Business Taxes for Beginners: The Top Tax Code
Starting a business can be an exciting and rewarding experience. However, it also comes with many responsibilities, including understanding and properly paying your business taxes. For beginners, business taxes can seem complex and intimidating. This article will provide an overview of key business taxes, filing requirements, deductions, and strategies to make tax time easier for new entrepreneurs.
Registering your business
One of the first steps when starting a business is obtaining an employer identification number (EIN) from the IRS. This number will be used to identify your business for tax purposes. You can easily apply for an EIN online.
Depending on your business structure (sole proprietorship, partnership, corporation, etc.), you may also need to register your business at the state and local levels. This usually involves obtaining licenses and permits. Be sure to check with your Secretary of State's office to understand all registration requirements.
Choosing a Business Structure
When starting a business, you must choose a business structure. Common options include:
- Sole proprietorship: owned by one person. No separate business entity was created.
- Partnership: owned by two or more people. You may choose a general partnership or a limited partnership.
- Limited Liability Company (LLC): a mix of partnership and corporation features. Owners have limited personal liability.
- Corporation: A separate legal entity owned by shareholders. Owners have limited liability. May elect S corporation status for tax purposes.
Each structure has different tax implications. With a sole proprietorship or partnership, business income is taxed on your personal tax return. With an LLC or corporation, the business is taxed separately.
Estimated tax payments
Depending on your business structure, you may be required to make estimated tax payments throughout the year. This applies to income that is not subject to withholding, like self-employment tax.
The IRS requires estimated payments if you expect to owe $1,000 or more in taxes. Failure to make payments can result in penalties. Estimated payments are made quarterly based on your expected tax liability.
Self-Employment Tax
If you are self-employed as a sole proprietor, partner, LLC member, or independent contractor, you will owe self-employment tax. This tax pays for Social Security and Medicare and is assessed at 15.3%.
The first $142,800 of your net earnings in 2023 is subject to the 12.4% Social Security portion of self-employment tax. All your net earnings are subject to the 2.9% Medicare tax. Be sure to accurately calculate this tax when filing.
Payroll Taxes
If you have employees, you are responsible for payroll taxes, including income tax withholding, Social Security, and Medicare taxes. You must withhold taxes from employee paychecks and regularly remit these withholdings to the IRS along with your share of payroll taxes.
There are serious penalties for failing to withhold, report, and remit payroll taxes. Consider hiring a payroll service or accountant to help you comply with the requirements.
Quarterly Federal Tax Returns
Along with estimated payments, most small business owners need to file quarterly federal tax returns. This includes Form 940 for unemployment tax and Form 941 for payroll taxes.
Even if you have no employees or tax liability for a quarter, you typically still must file zero-balance returns. This keeps you compliant and avoids penalties.
Sales Tax
If your business sells taxable goods or services, you may need to collect and remit sales tax, depending on state and local tax laws. Requirements vary widely, so research what applies to your business.
You may be able to register for a seller's permit to simplify collecting and filing sales tax. Consider sales tax software to help track what you owe.
Home Office Deduction
If you use part of your home exclusively for business, you may qualify to deduct home office expenses. This can include rent, utilities, repairs, and more.
To qualify, the space must be used regularly and exclusively for your business. Take photos in case the IRS later requests documentation. Calculate the deduction based on the percentage of your home used for business.
Business Mileage Deduction
Track your mileage when driving for business purposes. This includes client meetings, picking up supplies, attending conferences, and more. The standard mileage rate for 2023 is.625 cents per mile.
Keep detailed mileage logs with the date, destination, purpose, and total miles for every business trip. This documentation will support the amount you claim as a deduction.
Other Common Business Deductions
Some other tax deductions that new business owners may be eligible for include:
- Startup costs to establish your business
- Office supplies and equipment
- Advertising and marketing
- Employee salaries, benefits, and retirement plans
- Accounting, tax prep, and legal fees
- Insurance premiums
- Interest on business loans and credit cards
- Rent or lease payments on buildings or equipment
- Utilities, telephone, and internet expenses
Choose an Accounting Method
Two main accounting methods are cash basis and accrual basis. The cash basis means recording income when received and expenses when paid. Accrual means recording income when earned and expenses when incurred.
Choose a method that clearly reflects your income and aligns with industry-standard practices. Consistently apply your chosen method year after year.
Hire tax professionals.
Consider hiring trusted tax and accounting professionals to assist with business taxes. Especially as a beginner, you will greatly benefit from an expert handling your payroll, bookkeeping, tax prep, and filing.
Look for CPAs or enrolled agents experienced with small business taxes. Be sure to ask about fees so you can budget appropriately.
Stay organized and keep good records.
Maintaining excellent, well-organised records will make tax time much smoother. Keep all receipts, bank statements, invoices, and other tax-related documents. Use accounting software or spreadsheets to track income and expenses.
Create a system to file paperwork so you can easily access documentation for your tax preparer. Sloppy or missing records can lead to taxes owed plus penalties and interest.
Understand Tax Obligations Before Selling
If you eventually plan to sell your business, be sure to understand the tax implications beforehand. You may owe capital gains tax on the appreciation of your business assets when you sell. An accountant can advise you on strategies to minimize taxes.
You also must comply with tax rules when selling business assets or inventory. Review IRS Publication 544 for more details.
Final Thoughts
- Keep excellent records from the start to simplify tax filing and avoid questions from the IRS.
- Seek guidance from tax professionals or the IRS directly if you don't understand a requirement.
- File and pay all taxes accurately and on time to avoid penalties and interest charges.
- Payroll taxes and self-employment tax often trip up new business owners; be diligent.
- Don't forget to claim all legitimate deductions and tax credits you qualify for.
- Business taxes shouldn't be intimidating with proper planning and professional help.
FAQs
Q: What if I don't have the cash on hand to pay my business taxes when they are due?
A: The IRS offers payment plans and short-term extensions in some cases if you cannot immediately pay your business taxes. Interest and penalties may still apply. Avoid getting behind to limit additional costs.
Q: Do I need to make estimated tax payments for state business taxes too?
A: Many states also require estimated tax payments from business owners for state income taxes. Check with your state department of revenue to understand the requirements.
Q: What business taxes do I need to know about if I operate in multiple states?
A: You may need to register and file taxes in states where you have a physical presence. Understand the income, sales, and payroll tax requirements for each state. Hire an accountant experienced with multi-state taxes.
Q: Are business tax deductions the same as personal deductions?
A: No, many business deductions and rules do not apply to individual non-business income. For example, you can deduct 100% of business meal costs but only 50% of personal meal costs.
Q: Can I be audited if I am only claiming common business deductions?
A: Yes. The IRS can select any tax return for audit, though higher amounts make you more likely to be audited. Keep excellent records to support all deductions and business income and expenses.