Dental Accounting
Dental Accounting
All about the financial business of being a dentist: tracking new patient numbers, fraud risk management, key performance metrics, tax planning, debt reduction, and more. Using the language of accounting to understand your practice.
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BluebackJay
BluebackJay

Employee or Independent Contractor?

8/25/2016 1:18:37 PM   |   Comments: 0   |   Views: 819
Clients often ask us about the different ways an Associate Dentist (AD) can be paid: which method (1099 or W2) was better for tax purposes? While this decision is not up to your accountant, here is some food for thought on the subject.  

Classification as contractor or employee is based on the facts and circumstances of your relationship with the company you work with. The IRS has many different factors it uses to determine if a particular person is a contractor or employee. Most of the rules try to determine who has control of the person doing the work. The more control the company has, the more likely a W2 will be the correct payment option. The more control the contractor has, then more opportunity for a 1099. 

Does the AD have the flexibility over their schedule? Do they bring their own tools/supplies to the job? 
Is their job outcome driven rather than process driven? After going through these questions and others, certain positions/jobs lend themselves to one side or the other. I would argue that most ADs, just by the nature of the job, would fall into the W2 relationship.

That being said, there is still hope to write off some of those expenses you incur as an employee. Let’s look at a few big ones and where you can deduct them.

Mileage – in any case, you cannot deduct commuting. Therefore, driving from home to the office is a non-deductible expense. If you work for a practice that has two offices; your trip to the first office would be the commute and the trip to the second office would be considered deductible at the current 2016 rate of 54 cents per mile, less any reimbursement from your employer.

Continuing education is usually always deductible.

Uniforms
have to be unfit to wear outside of the office to be deductible. So even though your friend may ask to wear your scrubs/Lab coat at Halloween, those would generally count. The slacks, shirt and tie you wear under that lab coat are completely suitable for wear outside of the office, so these items would not be deductible.

There are other expenses that come up from time to time, and those are analyzed on a specific circumstance basis. Some make the cut, and others are pushing up that red audit flag.

The story is only half complete at this point. To actually reduce your taxable income, these expenses jump through several hoops to determine deductibility. 

The first hoop is the 2% threshold. The bottom of page 1 of your 1040 shows your adjusted gross income (AGI). You can (potentially) deduct expenses more than 2% of your AGI. If you had $10,000 of non-reimbursed employee expenses and had an AGI of $100,000, you would (potentially) be able to deduct $8,000 against your income (2% of $100k is $2k; $10k less $2k = $8k).

Now we come to the second hoop, and the reason that it may be “potentially” deductible at this point. The $8k now lands on your Schedule A – Itemized deductions. You can generally deduct your standard deduction or your itemized deductions; whichever is more. The standard deduction for 2015 was $12,600 for a married individual, and half that for single folks. Most people who itemize own a house with a decent sized mortgage and pay real estate taxes. Both of those go on Schedule A. The other big expense is your State income tax and depending on how philanthropic you are, donations can help you out too.  There are others, but those are the big ones. 

We’ll assume the AGI of $100,000 and $8,000 of deductible employee expenses (see the first hurdle above for this calculation). Let’s say you are married, rent your home (until you can pay a little down on your school loans) and paid roughly $4,000 of state withholding for the year. You also donated $3,000 to your local church. Your Schedule A would total $15,000, which is more than $12,600, so that total (since it is more than the standard deduction) moves over to your 1040 and reduces your taxable income.

At first this seems like a win, but let’s look at it a little further. Since your $15,000 is only $2,400 more than the standard deduction, you are really only getting the benefit of 24% of your expenses. If you are in the 25% tax bracket, your tax benefit (reduction of actual tax) for your $10,000 spent would only be $600 (plus a little more for you state taxes). 

While that is still better than nothing, on a cash flow basis, it’s not that great at all. There are other ways to improve your cash flow, such as getting a reimbursable/accountable plan set up in the company so you can get a 100% tax break on these expenses. Moving from 24% of your expenses being deducted to 100% is a big swing!

Now let’s come full circle. This isn’t to say that being an employee is worse than a contractor. Many factors play into that. What we can conclude is that personally paying for expenses that would generally be deductible by the business is not the best avenue for the employee; sometimes for the employer either. 

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