Genia Stevens — April 8, 2017 The April 18 tax filing deadline is approaching and individual filers aren’t the only ones feeling the stress. Entrepreneurs are often overwhelmed by the added regulatory burden of business taxes. No single resource can teach an entrepreneur everything he or she needs to know about business taxes, but recognizing important business tax issues will at least help an entrepreneur have intelligent discussions with tax advisors.
In thee blog post, 10 Things New Business Owners Need to Know About Business Taxes, Miller & Company advises new small business owners:
Small business owners don’t just pay taxes in April; you need to pay them four times a year. As part of the small business tax tips you receive, your accountant can tell you that quarterly taxes aren’t required your first year, but if you don’t send the IRS something every quarter thereafter, you may face penalties.
Here are 10 things new entrepreneurs need to know about business taxes.
#1. Is your activity a business or a hobby?
Many small businesses grow out of an entrepreneur’s hobby. Entrepreneurs can deduct the
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reasonable and necessary expenses from income associated with a business, but deductions for expenses related to the hobby are far more limited. The IRS distinguishes the two by examining whether an activity is carried out with a profit-making expectation. The IRS presumes that an activity is a business if it shows a profit during at least three of the past five tax years. Failing to show a profit for a period of years is likely to draw the IRS’s attention.
#2. Have you setup the activity in a corporation?
Organizing any business under a corporate structure will provide benefits that will always outweigh any business tax burdens. Those benefits include protecting personal assets from corporate liabilities and giving a business owner more opportunities to deduct expenses from corporate income. The filing fees to setup a corporation are typically less than $ 500, and annual renewals are generally $ 100 to $ 200.
#3. Has the business filed an S-election?
Many entrepreneurs elect to have their businesses treated as S Corporations by filing Form 2553 with the IRS. When the IRS accepts this form, the business’s profits are reported on the owner’s personal tax returns, where they are treated as ordinary income. An S corporation needs to file an information return with the IRS each year, but it does not pay corporate taxes in its income.
#4. Was the S-election filed promptly and accepted by the IRS?
A new business should file Form 2553 within 75 days of its incorporation date. The IRS has established procedures to file an S-election retroactively, but filing this form is a straightforward process that will take much less time than attempting to file it retroactively. More importantly, the IRS needs to accept the filing in order for the S-election to be effective. The IRS will send an acknowledgement and acceptance of the filing if it is done correctly, but there is typically a four-to six-week turnaround before a new business receives that acknowledgement. If the IRS does not acknowledge and accept the form, the new business will be treated as a standard corporation and it will be taxed accordingly.
#5. What records should be retained?
New businesses should retain receipts for all payments and expenditures for at least four years. Expenses related to activities such as travel and entertainment are more likely to be challenged in the event of an audit. Each travel and entertainment receipt should include a notation of the purpose of the expenditure, the customers or other persons who were there, and the business purpose of the event. Several mobile software applications are available to help business owners track and record these records.
#6. Are you mixing business and personal matters?
A new business should maintain separate bank and credit card accounts for business income and expenses and it should refrain from using those accounts for any personal purposes. Failing to maintain a clear line between business and personal matters can result in the IRS denying business expense deductions or even refusing to accept the activity as a business and not a hobby.
#7. Have you made estimated tax payments and paid unemployment taxes?
If all goes according to plan, an entrepreneur will pay himself or herself a salary from the new business’s gross profits, but taxes will not be automatically withheld from that salary. The entrepreneur will either need to setup withholdings with a payroll service or make periodic estimated tax payments in order to avoid having to make a large tax payment and possibly incurring underpayment penalties when the business’s tax returns are filed.
#8. Have you setup retirement and health savings accounts?
Retirement plans and health savings accounts are a legitimate mechanism for entrepreneurs to shield business income from taxes. The complex rules and regulations for those accounts can be confusing, and the entrepreneur should consult with a specialist for assistance in establishing them. When those accounts are setup and administered properly, a small business owner can save thousands of dollars in business and personal taxes annually.
#9. What business tax returns do you need to file?
The forms and returns that a new business is obligated to file will depend upon the corporate structure and status of that business. At a minimum, every new business should file an IRS Form SS-4 to get an Employer Identification Number (“EIN”) for the business. An EIN is the equivalent of a social security number for the company. It will be used on all other tax forms and returns as well as on bank and other financial accounts. A new business that has an approved S-election status will file an information return that includes one or more “K-1” forms that show how the business’s income has been allocated among its shareholders. If the new business has employees, it may also be subject to federal and state unemployment insurance taxes, which will require the business to file an additional set of returns. A tax specialist can provide the best advice on the specific business tax forms that will be needed.
#10. Did you remember state taxes?
Individual state revenue departments are becoming increasingly aggressive in collecting taxes from companies that earn revenue in their states. A new business will generally need to file a state business income tax return where it is incorporated and maintains its headquarters. Sales taxes are a separate matter. A business that sells products throughout the country is generally not obligated to collect sales taxes from purchasers in states where the business does not have a physical presence, but remote out-of-state offices can quickly affect that calculation.
Conclusion
Small business tax issues are far more complicated than the condensed information provided in this article. Please seek professional help from a certified public accountant to avoid potential problems with the IRS.
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