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When a couple files their taxes, they typically report their income, deductions, and credits together on a single tax return. But what happens when one spouse owns a business? The answer can be complicated, depending on how the business is structured and whether you materially participate in the operations. The business’s tax obligations can impact your taxes, and it’s important to understand these interactions before filing your return. This guide will help you learn how to file taxes when one spouse owns a business and discuss helpful corporate tax accounting strategies and tips for reducing your tax burden.
Haven's accounting services for small businesses can help ease the burden of filing your taxes when one spouse owns a business. Our expert accountants can help ensure you're capturing all the necessary information to file your taxes accurately, and we can even help calculate your taxes to ease the transition to personal tax filing.
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Should You File Jointly or Separately?
When one spouse is self-employed and the other earns a regular salary (typically reported on a W-2), it creates a unique tax situation that requires careful consideration. The two spouses have very different types of income, and each is subject to different tax rules, deductions, and reporting requirements. Choosing the right filing status, Married Filing Jointly (MFJ) or Married Filing Separately (MFS), can have a significant impact on your total tax liability.
Why Filing Status Matters for Business Owners
Filing status affects:
Tax rates and brackets
Eligibility for credits and deductions
How income and self-employment taxes are calculated
Whether certain tax benefits phase out
With a business involved, mainly if it generates significant income or deductions, the decision to file jointly or separately becomes even more critical.
Married Filing Jointly (MFJ): The Default for Most Couples
Most married couples choose to file jointly, and for good reason. This filing status usually results in the lowest combined tax burden and offers access to the widest range of deductions and tax credits, including:
Child Tax Credit
Earned Income Tax Credit
Education credits (like the American Opportunity Credit)
Deduction for student loan interest
Full standard deduction (double the single filer amount)
A more favourable tax bracket for combined income
Joint Filing Benefits for Uneven Income
When one spouse is self-employed and the other earns a regular income, filing jointly allows the couple to pool income and deductions. For instance, if the self-employed spouse has large business deductions, they can reduce the couple’s overall taxable income, which benefits both parties. It can also smooth out the tax impact of uneven income, especially if one spouse earns significantly more than the other.
Married Filing Separately (MFS): When It Might Make Sense
Although it often results in a higher tax bill, MFS can be the better choice in certain situations. For example:
Student loan repayment: If one spouse is on an income-driven repayment plan for federal student loans, filing separately may lower their calculated monthly payment.
Liability protection: If the self-employed spouse has tax issues, back taxes, or audit risk, the other spouse might want to file separately to avoid being jointly liable.
Medical or miscellaneous deductions: If one spouse has unusually high medical expenses or itemised deductions, filing separately can help them meet the required percentage thresholds based on their own income rather than the couple’s combined income.
Complicated finances: In cases where one spouse has a complex business or financial situation, filing separately may help with financial boundaries or record-keeping.
Filing separately disqualifies you from some major tax benefits, including most education credits, the Earned Income Tax Credit, and deductions for student loan interest. It also usually leads to higher tax brackets for each filer and a reduced standard deduction.
Choosing the Best Filing Status for Your Situation
For most couples, especially when one spouse owns a business, filing jointly is the more tax-efficient option, thanks to the broader deductions and lower rates. But if there are concerns about liability, student loans, or personal financial separation, filing separately may be worth considering. It’s often best to run the numbers both ways or consult a tax professional before making a final decision. The right choice depends on your full financial picture, not just your filing status.
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How to File Taxes When One Spouse Owns a Business
Before tackling your taxes, it’s important to understand the business’s legal structure, as this affects how income is reported and taxed.
Sole Proprietorship: The most common setup for small businesses. Income and expenses are reported on Schedule C of the personal tax return.
Partnership: Involves more than one owner. The business files a separate return (Form 1065) and issues a Schedule K-1 to each partner.
LLC: A flexible structure that can be taxed as a sole proprietorship, partnership, or corporation, depending on elections made.
Corporation: Files its tax return. An S Corporation files Form 1120S, while a C Corporation files Form 1120. Owners may also report dividends or salary separately.
Each structure affects whether the business’s income is taxed at the individual level (pass-through) or at both the business and personal level (corporate taxation).
Reporting Business Income and Expenses
If your spouse operates a sole proprietorship, you’ll report the business income and deductible expenses using Schedule C, which is submitted along with your joint or separate Form 1040. For corporations or partnerships, the business files its return. The spouse may receive a W-2 (if paid a salary) or a Schedule K-1 showing income share. This must also be included in your return. Good record-keeping is key, so ensure to maintain clear documentation of all income, expenses, and receipts throughout the year.
Self-Employment Tax, Deductions, and Credits
Self-employed individuals must pay self-employment tax, which covers both the employer and employee portions of Social Security and Medicare. In 2022, the rate is 15.3% on net income over $400. This is reported using Schedule SE, based on the net income reported on Schedule C. You can deduct half of the self-employment tax from your adjusted gross income, which helps reduce overall tax liability.
Managing Estimated Taxes and Withholding
Unlike W-2 employees, self-employed individuals don’t have taxes withheld automatically. If the business turns a profit, your spouse may need to make quarterly estimated payments to avoid underpayment penalties. Use IRS Form 1040-ES to calculate and pay estimated taxes. To help smooth your cash flow, the W-2 spouse may increase their paycheck withholding using Form W-4. This can help cover the couple’s overall tax liability.
How the Non-Business Spouse’s Income Affects the Return
If you file jointly, the income from both spouses is combined. This affects:
Tax brackets: Combined income may push you into a higher bracket.
Credits and deductions: Eligibility for things like the Child Tax Credit, Earned Income Tax Credit, or education credits is based on total income.
Offsetting taxes: The W-2 spouse’s tax withholding can help offset the self-employed spouse’s lack of withholding or estimated payments.
If filing separately, these calculations happen independently, which may reduce eligibility for certain benefits.
Seek Professional Help to Navigate the Tax Implications of Spousal Business Ownership
Self-employment adds complexity to your tax situation, especially when one spouse has a traditional job. Consider working with a tax advisor to ensure you’re choosing the right filing strategy, maximising deductions, and staying compliant with estimated payments.
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Deductible Business Expenses to Maximize Savings
Running a business comes with a host of necessary expenses. The IRS lets business owners deduct many of these costs from their taxable income, thus reducing their overall tax bill. Here are some of the most common deductible business expenses.
Office Space: Rent for a dedicated office or coworking space is fully deductible.
Equipment: Computers, phones, printers, and machinery used in the business may be written off, either in full or through depreciation.
Business Travel: Includes airfare, lodging, and 50% of meals while travelling for work. Keep records to show the travel was business-related.
Insurance: Business insurance premiums (e.g., general liability, professional indemnity) are deductible.
Supplies and Materials: Anything consumed or used directly in the course of doing business, from raw materials to stationery.
Utilities: If you rent office space, electricity, internet, and phone bills for the business are deductible.
Get the Home Office Deduction Right
If your spouse runs the business from home, they may be eligible for the home office deduction, but only if the space is used regularly and exclusively for business. You can deduct a portion of mortgage interest, rent, utilities, and even repairs, based on the percentage of your home used for business. The IRS offers a simplified option, allowing $5 per square foot (up to 300 sq. ft.), or the actual expense method, which requires more detailed calculations.
Note: You must be self-employed to claim this; W-2 employees working from home cannot.
Keep Records to Defend Your Deductions
Accurate, well-organised records are essential. This includes:
Receipts and invoices
Credit card and bank statements
Copies of business contracts
Not only does this make filing easier, it’s your best defence in case of an audit. Consider using accounting software or working with a tax professional to stay compliant and capture every possible deduction.
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4 Tax Planning Tips for Couples When One Owns a Business
1. Work With a Tax Professional Early
When one spouse owns a business and the other has a regular W-2 job, taxes can get complicated quickly. A qualified tax adviser can help you navigate this situation. They will help you decide the best filing status based on your unique income mix and deductions. They’ll also strategize around income fluctuations that are common in self-employment. Finally, they will ensure proper record-keeping and audit readiness. This is especially important if you're dealing with complex income streams, new business expenses, or recent changes in tax law.
2. Evaluate Filing Status Annually
Tax filing status isn’t a one-and-done deal. While Married Filing Jointly often results in a lower overall tax bill, Married Filing Separately could make sense in specific scenarios:
If the business carries significant liability risk
To protect the W-2 spouse from tax complications caused by business losses or IRS issues
When trying to qualify for income-based benefits or repayment plans (like student loan income-driven repayment)
Review both options each year with a tax preparer to see which gives you the best outcome.
3. Understand the Impact on Tax Credits
Combining incomes can affect your eligibility for:
Earned Income Tax Credit (EITC)
Child Tax Credit
Education credits like the American Opportunity Credit or Lifetime Learning Credit
Adding self-employment income might push you above the income limits for these credits, plan accordingly to avoid surprises.
4. Stay Ahead of Estimated Tax Payments
Self-employed individuals must usually pay taxes quarterly using IRS Form 1040-ES. Failing to do so may result in penalties, especially if the W-2 spouse doesn’t withhold enough to cover the household’s total liability.
Options:
Make quarterly payments directly from the business income
Increase the W-2 spouse’s withholding using a revised Form W-4 to offset the business income
Either way, proactively covering your tax obligations prevents cash flow shocks come tax season.
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