Editor’s Note: This article contains general information and is not intended to be a substitute for professional accounting advice. Please consult an accountant before making any decisions about your finances.
Entrepreneurs must file their small business taxes differently than their personal income taxes. In some cases, business owners can file their business and personal taxes together, depending on their company’s legal structure.
The Internal Revenue Service (IRS) publishes complete taxation information for business owners and self-employed individuals. Companies’ tax obligations differ depending on legal structure, the number of employees, and annual income. Business owners can contact the IRS and their state or local tax officials for additional information.
Which Business Structure Should I Use?
Owners must choose a business structure before registering their company. Four main business structures apply: sole proprietorships, partnerships, limited liability companies, and corporations. Owners can choose their business structure, or their company’s operational setup can dictate it.
Typically, business income is taxed at the same rate as the owner’s personal income rate. However, exceptions apply to a class of corporations known as “C corporations,” which pay a flat rate. The following subsections break down the characteristics of the various business structures in further detail.
This common and simple business structure applies to companies owned by a single individual. Business owners do not need to take administrative action to establish a sole proprietorship. Instead, the classification automatically applies to business activities undertaken by an individual on their behalf.
Sole proprietorships are easy to manage. The owner maintains control over all business-related decisions.
However, in sole proprietorships, there is no legal distinction between the owner’s personal and business assets and debts. Therefore, owners can be held personally liable for financial obligations and debts accrued by the business, such as loans, liens, and credit card balances. Because of this, owners of sole proprietorships occasionally face barriers when securing financing as lenders perceive them to pose more risk.
Owners of sole proprietorships can find the relevant forms for their small business tax filings on the IRS website.
The U.S. Small Business Administration (SBA) describes partnerships as the simplest structure for businesses owned by two or more people. Owners in partnerships are liable for negotiating the terms of the partnership agreement.
Partnerships come in two main forms: limited partnerships (LP) and limited liability partnerships (LLP). In both cases, the legal concept of “limited liability” applies. This means individual owners cannot be held personally responsible for business losses that exceed their investments in the company. Limited liability applies to all partners in an LLP. However, in an LP, only one owner has unlimited liability while others have limited liability.
The following table explains the other main differences between LPs and LLPs:
|Limited Partnership (LP)
||Limited Liability Partnership (LLP)
- One general partner has unlimited liability, while all other partners have limited liability.
- The partner with unlimited liability usually has more control over the company, while those with limited liability have less control.
- Partners with limited liability pass profits through their personal tax returns.
- The partner with unlimited liability must pay self-employment and personal income taxes on profits.
- All partners have limited liability.
- Each individual partner is protected against debts resulting from the decisions and actions of other partners.
- All partners pass profits through to their personal tax returns.
- Self-employment taxes do not apply. An LLP does not support unlimited liability ownership.
The SBA generally recommends partnership structures for businesses with multiple owners or groups, such as law firms. Partnerships also offer advantages to startup business owners who want to determine their company’s performance potential before deciding on a permanent structure.
IRS registration and tax forms for partnerships are available here.
Limited Liability Company
A limited liability company (LLC) operates like a partnership but distributes earnings to individual partners as income. Each partner self-reports their income on their personal tax return. LLCs also protect partners from liabilities. Individual owners have no personal responsibility for company debts unless they personally secured those debts.
Any number of owners can form an LLC, which offers some tax advantages over limited partnerships. Partners can deduct company losses from their personal incomes, potentially reducing their tax burdens.
However, the owners in an LLC face restrictions in transferring their stake in the company to another individual or entity. Additionally, profits are subject to self-employment taxes, set at 15.3%.
For more information, and for pertinent tax forms, visit the IRS page on limited liability companies.
Corporations are business entities that remain separate from shareholders. Corporations offer owners the most protection from personal financial liability. However, these businesses also face the highest operational costs and must adhere to strict reporting and accounting standards.
Unlike companies registered under other business structures, most corporations pay taxes on profits. If the corporation issues stock to owners and investors, any dividends are subject to additional taxation as personal income. However, corporations generally have an easier time raising capital than other types of businesses by issuing stock and seeking institutional financing.
The IRS makes additional distinctions between C corporations and S corporations, summarized in the table below:
- Companies that incorporate are considered C corporations by default.
- C corporation profits face double taxation: once through corporate income tax and again when distributing profits as dividends to individual owners or shareholders.
- An unlimited number of shareholders can own a C corporation.
- Anyone can own a C corporation.
- Companies must file special paperwork like the IRS Form 2553 to gain S corporation status.
- S corporations face no corporate tax. Instead, they follow a “pass-through” taxation system where owners and investors claim profits and losses on their personal income tax filings.
- A maximum of 100 shareholders can own an S corporation.
- All S corporation owners must be U.S. citizens.
Visit the IRS website to obtain forms pertinent to C corporations and S corporations.
Which Types of Taxes Do I Need to File?
United States tax codes require business owners to file returns at the federal, state, and local levels. Small business tax rates and liabilities vary depending on several factors, including the company’s income, business structure, and location.
The following subsections detail how business taxes function across various jurisdictional levels:
At the federal level, small business taxes include income and employment taxes. Depending on the company’s structure and location, businesses may also be liable for self-employment and excise taxes. The federal tax categories breakdown as follows:
- Income tax: Following a “pay-as-you-go” structure, income tax applies to earnings from business ventures, employment (or self-employment), investments, and other sources. Companies structured as C corporations also pay income tax on profits.
- Employment tax: TheIRS requires businesses to report and make deposits on various employment taxes. These include withholdings on income paid as wages to individual employees and both employer and employee contributions to Social Security and Medicare under the terms of the Federal Insurance Contributions Act (FICA). Companies must also pay unemployment taxes as required by the Federal Unemployment Tax Act (FUTA).
- Self-employment tax: Self-employment tax applies to individuals who operate sole proprietorships. These taxes sometimes extend to business owners whose companies follow other legal structures. As of 2021, the self-employment tax rate covers 15.2% of net earnings, of which 12.4% goes to Social Security and 2.9% goes to Medicare.
- Excise tax: This type of tax applies to businesses that sell certain products or perform certain services. Alcohol, tobacco, and fuel are the main business categories subject to excise taxes. They also extend to coal mining, oil and gas extraction, sports betting, indoor tanning salons, aircraft management, and several other product and service categories.
State and Local
State and local tax laws vary among jurisdictions. Business owners must contact their state and local tax authorities to ensure they meet all applicable tax obligations. Several types of common state and local taxes are listed below:
- Income tax: Many municipalities and 43 states impose their own income taxes, which taxpayers must submit in addition to their federal taxes. Furthermore, 44 states charge additional income taxes to C corporations.
- Employment tax: If state and local income taxes apply in the jurisdiction where the business is based, owners must also withhold and report applicable taxable income paid to employees. Many states have reciprocity agreements that cover multi-state employment situations, ensuring individuals do not face double state-level income tax liabilities.
- Property tax: Businesses that count real property among their holdings are subject to property taxes, just like individual homeowners. State and local authorities calculate property tax obligations based on the assessed value (not the market value) of the property. The IRS allows business owners to deduct some property taxes from their federal tax liabilities.
- Sales tax: A long list of municipalities and 45 states impose sales taxes on retail transactions involving certain classes of goods and services. Businesses are liable for remitting these taxes. Additionally, complex rules apply to online transactions. Online business owners must follow all applicable sales tax regulations as lawmakers regularly change and update them.
Accounting Resources for Small Businesses
When Do I Need to File Small Business Taxes?
Companies can designate an accounting period the first time they file their taxes. The IRS classifies accounting periods as tax years, and offers three options:
- Calendar tax year: Calendar-based accounting periods cover the 12 months beginning on Jan. 1 and ending on Dec. 31.
- Fiscal tax year: Fiscal years cover periods of 12 consecutive months that end on the final day of any month but December.
- Short tax year: Short tax years cover accounting periods of less than 12 months. It occurs when a company starts midyear or changes from a calendar to a fiscal tax year or vice-versa.
Quarterly Estimated Taxes
While personal income taxes are due on April 15, business taxes follow separate deadlines. Instead, businesses must meet quarterly deadlines as specified in the table below.
The rationale behind the quarterly business tax system reflects the “pay-as-you-go” income tax system used in the United States and many other countries. Quarterly taxes simplify wage administration and reporting requirements. It also shields federal, state, and local tax authorities from revenue losses resulting from business failures. Notably, the system results in tax withholdings for employees but not necessarily for employers or business owners, depending on the company’s structure.
|Jan. 1 – March 31
|April 1 – May 31
|June 1 – Aug. 31
|Sept. 1 – Dec. 31
||Jan. 15 of the next year
Are There Small Business Tax Deductions and Credits?
Small business tax deductions can reduce taxation obligations. They allow owners to subtract certain costs and expenses from their taxable profits or incomes. Business tax deductions apply to all for-profit companies operating in the United States. Common business tax deductions cover expenses like start-up costs, equipment purchases, supplies, and use of facilities and vehicles for business purposes.
Small business tax credits can lower a company’s tax burden. These credits can directly reduce the amount of taxes a company owes rather than reducing its taxable income. This IRS resource explains available tax credits and how they work in more detail.
What Accounting Help Can I Get?
Accounting is an important aspect of running a business since complicated rules govern federal, state, and local business tax laws. For many business owners, figuring out what they owe and how to file small business taxes are major accounting tasks.
Small business tax software primarily benefits owners with an understanding of taxation and accounting essentials. Entrepreneurs without this knowledge can hire accounting professionals, either by outsourcing them or hiring them internally.
In the meantime, enterprising business owners can enroll in accounting courses, certificate programs, or even associate degree programs to fill knowledge gaps. This initial investment can lead to cost savings longer term, especially for companies with limited growth ceilings.
Learn more about accounting education options:
FAQs About Small Business Taxes
What is considered a small business?
This depends on several factors. In classifying a small business, tax authorities and organizations consider the company’s size and annual revenue. Specific requirements vary among industries and are listed in Title 13 Part 121 of the Electronic Code of Federal Regulations.
Do I have to file small business taxes?
You may have to. According to IRS regulations, all companies must file income tax returns except for partnerships. However, in sole proprietorships, there is no legal distinction between the business and the person operating it. Income is taxed through the owner’s tax return.
What taxes do I file for my small business?
Businesses must pay income and employment taxes at the federal level. Depending on the businesses’ location, it may also have to pay taxes at the state and/or local levels. Additionally, self-employment, excise, property, and sales tax can apply.
What is the average small business tax rate?
According to the SBA, the average small business tax rate is 19.8%. Under the 2018 Tax Cuts and Jobs Acts, C corporations pay a flat tax rate of 21%. However, actual rates for small businesses vary depending on its income and legal structure.
Can I use small business tax software?
Yes. Small business tax software offers an efficient and convenient way for entrepreneurs to manage their tax obligations. However, tax software has some limitations. It tends to benefit users with a functional working knowledge of accounting and taxation.
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