What tax strategies are out there for business owners? Which tax strategy should my business take? How can I optimize my tax return and pay less to the IRS?
The dreaded tax season has begun and you have two types of people - those who file their taxes immediately, and those who wait to the last minute or file for an extension. Before considering the types of tax strategies your business should take, know that your best strategy is to work on your taxes all year round, so you are prepared for filing your business's taxes.
Before figuring out your strategy, you will need to understand one very important concept: Gross Income, all income from whatever source derived (tax code IRC § 61/). What does that mean? You will need to consider the following when calculating your business's gross income:
- Goods, Property, and Services: Income is more than just cash. Goods, property, and/or services received have all been held to be within the definition of income.
- Constructive Income: There is a legal doctrine of "constructive receipt" that states that as soon as money or property is available to you, or is credited to your account, it becomes income (e.g., you cannot get a check for goods in October of 2019 and hold it for deposit until 2020 without being taxed on it in 2019 (the year received/)/).
- Illegal Income: Declare every bit of income and do not conduct illegal business. The reality is that most criminals do not get put away because of their physical crimes, but more for tax evasion. Be smart with how you file.
- Worldwide Income: If you do business with entities outside of the United States, you still must pay your taxes in the United States (not the country of origin/). There are no exceptions to this rule.
- Note: If you live outside of the United States for more than six months a year, some all of your foreign income may be excludable (IRS Publication 54, Tax Guide for U.S. Citizens and Resident Aliens Abroad/).
- Tax-Free Withdrawals: Loan proceeds are not income if you borrow against an asset (whether it belongs to your business or you/).
- Return on Capital: A return of capital investment is not taxable income. What does this mean? To the extent that you sell a business or an asset and get back money exchange for the asset, you haven't earned any taxable income. Only profit, if any, is taxed.
Consider Tax Cuts When Structuring Your Business
The tax breaks available to you will be decided based on how you incorporate your business:
Sole Proprietor
You will be taxed the same on personal and business expenses. There is less paperwork, however, you have no corporate protection on your assets. You will have deductions such as home office, travel, mileage, startup costs, health insurance, etc.
LLC
You are not viewed as a distinctly separate entity and will be taxed as such. There is less paperwork and there are some legal protections for debts and court judgments. You will have deductions such as vehicle expenses, professional services, salaries and wages, work opportunity tax credit, client and employee entertainment, etc.
S-Corp
Your business is not taxed itself, only the shareholders. There is more paperwork than the past two options and provides legal protection from debts and court judgments. You will have deductions such as rent, depreciation, advertising, interest, employee benefits, etc. Additionally, expenses associated with rental income and capital losses are netted with rental income and capital gains.
C-Corp
Your businesscorporation is viewed as an individual taxpayer by the IRS. There is a good amount of paperwork and offers legal protection from debts and court judgments. You will have deductions such as contract labor, rent on business property, salaries and wages, vehicle expenses, utilities, 100% medical premiums, etc. This option minimizes your overall tax burden.
Handling Employee Taxes
If your business has employees other than yourself, you will need to get the following details to be compliant with the IRS:
- Immigration and Naturalization Service (INS/) Form I-9 verify work eligibility.
- IRS Form W-4 to indicate withholding allowances used to figure how much income tax to withhold from your employee's pay.
You must withhold income tax from your employee's wages (unless you contract out via W-9 and file 1099-MISC forms/), and the employee share of the Federal Insurance Contributions Act (FICA/) tax. You must also pay federal unemployment (FUTA/) tax before you can get any state credits.
You must pay the employment taxes to the government electronically or by check with an authorized institution. Additionally, quarterly, you must file IRS Form 941 to report income tax withholding and FICA taxes.
Keep Records
Make sure your tax strategy includes documenting EVERYTHING. Keep track of every expense and every penny that comes into your business. Keep records regularly to ensure everything is current and always referenceable.
It is likely that at some point in your business's life, you will be audited. It's just a reality. By keeping accurate records, paying your taxes regularly, and filing all the proper documentation, you are a step ahead of the IRS if/when they come knocking. Save everything from the past seven years and make sure you are honest and open about your business's financial health.
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