Do I recommend that family child care providers use tax preparation software?
Not unless you know exactly what you are entitled to deduct as a business expense, how much of these expenses you can deduct, and where they should appear on your tax forms.
Note: The IRS has a program where you can use the TurboTax software, as well as other tax preparation software, for free if you are income eligible. For more information.
I’ve used TurboTax to do my own taxes for many years, so I want to point out a number of problems you can run into if you use it. (I reviewed the TurboTax Self-Employed version for this article.)
I reviewed TurboTax last year. I will review H&R Block next week.
TurboTax will not tell you what you are entitled to deduct as a business expense, other than identifying the categories of expenses as they appear on the tax forms.
In other words, the software will ask you to enter your expenses for Supplies, but won’t tell you what you might include as supplies. Unless you know you can deduct flashlight batteries, laundry detergent, light bulbs, tinfoil, window cleaner, toilet paper, and so on, you will miss out on a lot of deductions.
Except for house expenses and items you are depreciating, TurboTax will assume that any expense you enter is used 100% for your business.
Since you will have many items that are used by your business and your family, you will need to multiply them by your Time-Space Percentage before entering them into the software.
This means you will have to apply your Time-Space Percentage that is calculated elsewhere (under Home Office Summary) on TurboTax.
So, watch out! If you spent $100 on supplies that were used 100% for your business, enter $100 in TurboTax. If you spent $1,000 on supplies and your Time-Space Percentage is 35%, enter $350 into TurboTax.
This is a big deal, so you want to make sure you understand the importance of entering the right numbers into TurboTax. You can calculate your Time-Space Percentage on your own and apply this percentage before entering deductions into TurboTax. But, you will want to make sure that TurboTax is correctly calculating this for your house expenses. See the Home Office Deductions section below.
TurboTax tells you to enter your food expenses under “Meals and Entertainment Expenses.” You are given two choices: Meals and Entertainment: 50% Limit or 100% Limit. Use the 50% limit section if you are claiming food expenses for yourself at a conference or other business event away from your home
Always choose 100% Limit for food served to daycare children.
It will then take you to the screen that says, “Standard Meal and Snacks Rates.” The rates for all states but Alaska and Hawaii are $1.32 breakfast, $2.48 lunch/dinner and $.74 snack. (Note: last year TurboTax entered the rates for the wrong year! The above numbers are correct.
If you click on “Learn More” it says “If you are reimbursed for meals and snacks, you can deduct only the portion of the standard allowance that exceeds the reimbursement. Enter the total amount on the next screen.”
This explanation is extremely misleading and confusing.
What this explanation is saying is if you received $4,000 from the Food Program and claim $5,000 in food expenses using the standard meal allowance, you should report zero income and $1,000 as a food expense. This is called “netting” your food expenses. But TurboTax also says to put the “total amount” on the next screen. The total amount of what? The $5,000 or the $1,000? Enter $5,000 in this example.
Enter your food expense on the next screen entitled “Enter Any Exceptions.” Again, under “Learn More” it says, “Meals for children at a daycare facility (if you use the standard allowance for meals and snacks, and you are reimbursed for them, you can only deduct the portion of the standard allowance that exceeds the reimbursement).” This is misleading again!
When you entered your business income earlier, it’s likely that you entered your Food Program reimbursement. If you did this and then only entered your “net” food expense ($1,000 in our example), you are cheating yourself out of $4,000 of business deductions!
If you received an IRS Form 1099 from your Food Program sponsor, TurboTax will tell you to put the entire amount down as income. Again, if you followed the direction of netting your food income and expenses you would be cheating yourself.
Because TurboTax is not automatically “netting” your food expenses, report your total business food expenses. Enter $5,000 in our example in the box on the screen headed “Enter Any Exceptions.” This includes counting all the meals and snacks you served, including those you were reimbursed by the Food Program.
Note: If you received Food Program reimbursements for your own children, do not count this as income.
In an IRS audit, the auditor will always want to know how much you were reimbursed by the Food Program and your total food deduction. If you “net” this, you may not be keeping the proper records to explain yourself later.
Home Office Deductions
TurboTax has a series of screens to fill out to determine how much you can deduct of your house expenses. There are several screens that can cause confusion.
On the screen that says “Do You Have a Home Office?” answer yes. Then it will ask “Do you use part of this home exclusively for this business or does it meet one of these exceptions?” Answer, “yes” because child care is one of the exceptions. Then it asks “Do you use this home office on a regular basis for this business?” Answer yes.
The next screen asks “Do any of these apply to your home office?” Check the first box indicating that your home office is your principal place of business. The next several screens will ask some questions about your home.
Then a screen will ask, “Tell us how you used this home for daycare. If you use an area of your home “exclusively for daycare” don’t click yes unless you are sure that you are using one or more rooms 100% for your business. This means you never, ever use it for personal purposes.
The same screen will ask if you use an area of your home only partly for daycare. Unless you don’t live in this home, check “yes.” It’s possible to have areas that are exclusively used for business and partly for business.
The next screen will ask the first day you used your home for business and how many months you used it.
The next screen will ask if you use the space for storage of inventory or product samples. Answer no, because you don’t have inventory in your business.
The next screen “How big is this home office?“ asks you to enter the “Total hours used for daycare during the year.” But the explanatory box says to “Multiply the days used for daycare by the hours used each day.” This is the language from IRS Form 8829 Expenses for Business Use of Your Home.
It does not tell you to include all the hours you spend on business activities in your home when daycare children are not present (cleaning, activity preparation, meal preparation, record keeping, and so on).
This is a major omission because most providers work hundreds of hours a year on such activities. Unless you know to add all of these additional hours on this screen, your Time-Space Percentage will be much smaller than it should be and you will pay more in taxes than you owe. So, add together the hours daycare children are in your home along with the hours you are doing business activities in your home when daycare children are not present.
See my article “How to Track Hours When Children Aren’t Present.”
This same screen asks “Estimated square feet of area used only partly for daycare.” Look at each room in your home (including the garage and basement) and if you are using it for business purposes at least 2-3 times per week, include the square footage here. Children don’t have to be in the room for you to be using it for your business (laundry room, office, etc.).
When entering the square feet of your entire home include the garage and basement.
The next screen is entitled “Business conducted in home office” and directs you to “Enter the percentage of time you spend conducting business in the home office.” You should enter 100% here. What they are not asking is how many hours you spend on business activities in your home (your Time Percent), but rather how much of your business is conducted in your home, versus somewhere else.
Simplified House Deduction Method
House expenses represent a significant business deduction for you. They include: Property tax, Mortgage interest, House insurance, Utilities, House repairs, and House depreciation.
On the screen “How Do You Want to Enter Your Home Office Expenses for 2016?” you are given three choices:
* “I’ll enter my actual expenses with the Office Expense Expert”
* “I’ll enter my actual expenses spreadsheet-style”
* “I’ll take the simplified deduction”
As I’ve explained in an earlier article, almost every family child care provider should choose the first option. The second option should only be considered if you are using an actual business use percentage for many of your house expenses or your house expenses are extremely small (such as military providers who live on base). This is rare. If you choose the third option, you can compare whether it will give you a higher house deduction than option one. Enter your expenses under the first option and see how this will impact your taxes. Then go back to this screen and choose the “simplified deduction” and you will immediately see that you will be entitled to claim fewer deductions.
The “simplified deduction” option allows all home-based businesses to multiply $5 by the number of square feet they use in their home for their business, up to a maximum of 300 square feet. This means the maximum house expenses you can claim under this option is $1,500 ($5 x 300 = $1,500). However, there is a special rule that only applies to family child care providers that says you must first multiply the $5 by your Time Percent. So, if your Time Percent is 30%, you can only deduct $600 of house expenses (30% x $5 = $2 x 300 square feet = $600).
Because nearly every child care provider will have higher actual house expenses than this, it doesn’t make sense to use this option.
Note: In the past two years TurboTax did not accurately calculate the simplified deduction for family child care providers. This was because they did not take into account the special Time Percent rule. This year they got it right.
See also “A Guide to TurboTax 2016 – Part II”.
If you use TurboTax you may also want to use my 2016 Family Child Care Tax Workbook and Organizer. It contains a section where you can record your income and expenses and then compare them to what TurboTax does. I use TurboTax to do my own taxes. I always prepare my own taxes by hand and then go online with TurboTax. Preparing my tax forms first allows me to more easily follow TurboTax and make sure it has recorded all of my deductions.
Tom Copeland – www.tomcopelandblog.com
If you want to prepare your own taxes, use my 2016 Family Child Care Tax Workbook and Organizer.
Image credit: TurboTax.com