Taxes are one of the most important issues facing the self-employed, and other small and growing businesses. And like a company’s profits, its annual tax bill will in part reflect the owner’s skills and knowledge. for federal, state and local taxes — and also seizing every legal opportunity to reduce their taxes. Here are 10 areas to which you should pay attention:
1. Writing It Off: Deductions. Businesses can deduct all “ordinary and necessary” business expenses from their revenues to reduce their taxable income. Some deductions are obvious—expenditures in such areas as business travel, equipment, salaries, or rent. But the rules governing write-offs aren’t always simple. Don’t overlook these potential deductions:
- Business losses. Self-employed business losses can usually be deducted against a business owner’s personal income to reduce taxes. There are limits, however, on the amount of losses that can be deducted. Additionally, if a business owner’s losses exceed personal income for the year, some of the year’s business losses can be used to reduce taxable income in future years.
- Trips that combine business and pleasure. If your trip was primarily for business and you extended the trip for a brief vacation, or took side trips, you can deduct your transportation cost and related travel expenses for the business portion of the trip. If your trip is primarily for personal reasons, the only deductions you may be entitled to are for business expenses once you have reached the destination. Special rules apply for business trips to resorts, on cruises, and out of the country.
2. Payroll Taxes. If your business has employees, it is responsible for withholding and remitting the correct amount of payroll taxes for your employees. These taxes include Social Security and Medicare (FICA), federal income tax, state income tax and unemployment tax. The total FICA tax is 15.3% of wages. Half of that amount is paid by the employee. Your company, as the employer, pays the other half. The taxes must be remitted to the government on a regular schedule, which is determined by the size of the company’s payroll.
3. Quarterly Estimated Taxes. This area trips up many an entrepreneur and is especially vexing for home-based businesses. Failure to keep up with estimated tax bills can create cash flow problems as well as the potential for punishing IRS penalties. Among the issues are:
- Who should pay? If you’re self-employed, you should plan on paying quarterly estimated taxes if you expect to owe the government more than $1000 in income taxes.
- How much should you pay? By the end of the year, either 90 percent of the tax that is owed or 100 percent of last year’s tax must be paid (the figure is 110 percent if your adjusted gross income exceeds $150,000).
4. Sales Taxes. If the products or services you sell are taxable, you will be required to collect and remit them. In order to do that, you will need to register with your own state’s tax department. If you sell out of state or have locations in more than one state you may be required to register and collect sales taxes in those states as well. Check with a tax professional to determine your liability for collecting and remitting out-of-state sales taxes.
5. Keep Tax Documents for at Least Seven Years. Good record keeping saves money. Some things like copies of business tax returns, licenses, incorporation papers, and capital equipment expenses should be preserved indefinitely. Keep any tax-related documents (e.g., expense receipts, client 1099 forms, and vehicle mileage logs) for a minimum of seven years.
6. Charitable Contributions. If you are self-employed, charitable contributions typically “flow through” the business and are claimed as deductions on your individual tax return.
- If you want to get the maximum tax benefits, you should know these basic rules:
- Only contributions to charities listed as “qualified organizations” by the IRS are deductible. Consult IRS Publication 78 for a list of qualified organizations or search online at the IRS home page.
- Contributions of more than $250 require a letter of receipt from the qualified organization. For contributions of less than $250, a canceled check is sufficient.
- In general, donations of property can be deducted for their fair market value at the time of the contribution. You cannot deduct a contribution that has already been written off as a depreciated asset.
- You cannot deduct the value of time or services that you volunteer.
- You cannot deduct the part of a contribution that benefits you. If you receive a gift in exchange for a charitable donation, for example, you can deduct only the amount of the contribution that exceeds the value of the gift.
- In general, you can deduct contributions only in the year you make them. Pledged contributions cannot be deducted until they are actually paid.
7. Important Tax Deadlines for Businesses. As a business owner, there are various tax deadlines of which you should be aware:
- Annual income tax returns. Income tax returns for the self-employed and most LLCs are due April 15. S corporations are required to file an income tax return by March 15. The S corporation is not taxed on its profits, however. Instead, the profits are passed through to shareholders, who report them on their tax return on April 15. C corporations must file annual corporate returns two-and-a-half to three-and-a-half months after the last day of their tax year, depending on the day their tax year ends.
- Estimated taxes. Estimated taxes are due four times a year: April 15, June 15, September 15, and January 15.
- Sales taxes. State sales taxes are due monthly, quarterly, or annually depending on the rules in your state.
- Payroll taxes. Depending on the size of your payroll, employee taxes are due weekly, monthly or quarterly.
8. Deducting Loans. Most business loans are not considered business income. One notable exception is a situation in which you negotiate with a creditor or lender to reduce your debt. If any debt is forgiven, you will owe taxes on this amount. On the other hand, business loans can offer substantial tax benefits. The interest you pay on your loan is a a deductible business expense.
9. Tax Audits. The very thought of an IRS audit is enough to make most business owners break into a cold sweat. But not all audits are created alike: There are several different types of tax audits, ranging from simple requests for a particular piece of information to comprehensive reviews that cover every aspect of a business.
- Correspondence Audit This is a relatively simple procedure in which the IRS asks you to document an item on your return by a specified date. This is usually a routine test for compliance with certain items on your return.
- Office Audit The IRS may ask you to report to a nearby IRS office and document one or more items on your return. You may be able to send them copies of this proof in advance of the appointment and resolve the issue without actually going to the office.
- Field Audit This is the audit most people dread. The IRS will ask you to provide documentation of various items on your return and to meet with an IRS agent for a thorough review of your records. Be prepared to answer the auditor’s questions, but don’t volunteer information.
- Taxpayer Compliance Measurement Program Audit This rather lengthy and detailed audit asks you to document and prove every single item in your return. The IRS and Congress use the data from these audits for research and statistical purposes. These audits are arbitrary, and anyone can face them regardless of how carefully they prepare their tax returns.
- Criminal-Investigation Audit If you are suspected of tax evasion, the IRS will conduct a criminal-investigation audit. If they prove that you have purposefully not paid your income taxes, you can face substantial fines and even jail time. Obviously, you should retain qualified legal counsel if you face this type of audit.
If you receive a notice that you are being audited, contact a tax professional for help. The tax professional will advise you on the best way to handle the audit.
10. The IRS. The IRS small business website provides a wealth of information to small and growing businesses. There’s a section for businesses getting off the ground that includes a handing checklist and advice on choosing business structure. It’s particularly helpful on important topics such as employee taxes and business tax deductions. In addition, it has a list of small business resources with links to other government resources for small businesses.
Disclaimer: The content on this page is for informational purposes only, and does not constitute legal, tax, or accounting advice. If you have specific questions about any of these topics, seek the counsel of a licensed professional.