Achieving revenue growth is undoubtedly gratifying for small businesses. However, the accompanying surge in tax liabilities can sometimes eclipse that satisfaction. With state and federal levies, self-employment taxes, and excise taxes in the mix, it's a heavy burden to bear. That's where seasoned Chicago CPA Susan Lewis, with over 35 years of experience, steps in to guide you through the intricate world of tax planning.
In this article, we'll explore 10 effective strategies to help you minimize your tax bill to not only help your small business survive but thrive. To harness substantial business income, a proactive approach to tax planning is key, and we're here to help you navigate it successfully.
#1: Review the Company's Legal Formation
Starting a business offers many choices in terms of legal formation. Sole proprietorship, partnership, limited liability company (LLC), S corporation, and C corporation are just a few options, each with its tax implications. The key is understanding that your initial choice isn't set in stone. As your small business evolves, so too can its legal structure to better align with your needs and tax goals.
- Flexible transformation: A significant benefit is that you're not locked into a single structure indefinitely. If you find that your current setup isn't optimizing your tax situation, adjustments can be made. For example, LLCs have the flexibility to switch to C corporation taxation by submitting Form 8832 to the IRS. This transformation can have far-reaching tax benefits
- Pass-through entities: Businesses structured as sole proprietorships, partnerships, LLCs, or S corporations don't face corporate income tax. Instead, their profits "pass-through" to the owner's personal tax return, often incurring the personal income tax rate, which can be as high as 37 percent. In cases where the business owner falls within this higher bracket, changing the business entity can result in substantial tax savings;
- Looking beyond tax rates: While tax rates are important, they're not the only reason for altering your business structure. Regulatory changes, liability considerations, and long-term growth plans all play a role. Collaborating with a skilled tax advisor allows you to make an informed decision that aligns with your business's financial and operational goals.
Think of your business structure as a tool in your tax planning toolkit, one that's adaptable to ensure you're not paying more in taxes than necessary. Staying agile in your approach to legal formation can help your small business thrive while keeping tax burdens in check.
#2: Claim All Legitimate Tax Deductions
Understanding tax deductions is like unlocking a treasure chest of savings within the complex IRS code. These deductions are strategically designed to incentivize behaviors that benefit society and the economy. Small business owners can claim legitimate tax deductions to significantly reduce their taxable income.
Let's explore some key deductions that can help you keep more of your hard-earned money:
- Marketing and promotions: Expenses related to marketing and promotional activities are tax-deductible. Whether you're investing in advertising campaigns, social media promotions, or creating compelling content to reach a wider audience, these costs can lower your taxable income while expanding your brand's reach;
- Insurance premiums: Business insurance is key for safeguarding your operations. Fortunately, premiums paid for insurance coverage, such as liability or property insurance, can be deducted. This deduction ensures that you're adequately protected without bearing the full financial burden;
- Business meals: Dining with clients or colleagues can be both productive and delicious. The IRS recognizes this and allows you to deduct a portion of business meal expenses. These deductions serve as a win-win, nourishing your connections while reducing your tax liability;
- Travel expenses: Whether you're jet-setting for meetings or embarking on a business trip, travel expenses are deductible. This includes transportation, accommodation, meals, and even a portion of your home office expenses if you work remotely while traveling;
- Education and training: Think of investments in the knowledge and skills of yourself and your employees as investments in your business's future. Expenses related to education, training, and professional development can be deducted. This deduction benefits your team and strengthens your company's competitive edge;
- Retirement contributions: Planning for your retirement is essential, and the IRS encourages it through tax deductions. Contributions to retirement plans like a 401(k) or a SEP IRA can reduce your taxable income while securing your financial future.
These are just a few examples of the many small business tax deductions available. You can discover more in our Small Business Tax Deduction Guide. The IRS code is a labyrinth of potential savings, and the guidance of professional accountants and tax experts can help you navigate it effectively. By harnessing the power of legitimate tax deductions, you can optimize your financial position and ensure that you're not paying more in taxes than necessary.
#3: Use Available COVID-19 Relief Benefits
Smart tax planning strategies cast a wide net for acceptable tax deductions. Significant tax savings are found with the help of COVID financial aid afforded by the Coronavirus Aid, Relief, and Economic Security Act (CARES). In many ways, this served as a jobs act to preserve employee income while business owners were struggling to stay afloat. The planks in this legislation include but are not limited to.
Employee Retention Credit
The Employee Retention Credit is a tax credit applied to what money a small business must pay toward Social Security.
Eligible small business owners apply for this for every fiscal quarter and they need to demonstrate one of two occurrences:
- The small business is under government order to cease and desist operating to prevent the spread of COVID-19. A business entity subject to such a mandate could be a restaurant, bar, bowling alley, barber shop, hair salon, hotel, professional sports franchise, or any number of small businesses deemed non-essential for the general public;
- Small business loses substantial revenue because of shutdowns and decreased economic activity in response to the pandemic. For example, if restaurants are closed, their suppliers suffer from diminished business income. As long as they can accurately cite the pandemic as the reason, they may be entitled to these tax credits.
Sick and Family Leave Credits
The Families First Coronavirus Response Act of 2020 assists small business entities in affording their employees two weeks of paid sick leave. If the employee was quarantined and awaiting medical treatment, the small businesses must pay the worker's regular wage or salary. Alternatively, if the staffer stayed home to care for a COVID-affected family member under quarantine, that employee gets paid 66% of the regular wage.
Both of these tax law provisions were extended by the American Rescue Plan Act of 2021 to be in force until the end of September 2021. Under current tax law, small business taxpayers can apply for some of these retroactively by amending the filed tax return using IRS Form 941-X.
#4: Delay Income - or Expedite It
Wise tax planning sometimes calls for putting off the receipt of certain revenue streams. Sometimes this involves the simple discipline of timing: billing in mid to late December to assure payment delivery in January of the following tax year. Remember that to defer taxable income isn't to dodge or evade as these taxes will be paid. It merely shifts the tax burden to the subsequent tax year and buys some time to pay the tax.
Other tax planning tactics make use of accelerated income. Business owners, fearing a future tax increase, might seek to maximize their financial gains before the hammer falls. On the one hand, they can step up billing and collections before the tax year comes to a close. Conversely, they can hold off on paying bills until the new year or defer purchases altogether. This way, they retain more working capital for when they have to file their tax return.
#5: Shrink Your Adjusted Gross Income
Gross income is calculated by adding all revenues, wages, business income, investment dividends, capital gains, and retirement account proceeds, e.g. - together. Adjusted Gross Income (AGI) accounts for money that's redirected for a specific purpose.
These embrace employer contributions to retirement accounts, alimony paid to an ex-spouse, interest paid on student loans, and expenses related to educator needs. Optimal tax planning for small businesses aims to keep AGI as small as possible.
There are ways to do this. One is by making contributions to employee health savings accounts. Increasing retirement plan contributions, as far as the law allows, is another means of bringing AGI down.
For independent business people, the home office deduction, if applicable, can significantly lessen the AGI relative to self-employment taxes. In addition, interest paid on business financing, real property, equipment, etc., can often be removed from gross income to yield a smaller AGI.
#6: Optimize Retirement Savings Accounts
Tax planning is essential for so many small businesses where there is little financial cushion on which to operate. Maximizing gains from retirement plans helps to add some financial breathing space.
- Dot every "I" and cross every "t" when administering retirement plans as the sponsor. You avoid a slew of fees and penalties when you do this;
- Pay attention to the 401k fee structures. Lately, fees have been declining, but it's still smart to keep an eye out;
- Pay close attention to what investment options are available for employees. If there are no internal candidates, you can hire a fiduciary for this;
- Raise the worker participation rate through education and periodic meetings;
- Make a Roth 401k available so staffers can choose to be taxed upfront.
#7: Have a Plan to Reimburse Employees for Expenses
Expenses incurred by personnel in the course of conducting business aren't uncommon. For example, food, travel, and entertainment are among the items that are the company's responsibility as opposed to personal expenses. However, these work-related costs aren't properly classified as employee income.
Accountable plans are vehicles that document reimbursement, as opposed to taxable income. If this money were to be identified as income, the business owner's payroll taxes would be that much higher. Accountable plans are easily set up in consultation with a tax professional or tax advice firm.
#8: Weight Your Tax Return with the Work Opportunity Tax Credit (WOTC)
Let's face it; life is unfair. Some hardworking, honest people face obstacles in securing sufficient employment. Small businesses need workers while workers nevertheless cannot find them. The WOTC grants tax relief for small business firms that make an effort to find and retain such job seekers.
Among the targeted groups that WOTC-eligible small businesses are pointed toward are:
- People from households that are receiving public assistance;
- Veterans of the U.S. military;
- Ex-felons and those who have paid their debt to society;
- Designated Community Residents (DCRs) who reside in areas designated as Urban Empowerment Zones or Rural Renewal Communities;
- People afflicted with physical or mental disability who qualify for "vocational rehabilitation";
- Those receiving nutritional assistance, Social Security Disability payments, long-term family assistance, or unemployment compensation.
All candidates who get hired must be screened and certified by IRS-approved state and local workforce operatives. Keep in mind that the size of the credit cannot exceed the overall tax liability of the small business and what payroll tax is due for Social Security. Both taxable and some tax-exempt small business owners can claim the WOTC.
#9: Wait Until Late in the Year to Procure More Assets
It's worthwhile now and then, as a tax planning device, to estimate business income toward the end of a tax year. Subsequently, acquiring tangible assets can help to lower your tax bill. These are usually physical assets with a fixed monetary value.
Depreciation is a way of formulating the asset's cost over its useful life, i.e. the timeframe in which the asset helped to initiate or multiply sales or other forms of revenue. The higher the depreciation, the less taxable income will be. Asset depreciation can only be counted if the tangibles are the tax year closes.
#10: Talk with a Tax Professional
If you're able to get tax advice from a seasoned expert, this is preferred. It's a must. In the 21st century, the tax code is extremely complex, some would even say convoluted and requires long hours of study, consultation, trial, and error to grow comfortable with its ins and outs. Established firms understand the accounting, preparation, and representation and know the advantages and pitfalls of a small business tax return.
Maybe one of the most important reasons to retain a tax advisor is to avoid penalties and additional levies, many of which far outweigh the fees for a reputable tax advisor. Plus, doing so saves the business owner many hours of research and compilation of an accurate return.
Plus, peace of mind follows when a professional is in charge of business income tax preparation. Meanwhile, you make audits less likely when a knowledgeable and proficient specialist is attending to your state and federal taxes. Best of all, a strong advisor will educate business owners so that future returns won't be so daunting.
The First and Last Word in Small Business Tax Strategies
Small business tax planning isn't just about saving money — it's about securing your business's future and enabling growth. By implementing these top 10 strategies to reduce tax liability, you're taking a proactive step toward financial efficiency and prosperity.
Remember, tax planning is an ongoing process. As your business evolves, so do your tax needs. Don't hesitate to seek professional guidance from experts like seasoned CPA Susan S. Lewis, Ltd., who bring decades of experience to help you navigate the complexities of the tax landscape.
Take charge of your small business's financial destiny today, contact us and watch it flourish in the years to come.