One thing that stands between many entrepreneurs and their dream is the knowledge that taxation can be a lot more complicated when you own a business. Larger businesses, of course, have full-time accountants to handle all of that. But if you start a business with just yourself, you will likely do most of the tax work yourself at first. Are you up to the challenge of paying taxes as a small business owner?
If you incorporate your business as a C-corp, the tax rules are somewhat different. So today we’ll talk just about businesses that are pass-through entities: sole proprietorships, partnerships, or LLCs. In these types of businesses, money passes through the business to you, so you will calculate taxes for your business along with your personal tax return.
Taxes on Your Business Income
When you’re a sole proprietor, the IRS considers your business and yourself to be essentially the same thing. If the business makes money, you make money. If the business has expenses, these can often be deducted. The result is that your self-employment income tends to be more or less the same as your annual profit. Money sitting in your business account is still yours, and you need to pay taxes on it the same as if you’d withdrawn it to spend on personal things.
There are many deductions you can make as a small business owner. For instance, you can deduct mileage traveled at a set rate, your home office if it’s used only for work, health insurance costs if you aren’t on a group plan, and half of your self-employment taxes. These are considered expenses you can write off.
In order to do all this, you must keep scrupulous records of both your business income and expenses. Even if it’s a side gig, all self-employment income must be reported and taxed. Since businesses can start as a few commissions you did for a friend and skyrocket into your main income over the course of a year, it’s important to start keeping good records from day one.
Income tax isn’t necessarily the only tax you’ll have to pay when you own a small business. Depending on the type or size of your business, you may have to pay sales tax, self-employment tax, or tax withheld from employee income.
Sales and excise taxes vary from place to place. In some areas, you may find yourself paying both state and local taxes. You will pass these taxes on to the consumer, but you will have to collect and pay them yourself. Keep in mind that if you do business online, you will only charge your state’s sales tax for buyers in the same state as you. For sales out of state, it’s generally up to the buyer to worry about taxes. However, if you sell through an online marketplace, they often calculate and collect taxes for you. To know how much to charge and how to collect and pay it, contact your state or town. Sales tax you collect should be kept separately from your business account and does not count as business income.
Self-employment tax is similar to taxes normally paid on a salary, except that you pay all of it yourself. This includes Social Security and Medicare taxes.
If you have employees, you’re responsible for withholding the appropriate taxes from their income and paying it to the IRS. This includes income tax, Social Security and Medicare tax, unemployment tax, and any state income tax. You can work out the appropriate amount owed using forms 940 and 941. You’ll also file a W-2 each year and send a copy to your employee. However, if you hire contractors, all you have to do is send them a 1099—the rest is up to them.
How to Pay Your Taxes
One of the great inequities of life is that the IRS is allowed to owe you money all year, but you aren’t allowed to owe the IRS more than $1000. That means that, when you owe a lot of taxes, like when you own a business, you have to pay it more frequently than once a year. The bright side of this is that you won’t have a massive lump sum to pay next April. The dark side is that you have to fill out tax forms year-round.
The main way you will do this is by paying quarterly taxes. These are only estimated payments, so you won’t need to do quite as much work as you do for your annual tax return. You will use form 1040-ES, in which you’ll estimate what you expect to pay for the year and pay one-fourth each quarter. If you estimated incorrectly, the difference will be made up in April when you file your regular annual tax return.
You will turn in payroll taxes either monthly or semi-weekly, depending on how much you generally owe. Your form 940 and 941 will help you calculate this.
Your state will have its own rules about how and when to pay sales tax or state income tax. Be sure to make all these payments on time.
As you can see, once you have employees or a large amount of sales, it’s time to get professional help. If you can’t afford to hire a full-time accountant, there are many companies who will handle some of this tax burden for you. A consultation with an expert to consider your obligations and options will definitely be worth the money.
Experts You Can Call
If you’re just starting out in your business, don’t let fear of tax confusion scare you off. While tax law can be complex, there’s lots of help out there. Whether you want to hire a part-time accountant, consult with one periodically, or pay for a company to handle some of it depends on the size of your business and the types of taxation you face. A good idea is to speak to an expert about your needs so you can decide who you need to hire. To find a financial professional who can offer you the advice you need, contact us today.