Let me start by saying that the actual answer to this question is “Consult a tax professional”, and that I understand that any responses on this thread are friendly advice and not legal advice.
My husband has run a small seasonal business for two years. He has not incorporated. Most of the year, he does it alone. For one very large event, he runs it with an employee (M) who does an incredible amount of work throughout the year, but gets paid for only the time on site, and he’s okay with that. M’s name does not appear on any paperwork associated with the business. We trust M completely.
Last year, for various reasons, we needed a new bank account quickly, and my husband was having an argument with his current bank, so M created a new business bank account in only his name. We paid for a lot of stuff out of our own personal accounts. M paid for stuff out of his account, too, as well as out of his personal funds. M ran a crowdfunding venture that made a little money and paid into his account. Taxes have been paid out of M’s business account. At the end of the season, we had lost a huge amount of money. Luckily, we learned a lot about what we did wrong and can fix it for the future.
So, now it’s tax time. I always do the taxes for the family and our Schedule C businesses. I have no idea how to approach this year’s filing. My husband says to let M file for the business, since his name is on the bank account, but M’s name is not in the business, and that won’t take into account stuff like our outright expenses for materials, or our vehicle expenses, fees, etc. Also, I have no idea how to (or whether to) split up stuff between the one event M is involved in, and the rest of the year where it’s solo. The rest of the year made money. I think that I ought to put it all on our Schedule C, and the money that M lost would be listed as only an investment loss on his forms.
Yes, they ought to have incorporated long since. Yes, they desperately need to see an actual accountant. But they didn’t and they won’t, and I need to file. Any advice will be greatly appreciated.
I feel for you. I’ve been in a similar situation, where if I didn’t slap together some estate planning for a family member, it wasn’t going to happen at all. That said, though, I’d be surprised if anyone here would be willing to work for free and incur possible professional liability by wading into this mess. Maybe your husband isn’t willing to consult an accountant, but you really ought to do so yourself. You say “they need to” or “they ought to” several times, but you’re part of the “they.”
Yeah. Unfortunately, I’m not part of the business, so I get little say in what they do.
I would never expect anyone to work for free. I was hoping I might encounter someone who had seen or been in a similar situation, of the bank and the ownership being separate. I would not take any advice given as anything legal or official, just a suggestion of what to look into.
This isn’t even a tax question yet, unfortunately. What you have is a long list of legal questions first and foremost.
Who had a legal right to the income, and a legal responsibility for the debts?
What was the actual and/or intended agreement between the two parties?
Was any of this in writing?
Was there a partnership set up?
Are there state or federal laws that dictate the treatment when there’s no clear agreement?
Remember, in every state I know of, a partnership can be formed whether or not it is correctly registered to do business. And there are laws about paying employees at least minimum wage for all of the work they do, not just some of that work, so it doesn’t sound like M is actually an employee. You can see where I’m going with this.
So, yeah… if you came into my office with this situation, I’d hand you the card of an attorney. When the legal questions have been resolved, then we’ll know what to do about taxes.
Hmmmm… yeah, that does sound like this is more of a legal thing first. I hope I can get them to talk to somebody and not half-ass this. To answer the questions, though-
My husband has a right to all income and a responsibility to pay all debts.
The actual agreement is that M works for us as a paid contractor with, I believe, some bonuses. He has (voluntarily) put in a lot of unpaid time and work, and there is talk about making him a partner if and when (oh please jeebus when) they incorporate.
Nope, nothing in writing, of course!
No legal partnership.
No idea of laws.
This wouldn’t have been an issue except for the stupid emergency bank account. I just want it cleared up and done, legally. I suspect part of the reason they’re not seeing an attorney is that they lost so very much money last year that neither wants to shell out for one. I know WE don’t have much at this time of year as my business is seasonal, too.
Item 1:
Until M is a partner they are your husbands’ assets and taxes. The name on some bank account is immaterial.
That might be enough to get you past Apr 15th.
Item 2:
My wife is an attorney who often advises startups of various scales from tiny though well-funded. Speaking from my learnings in a lot of dinnertime conversations with her about seriously fouled up situations akin to yours …
My non-professional advice to you is the sooner you unscramble this mess and formalize the outcome the better. The cost to fix goes up at about the cube of the complexity. And once there’s any meaningful amount of money or effort invested the parties’ positions become hardened. The only known lubricant for loosening hardened but incompatible positions is more money.
Do it now. Do it right. Or plan to have all the value of this enterprise be destroyed in the ensuing cluster**** of debt, recriminations, hurt feelings, and lawsuits.
Now, while goodwill seems to be abundant, is the only time you can do this successfully. And at relatively low cost.
Are you sure of that?
As Dacoi mentioned, a partnership can be formed (and legally enforced) by the people simply acting as partners, without any written documents at all. “Actions speak louder than words.”
And there is strong evidence that M is in fact a partner – i.e., the bank account in his name. That’s very strong evidence. And the fact that he works many hours all year unpaid, just like your husband does, is more corroborating evidence of his ‘partner’ status.
Now if you have been paying him as a contract employee with 1099’s each year, that is evidence against him being a partner. (Unless your husband has himself been paid similarly.)
Get to a lawyer quickly! You may find that M already owns 50% of this business.