Being poor for art has a shelf life. It’s important to be brave enough to sacrifice potential revenue and follow your dreams, but to make a career in the arts happen, eventually a sustainable income and lifestyle has to be secured. Part of getting there, is knowing how to handle your taxes. Learning the ins and outs of this part of your practice will help you get through the tough times and the boom times.
We’ve had our fair share of both over here at AFC, so we thought a few questions to an accountant might be useful not just for our readers, but for our own, self-serving purposes. In the following Q&A with accountant Hannah Cole, we tried to discern what, if anything was unique about artists taxes, how creatives can get the biggest tax breaks, and whether they should attempt to do their taxes on their own. The answers were eye-opening.
AFC: Are artist taxes unique?
Hannah Cole: Not really. If you’re receiving money from your work as an artist, you are running a small business. As such, you file a Schedule C (aka Profit and Loss from Business), which is an attachment to your regular individual tax return.
The biggest pitfall in artist/writer/performer taxes is having your business reclassified as a hobby. This happens when you incur losses for multiple years in your business, and the IRS deems you not to be a business unless you prove your profit motive. The result is that you can’t take deductions for your expenses, but you still must pay tax on your income.
Determining the classification can be tricky—it’s not black and white—but there are nine factors the IRS weighs to determine whether you have a profit motive or not including time and effort, expertise, and whether or not you carry on the enterprise in a businesslike-fashion. There is case law that supports professional artists who have not made a profit for as many as 20 years – but it still comes down to the judgement of the IRS. It’s easy to demonstrate a profit motive when you make consistent profits. Losses attract scrutiny.
AFC: How can I get a lot of money back from the government?
Hannah Cole: If you mean a tax refund, it’s simple. You file a new W4 with your employer or spouse’s employer to increase your withholding. If you are self-employed, then you can overpay your estimated taxes each quarter. But you’re giving an interest-free loan to the government, when you could be using that money yourself. If that’s the only way you can muster the discipline to contribute to your retirement plan, then go for it. Keep in mind that how big your refund is has nothing to do with how much tax you actually owed during the year.
Actually reducing your tax liability requires more work. You have to get to know the tax breaks available to you, and it takes some legwork to set them up. But a good start is to enroll in the many tax-free savings plans that exist, such as employer sponsored Flexible Spending Accounts (FSAs). These accounts are managed by your employer and allow you to set aside up to a certain dollar amount tax-free to pay for qualified expenses. They can include either transit costs, medical expenses, or child and dependent care. What’s great about this, is that what you set aside gets subtracted from your taxable income, reducing your overall tax liability. Health Savings Accounts (HSAs) are another great option for both employees and self-employed people with high deductible health plans (HDHPs) as they do the same thing.
Another tremendous tax saver: retirement-savings plans for both self-employed and employees, including 401(k)s, IRAs, SEP and SIMPLE plans and more. The details vary, but the idea is that you put in up to a certain dollar amount, and that amount is not only subtracted from your taxable income, which reduces your tax due, but it grows tax-free with compound interest until you take it out in retirement (when you are presumably in a lower tax bracket). Roth plans, where you set aside already-taxed income, are tax-free when you take them out, no matter what your income tax rate.
AFC: Are there special tax loopholes for artists that I might not know about? Is there a such thing as an obscure write off?
Hannah Cole: Two come to mind. There is one special deduction for performing artists’ unreimbursed employee expenses. It allows you an “above the line” deduction for these expenses, when normally, unreimbursed employee expenses fall into the category of “miscellaneous itemized deductions,” which are only available to you if you itemize,* and then only the expenses that exceed 2% of your Adjusted Gross Income are deductible. But this only applies if your income is under $16,000, so it is rarely used. A second, more useful one is for inventory: in regular businesses, you can only deduct the expenses for items that you have sold – not for items still sitting in your inventory. Artists, photographers and authors have an amazing break here – we can deduct the expenses for our materials, even if the pieces haven’t yet sold. This only applies to works of your own creation, and does not apply to film, video, photographic plates or printing. Many artists aren’t even aware they have been taking advantage of this exception, but it saves a headache with tracking inventory.
AFC: Can or should I do my taxes myself?
Hannah Cole: For many, the answer is yes. If you have a straightforward tax situation, without much change year-to-year, and you don’t have questions or mind doing your own tax research, then using some of the automated software is an excellent choice. There are key moments in life when your tax situation shifts, and that is a good time to consult an accountant. For example, when you get married, purchase or sell property, or if you go from being an employee to starting your own business. A good accountant understands your full situation, and can anticipate when you should be changing how you operate. For many low- middle-income taxpayers, a trip to the tax accountant is the only financial check in they have all year. And of course some people just like to be able to ask a human a question.
AFC: How difficult would it be to declare a $916 million dollar loss, a la Donald Trump?
Hannah Cole: Artists may have a reputation for being broke, but I can’t name an artist in recorded history who has lost that amount of money. Damien Hirst has some production costs reportedly as high as $12M, but he’d have to be making 77 pieces in a year at that cost and not selling any in order to have a loss in the ballpark of $916M. Perhaps you could lose that much making big-budget movies?
DISCLAIMER: True tax advice is a two-way conversation, and your accountant needs to hear your full situation to apply the rules correctly in your case. This post is meant for general information only. Please don’t act on this alone.
Bio: Hannah Cole is an artist and Enrolled Agent. She is the founder of Sunlight Tax.
*to clarify: Anything called an “itemized deduction” is only available if you itemize deductions on your taxes (aka file a Schedule A), meaning, you don’t take the Standard Deduction. The 2016 Standard Deduction is $6,300 for singles, and people married filing separately. It’s $12,600 for married couples filing jointly. For head of household it is $9,300. You only itemize deductions once you have itemizable deductions that exceed the standard deduction amount for your filing category. Typically, people cross over from taking the Standard Deduction to itemizing when they switch from renting to paying mortgage interest. Yes, this means all itemizable deductions are more beneficial to homeowners and the wealthy than to renters and low-income people. Deductions for expenses on your Schedule C are separate, and are available to you regardless of whether you itemize.
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