Tax season is a time of jubilation for many people — over half of all taxpayers receive a refund. However, for the self employed, tax time is usually more of a hassle than a pleasure, and paying in is typically the norm. If you want to get a grip on your small business taxes, here are some tax tips to help you.
- Know Your Effective Tax Rate
To stay on top of your small business taxes, you need to know your effective tax rate. Simply take the top line of your earnings, before expenses, and divide that by your tax bill for the year.
For instance, let’s say you earned $60,000 last year and you owed $5,000 in federal taxes. That gives you an effective tax rate of 8.3%. That takes into account your Social Security contributions, Medicare tax, income tax and personal tax credits. This number gives you a baseline estimate of the percentage of revenue you should set aside for taxes.
- Set Aside Taxes Each Time You Get Paid
To ensure you’re never short on your tax bill, set aside a set percentage of your revenue each time you get paid or on a regular basis when you settle up your books. This money should be exclusively reserved for taxes, and you shouldn’t dip into the account when you’re short of working capital. The Internal Revenue Service will forcibly close your business if you get behind on tax payments.
- Don’t Forget Quarterly Payments
As a self employed person or sole proprietor, you may need to pay quarterly taxes. As a general rule of thumb, the Internal Revenue Service requires you to pay quarterly tax if you owe more than $1,000 in tax. However, the first year making over that amount, you don’t have to pay quarterly taxes and you can wait until April to take care of your tax liability.
- Maximize Write Offs
To reduce your tax liability, you need to maximize your write offs. Generally, you can write off any expenses you incur in the course of doing business, but the IRS stipulates that the expense must be usual for your business and necessary.
If you’re not sure of which expenses to write off, consult with an accountant who is familiar with your industry. They can help to ensure you don’t overlook anything.
- Don’t Forget the Home Office Deduction
The home office deduction is a useful way to write off many of your home expenses as business expenses, and you don’t want to overlook this deduction. To qualify, you must use part of your home exclusively for work or meet with clients there on a regular basis. Then, you can write off a percentage of your home bills (repairs, utilities, rent, insurance, etc) based on the percentage of space that your office takes up.
- Learn About the Section 179 Deduction
In most cases, when you make a capital purchase (a significant investment such as computers, manufacturing equipment, etc), you have to write off the expense slowly over a number of years. However, Section 1790 of the tax law allows you to write off capital expenses in the year they occur, and that can greatly reduce your tax liability. To qualify, the expenses must be for less than $500,000 — you can only claim $2 million per year.
- Remember to Track Your Mileage and Vehicle Expenses
If you use your vehicle for work, the IRS also lets you claim a business deduction for that. There’s two possible ways to claim this deduction. You can claim a set rate based on the number of miles you drive. Alternatively, you can claim a portion of your total vehicle expenses based on how often you use your car for your business.
Imagine you use your car half the time for work — in this case, you can claim half of your insurance, repairs, leasing costs and related expenses as business expenses. Track vehicle expenses both ways through the year and then claim the biggest deduction.
- Claim Meals and Entertainment
If you buy a client coffee or dinner, make sure you keep the receipt. You can write off half the cost as a business expense. In case of an audit, keep notes about the dinner — a few notes about who you met, what was discussed and how it relates to work are all you need.
- Don’t Leave It All to the Last Minute
Theoretically, you can leave all of your business taxes to the last minute, but this approach can be stressful, and it increases the chances that you may miss a deduction or make a mistake on your return. Instead, set aside time on a regular basis to log receipts, calculate expenses and lay the groundwork for the current year’s tax return. Depending on how much business you do, you may want to schedule time quarterly, monthly or even weekly in some cases.
- Consider Accounting Software
Finally, consider using accounting software. That makes it easy to stay on top of your expenses throughout the year, and when tax time comes, you can sync your accounting software with your tax prep software. That will auto populate your tax return and make tax time that much easier.
To recap, when it comes to small business taxes, it’s important to track income and expenses regularly so you don’t get overwhelmed at tax time. It’s also important to understand key deductions so you can optimize your return. Finally, invest in tools such as accounting software that can help you stay on top of things.