Usually, operating a business sounds all fun and games until you step into the entrepreneurship world. From delegating tasks, managing finances to overseeing marketing practices – you have many responsibilities on your shoulders. And since you are not working under anyone, you also have to fulfill tax obligations. Undoubtedly, this is the last thing on every business owner’s list because no one likes giving hard-earned business income to the government.
However, suppose you fail to account for tax payments before the deadline. In that case, it can land your entire business into hot water. Therefore, as a business owner, understand your legal responsibilities and learn the ropes. Whether you have a team of two employees or twenty, if your yearly income exceeds $400, you are liable to pay taxes. The United States imposes a tax of 21% on corporate profits and 15.3% on annual income, but rules vary from business to business.
In addition to tax calculations, memorize the filing deadlines to close doors for fines and penalties. If you need assistance with your company’s tax regulations, have a look below. Here are five tips to help you understand tax obligations for small businesses.
1. CLASSIFY YOUR BUSINESS CORRECTLY
In the business world, there are different legal structures with varying tax implications. Thus, before digging into calculations, classify your business entity. If you are running an unincorporated business single-handedly, you can categorize yourself as a sole trader. Although sole proprietorship taxes are straightforward, look into this self employed tax guide to understand the filing and refund procedure. It would teach you how to report your business income using a Schedule C form.
Moreover, you don’t have to account for corporate tax because your business profits are your income. It means you only have to pay a 15.3% tax on your annual income. With the new tax law, sole traders can take advantage of a 20% tax deduction, reducing their overall tax liability. Besides sole trader, small businesses are also operating on partnerships. In this case, partners have to pay corporate tax on profits alongside the annual income tax.
2. MAINTAIN RECORDS
Usually, small business owners don’t maintain records as they are not answerable to anyone. As a result, you might forget to account for tax deductions. Similarly, inaccurate records can also put you at the risk of audit. Therefore, keep thorough and accurate records throughout the year as they can come in handy when filing taxes. Firstly, prepare an income statement to track all your income and expenses. Likewise, draft a cash flow statement to determine if you have enough cash to incur tax payments. You can visit here income tax calculator by Taxfyle to read more.
You can also create a balance sheet to support your depreciation claim. Besides this, keep business and personal expenses separate. Suppose your company goes through an audit and the IRS finds personal expenses in the income statement. In that case, it can land you into hot water. Hence, always use a separate bank account and credit card for running business expenses.
3. TAKE ADVANTAGE OF TAX DEDUCTIONS
Do you encounter any wages or utility expenses? Unsurprisingly, every small business owner has to stretch their financial resources to cough up money on day-to-day expenses. In addition to reducing profitability, business expenses can significantly reduce taxable income. Let us explain how. When calculating taxes, you have to subtract 21% tax from your profit after interest. But if you start including all business expenses, they will decrease profits and tax liabilities.
Alongside the conventional expenses, reap the benefits of larger deductions. For instance, if you have any business equipment – vehicle or machinery, make sure to charge depreciation on it. Likewise, you can set up a retirement or pension saving plan. All the contributions you make for yourself or employees will be tax-deductible. Sometimes, small businesses also get a tax credit to help settle the cost of starting the retirement plan.
4. UNDERSTAND DIFFERENT TAX OBLIGATIONS
Unfortunately, the legal world is quite complex, especially when it comes to paying business taxes. You have to pay a self-employment tax on your income, and at the same time, you have to charge payroll tax on employees’ wages. Likewise, you also have to charge sales tax from customers if you operate in the retail sector. Sounds confusing, no? Here is the list of the most common types of taxes you have to account for as a business owner.
I. Payroll Tax: No matter how many employees work for your company, you will be responsible for paying taxes on their salaries. It includes federal income tax withholding, Medicare, and social security charges. If you can’t manage this by yourself, download a tax application or payroll service to file the forms.
II. Sales Tax: Customers have to pay sales tax on goods and services when making a purchase. And business owners are responsible for collecting this tax and reporting it to the local and state governments. Since it is inclusive of the product’s price, you don’t have to get into technical calculations.
III. Self-employed Taxes: Business owners have to pay 15.3% tax on their income annually. However, you can deduct half of the tax while filing the personal tax return.
IV. Property Tax: If you own your office or warehouse, make sure to pay property tax every year.
V. Import Duty: Do you import raw materials or machinery? If yes, you have to pay import duty on all your raw materials. The customs authorities will inform you about this charge once your products reach the country’s border.
5. CLAIM INCOME REFUNDS
Surprisingly, your job doesn’t end after paying the taxes because you have to claim refunds at times. The income you receive is mostly taxable. Sometimes, there is a small proportion of non-taxable income that entrepreneurs don’t know. You have to report that income on your tax return to claim the refund. For instance, it could be a charitable amount or depreciation charge. You have to fill out a W-2 form and report this income on your tax return.
Nevertheless, remember that the IRS gets a copy of the 1099 form that you submit. They match the income you have reported against what you received. If it doesn’t match, the IRS can raise some red flags on your business. Thus, be super careful while claiming income refunds. Before filing the return, cross-check with tax guidelines to ensure it is a non-taxable income.
FINAL THOUGHTS
Undoubtedly, setting up and operating a small business comes with high costs. Whether you are flying solo or sharing risks with partners – keeping up with tax regulations is inevitable. In addition to calculating tax payments correctly, you have to focus on maximizing tax deductions. It will limit your tax liabilities, letting you enjoy higher profits. Above all, don’t end up under or over-reporting business expenses as IRS cross-checks everything.