Tax-Loving Strategies for Small Business: Taxes from the Perspective of a Small Business Owner
Taxes are an inevitable part of running a business. If you’re like most small business owners, the last thing you want to do is pay more in taxes than necessary. That’s why it’s important to understand which tax loopholes exist and when they can be used – this will help you reduce your taxable income and save money on taxes every year! In this blog post, we’ll talk about what kinds of tax credits and benefits are available, how to legally take advantage of them, and where some common sources of tax deductions come from.
The tax code is complicated and full of opportunities to save money on taxes as a small business owner, but don’t be intimidated! As long as you know where to find the information you need and have an idea of what kind of strategies are available, your tax burden shouldn’t weigh too heavily on you.
Remember that it’s not just about reducing your taxes; you also want to make sure you’re taking advantage of any deductions or savings opportunities available! So be on the lookout for tax deductions you can use to reduce your taxable income. If you use tax credits to reduce your tax liability, make sure you understand the limitations and conditions that come with them.
Small businesses are often targeted by the IRS because they’re less likely to have sophisticated tax strategies. As a result, these types of companies might get audited more than others and face high fines for any errors on their taxes that could be argued. One common strategy small business owners can take advantage of is an audit appeal. This allows the business owner to challenge a proposed audit and offer an alternative tax return instead.
The Benefits of An Audit Appeal
The benefits of an audit appeal include the following:
- The taxpayer can present evidence to defend themselves and convince the IRS that their taxes were appropriately calculated.
- They may be able to challenge certain tax assessments if they believe there was a mistake during the original assessment process or concerning how much should have been assessed.
- The taxpayer can request a change of the assessed value if they believe that it is too high or too low.
- They may be able to get an extension on their deadline for submitting tax returns, which gives them more time to file taxes and avoid paying additional fees that apply.
- If all else fails in an audit appeal, the taxpayer can request a hearing before an IRS official.
- The taxpayer may be able to get relief on penalties and interest payments for taxes that were paid late or not at all.
The Drawbacks of An Audit Appeal
The drawbacks of an audit appeal include the following:
- The taxpayer must agree to allow the IRS access to their financial records.
- They will have to pay additional fees that apply and provide any documentation requested by the auditors. This may include receipts, invoices for purchases made during a specific time period, bank statements.
A major drawback of an audit appeal is if it’s unsuccessful. If this happens, their original assessment will stand. The taxpayer will not be able to provide an alternative tax return and may have to pay additional penalties for any mistakes that were made on their original tax return, even if they are minor or unintentional errors.
A major benefit of filing taxes with a professional is that the individual can get assistance from those who know how to avoid common problems like penalties for late or unpaid taxes. A tax accountant can also help businesses with finding the best strategy for reducing their overall taxable income, which is key to staying on top of current IRS regulations and laws that change every year.
Common Business Write-offs
The IRS offers several tax credits that businesses can take advantage of to reduce their taxes.
- R&D Tax Credit: This is available for small companies and start-ups with revenues under $50 million, who have been in operation for less than five years. It’s worth up to 13% on qualified research expenses for the first three years of the credit period.
- Energy Efficient Home Tax Credit: Businesses can get a tax credit for up to $500 on qualified energy efficiency expenditures, including insulation, caulking, and weather stripping. This is available to both residential and commercial buildings from 2006 through 2020.
- Work Opportunity Tax Credit: The maximum amount is $2,500 per qualified employee brought on. This credit is also available for wages of up to 90% of the minimum wage in effect during that year, or at least $3,000 if there’s no qualifying pay.
- New Markets Tax Credit Program: The maximum amount is $250,000 every five years which can be used as a tax c: Many businesses are not aware that they can deduct half the costs of social security taxes from their taxable income when filing for federal taxes with IRS Form 8827. This is available to self-employed individuals, partners in an LLC, and more.
- Tax Credits For Hiring Veterans And Disabled Individuals: For businesses that hire qualified veterans, disabled individuals, and certain military spouses this credit is worth up to $4,000 in tax credits for every qualified person hired.
- The Tax Credit Program for Low Income Housing: This program offers several different incentives such as federal income tax credits which can be used on the projects’ entity or allocated through individual
What purchases can be written off?
Expenses that have been used regularly for three years can be written off.
- For the first (and second) year, a small business can deduct up to $25,000 of long-term assets such as office equipment if they were purchased in the past five years and it’s being used now.
- The company can also deduct up to $5,000 of qualifying long-term assets in the second year if they’re used for a trade or business.
- The company can then deduct $2,000 worth of equipment every following year until it has been fully deducted with an exception for depreciation on property that is not yet placed into service (which would be written off over some number of years).
- The company can also deduct up to $5,000 for other trade or business expenses such as labor and supplies.
What are some tax loopholes for small business owners?
- Meals: Under normal circumstances, meals are only 50% deductible, but the IRS has issued Notice 2021-25 which provides direction on the temporary 100% deductibility of food and beverages from restaurants under the Taxpayer Certainty and Disaster Relief Act of 2020. Starting January 1, 2021, through December 31, 2022, businesses can claim 100% of their food or beverage expenses paid to restaurants. Find more information directly from the IRS.
- Contract Labor: If you hire independent contractors or freelancers to help, you can deduct 100% of their fees as a business expense, so take advantage of it. Just remember that there is always a catch with the government, so if you pay a contractor $600 or more per tax year, you are required by law to send them a form 1099-NEC by the end of January of the following year. It was not really a catch but just FYI.
- Credit for Small Employer Pension Plan Startup Cost: This tax credit is intended to counterbalance the expenses incurred of starting a pension. The credit is restricted to $500 or 50% of your startup costs, and it can only be used for the first 3 years. To qualify, you must meet the following criteria.
- Have less than 100 employees who received AT LEAST $5,000 of compensation from you.
- NOT have had a current 401(k) or any other qualifying retirement plan to which contributions were made and benefits received in the previous 3 years.
If you meet all the criteria make sure to look for Form 8881 to apply for this tax credit.
- No need to pay taxes on up to $25,000 worth of office equipment in years one and two, as long as it was purchased in the past five years.
- Possibility to deduct up to $5,000 of qualifying long-term assets every year after that, as well as labor and supplies.
- Up to $2,000 worth of equipment can be deducted each following year until fully deductible with an exception for depreciation on property not yet placed into service (depreciation would be written off over some number of years).
- Up to $5,000 for other trade or business expenses such as labor and supplies.
- Credit worth up to $4,000 for hiring qualified veterans, disabled individuals, or military spouses under the Tax Credit Program for Low Income Housing.
More Tax Credits for Small Business Owners
A new IRS form, which was discussed in Notice 2020-B, has been released for individuals who are looking to claim a tax credit under Section 24(a) for small employers hiring veterans with service-connected disabilities.
Another tax credit worth up to $4000 that small businesses can take advantage of, is under Section 42(h) with qualifying low-income housing investments in a service area where there are substantial unemployment or underemployment and it’s been at least 120 days since the business has done any work on that.
A new tax credit targeted at small businesses is available under Section 45(e)(11) and it could be worth up to 50% of your non-residential property expenditures, but there are caveats. The law requires you to have already made a qualified investment in real estate within the past 24 months, and you must make that investment for at least five years.
Another new tax credit available to small businesses is Section 45(e)(12), which can be worth up to 100% (or $250,000) of your qualified rehabilitation expenditures on a certified historic structure in an area where there’s been substantial unemployment or underemployment.
Bonus Tax Credits That Might Apply to You
The tax code is complicated and can be difficult to keep up with. There are many tax credits that you may not know about, but they exist for a reason. Check out the tax benefits of owning your home or other property (depreciation) as well as more tax-friendly ways to save money on taxes in general such as opening a tax-advantaged retirement account.
Some of the tax credits that you may be eligible for are:
- The Home Mortgage Interest Deduction: This is one of the most commonly used deductions and allows homeowners to deduct interest paid on their mortgage from their taxable income. The maximum deduction now stands at $750,000 but it can only apply if your itemized deductions exceed the standard deduction.
- The Child Tax Credit: This is a credit that reduces your tax liability for children under 17 years of age who are either dependents or qualified family members, and it was recently revised to now be worth up to $2,000 per child as opposed to the previous $1,000. If you have more than one qualifying child then this only applies to the first two.
- The Retirement Savings Contribution Tax Credit: This is a credit that applies if you make an eligible contribution to your IRA, 401k or other qualified retirement plans within a given tax year and it can reduce your taxable income by up to $2000.
- The Lifetime Learning Credit: This is another credit available for educational expenses such as college tuition and course materials. It’s worth up to $1,000 per year for qualified educational expenses, but it only applies if you have a modified adjusted gross income of $65,000 or less if single ($135,000 jointly).
- The New Health Coverage Tax Credit: This is a credit that can help offset the cost of insurance for small employers.
- The Earned Income Tax Credit and the Additional Child Tax Credit: These credits reduce your tax liability if you have earned income, which can be either wages or self-employment income but not both. They’re worth up to $6,000 per year depending on family size as well as whether they are refundable or non-refundable.
- The Mortgage Interest Rate Deduction: This deduction lets homeowners who itemize their deductions be able to deduct the interest paid on up to $750,000 of mortgage debt. It’s based on home equity so if you’re still paying your parents’ mortgage then this may not apply and it must have been used for acquiring or improving your home.
There are a lot of tax credits that could be helpful to small businesses, and the best thing is that you don’t have to pay them back! The IRS really does want us all to do well financially so anything they can do for small business owners it’s worth mentioning in this article.