Small business owners have to juggle a lot of demanding tasks at once, and strategic tax planning often gets pushed to the back burner. In fact, according to PRNewswire, "Thirty percent (30%) of small businesses believe they overpay their taxes and could claim more deductions and credits." You may also share this feeling, or there may be large opportunities for reducing your tax bill that are just out of sight. However, tax strategies aren't something you can implement in the weeks leading up to paying your final tax bill. Instead, there are a series of changes you can make throughout the year that streamline your finances, modify your tax obligations, and give your business more room to grow.
In this guide, we'll go over how you can optimize your tax planning strategies by changing your tax status, creating retirement plans and financial procedures, and applying for COVID-19-related tax relief. You can use any or all of these approaches.
Consider a Tax Status Change
Your business's structure plays a large role in determining your total tax obligations. The most common structures are:
This is a pass-through entity. The sole proprietor doesn't pay themselves wages; instead, all the profits are regarded as personal taxable income (meaning both federal income taxes and FICA taxes are due).
This structure is common for larger or more complex businesses. C corporations pay corporate taxes and are not pass-through entities. Approximately 5% of businesses in the United States are C corps, so this option may not be a good fit for your organization.
This is also a pass-through entity. While the business entity may file a tax return, the money simply passes through the entity and reaches paid members as personal taxable income with no corporate taxes due.
This is more of an umbrella term than a type of business entity structure. 'LLC' is a legal term, and an LLC can take the form of a pass-through entity (S-Corporation) or a C corporation.
Partnerships are another type of pass-through entity. It resembles a sole proprietorship, except a partnership agreement determines what proportion of the profits each partner receives as personal taxable income.
Depending on your business, there are several advantages to making your business an LLC as your next financial move.
Set Up a Retirement Plan
Setting up a retirement plan through your small business is crucial for many reasons. First, you need to prepare for your own retirement; you no longer have a separate employer offering you a 401(k). This benefit can also attract qualified employees to your business. On top of that, retirement plans give your business tax advantages now: you can deduct matching contributions and administrative fees related to the plan. Two common tax-advantaged retirement accounts for small businesses and sole proprietorships are:
This plan is similar to both a standard 401(k) and an IRA. Businesses and sole proprietors can contribute to a pre-tax account, and the account has a far higher maximum contribution cap than a traditional or Roth IRA. The employer makes the contributions.
Solo 401(k) plans allow employers and employees to make contributions to the retirement account. They also have more flexibility than SEP IRAs, such as allowing Roth contributions and allowing for catch-up contributions.
Stay on Top of Your Bookkeeping
The importance of organizing your finances year-round can't be overstated for reducing your tax bill. Being able to accurately file and pay your corporate and personal taxes ensures you won't pay fines, penalties, and interest on late payments. It will also make tax season much easier if you have all of your physical and digital records organized. Programs like QuickBooks or other industry-standard accounting software can help you manage tasks all year long so paying quarterly or annual taxes won't slow down your business.
Defer or Accelerate Income
Business revenue and expenses fluctuate wildly from year to year. Some years may even place you in different tax brackets depending on how well your business did in a given year. One way you can manage this turbulence is by deferring or accelerating income. You can delay or fast-track the timeline for sending out invoices and collecting income from your clients to best suit the needs of your taxes. For example, you could delay a large invoice that would otherwise push you past an unwanted tax bracket within a given year.
Utilize COVID-19 Tax Relief
As the pandemic continues, small businesses and sole proprietorships are severely impacted. You or your accountant can research tax relief legislation or provisions that ease financial strain. Some options to consider are:
Families First Coronavirus Response Act (FFCRA)
Under this legislation, employers could offer voluntary leave and collect tax credits for doing so. However, you'll need to ensure you only claim credit for the period during which this legislation was active.
Coronavirus Aid, Relief and Economic Security Act (CARES)
This legislation offers benefits such as the Employee Retention Credit. However, this credit doesn't apply to wages paid after September 30, 2021, in most instances.
Coronavirus Response and Relief Supplemental Appropriations Act (CRRSAA)
If your business received Paycheck Protection Program (PPP) loans, those funds and the purchases you made with them may be non-taxable under CRRSAA. Special provisions also apply for educational businesses and businesses with live venues.
American Rescue Plan Act of 2021 (ARPA)
Under ARPA, businesses received expanded access to the Paycheck Protection Program, Economic Injury Disaster Loan advances from the SBA, and Restaurant Revitalization Fund grants. Carefully document any grants or tax-advantaged you may have received to ensure you don't pay the wrong tax amount.
Build Your Small Business Tax Planning Strategies With Schwartz & Associates
COVID-19 and changing government programs can make organizing your business's taxes even more frustrating, on top of the other complications of COVID-19 and running a business in general. Contact Schwartz & Associates today for assistance with your business finances and your 2021 tax filing obligations.