If you own a business, along with your personal tax return, you are required to pay income tax and other taxes for your business. Additional taxes will also apply if you hire employees or you use certain controlled machinery or substances in your work. Taxes for business owners can be significantly more complicated when compared to the average employee or independent contractor, so it’s essential to understand all of your tax liabilities this season. We’ve put together a guide to help you navigate business taxes which, if misunderstood, could result in an expensive bill from the IRS.
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Business Taxes: Why They’re Different
Business owners are subject to a range of taxes depending on how they specifically operate their business. Some of the taxes that you may be subject to include:
When most people think of “business taxes,” the first thing that comes to mind is the corporate tax, which was recently cut from 35 percent to a flat rate of 21 percent with the implementation of the Tax Cuts and Jobs Act of 2017. The truth is that most business owners will not find themselves paying this rate for a very simple reason: most businesses are not corporations and are thus not subject to the corporate tax rate. How you’ll pay income tax as a business owner depends upon what classification of business you’re operating.
Small business structures (including sole-proprietorships, single-member LLCs, partners in partnerships, and S-corporations) pay income tax through their personal tax returns. Regardless of whether they own a business or not, federal personal income tax is issued on a graduated system and business owners will pay varying rates depending on what percentage of their business’ income they kept for personal expenses and the cost of living. If you do own a corporation, you’ll be subject to the flat corporate tax rate of 21 percent on all taxable income brought in through the company.
Some corporations place owners in executive roles within the company; if you own a corporation and act as an executive or employee, you will also need to file a personal income tax return along with your corporate tax dues.
When you’re employed, the person who owns the business you work for is responsible for paying half of your contributions to Social Security and Medicare. As a business owner, you are responsible for paying the entirety of your self-employment taxes via your personal federal tax return. The current self-employment tax rate is 15.3 percent, and you’ll have to pay a slightly higher percentage if your income was over $128,400 in 2018.
If you have any employees, you are required to pay some form of employment taxes. The specific taxes you’ll have to pay will depend upon the nature of your business and the gross pay of employees, but they may include Social Security and Medicare payments, federal and state unemployment, and workers’ compensation dues.
Capital Gains Taxes
Capital gains on the value of long-term investments that your business has held for a least a year may be subject to a capital gains tax of up to 20 percent depending upon your business’s structure.
Sales Taxes on Products and Services in Certain States
Most states impose a sales tax that requires business owners to collect, report, and pay tax on products or services that you sell. While your business will not directly pay sales tax (the vast majority of businesses pass on their tax liability to the consumer at the time of purchase), your business must have a system in place to make regular payments at your state’s sales tax rate.
Some states do not impose a sales tax and some products and services are exempt from tax collection — for example, Pennsylvania sales tax law prohibits taxation on food products and clothing. Sell your products solely online? Don’t think that you’ve escaped the sales tax requirement just yet. Some states are now explicitly writing their sales tax descriptions to include purchases made out-of-state through the internet. You’ll want to check your state’s sales tax regulations to make sure you’re paying everything that your business owes.
Just like property that you personally own, your business must pay property taxes on real estate that you own if you operate out of a physical building or storefront. Property taxes are based on the assessed value of the property and not the current market rate, so it’s a good idea to have your property regularly assessed so you can make sure that you’re saving enough to cover your tax liability.
Excise Tax on Hazardous Products
An excise tax is a tax on the consumption of something that is likely to cause harm to the consumer or contribute to environmental degradation. Like sales taxes, most businesses include their excise tax duties in with the price of their product and then pass along the tax to the IRS. Businesses must pay excise taxes on products like cigarettes, alcohol, and sales involving the use of a tanning bed (spray tans and sunless tanning products are exempt from excise taxes). Businesses also must pay excise taxes on their fuel consumption used for business, communications and air transport, and certain other environmental products. Some states also institute additional “sin taxes” on gambling.
State Business Income Taxes or Gross Receipt Taxes
Most states have a state income tax for businesses. Some states may choose instead to institute a gross receipts tax on the total revenue of certain types of businesses. Corporations and LLCs are most likely to pay the gross receipt tax if their state has them and sole proprietorships are usually exempt.
How to Pay Business Taxes
Paying business taxes can be confusing. Following each of the following steps carefully will help you avoid missing any of your required taxes as a business owner.
Step 1: Determine Your Business Type
The type of business that you are operating heavily determines how much you’ll pay in taxes and which forms you’ll need to use to file. If you are operating a sole proprietorship, partnership, or LLC, you do not need to file individual taxes for your business; the IRS considers your business to be a pass through entity, and your tax liability is covered by your personal tax return. If you are operating one of these common types of businesses, you’ll need to fill out Form 1040 to begin, which also constitutes your personal tax return. If you aren’t sure which type of business you run, you can check out the IRS’s list of the most common business structures.
If you own a corporation, your business must pay income tax on its own as if it were a separate person. You should begin by reading through Form 1120 to learn more about the information that you’ll need to get started filing your return on behalf of your business and what types of dues you can expect to pay
Step 2: Decide How You Want To File
You generally have three options when it comes to filing your federal business taxes:
By Hand with Pen and Paper
The IRS offers every form that you’ll need to file your taxes for free online at IRS.gov. Filing your taxes by-hand is a great way to learn more about the taxation process and save money (since the only cost you’ll need to cover is the price of postage when you submit your return). However, filing by hand is not recommended for self-employed individuals or business owners who usually have more streams of income to manage. If you do choose to file by hand, you should leave yourself plenty of time to make sure that you’ve taken advantage of every possible tax deduction that you can. Filing by hand is not recommended for corporation owners.
Though Professional Tax Software
Filing taxes through a tax software program is a simple method that can get your taxes submitted faster than by hand. Tax software programs use simple questionnaires to guide you through the taxation process. You don’t have to know the specifics of the tax code to correctly fill out the forms you need. Tax software also comes pre-loaded with information on credits and deductions, which can help you save more money. Tax software is a viable and powerful option for business owners who operate a small business and who do not hire employees.
Assisted by a Tax Filing Service or Accountant
The most thorough way to file your taxes is with the assistance of a professional. Hiring a tax filing service or CPA to do your taxes is the most expensive option but also the best way to ensure that you’re saving as much money as possible. Working with a tax professional is highly recommended for corporation owners, who usually have significantly more complicated taxes. Choose the option that fits for your business and get started on your taxes as soon as possible to make sure that you have everything submitted on-time.
Step 3: Stay Organized for Next Year
After you’ve submitted your return, you’ll want to keep data on how much you owed this year and set up estimated quarterly payments equal to this year’s liability. Setting up estimated payments will help you avoid penalties when Tax Day arrives again. You should also examine your deductions and credits you applied to your account this year and set up a system to record business expenses throughout the year. For example, if you drive to meet clients or you spent money on office supplies, saving these receipts will help ensure that you don’t miss any deductions next year.
As you’ve probably noticed, it’s impossible to say exactly how much you’ll pay in business taxes because your tax rate wildly depends upon how much money your business brought in and your business structure. No matter which type of business you run, the best way to lessen your business tax liability is to keep careful records of each of your transactions and the costs associated with managing your business. Some options for tax software for self-employed individuals even allow you to upload and manage receipts and mileage throughout the year. The more organized you are before tax season, the easier your filing will be next year.