Your Guide to Lowering Your Business Taxes
There can be a lot of joy when owning your own business but there is no way to avoid small business taxes. One of the things you may want to focus on is lowering your business taxes.
if you are able to focus on lowering your business taxes then you can use that money to spend on other business expenses.
Have Someone Qualified to Help with Lowering Your Business Taxes
Basic small business tax management can be done by anyone who has the time and energy and pays attention to the details. However, just because you can do it yourself doesn't mean that you should. As an entrepreneur, you may want to spend your time and energy on the other aspects of your business that you have a talent for.
Ease the Burden
Tax returns can be complicated. A small business owner who itemizes deductions will have to complete many different forms, including 1040, Schedule A, and Schedule C. Each form will require different information. Navigating your way through complicated tax returns is not only time consuming but also the risk increases with every different form you need to file. Professional tax services can ease the burden.
Reduce Errors
Some of the most common tax errors are computer errors, entering payments on the wrong line, and other simple math errors. An error on the return can delay your tax filing. If your mistake results in a tax liability then there will be fines and interest due from the date you filed taxes. While no professional will be perfect, making a simple mistake on your return can be reduced when you use a professional service. Making mistakes can actually affect lowering your business taxes since you may have to pay fines.
Professional Advice
Tax rules can be complicated. A tax professional can help with lowering your business taxes with deductions and credits you can qualify for. Professionals can also give you advice on certain tax issues your business may face.
Avoid Any Adverse Consequences
When you are signing the tax return, you declare that the information is true and accurate. If the IRS audits the return and finds any errors, you can face legal consequences. Having a professional prepare taxes adds a safeguard to your potential liability. Any tax professional can still make a mistake so it does help to go over the numbers yourself to make sure they are accurate. Not only can you avoid adverse consequences with a professional but it can also help with lowering your business taxes.
Types of Business Taxes
There are a variety of different taxes for businesses. Understanding your responsibilities for the different business taxes can help you meet the deadlines so you can avoid any penalties. Understanding the taxes can also help with lowering your business taxes.
Income Taxes
These are federal and there may be state income taxes as well. The business could pay the tax if it’s a corporation or the owner could pay the tax on his or her share of the expenses and income in the case of a sole proprietorship.
Employment Taxes
If you have employees then you will need to withhold income taxes and an employee’s share of Medicare and Social Security. You will also need to pay the employer share of Medicare and Social Security. If you have a business that is incorporated then you are technically an employee if you work for the business and you owe these taxes. If you are self employed then you own self-employment taxes, which is the equivalent of both the employer and employee share.
Sales Tax
If you are selling goods and services and are based in a state with sales tax then you can be required to collect the taxes on your transactions. Customers pay the sales tax but you can have penalties if you don’t collect the taxes and pay them to the state.
Excise Taxes
Depending on the business you have, some businesses need to pay excise taxes on highway usage by trucks, fuels, and for other activities.
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Your Business Structure
Your type of small business structure determines what types of taxes you will be paying. This is how your business is structured organizationally and legally. Since your business structure determines the types of taxes you are paying, changing your business structure can help with lowering your business taxes.
Sole Proprietorships
This is a structure where you are the business. You will make all the decisions, you control the profits, and you deal with any losses or liabilities. Taxes for a sole proprietorship aren’t actually all that different than what you do as a personal taxpayer. Your business income will be taxed at your personal income rate, which is the same as if you earned your money working for another business. Since your business isn’t taxed separately as a business, you may also hear the term “pass-through income.” This is because the profits pass through your personal income totals for tax purposes.
One important tax document for sole proprietorships is the Schedule C form. It’s used as a worksheet to determine how much profit you made during the year. It will allow you to itemize business expenses and deduct them from the income you report. It’s important to keep track of receipts and mileage throughout the year. Everything you buy for your office, every training you attend, and every promotional effort you make can qualify as a deduction. However, it will only work if you document everything.
One way sole proprietorship taxes are different than individual is in the required scheduling. Usually, you are paying taxes quarterly. There are different guidelines to clarify who does and doesn’t have to do it this way but if you run your own business then you likely do it this way. You use Form 1040-ES in order to determine your estimated payment amounts and where to send them. You get a better sense of how much to pay after you have done it a few times but it’s a good idea to save at least 25% of overall profits for these payments.
Partnerships
Partnerships are combined ownership of two or more people. There are different types of partnerships and they include the general partnership, the limited partnership, and the limited liability partnership.
General partnerships are taxed similar to a sole proprietorship and there doesn’t need to be a lot of additional paperwork. The business needs to file a Form 1065 and each partner will need to pay self-employment taxes just like with sole proprietorships. Each partner may also need to complete other forms to calculate their share of the year’s losses and profits.
With a limited partnership, one partner holds more influence but still has liability for any debts or other things. The business will need to complete a Form 1065 each year and the partner a K-1. The unlimited liability partner claims business profits as income just like a sole proprietor. The partner with the greater influence will pay self-employment taxes as well. How the limited partner is taxed is a bit tricky. This partner gets their compensation in the form of distributions, which are different from getting a paycheck. However, the way these taxes are done only apply to a small number of people.
With the limited liability partnership, each partner has equal control and equal limited liability. The structure has the benefits of a corporation in terms of protecting owners but they don’t have to pay corporate income tax. Partners have most of the conveniences and tax advantages of being sole proprietors but can usually only lose what they have put into the business. Partners will pay self-employment tax as well as quarterly taxes.
C-Corporations
C-Corporations have clear lines between the company and the individuals running it. This provides better protection for owners should things go south. Corporations do require the most paperwork and the tax management can be harder.
The profits will be taxed twice: first when they make a profit and then again when shareholders file personal tax returns. The double taxation is the reason why many smaller businesses avoid this structure and create LLCs or S-Corporations if it’s practical. Employees of C-Corporations are subject to withholding and do have to pay income tax just like everyone else. Stockholders are also required to report income from dividends separately.
S-Corporations
Using an S-Corporation isn’t a business structure but instead an option for business tax management. The feature of this is that it elects to pass through its profits to be taxed on individual tax returns of the owners, just like a partnership or sole proprietorship. They are also responsible for self-employment taxes. Ownership still maintains the protections of the C-Corporation with limiting personal liability for business losses.
Since there are advantages to this structure for small businesses, it comes with definitions and limitations that have more options.
With any small business, much of the general tax information is related to federal tax basics. Your specific small business can also have different requirements and rules or can be kept from certain liabilities depending on your location. Different states have different requirements and definitions for small businesses. Some states are more business friendly than others for taxes.
Tips for Lowering Your Business Taxes
Finding ways to focus on lowering your business taxes can make a big difference.
Use Family Members
One of the ways to lower taxes for your small business is by hiring family members. The IRS allows for different options with the potential to shelter income from taxes. You can hire your children as well. With this type of strategy, business owners are able to pay a lower marginal rate. Earnings will still need to come from a justifiable business purpose. If you hire a your child, the salary can be put in a Roth IRA for future purposes.
Start a Retirement Plan
As a small business owner, you give up matching 401k funds. You can miss the free money available through the match but there are different tax benefits to help optimize your retirement savings and reap valuable rewards.
Save Money for Healthcare Needs
One way to focus on lowering your business taxes is to put money aside for healthcare needs. Medical costs do continue to increase and while you can be healthy now, saving money for unexpected healthcare needs is important. You can do this with a Health Savings Account. When you contribute to this account, your contributions are made pre-tax, the money grows tax-free, and qualified medical expenses are tax-free.
Change the Business Structure
If you are a small business owner then you don't have the benefit of an employer paying a portion of your taxes. You will be on the hook for the entire amount of Medicare and Social Security taxes. These amounts can just increase an already high tax bill. In certain circumstances, you may be able to eliminate the employer half of those tax responsibilities. There are many different things to consider when you switch but it can be a good way to reduce tax responsibility.
Deduct Travel Expenses
If you travel a lot for business then you can be able to lower your taxes. Business travel is fully deductible but personal travel isn’t. There are different ways to manage travel to help with lowering your business taxes. You may be able to combine personal travel with a justifiable business purpose.
Benefits and Tax Deductions for the Self-Employed
If you are self-employed, there are different ways you can lower your business taxes.
Publications
The cost of any specialized journals, magazines, and books that are directly related to your business can be deducted. A daily newspaper isn’t specific enough but “Nation’s Restaurant News” can be tax deductible if you are a restaurant owner.
Education
Education expenses you are thinking about deducting will need to be related to improving or maintaining your skills for your existing business. The costs of education to prepare for a new line of work won’t be deductible.
Business Insurance
If you pay premiums for insurance to protect the business, such as fire insurance or business liability, then you can deduct the premiums. There are some people that don’t like paying premiums on insurance because they think it’s a waste of money if they never file a claim. This deduction can help with that.
Health Insurance Premiums
If you pay your own health insurance premiums and are not eligible to have a health plan through your spouse then you are able deduct health, dental, and long-term care insurance premiums.
Start-Up Costs
The IRS typically will require you to deduct any major expenses over time instead of all at once but you can deduct up to $5,000 in business start-up costs. Examples of these start-up costs include market research, scoping out potential locations, advertising, accounting, and attorney fees.
Advertising
The cost you incur to advertise your business can be tax deductible. You may even deduct the cost of advertising that encourages people to donate to charity while putting your business name out there.
Retirement Plan Contributions
Another deduction you can use is the deduction of the self-employment retirement plan. Contributions to solo 401k and simple IRAs can help reduce the tax bill and then help you get tax-deferred investments later.
Self-Employment Tax
This tax refers to the employer portion of Social Security and Medicare that self-employed people need to pay. Everyone that works must pay these taxes. Paying extra taxes in order to be your own boss isn’t that fun. The good news is that the self-employment taxes cost you less than you may think since you get to deduct half of the self-employment tax from your net income.
Home Office
The home office deduction can be more complex. The work space you use exclusively for your business, regardless of whether you own it or rent it, can be deducted as a home office expense. It’s the honor system but you need to prepare to defend this deduction in the event of an IRS audit. One way you can do this is by preparing a diagram of your work space with accurate measurements if you need to submit information to defend your deduction. You have two options for calculating the home office deduction.
Phone and Internet Bills
Regardless of whether you use the home office deduction, you can deduct business phone, Internet, and fax expenses. The key is to deduct the expenses that are only related to the business. If you have only one phone then you can’t deduct the entire monthly bill, which will include business and personal use. If you have a second phone line you use exclusively for business then you can deduct that cost.
Rent
If you are renting out office space then you can deduct what you pay for rent. You can also deduct certain amounts paid for the equipment you rent.
Meals
A meal is only tax deductible if you are traveling for business or entertaining a client. Meals shouldn't be extravagant or lavish and you can deduct half the meal's actual cash value if you keep receipts. Meals you eat alone at your desk will not be tax deductible.
Travel
In order to actually be tax deductible, any business travel will need to last longer than a normal workday, require you to get sleep, and take place away from the general area of your home. You will need to have a specific business purpose planned before you leave and you need to engage in that business activity. Handing out business cards at a bar during a trip doesn’t make the trip tax deductible. You will need accurate receipts and records. This deduction does tend to draw more scrutiny from the IRS.
Vehicle Use
When you use your own car for business purposes then your expenses are tax deductible. You need records of the purpose of the trip, date, and mileage.
Interest
Interest on a business loan from a bank is tax deducible. Credit card interest isn’t tax deductible for personal purchases but if it applies to the business then it is tax deductible. It’s usually cheaper to only spend the money you have and not have interest expenses but that’s not always possible. A tax deduction does give you some money back but not all of it.
Can Business Loans Be Tax Deductible?
If you want to take out a business loan, it helps to know how the loan will affect your taxes, especially if you are thinking about lowering your business taxes. Many loans won’t change what you pay in taxes. Getting a lump sum in the business' bank account from lenders isn’t the same thing as earning money for the business. This means the principal amount won't be taxed.
The main way that your tax strategy changes is in regards to the interest payments you make on the loan. Depending on the type of loan and the legal structure of your business, you may be able to deduct your interest. Taking on a business loan does always carry some risk but if you have the ability to write off the interest payments then it can make the added cost a bit easier.
There are qualifications the business loan must meet in order to deduct the interest. You must be legally liable for the loan, you and the lender will agree that you intend to pay off the debt, and you and your lender have a true creditor-debtor relationship. This all means that your loan will need to be legitimate and from a legitimate lender. You aren’t able to borrow money from a friend and deduct your interest payments.
You need to spend the funds you get from your loan for your business. If the loan sits in the account then it’s actually considered an investment, even if you are making payments on the principal and interest.
When Your Interest Isn’t Deductible
There are certain times that your business loan interest won’t be deductible.
If You Refinance the Loan: You aren’t able to deduct interest from the original loan through the second loan. When you start making payments on the new loan then you can deduct interest on those interest payments.
Loan Origination Fees: If you take out a loan in order to buy commercial real estate, the loan origination fees can’t be deducted.
Capitalization of Interest: You aren’t able to deduct any capital interest, which is an interest that is added to the cost of a long-term self-constructed asset.
Types of Business Loans with Tax-Deductible Interest Payments
Almost every kind of small business loan will have interest payments that you are able to deduct.
Term Loans: This type of loan is a lump sum of funds that are deposited into the account and you pay it back on a set schedule with set interest over a period of time. You need to understand the loan amortization schedule so you know how much of the payment is principal and what is interest. Term loans can be structured so you pay more of the interest upfront and this means that there will be larger interest deductions. However, you will stay pay interest every year you are repaying the loan so you can have loan deductions every year until the loan is paid.
Lines of Credit: A business line of credit is a revolving form of credit that allows you to draw on a pool of preapproved funds from the lender, similar to how a credit card works. Since you only pay interest on what you withdraw from the line of credit, the interest payment deductions depend on how much you use.
Personal Loans: You can use personal loans to fund your business and some people use this option to avoid having the business' credit history scrutinized by lenders. If you are using the personal loan funds to fund your business 100% then interest payments are deductible. If the loan will be used for mixed purposes then you can only deduct a portion.
Short-Term Loans: Short-term loans are similar to a regular term loan but there is a shorter repayment period. The repayment period usually lasts less than a year. This means you can deduct all your interest paid within the same tax-filing year. Short-term loans use a factor rate in order to determine interest payments instead of APR. You should speak with the lender to determine your exact interest rate in order to know what you will be able to deduct come tax time.
Conclusion
If you are interested in lowering your business taxes, it helps to know about the different types of business taxes you may have to pay. Lowering your business taxes can be easier with a professional since they can give you advice and help make sure that you don’t make any mistakes that can be costly.
The type of business structure you have can also affect how taxes are paid and if you are able to work on lowering your business’s taxes. If you are self-employed, there are many different deductions that you may be able to take advantage of in order to lower your business taxes. If you are getting a business loan, you may be able to deduct the interest as long as you have a certain type of loan and you meet the qualifications.