If individuals complain about income taxes, imagine just how much more burdensome it is for businesses, who are charged far higher. Luckily, there are legal ways to deduct business taxes and maximize profits in turn. The key is to plan ahead, understand what you can deduct, and prepare your tax returns properly.
Doing your tax deduction measures right is crucial, as one mistake can increase your tax bill immediately. That said, here's everything you need to know about business taxes, and what you can do to reduce them:
Understanding Business Taxes
Businesses are charged with four types of taxes, which are the following:
- Income tax – In the case of a C corporation, income taxes are paid for by the company, and the shareholders are charged individually as well. On the other hand, in S corporations, limited liability companies, sole proprietorship, and partnerships, the owners pay income tax from their shares of the business's income.
- Employment tax – Business owners are required to withhold income taxes, Social Security, and Medicare from their employee's paychecks. They must also pay for their employees' FICA share, as well as state and federal unemployment tax.
- Sales tax – If your business operates in a state that collects sales taxes, the prices of your products or services have to be inclusive of the sales tax.
- Excise tax – Depending on the type of business you run, you be subject to an excise tax on fuel, use of heavy trucks and various kinds of equipment, and other activities.
If you are the sole employee of your business, you will be subject to self-employment tax, which will cover your Social Security and Medicare.
Ways to Reduce Business Taxes
Now that we've gained a basic understanding of business taxes, let's explore the smart ways to reduce them.
1. Contribute to a Retirement Plan
Retirement plan contributions can be tax-deductible and paid for only when you start taking money from the plan.
2. Implement an "Accountable Plan"
In this plan, the reimbursements you make to your employees won't be treated as income to them. Your employees will thereby not be taxed on the reimbursements, and you can reduce payroll taxes.
3. Make Deductions in Advance
If you have bills to collect near the end of the year, send those out on the beginning of the following year to save on taxes for the current year. Meanwhile, if you have payments due on January, pay them in December to benefit on its tax deduction on the current year.
4. Raise Employee Benefits Instead of Salaries
To lessen income and unemployment taxes, just raise your employees' Social Security and Medicare contributions instead of giving them a raise.
5. Start a Captive Insurance Company
A captive insurance company is considered a "tax shelter" for small businesses. This is because the premiums you pay can be tax-deductible if the terms meet certain risk-distribution standards. However, the IRS may still challenge these deductions, so it's best to work with a professional as your form a captive insurance company. This ensures your compliance with tax laws, sparing you from potential legal issues.
6. Change the Structure of Your Business
Lastly, an effective but commonly overlooked way to reduce taxes is by changing your business's structure. For example, if you're an S corporation and your first $50,000 income is in the highest tax bracket, you can gain a tax advantage by changing your structure into a C corporation, and have that income taxable by only 15%.
Of course, change your business structure only when it's needed and justifiable. That way, you can maximize your income while saving on taxes, allowing you to make more investments for your company's growth.