Whether you’re already familiar with small business taxes or you’ve only managed your personal taxes in the past, you’re likely aware that taxes can be complicated. Managing your small business’s accounting and taxes can be overwhelming as a new business owner. It’s highly recommended to become familiar with the different federal, state, and local small business tax rates you will be responsible for. Additionally, there are various tax-cutting tips you can take advantage of as we approach the tax season.
Understanding the Small Business Tax Rate
The small business tax rate for the 2020 tax year is a flat 21% for a C-corporation and will remain for the 2021 tax year. Businesses pay different amounts in taxes based on their entities, even while the average small business tax rate is 19%. Determining your final small business tax rate can be challenging, which is why it’s essential to consider each factor that may affect your final tax bill, like tax deductions, net operating losses, and tax credit eligibility. Each of these factors can impact the amount of federal income tax your business pays, so much so that a similar company bringing in the same net income for a tax year can end up paying different amounts.
As you prepare for tax season, it’s recommended to plan ahead by setting aside funds to cover your tax responsibilities. You must also take time to become familiar with the different federal, state, and local small business tax rates.
Types of Small Business Tax Rates
Small business owners have many types of small business tax rates that should be kept in mind. The Tax Cuts and Jobs Act (TCJA) lowered the U.S. corporate income tax rate from 35% to 21% in 2018, which means you won’t pay more than a 21% rate. However, if dividends or distributions are taken from a business, you may be subject to a different capital gains tax rate. Many say C-corporations are subject to double taxation since C-corporations pay corporate tax rates and taxes on dividends.
Some businesses like pass-through entities, S-corporations, limited liability companies, and general partnerships have a different type of federal small business income tax rate. The business income is reported on personal tax returns, and taxes are paid at the individual’s tax rate. An individual tax rate is determined by taxable income and single or joint filing status. Below are examples of the small business tax rates small business owners are encouraged to account for:
- Income Tax Rate for C-Corporations
- Dividend Tax Rates for C-Corporations
- Pass-Through Entities and Sole Proprietorships Income Tax Rates
- Social Security Tax
- Medicare Tax
- Federal Unemployment Tax
- State Unemployment Tax
- Excise Tax Rates
- Sales Tax Rates
- Property Tax Rates
State Small Business Tax Rates
Federal taxes aren’t your only responsibility as a small business owner. Your company will also be responsible for complying with state and local taxes. State and local tax obligations vary by location as each requirement is created exclusively at state and local levels. If you’re unsure of which state and local taxes you’ll be paying, it’s recommended to contact your state’s business tax agency immediately. Most commonly, there are three models utilized for state small business tax rates:
- Corporate Income Tax
- Gross Receipts Tax
- Franchise Tax
Tips to Help You Prepare for Small Business Tax Rates
As a small business owner, you likely hold your income close as you need these funds to keep your business on track. As tax season approaches, it’s not uncommon for you to seek ways to increase revenue while minimizing expenses and tax payments. Luckily, there are various tax-cutting tips you can take advantage of to help lower your tax liabilities this season.
Change to a Different Tax Structure
When you started your small business, you were required to choose how you wanted your company to operate. Small businesses usually operate as sole proprietorships, partnerships, limited liability corporations (LLC), S-corporations, and C-corporations. Over the years, it’s likely your busy has changed in some way, meaning the original structure you selected may no longer be applicable or beneficial when it comes to filing taxes. It’s recommended to consider the difference between S-corporations, C-corporations, and LLCs regarding tax rates. An easy way to lower your tax liabilities is by submitting a tax structure change, especially if you’re electing to be taxed as a C-corporation.
Check Your Eligibility for a 20% Tax Break
Your business may be eligible for a qualified business income (QBI) deduction, but determining whether you’re eligible can be challenging as various restrictions can disqualify you. If your company is categorized as a specified service trade or business (SSTB), you may earn too much income or rely too specifically on an employee’s or owner’s reputation or skill. If so, your business will likely lose out on the deduction. Companies that aren’t categorized as an SSTB are eligible to take the QBI deduction even if they pass the income threshold’s upper limits. However, the deduction can only be applied to half of the business owners’ share of the W-2 wages paid or a quarter of those wages plus 2.5% of their share of qualified property.
Plan a Date for Paying Taxes
Small business owners around the country work hard to generate revenue each year, and reaching your quarterly goals is rewarding. However, it’s essential to keep the looming tax season in the back of your mind to ensure ample funds are being set aside. While there’s a designated day that taxes are due each year, it can be helpful to submit payments each quarter. Setting up payments in this way will help you avoid incurring penalties, interest, and aren’t set back by a large tax payment. Below are the quarterly dates that small business owners should consider planning for:
- January 15th
- April 15th
- June 15th
- September 15th
Carefully Select Your Accounting Method
Every small business owner adapts and develops their own strategy for calculating revenue and income. However, the cash method of accounting is quite popular and is based on when funds are received instead of when an order is placed and expenses being counted when paid rather than when an item or service is ordered. It’s recommended to adjust your approach to how annual income is reported depending on your prediction for next year’s income level or if you anticipate being in a lower tax bracket. The following scenarios should be considered as they can impact your tax deductions:
- Hiring new employees
- Planned improvements
- Office supplies
- And more
Establish and Make 401(k) or SEP Deposits
If you haven’t already contributed to a 401(k) plan or Simplified Employee Pension (SEP), it’s highly recommended you start considering it. Contributing to a retirement account is one of the most innovative ways to lower your taxable income. These contributions also help secure the future of your company and benefit you and your employees. Establishing a 401(k) before year-end allows you to deduct any contributions made. However, if you don’t have a 401(k) set up before year-end, you can set up a SEP as an alternative for contributions.
Plan for Your PPP Loan to Be Forgiven
During the COVID-19 pandemic, small businesses around the country took advantage of the PPP loans that the government offered to stay afloat and overcome unpredictable obstacles. However, you must account that while forgivable loans can be excluded from gross income, any expenses associated with the funds received aren’t eligible for deduction. It’s recommended to still plan on your PPP loan being forgiven, but it’s worth considering saving additional funds as you may end up paying more taxes than you had initially intended since the employee and expense deduction has been removed.
Get Help With Your Taxes Today
There are numerous tax-cutting tips available to small business owners, and it’s essential to find strategies that work best for your unique situation. As a small business owner, becoming familiar with the various federal, state, and local tax rates is highly recommended. This will help you gather a clear picture of what your yearly taxes will look like. Whether you’re new to owning a business or have for some time, determining your small business tax rate is the first step in completing your taxes correctly this year.