earnings. As long as we’re putting all the cards on the table regarding the downside of C Corporations, we need to talk about Excess Accumulated Retained Earnings. While a certain amount of retained earnings is reasonable, too much is considered a tax avoidance issue. The idea is the higher the Retained Earnings, the higher the stock value and so you get the money back anyway. Only this way, you get it in the form of capital gains.


How much is too much too much? The point at which Retained Earnings becomes Excess differs from company to company. Whenever it is based on other parameters in your company, though, beware. The excess gets hit with a 20% tax penalty. The way to protect yourself is to know exactly what the point of no return is for your Corporation. It has to do with your business cycles and possible expansion plans. The more you need to keep as a nest egg, the higher the amount you’re allowed to retain.

(63) How to get Money Out. There are 4 main ways to get money out of your C Corp. You can take a salary. That would be a deduction for the corporation and income for you. It won’t help if your plan is to move income from your personal return to the corporate return to reduce taxes. Another way is to take a dividend. That’s even worse. You have to pay tax on the dividend income and it’s not deductible for the corporation. You could take a loan. The problem with that is the IRS could call it a deemed dividend and treat it like a dividend. Tax again! The final way is my favorite. What is your plan for the money? If it is for investments, you can make a loan to an LLC that you set up to hold the investments. The loan goes to the LLC, not to you personally.

(64) Avoiding Double Taxation. If you take out a dividend, it’s taxable to you. But it’s not deductible to the C Corporation. That’s double taxation. Don’t pay dividends or take money out in any way that looks like dividends.

(65) Timing. Another big benefit with C Corporations is that they get to have a different than calendar year end. Your S Corporation needs


a December 31st year end. The same as your personal year end. It doesn’t give you a lot of time for strategy.

(66) Strategy with S Corp to C Corp. One of the growing business strategies is to first start with an S Corp or LLC that elects to be taxed as an S Corp (LLC-S). As your income gets to $250K and beyond, consider adding a C Corporation. In that way, you can move some of your income from the S Corp to the C Corp. You don’t change the first structure, you add to it. You can then either upstream income by charging the S Corp a fee for work done or for products or you can sidestream income by diverting a stream of income to the C Corp.

(67) Avoid holding appreciating assets. If you sell an asset at a gain in a flow through entity or in your personal name, you will likely pay the capital gains tax rate. You may also pay tax on the portion that is attributable to depreciation recapture at a flat rate of 25%. On the other hand, if you sell assets at a profit in a C Corp, the corporation will pay tax at an ordinary tax rate. There is no special capital gains rate for corporations. You pay more tax when assets in a C Corp are sold.

(68) Avoiding a Controlled Group. Most employee benefit plans don’t allow discrimination. If you own a C Corp and another company, all employees must receive the same benefits from company to company. That’s the simplest explanation. You also have to make sure you pass the Brother-Sister Corporation test. A brother-sister controlled group may exist if two or more corporations are owned by five or fewer people. Brother-sister status will apply if such a shareholder group meets a 50% total ownership test and a 50% identical ownership test. Your lineal ascendants and descendants are considered the same as you for this test. However, siblings are not. Also, your spouse could


own one company provided ownership and management are completely separate. You can’t take money from the company your spouse owns and your spouse can’t take money from the company you own.

Miscellaneous

(69) Multiple company strategies. Sometimes clients ask me about splitting up their business ventures into separate entities. Other than asset protection reasons, there generally is no tax advantage to having separate companies. However, there could be a reason to have separate business structures. If your income gets over $250,000, consider using an S Corporation to hold your operating income and then upstream to a C Corporation. (Upstreaming is a process by which one company bills another company for goods and services, moving income from one company to another.) If you have Intellectual Property such as trademarks and copyrights, you may want to hold those separately in an LLC.

(70) Self rental. Sometimes clients use business income to invest in real estate for the business. If you do that, it’s called a self rental and the income or loss is taxed more like ordinary income rather than passive income.

(71) Active participation (not material) to take losses. Besides the hobby loss rules, you also need to have both basis in the company and active participation. Active participation simply means that you are involved. There is no time commitment, although it’s generally felt that you need at least 100 hours in order to qualify for active participation. If you don’t have basis and active participation, you can’t take the loss against your other income.


(72) Basis in your company. There are two forms of basis in your company. First is equity basis. How much money did you put in for the stock or units? That’s your equity basis. The second type is debt basis. How much have you loaned the company or, in the case of an LLC or partnership, how much have you loaned the company plus how much have you guaranteed on behalf of the partnership/LLC?

FEIC (Foreign Earned Income Credit)

(73) Digital Nomads and FEIC. FEIC stands for Foreign Earned Income Credit. It’s available for Americans who live outside the US and have qualifying income. You are able to exclude up to $102,100 of your income using this. If you happen to live in a no or low tax country this can be huge.

As more people consider the digital nomad life, it makes sense that more people are exploring their options under this HUGE tax loophole. The following tax loopholes demonstrate strategies you can use to put this in place.

(74) Qualifying – Days test. First of all, you need to prove that you live outside the US. There are two different tests. One is the physical presence tests. Generally, to meet the physical presence test, you must be physically present in a foreign country or countries for at least 330 full days during the 12-month period. You can count days you spent abroad for any reason. You do not have to be in a foreign country only for employment purposes. You can be on vacation time.


You do not meet the physical presence test if illness, family problems, a vacation, or your employer's orders cause you to be present for less than the required amount of time. Also, if you are present in a foreign country in violation of U.S. law, you will not be treated as physically present in a foreign country while you were in violation of the law. Income that you earn from sources within such a country for services performed during a period of violation does not qualify as foreign earned income.

However, the minimum time requirement can be waived if you must leave a foreign country because of war, civil unrest, or similar adverse conditions in that country. You must be able to show that you reasonably could have expected to meet the minimum time requirements if not for the adverse conditions, and that you had a tax home in the foreign country and were a bona fide resident of, or physically present in, the foreign country on or before the beginning date of the waiver.

A full day is a period of 24 consecutive hours, beginning at midnight. You must spend each of the 330 full days in a foreign country. When you leave the United States to go directly to a foreign country or when you return directly to the United States from a foreign country, the time you spend on or over international waters does not count toward the 330-day total.

There are four rules you should know when figuring the 12-month period:

Your 12-month period can begin with any day of the month. It ends the day before the same calendar day, 12 months later


Your 12-month period must be made up of consecutive months. Any 12-month period can be used if the 330 days in a foreign country fall within that period

You do not have to begin your 12-month period with your first full day in a foreign country or to end it with the day you leave. You can choose the 12-month period that gives you the greatest exclusion

In determining whether the 12-month period falls within a longer stay in the foreign country, 12-month periods can overlap one another.

(75) Qualifying – Bonafide. Another option is to qualify as a bonafide resident. The physical presence or days test is an objective test. The bonafide resident test is a subjective test.

Questions of bonafide residence are determined on a case-by-case basis, taking into account such factors as your intention or the purpose of your trip and the nature and length of your stay abroad. You must show the Internal Revenue Service (IRS) that you have been a bona fide resident of a foreign country or countries for an uninterrupted period that includes an entire tax year. The IRS decides whether you qualify as a bona fide resident of a foreign country largely on the basis of facts you report on Form 2555 The IRS cannot make this determination until you file Form 2555.

(76) Income qualifying. The key to what type of income qualifies is right in the title. It is a foreign EARNED income exclusion. You can’t exclude unearned income such as interest, dividends or net rents. An easy way to tell whether the income has the potential to qualify for this exclusion is to see whether you were required to pay payroll tax or self-employment tax on it.. If so, you may have qualifying income. Of course, not all income that is qualifying will be based in the US. In the case of foreign income you’ve earned, a clue is


whether it is subject to tax in another jurisdiction.

In the case of US earned income, if you clearly have US nexus and actually travel to do the work in the US, it probably can’t be excluded. This is why the FEIE works so well for online businesses. You make money online. Exactly where that happens defies normal national divisions.

(77) How much can you exclude? The amount of possible exclusion in 2017 is $102,100, up from $101,300. Each year the IRS tells us the amount that can be excluded.

(78) Housing allowance. In addition to the FEIE, you can also claim an exclusion from gross income for some of your housing expenses. There are a couple of formulas that may make this calculation seem overly hard. The calculation is not hard, but it is tedious.

Your housing amount is the total of your housing expenses for the year minus the base housing amount. The computation of the base housing amount (line 32 of Form 2555) is tied to the maximum foreign earned income exclusion. The amount is 16% of the maximum exclusion amount (computed on a daily basis), multiplied by the number of days in your qualifying period that fall within your tax year.

Housing expenses include your reasonable expenses actually paid for housing in a foreign country for you and (if they lived with you) for your spouse and dependents.

Housing expenses do not include expenses that are lavish or extravagant under the circumstances, the cost of buying property, purchased furniture or accessories, and improvements and other


expenses that increase the value or appreciably prolong the life of your property.

Also, for purposes of determining the foreign housing exclusion or deduction, your housing expenses eligible to be considered in calculating the housing cost amount may not exceed a certain limit. The limit on housing expenses is generally 30% of the maximum foreign earned income exclusion, but it may vary depending upon the location in which you incur housing expenses.

(79) What if you don’t move from the US? It may also be possible to legally avoid US taxes with a foreign corporation. This is a much more complicated area and more than we can cover in a course like this. In general, you need to make sure the income doesn’t have nexus in the US, that you don’t bring the money back into the US and that you make all of the proper disclosures to the US. Just because you don’t need to pay tax on it, doesn’t mean you don’t have to disclose it.

(80) Watch this area for changes. This is one of the areas that is being discussed for major tax reform. Make sure that anyone who helps you with a foreign tax plan is both qualified and up-to-date on the latest rulings.

Tax Loopholes for Bloggers

(81) Writer’s tax loophole. A published author is allowed to take a deduction for just about anything that may be deemed research. For example, I have a number of books and hundreds (maybe thousands) of articles that have been published. Who is to say that my next book isn’t going to be on great works of art? And if that’s the case, then a trip to Europe to tour fabulous artwork would be deductible.


That’s the theory on the writer’s tax loophole. Now, let’s take it one step further and talk about blogging. Once you publish a blog, have you actually published? Right now, there is no ruling from the IRS that says yes or no. And in fact, the majority of circumstances seem to indicate it is publishing. Huffington Post only exists on the Internet and yet it is a powerful press outlet If that’s the case, then once you have a blog any expense that could be considered research is deductible. The next loophole makes it even stronger.

(82) Published or monetize? While I think that Loophole #80 is a real, valid option, an even safer way is to turn your blog into a business. You do that by monetizing your blog. The next few strategies could work for you in that regard.

(83) Sell your product. If you have your own product, you can use your blog to sell it. Give away content and then tell people how they can buy more. That’s how you create a steady stream of income.

(84) Build an email list & monetize. My personal strategy is to build an email list, feed content and then periodically give out offers. Every time I do, there is at least one sale. This all started with the written word. Blogs are a powerful way to build and maintain a list.

(85) Affiliate products. Another way to monetize is to promote products as an affiliate. You might be surprised how much money you can make at that. Give good content and offer problem solutions.

(86) Referral fees. Besides affiliate fees, you can also contact service providers that work along with your market. Set up relationships so


that you are paid referral fees based on your introductions and recommendations.

(87) Upsell services. Make a small sale, maybe an ebook for just a few dollars and then upsell services or other products. Help your customers find the next sale.

(88) Example #1 – shoes. A prominent online marketer once told me that he wished he could figure out how to write off his wife’s shoe addiction. That was a challenge I couldn’t resist. In just one day, the three of us were able to get her a legal tax loophole. Granted, I just gave the advice. They implemented it.

She put up a blog on shoes. She brought in a number of affiliate links on shoes and proceeded to write articles with a lot of pictures about shoes. You can use Instagram for exactly the same purpose. Tie it all back to the affiliate links so that when someone clicks through to view and buy a particular shoe, it credits to you. Just like that a new business was born and the shoes became an ordinary and necessary business deduction.

(89) Example #2 – digital nomad. My husband and I spend most of our time in Baja California, Mexico. We’re in a spot that has become popular as a jumping off point for Americans starting the digital nomad lifestyle. Once you establish yourself outside the US, you often find new opportunities, much lower prices, slower pace of living and with the FEIE, a whole lot less in taxes. Last year, FEIE saved us about $30,000 in taxes. We still pay payroll tax on salaries, but don’t need to pay income tax.

Nexus Issues


(90) Nexus for sales tax. Nexus means connection. If you have nexus with a state for sales tax, it means that you need to collect and pay sales tax on eligible sales to customers in that state.

(91) Nexus for state income tax. Nexus still means connection. If you have nexus for income tax, it means that you need to, at a minimum, file a state income tax return. You may also owe some state tax.

The problem with nexus is that there is no one brightline test. Each state gets to decide what constitutes nexus. The best way to know what your requirements will be is to work with a CPA or nexus specialist to analyze your own circumstances. Here are a few nexus items.

(92) Where Owners live. A common nexus triggering event is simply where you live. The idea is if you have a business, you must do some work in it, that work is important and because you live in a certain state, you have nexus in that state. Some states such as California are especially aggressive at pursuing owners who live within their state for taxes.

(93) Where is your inventory stored. Many states agree that if you have inventory warehoused within their state boundaries than sales to residents in that state will be subject to sales tax.

(94) Where is your real and personal property. It’s not just inventory that can create nexus. It’s also real and personal property. If your company has property inside its state boundaries, you probably need to file a state income tax return in that state.


(95) Where are services preformed? If your company provides an in-person service, you likely have someone working in that state. In most cases, that will mean that you have income tax nexus.

(96) Virtual Assistant (VA). In some states having a virtual assistant living in that state and performing any kind of task, even administrative, is enough to create nexus. Some states rule that sales tax nexus occurs if the VAs are employees or if they perform a necessary part of the service that is sold. Other states say that simply by having a VA in their state, you create nexus. Of course, if you hire people from outside the US, there is no nexus created.

(97) Trade shows. Spend a day in Michigan at a trade show and you’ve got nexus in Michigan. Trade shows aren’t always a trigger for nexus though, check in on the state rules before you commit and definitely before you sell anything while in the state.

(98) Length of time. In New York, you need to work in the state for 2 weeks to trigger nexus. In Michigan, appearing for just one day at a trade show is enough to trigger nexus.

(99) Amount of sales. Most states have a minimum dollar amount of sales before sales tax nexus kicks in. It creates a bit of a complicated situation, though. You don’t need to collect and pay sales tax on sales unless sales hit a certain amount, but how are you to know how much in sales you’ll have when the year begins? It’s certainly safer to just collect and pay sales tax.

(100) Failure to collect doesn’t mean failure to pay. If you don’t collect sales tax, that doesn’t mean you don’t have to pay it. A prominent promoter had to write checks totaling over a million dollars a few


years ago to a variety of states. Even though they had failed to collect the amount in sales tax they still need to pay it.

(101) Why NV corps won’t fix this. Occasionally I hear strategies that involve setting up Nevada corporations as a way to avoid nexus in other states. Quite simply, that doesn’t work. It’s not enough to move a legal entity outside the state, you must also show that there is nexus in Nevada as well.

(102) Sales tax on digital items. It’s not enough that we have confusing and conflicting state nexus rules for when sales tax nexus occurs, we also have very different rules on whether digital items are taxed. A good source to find the latest information is at: https://blog.taxjar.com/sales-tax-digital-products/

California and Nevada don’t charge sales tax on digital products. They are subject to sales tax in Utah, Arizona and Texas. Take a look at the link above. You may be shocked to see how many states require you to charges sales tax. And remember, even if you don’t collect it, you still owe it.

(103) Multi-state for income tax strategies. States may use different criteria for determining how much of your income is subject to their state tax. Don’t assume it necessarily follows “Did you earn it there?”. Some formulas are based on how much in payroll you have, the dollar amount of real and personal property you have invested in the state and/or the amount of sales in the state. As a result, the worst case is that you end up paying tax in two different states on the same income. At best, the income either divides rationally and so you pay tax in only one place or you are given credits for the taxes paid in one state on another state’s tax return. It’s not always a simple job to


https://blog.taxjar.com/sales-tax-digital-products/

break out multi-state businesses. If you have significant enough businesses in 2 or more states, you may consider setting up separate entities. In that way, only that entity is taxed.

Retail Outlet

(104) Assumption you have inventory. If you tell the IRS via your tax return that you have a retail store, there will be an assumption that you have inventory. Inventory is not a current deduction. You do have to report it on your tax return though. That’s why this next loophole is so important.

(105) Use proper NAICS. The right number to show on your tax return for your NAICS code is 45411. This might not seem like a big deal now, but it will be if you get it wrong.

(106) Drop shipping. If you’re using drop shipping, you may incur nexus in states in which the drop shipper operates or stores inventory. Check the state law for these areas. If it’s applicable, you may need to collect sales tax from customers in those states.

(107) FBA (Fulfilled by Amazon). Amazon has determined that there is sales tax nexus in each of the states in which your product is warehoused. That means you’ll need to collect and pay sales tax for sales in those states.

Quick Tricks to Track Expenses

(108) Use your smart phone for receipts. Bookkeeping and record-keeping are the bane of a small business owner’s existence. Your smart phone could be the solution. Take pictures of receipts when you


have them and then upload them to a cloud file like Drop Box. You don’t have to worry about hanging on to little pieces of paper that way.

(109) Track mileage. Tracking mileage is another tough task for small business owners. You need to know how many business miles and how many personal miles you put on your car. There are programs like Mile Bug or Miletracker that can help you with that. Download the apps on your smart phone. Or you could simply take a picture of the odometer “before” and “after” your trip. Everything could be considered personal except for the miles you’ve recorded for business.

(110) Regularly have`` bookkeeping caught up (at least quarterly.) Don’t assume that “someday” you will have your books and records caught up. At some point you’ll do it, but it will likely be at the very last minute for your taxes. You can’t do any planning that way. The best thing is to have an experienced bookkeeper take over your books. Make sure you have it caught up at least quarterly. Monthly is even better.

The above more than 101 tax loopholes are general. Some of them will work for you. Some will not. Work with a qualified CPA to put together a tax strategy plan that gives you all the benefits that are due to you.



Documents

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