Do you want to pay less tax while making more business income but lack the know-how? If YES, here are 50 best ways to reduce taxable income for small businesses.
Like it has always been said, the only constant thing in life is death…and tax; and this is true for both individuals and businesses. Small businesses are worse off because they have to divide their little business income with the government. But if a business knows how play its cards right, it has no reason to dread the tax season.
It has been discovered that most small businesses pay more in taxes than they need to because they are unaware of all the tax write-offs that are available to them. With proper planning and a rudimentary knowledge of tax law, you can greatly reduce your company’s tax burden, thus saving your small business a lot of money.
There are indeed a lot of legal ways a small business can reduce its tax burden. If you think you are paying way too much on taxes for your small business, here are some methods you can apply to help you reduce your business’s tax burden this year.
50 Best Ways to Reduce Taxable Income for Small Businesses
- Get your family on your team
In the United States, as long as wedges are concerned, the government usually looks favorably on family businesses. If you are running a family business, you would not be required to pay federal unemployment taxes and you may have to withhold income taxes and Social Security if your children work for you. But you must still follow child labor laws, pay reasonable wages and make sure that the work benefits your company to qualify for these exemptions.
- Hire Independent Contractors
Most business owners when just starting out cannot afford to hire employees because they have to pay payroll taxes and provide other benefits, in addition to wages. By hiring an independent contractor, you do not have to pay benefits or payroll taxes.
However, make sure that you understand the difference between an employee and an independent contractor, because if your independent contractor meets the legal definition of an employee, you could face penalties. Seek the advice of a tax professional before you classify someone as an independent contractor.
- Start a Retirement Plan
Even though you are a small business, you have to consider setting up a retirement plan to take advantage of tax deductions. A retirement plan can provide several tax benefits for you, your business, and your employees. You have to consider that employer contributions are tax-deductible, assets in the plan grow tax-free, and you are able to attract and retain better employees by providing them a retirement plan.
This is almost a win win situation all round. It is important to point out, in the case of Independent 401(k)s, you must open them by December 31st to qualify for the current tax year.
- Put aside money for healthcare
One of the best ways to reduce small business taxes is by putting aside money for healthcare needs. Medical costs continue to increase and while you may be healthy now, saving money for unexpected or future healthcare needs is essential. You can accomplish this through a Health Savings Account (HSA) if you have an eligible high-deductible health plan.
- Change Business Structure
Another way to save money on tax as a small business owner is to change your business structure. How your business is structured can have a significant impact on the taxes that you pay.
For example, LLCs are pass through entities which means that your profits will be taxed at your ordinary tax rate, while shareholders of a C corp are taxed at the corporate rate and they are taxed again when they report distributions on their tax returns; this is known as double taxation. If you are running a structure that does not allow you take advantage of tax deductions, then you may have to change.
- Deduct your Travel Expenses
If you travel a lot for both business, and even for pleasure, herein lies another excuse to reduce your business taxes. Business travel is fully tax deductible, though personal travel does not enjoy the same benefit. There are several ways to manage travel to save on business taxes. You can combine personal travel with a justifiable business purpose, and you can also use the frequent flier miles you earn for personal travel.
- Make smart purchases and investments
To be able to smartly reduce your business taxes, you have to fashion out smart ways to make purchases and investments. If you’re going to invest in new equipment or services for your business, the timing of those purchases can affect your tax liability for the current or next year.
It may make sense to accelerate the purchase of the equipment before the end of the year to get the tax deduction in the current year. The same goes for services. If the service is provided towards the end of the year and you’re planning on a large marketing campaign over the next several months, it may make sense to prepay for some of the costs to take the deduction in the current year.
- Know what should be taxed and what should not
Business owners often make the mistake of thinking that all cash inflows are taxable income and all cash outflows are deductions. In reality, the nature of the cash inflow or outflow determines its deductibility. For example, income from the sale of the business’s goods or services is taxable.
However, some common cash increases that aren’t taxable to the company include bank loans, lines of credit and loans from the owner to the business. You need to be clear on which is which if you are to over forward in this business. If you are not sure, you can consult your tax attorney or CPA.
- Stay clear of an audit
It should be noted that the IRS has switched its focus from large corporations to smaller business entities like sole proprietors, LLCs, partnerships and S corps, and as such, small businesses are even more under their watch than big corporations. So, while it makes good financial sense to explore all your options for reducing your tax bill, you need to be careful.
If your deductions look suspicious to the IRS, the agency might select you for an audit. As a small business owner, you are advised to keep your personal and business expenses separate, because the IRS are always on the lookout for personal expenses reported as business expenses. Also, always endavour to report full, gross income before any fees, such as those for credit card processing, etc.
- Claim instant write-off for assets costing less than $6,500
As a small business in the USA, you are entitled to claim an immediate deduction for “individual” assets costing less than $6,500, GST exclusive. This immediate write-off applies equally to the purchase of new and second hand assets which are used in the business.
If multiple assets are acquired costing less than $6,500 in total, you are entitled to an immediate write-off for each asset. For example, if you buy four laptops each costing $2,000, the business is entitled to claim an immediate deduction for the entire $8,000 even though the total cost exceeds $6,500.
- Stay under the concessional super contribution radar
The tax deductible cap for the 2012/13 year was $25,000 for all individuals regardless of age. This cap also applies to self-employed individuals who can claim a 100 percent deduction where they satisfy a 10 percent test. Employer super guarantee contributions and salary sacrifice contributions are included in the $25,000 cap.
When a concessional contribution is made which exceeds the amount, the excess is taxed to the fund member’s account at an effective rate of 46.5 percent. This should be avoided at all cost. Check with your super fund on the amount of contributions received so far in the financial year before making any extra contributions.
- Claim a deduction for pre-paid expenses
If you are a small business, you are allowed to claim an immediate deduction for certain prepaid business expenses where the payment covers a period of 12 months or less that ends in the next income year. The most common expenses that you should consider prepaying by 30 June include lease payments, interest, rent, business travel, insurances, business subscriptions, etc.
- Write-off bad debts
If your business accounts for income on a non-cash basis and has previously included the amount in assessable income, a deduction for a bad debt can be claimed as long as the debt is declared bad by 30 June. Your business will need to show that it has made a genuine attempt to recover the debt by 30 June to prove that the debt is bad. Your business can also claim back the GST paid on debts that have been written off as bad, or the debt has been outstanding for 12 months or more.
- Use Payroll Tax Software
Statistics has it that approximately one-third of all companies get fined each year for incorrect handling of payroll taxes. This is due in large part to the fact that around 40% of businesses with employees try to handle payroll on their own, using paper or spreadsheets without the assistance of a third party. Don’t get caught in this trap. You can get a payroll tax software to help you automatically calculate, deposit, and file payroll taxes for you.
- Keep Business and Personal Accounts Separate
A lot of small businesses make the mistake of merging their business and personal funds. It’s very pertinent in business to have a separate business checking account and credit card account for your business. This will make things a lot easier when it comes to managing your books and getting your deductions organized for tax time. In the event that you are audited by the IRS, you want to make sure that you can produce documents that support legitimate business expenses.
- Get Organized
Another way you can reduce tax on your small business is to get prepared. Any business person who is not prepared for tax time may have pay more in fines or claim fewer tax deductions. By implementing just a few things into your daily, weekly, or monthly routine, you can remove the stress that the tax season brings on, and also save some money.
To start, you can set up a filing system to help you keep your paperwork in one place. You can separate the file by months and keep all corresponding receipts in them. You should also set aside a few hours each month to organize all of the paperwork in the folder. During this time, you want to reconcile your bank and credit card accounts by matching up your receipts with the statements received from your bank.
- Take advantage of the Auto Expense Deduction
If you use your car for your business, you can deduct car expenses. This is a good way a small business can save money on tax. You can deduct actual car expenses like gas, repairs, and insurance. However, if you use the car for personal and business, you will need to calculate the percentage that the vehicle was used for business purposes first and then apply that percentage to the total car expenses.
For example, if you drove your car a total of 15,000 miles and based on your mileage tracker 6,000 of those miles were for business, then you would divide 6000/15000 which equals 40%. Therefore, you can deduct 40% of your total car expenses as a business deduction. You can download apps that can help you keep track of your mileage.
- Deduct Business-Related Meals
A business is allowed to deduct 50% of meals that are considered business-related. This is another method a small business can reduce the money leaving its coffers in the form of taxes. A business deductible meal can include taking a client – or even a potential client – out to lunch.
It could also include ordering pizza for the office as a special treat for your employees. Just make sure that these meals are not lavish or extravagant. Though you should know where to put the brakes. Do not go overboard because you can write off half of the cost, it would still hurt your business in the long run.
- Take advantage of equipment or property deduction as provided in Section 179
The section 179 deduction allows you to recover the full cost of your equipment or property up to $500,000 for the 2017 tax year ($1 million for the 2018 tax year) that you purchased for your business in the same year that you purchased it. This is much better than recovering the cost over a period of time – like 5 or 10 years – through depreciation deductions.
- Send Your Tax Returns Electronically
To save money while filing your tax returns, you have to consider sending them electronically. By doing this, you will have the confidence that your tax return is received on time, and you would also save the money that you would have spent to send your return via snail mail. Most tax software programs will allow you to e-file your federal tax return for free.
When you e-file, you receive a confirmation number after the IRS has successfully received your tax return. This is a much better alternative than dropping your return in the mail and wondering when or if it will be received. If you are expecting a refund, chances are an electronic tax return will be processed much faster than one received via snail mail.
- Be an early tax bird
Filing your tax returns early is another way to save your small business a lot of tax money. If you fail to file your tax return on time and pay any taxes that are owed (in addition to interest), you will face penalties. The minimum penalty for certain tax returns filed 60 days late or more is $205.
If you owe less than $205 then the penalty is 100% of the unpaid tax. Otherwise, the penalty can be as much as 5% of your unpaid taxes each month up to a maximum of 25%. Note that if you are able to file your tax return on time but you do not have the money to pay your tax bill, it is advisable to go ahead and file the return. By filing the return, you can at least avoid the failure to file a tax return penalty.
- Go over your tax return carefully
This is especially advised when you hire a CPA or tax professional to prepare your tax return for you. Ensure that you go over every detail of the tax return with him or her before you append your signature to it. Your signature at the bottom means that you agreed 100% with what is being reported about your business. At the end of the day, the IRS will hold you (not the tax preparer) responsible.
- Always check out the IRS video portal
To help you stay on top of changes to the tax code that could save your money, the IRS has a video portal that is dedicated to small businesses. This library includes over a dozen videos that can help entrepreneurs start and run a business legally and as well how to take advantage of the numerous tax deductions.
- You may need a Tax Professional
Though it is great to want to prepare your own tax returns by yourself, but it is advisable sometimes to consider using the services of a professional. One good thing about tax professionals is that they are quite affordable these days.
An experienced tax professional has seen everything and knows how to get you the most favorable tax deductions and benefits. This usually saves the taxpayer or business at least as much as the fee the tax pro charges, plus you get the added benefit of being sure that your returns were prepared and filed properly.
- Donate Unused Inventory
If you have unsold or unused inventory, it is advisable to donate it. Giving out these items would enable you get the tax deductions instead of spending cash to store them. Company donations of money, supplies, and property are all considered deductible expenses. Supporting local non-profits is not only smart tax wise; it helps establish your company as a caring member of the community. However, be aware that donations of goods greater than $500 have stricter reporting rules.
- Deduct Your Medical and Charitable Miles
Automobile miles are not the only business miles that get to receive deduction. You can deduct mileage driven for medical purposes as well as miles driven for charitable purposes. It is always important to track your mileage for both business and personal purposes as a lot of personal miles can also be deducted. Ensure that you calculate and file these properly so you can use them when it is time.
- Pay Estimated Taxes
Make sure enough that your estimated taxes are paid throughout the year to avoid interest and penalties. It has been discovered that many sole proprietors do have a very difficult time remitting quarterly taxes because they are used to spending their entire paycheck, not understanding that the money they get when they are self-employed includes their tax money too.
As a result, many small business owners are unable to pay their tax bills because they didn’t budget properly and are hit with interest and penalties. To avoid this, you have to make sure to always remember to keep aside finances for taxes.
- Take the Home Office Deduction
Home office deductions is another way a small business can reduce tax costs, but it has been discovered that a good number of home-run businesses don’t even realize that having a home office exclusively used for activities related to the business makes them eligible for a deduction.
It is advisable for a small business to make a note of everything relating to the way they run their business and report to their CPA. It is better to include all the unnecessary details than to leave out something that would help you get a tax deduction.
- Consider deferring your expenses
You may have to consider billing that big December project in January as this will reduce the company’s taxable income. But you have to make sure you aren’t upending the customer’s own tax strategy by holding an invoice until the New Year.
- Consider spending at the right time
End of the year is definitely time to buy that new laptop, replace the faded sign out front, purchase some books for continuing education, and essentially every other thing that does not seem urgent. Know that everything you spend on business needs in these waning days of the year will reduce the company’s taxable income. You can even purchase a new vehicle as vehicles weighing more than 6,000 pounds could net you a depreciation deduction of up to $25,000, depending on how much you use it for the business.
- Take advantage of fully deductible business expenses
For the self-employed, business expenses are deductible in full directly from gross income. You can deduct any expenses that are ordinary and necessary to run your business, even if they benefit you personally, but you need to know where to draw the line so as not to risk penalties.
- Write off your child’s college education expenses
If you frown at the high cost of college education, this tax strategy is for you. If you put your child on the payroll of your business for performing office chores and other business-related tasks, you can pay each child a certain sum a year and that amount will be canceled out by the child’s own standard deduction. Your child can pay for or save for his or her college education with the deductible wages you pay, and there will be no payroll taxes for your child if he or she is under age 18.
- Deduct auto mileage to and from your job
You can do few minutes of work for your small business before you leave the house for your office, and when you return to your house after work. Make sure you document this activity (a few e-mail messages, letters, or phone calls) each day in your day planner, journal, or other permanent document, and also keep a written record of your mileage. This allows you to deduct this mileage as miles between jobs.
- Deduct your vacation travel expenses
One way to take advantage of this small business tax deduction is to combine business (a meeting with a client or possible client, checking out some material or resources for your business, etc.) with your vacation travel. As long as your trip is documented in advance, showing an intent to build your business in some way, your travel expenses become business expense deductions. Meals, hotel rooms, plane tickets, car rentals, and even certain expenses for entertainment are deductible as business expenses with proper documentation.
- Deduct phone, Internet service, and utility bills
If phone calls, Internet service, or utilities are used for legitimate business purposes, then, with proper documentation, they become tax-deductible business expenses. If you have a credit or debit card solely for your business -and you probably should -the annual fees and interest payments are also tax-deductible business expenses.
- Cut your taxes when selling appreciated assets
If you are planning to liquidate some appreciated assets such as stocks, you may have to consider giving the actual stock asset to your child or other trusted family member who has a lower tax bracket. When that person sells the assets, he or she will pay taxes at the lower tax rate. You are also allowed to deduct the full value of the assets as a charitable contribution, and neither you nor the organization will pay any capital gains taxes on the assets.
- Take note of asset depreciation
If your business turns over less than $2 million, depreciating assets (including motor vehicles) valued at less than $1,000 will be immediately deductible, and assets valued at more than $1,000 will be depreciated in one pool at a rate of 15 per cent in the first year, and 30 per cent in future years.
- Tools of trade is deductible
The purchase of Tools of Trade and other FBT exempt items for business owners and employees can be an effective way to buy equipment with a tax benefit. These items include handheld/portable tools of trade, computer software, notebook computers, personal electronic organizers, digital cameras, briefcases, protective clothing, and mobile phones. It is recommended to try to get these items before 30 June, if you can.
- Be current with law changes
The tax law is constantly changing, with major legislation, court cases, and IRS rulings appearing frequently throughout the year. Many of these developments present positive tax opportunities. If you know that these things exist, you can start acting on them on time. Often, waiting until the annual meeting with your accountant may be too late to learn about and act on these opportunities.
- Adopt an “accountable plan”
If you have employees and you reimburse them for using their vehicles on company business, adopt an accountable plan to save them income taxes and save the company payroll taxes. This arrangement lets you reimburse an employee for business expenses without having to treat the reimbursements as income to them. The reimbursements are not included in the employees’ W-2 form (the employees are not taxed on the reimbursements) and the company saves payroll taxes (FICA and unemployment taxes) on these amounts.
- Consider adding to employee benefits instead of raises
One way to save on taxes for your business and your employees is to compensate them by increasing your contribution to their health insurance costs instead of giving them the same amount in terms of a salary increase. Giving employees benefits would help eliminate certain taxes that would have come up if the employee was given a raise.
- Don’t overlook carryovers
Certain deductions and credits have limitations that can prevent you from using them fully in the current year, but could permit a carryover to future years. Keep track of carryovers so that you won’t forget to use them in future years (this is done automatically by most tax preparation programs and should be done by any tax professional you use). Example of these include; Capital losses, Charitable contribution deductions, General business credits, Home office deduction, Net operating losses (limited to 80% of taxable income) etc.
- Consider the benefits of abandoning property rather than selling it
If property has no value to the business, talk to your accountant about the benefits of abandoning it rather than selling it for a nominal amount. This could allow the business to take an ordinary loss on the property, which is fully deductible, rather than treating the loss as a capital loss, which is subject to limitations. Depending on the property, it may be classified as Section 1231 property, a loss on which may be ordinary or capital, depending on other Section 1231 transactions for the year and prior Section 1231 losses.
- Utilize the Welfare-to-Work Tax Credit
The “Work Opportunity Tax Credit” (WOTC) program, which incorporates the “Welfare-to-Work” federal tax credit, are incentives designed to encourage the hiring of individuals from certain groups that have an especially high unemployment rate or other special employment needs, such as Veterans, ex-felons and high-risk youths. Businesses that qualify to participate in the WOTC program can reduce their federal tax liability up to $2,400 per hire.
The Welfare-to-Work tax credit provides an incentive to businesses to help individuals move from welfare to work, and companies that hire under this category of the WOTC can reduce their federal tax liability up to $9,000 over two years for each qualified new employee.
- Pay Your Bills by Year’s End
If your business-related bills (rent, phone, electricity, etc.) are due in early January but cover expenses incurred in the previous year, pull out the checkbook before the start of the New Year and pay off those bills. All of those expenses can help reduce your tax burden in mid-April.
- Split your income with your life partner
Another tip that can help you reduce your small business tax is to consider allocating some of your business’ income to your life partner. Since you live together, you might always discuss about the business and may have gotten advice from him or her, so it is wise to pay your life partner a small salary so you can take advantage of a lower tax rate. You need to check with your accountant or advisor to know if this is allowed in your area.
- Deduct your startup expenses
You may be able to deduct the expenses paid to start your business, such as advertising, transportation, consultant fees, travel, employee training and wages, and legal and accounting fees. You can deduct up to $5,000 in qualifying startup costs and up to $5,000 in organizational costs. Both deductions phase out when your total startup expenses or organizational costs hit $50,000.
Each $5,000 deduction is reduced by the amount in startup costs that exceed $50,000. Note also that if you have more than $55,000 in expenses, no first-year deduction is allowed and you’ll need to amortize all your startup and organizational costs over the next 180 months of operation, according to the IRS.
- Take advantage of tax, legal and educational expenses
It should be noted that the fees paid to your accountant, lawyers or business consultants that are necessary expenses directly related to operating your business, they are deductible in the tax year they were paid. However, legal fees that are paid to acquire business assets are not deductible. Other eligible deductions may include tax-preparation fees paid in the previous year, licenses and regulatory fees paid to state or local governments, and expenses paid for the cost of education and training for your employees.
- Take advantage of penalty relief if you qualify
If your business happens to incur an IRS penalty, you need to determine whether you’re eligible for penalty relief. Some penalties such as penalties for failing to file a tax return or to pay on time, are eligible for penalty relief. People who can be considered for relief include those who tried to follow the legal requirements but were unable to meet them due to circumstances beyond their control, or those who were able to resolve an issue pointed out in their penalty notice.
- Take Advantage of Small Business Tax Credits
One other effective way to maximize your tax refund as a small business owner is to apply for every tax credit you qualify for. Tax credits are usually offered by the IRS to incentivize businesses for completing certain objectives such as hiring a veteran, setting up a retirement plan, providing child care services to your employees, or installing an energy-friendly system.
Tax credits directly reduce your tax burden, as opposed to tax deductions which reduce the amount of your taxable income. You just have to find out the credits that are available for your business. You can visit the IRS website for that information.