Benjamin Franklin said, “In this world, nothing is certain except death and taxes.” Albert Einstein also complained that “The hardest thing in the world to understand is the income tax.”
While both statements are true, it only boils down to one thought – everyone should learn about taxes no matter how confusing they are because nobody is exempted from the IRS. If you forget to pay or run away from your taxes, you’re in trouble.
Knowing taxation is even more important for small business owners like you because a slight error could cause you to lose all your life savings, property, etc. Let’s review the basics.
1. Business tax implications depend on the legal structure
Before registering your business, you must first choose your legal structure. Each legal structure differs on tax implications. Sole proprietorships, S corporations, C corporations, and limited liability companies (LLCs) are examples of business legal structures.
Sole proprietorship legal structure makes you the only owner – good for solopreneurs. It is the easiest to set up and manage among all the different legal structures. There is also a 20% tax deduction advantage. Yet it is risky because all financial and legal obligations are yours.
2. Small businesses can avail of tax deductions to lower bills
It is important as a small business owner to be careful when spending especially during start-up. That is why you should use the sole proprietorship path and the 20% tax deduction. If you don’t take the 20% deduction, the IRS will include your business expenses in your tax bill.
These business expenses include equipment, supplies, rent on business property, depreciation of assets, rent on business property, etc. When these expenses are listed in your tax bill, you will have no profit left and your business will go bankrupt. The 20% tax deduction is used to write-off business expenses.
3. Tax deductions also cut start-up and organizational costs
Another tax deduction the IRS allows is the $5,000 start-up cost and $5,000 organizational cost deduction. This will help you have more money to use in running the business. But you can only apply for this if your total startup costs are below $50,000.
Start-up cost examples are similar to business expenses and they include business insurance, office space, advertising, business cards, business assets, professional consultation fees, and small business loan fees.
Organizational costs are licensing and incorporation fees and they are included in the $5,000 organizational cost deduction. These deductions are applied during the creation of the business.
4. The three types of business taxes
All businesses must file an income tax return every year. This is the first business tax. But the only difference is, C corporations pay income tax on a corporate level. Meaning a C corporation pays tax based on the company’s profits.
Other business entities are considered “pass-through” entities meaning that the business pays tax based on the business owners’ personal income. Pass-through entities are also given a 20% tax break.
Estimated taxes are paid quarterly by independent contractors, freelancers, and small business owners who owe the government a $1,000 minimum. The amount of the estimated tax is based on expected deductions, taxable income, adjusted gross income, taxes, and credits of the current year the estimated tax is for.
Filing for estimation and payment are mandatory, failure to pay in full at the due date will cause you a lot of trouble. It is important that you should know your payment period for the estimates and quarterly due dates.
Employment tax is the third business tax type and has two variations: the self-employed and employment tax. Self-employed taxes are paid via social security and medicare taxes. If you have employees in your small business, you have to pay a combination of social security, medicare, and federal unemployment tax.
Commercial taxation is a very complicated issue to discuss, but it’s also essential to learn for solopreneurs like you who own or plan to start a small business. This is to prevent you from being in trouble and smoothen your road to business success. So make sure you talk to a certified public accountant and know the latest changes in IRS rules.
Save money, run a business, and invest for your future! Read these articles:
