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Running a small business isn't easy. You have customers to please, inventory to manage, employees to support, and bills to pay. One of the most pressing challenges small business owners face is understanding and managing their taxes. When tax season arrives, the stakes are higher for small businesses than for individuals. Small businesses have a lot more to lose if they make mistakes on their tax returns, and their corporate tax accounting is often more complex. One way to reduce the risk of filing errors is to plan. Small business tax planning, or effective tax strategies for small businesses, helps business owners like you save money and reduce stress come tax season. This article corporate tax accounting explores small business tax planning in detail, including effective tax planning strategies for small businesses to save money.
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14 Effective Tax Planning Strategies for Small Businesses To Save
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Understanding Small Business Taxes
Small businesses may be required to pay several different kinds of taxes. By understanding your business’s specific tax liabilities, you can ensure compliance with tax law while minimizing the amount you owe. This is often done with the help of notable tax credits and deductions, though other strategies can help as well.
What Is Considered a Small Business for Tax Purposes?
The Internal Revenue Service defines a small business as a taxpayer that files Form 1040 or 1040-SR, Schedules C, E, F, or Form 2106, as well as any business with assets under $10 million. This means that sole proprietorships, partnerships, LLCs, C-corporations, and S-corporations can all be considered small businesses.
Types of Small Business Taxes
In general, businesses must pay five kinds of tax. Here’s a breakdown of which different small business types pay taxes.
Income Tax: All businesses (except for partnerships) must file a federal income tax return every year.
Employment Tax: Small businesses with employees, sole proprietorships, partnerships, and C or S corporations must pay employment taxes, including those required by the Federal Unemployment Tax Act (FUTA), which funds federal and state unemployment programs.
Self-Employment Tax: Sole proprietors and partnerships, instead of traditional employment taxes, are subject to paying a self-employment tax rate, which covers Social Security and Medicare.
Sales Tax: Small businesses may be required to collect and pass sales taxes to the relevant taxing authority.
Excise Tax: Sole proprietors, partnerships, C corporations, and S corporations may be subject to excise taxes on specific goods and services.
Tax Forms and Filing Requirements
To meet your tax obligations, you’ll need to understand which forms you must complete and file at tax time and whether you file your business taxes with your tax returns. Here’s what you need to know about preparing business tax returns:
Federal Tax Forms
Depending on the type of business you run, your tax form requirements may vary. For instance, if you operate a sole proprietorship, you must report your business income and expenses on Schedule C, which is then attached to your tax return, Form 1040. Sole owners of LLCs also report business income with their income taxes.
If your business is a corporation (or a limited liability company that is treated as a corporation), you’ll prepare a separate corporate tax return from your income taxes. C-corporations use Form 1120, while S-corporations use Form 1120S. Meanwhile, multi-member LLCs are typically considered partnerships and usually file taxes using Form 1065.
State and Local Tax Forms
In addition to federal tax responsibilities, small business owners must address state and local tax obligations, which are subject to geographical variations. Primary considerations include state income tax and employment taxes, with potential supplementary local levies. Your business structure and location directly influence filing procedures.
For example, a sole proprietorship operating in a state without individual income tax, such as Texas, will primarily focus on federal tax compliance. Conversely, a retail establishment in California must adhere to state income tax regulations and collect and remit sales tax. Employers in California are also responsible for state unemployment tax contributions.
State & Local Tax Filing for C-Corps
Alternatively, a business incorporated as a C-corporation in New York is required to file a separate state corporate income tax return, distinct from individual tax filings. Businesses owning real property within city limits are also subject to local property taxes.
To ensure comprehensive compliance, consult the relevant state department of revenue website. Additionally, city or county tax authorities can clarify local tax obligations. Given the inherent complexity of state and local tax regulations, seeking guidance from a qualified tax professional is strongly recommended.
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14 Effective Tax Planning Strategies for Small Businesses To Save
1. Take Every Deduction and Credit Allowed
Most, but not all, of your business outlays can generate tax deductions or credits that effectively offset the tax on your profits. Accrued expenses can be used to maximize deductions by recognizing expenses when they are incurred, even if they are not yet paid. Check what's available to you and determine whether you qualify for these write-offs.
2. Adopt or Contribute to a Qualified Retirement Plan
You can gain a current tax deduction for your contributions while building up tax-deferred income for retirement. If you have employees, the plan must cover those eligible to participate. The plan can require or allow employer contributions and may permit employees to make salary contributions pre-tax or after-tax.
Depending on the type of plan, its participants, and your contributions, you may qualify for one or more tax credits for setting up and contributing to the plan. Additionally, having a qualified retirement plan can improve your workers' financial security.
3. Use an Accountable Plan for Reimbursing Employee Business Expenses
You can reimburse employees for travel expenses, rent, use of their vehicle for business, internet access costs when working remotely, and other costs to produce tax savings. Rent payments, including advance rental income treated as unearned revenue, can also be reimbursed.
The business gets to deduct the expenses to the extent otherwise allowed, but employees are not taxed on the reimbursements. These reimbursements are not subject to employment taxes. IRS Publication 463 describes accountable plans and their use.
4. Review Your Business Structure
How you have set up your business under state law, such as a limited liability company or a corporation, affects the tax treatment of income and expenses for the industry and owners. Changes can be made when desirable to achieve both business and tax results, such as lower profit tax rates.
A sole proprietorship might incorporate to give the owner personal liability protection and the opportunity to have income tax withholding from a salary, which can relieve the owner of making estimated tax payments.
5. Consider Health Insurance and Dependent Care Options for Employees
The payment of premiums for employees in a group health plan is deductible or may even qualify for a tax credit. Instead of a group plan, consider making tax-deductible reimbursements to employees under various health reimbursement arrangements (HRAs).
Section 125 Plans & FSA Tax Benefits
If it fits your company, establish a Section 125 benefit plan, allowing employees to pay medical, dental, vision, and other expenses up to an annual limit with pre-tax dollars. A similar plan can be set up to cover dependent care costs up to a set limit.
A Section 125 flexible spending account (FSA) saves employees and employers FICA taxes (not applicable for PEOs) that would otherwise be due on wages contributed to the accounts, plus employees may save federal, state, and local income taxes.
6. Review Post-Year-End Tax Elections
Just because the year has ended does not mean tax savings opportunities have ended. A business that purchases equipment has several choices on how to write off the cost on the business tax return; the deduction must be made when the return is filed. The cost of business driving can be deducted using the actual costs involved or relying on an IRS-set rate.
7. Hire a Tax Professional for Expert Advice
If you don't already use the services of an experienced tax preparer (one who keeps abreast of complex and fluid tax laws), it's a good idea to find one. The cost of tax-deductible professional fees may be modest compared to the tax savings you may reap and the tax traps you may avoid.
Having a tax professional on your side can provide reassurance and confidence in your tax planning. Looking for business tax saving tips & filing help? Speak with an expert to help get you through tax season.
8. Make Sure Recordkeeping Is Accurate
While most business expenses are deductible or can generate a tax credit, you may miss out on legitimate expense write-offs without accurate recordkeeping. Good books and records are essential, as no deduction can be claimed for travel expenses or charitable contributions without the required substantiation. This practice ensures you can defend your write-offs if the IRS questions them.
9. Invest in New Assets Before Year-End
Investing in new assets before year-end is a smart way to reduce your taxable income. New assets are recorded in an asset account, which tracks payments made in advance and their movement between asset accounts and expenses over time. As a deferred revenue component, advance payments are recorded as a liability until the corresponding service or product is delivered.
By purchasing equipment, machinery, or other assets just before the fiscal year closes, you can benefit from immediate or bonus depreciation, allowing a more significant portion of the asset's cost to be deducted this year. This strategy lowers your overall tax bill and helps your business prepare for growth with new tools and technology.
Smart Spending & Bonus Depreciation Tips
Before making these purchases, consider your cash flow and ensure the assets align with your business needs. Spending wisely on necessary upgrades can maximize tax savings without straining resources. Consulting a tax advisor can clarify how bonus depreciation accounting rules apply and help you maximize this tax-saving opportunity.
10. Offer Employee Benefit Programs To Boost Savings
Employee benefit programs, such as health insurance, retirement plans, and dependent care assistance, are not just a way to support your staff. They also offer a straightforward method for small businesses to reduce their taxable income.
Health insurance and retirement plan contributions are tax-deductible, which can significantly lower your business's overall tax liability. These benefits also play an essential role in attracting and retaining employees, creating a more appealing workplace.
Tax-Smart Benefits to Support Your Team
Implementing these programs also encourages long-term savings. For example, contributions to retirement plans like a 401(k) or SEP-IRA provide tax advantages, while dependent care programs allow employees to use pre-tax dollars, reducing their taxable income.
These strategies not only cut your tax bill but also strengthen your team. A tax professional can help you maximize the tax benefits of each program and ensure compliance with relevant laws.
11. Use Tax-Free Loan Options From Your Business
Business owners can access tax-free loans from their companies to boost revenue and liquidity without incurring taxes, as long as they follow IRS guidelines. Properly structuring the loan with clear terms, like an interest rate and repayment schedule, can remain a non-taxable event, offering flexibility to cover personal or business expenses.
To avoid reclassifying the loan as taxable income, keep documentation detailing the loan terms and stick to a realistic repayment schedule. This approach provides financial flexibility without additional tax liability. Consulting a tax advisor can help ensure the loan meets IRS standards and stays tax-free.
12. Maximize Unused Deductions by Carrying Them Forward
Carrying forward unused deductions, such as net operating losses and capital losses, is a powerful way to reduce taxable income in future years. Unearned income, representing funds received for goods or services not yet delivered, is classified as a liability in accounting and must be managed accurately to maintain financial health and reduce cash flow issues.
These income-related deductions affect the income statement as they are gradually recognized, offsetting profits and reducing taxable income over time. By carefully tracking these deductions, you can take advantage of tax rules that allow losses from one year to offset profits in another, effectively lowering your tax bill when your business is more profitable.
Using NOL Carryforwards to Stabilize Taxes
Net operating losses, for example, can offset income in future profitable years, providing significant tax savings when your business grows or faces higher taxable income. It's essential to keep accurate records and work with a tax advisor to ensure you're maximizing these carryforwards correctly.
Understanding when and how much of your unused deductions can be applied each year can help you plan for more consistent tax savings over time. This strategy not only smooths out tax liabilities but also cushions against volatile income years, helping your business maintain stronger financial health in the long run.
13. Defer Income To Lower Next Year's Tax Bill Strategically
Deferring income to the next tax year is a strategic way for businesses to manage taxable income, particularly if you expect to be in a lower tax bracket in the coming year. Unearned or deferred revenue is recorded as a liability on the balance sheet and recognized as income only when the corresponding services or products are provided.
By delaying invoicing or postponing receipt of income until after the new year, you can effectively reduce this year's taxable income, potentially lowering your current tax bill. This approach is beneficial for businesses experiencing fluctuating income or anticipating changes in tax rates.
Income Deferral for Flexible Tax Planning
To make the most of income deferral, it's essential to plan carefully and ensure that deferring doesn't disrupt cash flow or business operations. Working with a tax advisor can help you assess whether deferring income aligns with your financial goals and forecasted tax obligations.
This strategy can provide immediate tax relief while using deferred revenue and giving your business greater flexibility in managing its income across tax years.
14. Hire Family Members To Optimize Tax Savings
Hiring family members, like spouses or children, is a practical way to reduce your business's taxable income. Wages paid to family members are recorded in a liability account until they are paid out. Wages paid to family members are deductible business expenses, which lowers the amount of income subject to tax.
Income earned by family members may be taxed at a lower rate, leading to further savings. This approach allows family members to gain work experience while contributing to the business's success. This strategy also opens opportunities for retirement and education savings.
Hire Family to Boost Tax Savings
Earnings can fund retirement accounts, such as an IRA or 401(k), or go toward a 529 plan for education expenses, providing valuable tax advantages. To follow IRS rules, family members must do legitimate work and receive fair wages. This straightforward method can optimize your tax savings while supporting your family's financial goals.
Standard Tax Deductions Small Businesses Overlook
Many entrepreneurs don’t realize they can claim business expenses on a tax return for fees incurred before the business’s launch. There are conditions, of course, but most small businesses can deduct up to $5,000 on their first year’s return. This article, “Tax Deductions for Your Startup,” can help you get started.
Taxes, Interest, Fees & Charitable Contributions: What You Need to Know About Tax Deductions for Startups
If your business pays tax to any state or local jurisdiction, you can deduct those taxes as a business expense on your federal return. If you pay for business expenses with credit cards, you can deduct any interest and late fees you incur.
You can also deduct banking fees such as card processing fees, fees when making payments, and any others you incur on your business banking accounts. Just like with startup costs, any money you borrow to start the business can be recorded as a business liability, and the interest can be expensed accordingly. And, charitable contributions may be deductible as well.
Wages and Payroll Taxes: What You Need to Know About Tax Deductions for Startups
Being an employee in your own business offers several benefits at tax time for your tax return. By paying yourself a wage or salary rather than a distribution or dividend, you’ll avoid paying a self-employment tax on your return.
And that allows you to pass the payroll tax deduction to the business. You should also be claiming all other employee wages and payroll taxes as deductions for the company.
Retirement Plan Contributions: What You Need to Know About Tax Deductions for Startups
Retirement planning and tax planning go hand-in-hand. The tax benefits you’ll receive depend on the retirement plan you have, IRA, 401(k), or one of many others. Retirement plan contributions are an opportunity to receive tax benefits now and again in the future.
Businesses can establish inexpensive 401(k) plans with higher contributions for owners. Other retirement account options are available for small businesses as well. Overall, contributing to a retirement plan will not only give you a deduction, but it’ll increase your retirement savings as well.
Bad Debt: What You Need to Know About Tax Deductions for Startups
Most small business owners will have to deal with bad debt at some point. Bad debt accrues when your business is owed for amounts that have not been paid.
This could include loans to clients or suppliers, goods sold but not paid, or the sale of a mortgaged property, just to name a few. The IRS allows businesses to claim bad debt as a deduction if the amount owed is included in your gross income or lent out as cash. And, you’ll need to prove that the debt is worthless.
Home Office: What You Need to Know About Tax Deductions for Startups
If you run your business out of your home, there’s a long list of home-related expenses that you can consider deducting. These can include, but are certainly not limited to:
Homeowner’s Insurance
Utilities
Property Taxes
Home Repairs & Maintenance
Claiming the Home Office Deduction Correctly
To deduct home office expenses, you’ll need to have a physical office in your home. Working on your laptop from the kitchen table does not count as an office in the eyes of the IRS. Your home office should be a dedicated space for running your business, and it needs to be your principal place of operation.
Take a look at the IRS guidelines for what constitutes the Business Use of Your Home for a full breakdown of the rules. If your business meets these criteria, this is one deduction you don’t want to overlook.
Health Insurance: What You Need to Know About Tax Deductions for Startups
Depending on the type of business entity you own, you may be eligible to take advantage of a self-employed health insurance deduction on your personal return. This is usually a pretty significant deduction as it includes the insurance you paid not just to your plan, but to your entire family’s insurance costs as well. Of all of the frequently missed deductions on our list, this one tends to stand out as the most often overlooked.
Education and Training: What You Need to Know About Tax Deductions for Startups
Investing in employee education is an integral part of many business growth plans, and the good news is that these expenses are fully deductible. You can also deduct entry fees or other similar costs like attending workshops, conferences, tradeshows, and other expenses that allow employees to expand on their knowledge of a subject directly related to the business.
Marketing: What You Need to Know About Tax Deductions for Startups
Small businesses need to market their products or services. Luckily, marketing, advertising, and other promotional costs that bring in new customers and retain current ones are deductible expenses. Some of the expenses that qualify include:
Advertising
Public Relations
Website Development
Email Marketing
Print Materials, including business cards, brochures, etc.
Hiring a Marketing Consultant
Travel and Entertainment: What You Need to Know About Tax Deductions for Startups
Some business travel and entertaining expenses are deductible, and others are not. In 2018, the tax law changed, and businesses can no longer claim certain entertainment expenses they once had. There are still several client and employee travel and entertainment expenses that are deductible, so be sure to do your research.
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Benefits of Working with a CPA or Tax Advisor
Many people avoid working with a tax preparer because they’re concerned about the cost. But that cost can be more than recovered when you work with someone who can maximize your tax return. One survey of 2,000 taxpayers found that self-filers received an average of $804 less than people who used a tax professional.
Reclaim Your Time
Between work, life, and everything in between, it can feel like there aren’t enough hours in the day. Why spend your precious free time doing taxes? According to the IRS, it takes the average person 13 hours to self-file their taxes. That’s over 1.5 work days! A tax preparer can cut that time dramatically, giving you time back in your schedule.
Reduce Your Risk of Audit
While your chances of being audited are slim, the possibility does exist. The US tax code is approximately 2,600 pages long and clocks in at well over 1 million words. When you work with a tax preparer, you’ll have an expert who is familiar with the code and can support you to achieve the best possible outcome.
Gain A Trusted Advisor
Tax preparers are available to work with you year-round, not just at tax time. If you want help creating a sensible tax plan or have questions after a significant life change, having a relationship with a tax preparer can help.
Get Peace of Mind
According to the IRS, 84% of people surveyed said it’s unacceptable to cheat on their income taxes, and 93% believe it’s a civic duty to pay their fair share. When you work with a professional tax preparer or CPA, you won’t have any doubt or anxiety that your taxes were completed correctly. You’ll rest easy knowing you’ve paid your part, not more and not less.
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Haven acts as your business's financial co-pilot, helping you take flight while we manage your financial runway. Built by founders for founders, we handle everything from daily bookkeeping to complex tax filings and R&D credits that put cash back in your pocket, as well as fractional CFO services.
Join 400+ startups who've saved millions in tax credits, countless hours of administrative work, and never missed a filing deadline, all while accessing 24/7 Slack support from CPAs who understand the unique challenges of growing businesses.
Book a call today and discover how our dedicated team can help you focus on building rather than bookkeeping.