According to the Small Business Administration (SBA), the average tax rate for small businesses is 19.8%. This percentage can translate into very large tax payments if businesses aren’t smart about tax planning.
Did you know the right business tax planning strategies can actually help your business grow? That you can invest in your business and lower your taxable income at the same time? Do you want to learn more?
Keep reading to learn our top 15 tax planning for business growth tips.
1. Reduce Adjusted Gross Income (AGI)
Reducing your adjusted gross income is one of the top tax planning strategies. You can reduce AGI, also known as taxable income, through deductions or business expenses. It’s important that you understand what tax bracket you are in and your expected tax liability.
Once you understand what your AGI will be, or an estimate, you can plan more accurately. There are a few different ways to reduce your AGI that we cover below. Investing in your business and employees are the key areas where you can make the biggest impact.
If you expect your deductions to be more than what the standard deduction allows, you must track expenses throughout the year. This way you can itemize them at tax time and have a lower AGI.
2. Get New Assets
Have sales been really great and you have a high profit? If you want to lower the amount before the end of the year, investing in new assets is a great way to decrease. Did you know businesses can claim 100% of depreciable expenses in the first year?
Examples of assets include:
When you purchase equipment, it can be used or brand new. It’s important to note that you must install and run the equipment by December 31st to claim the expense.
3. Give Your Employees Fringe Benefits
When you have employees on staff, you can expect to pay higher employment taxes. To avoid paying such taxes, you can choose to invest further in your employees. You can get a few benefits from offering fringe benefits.
Not only do you decrease your tax liability, but you also increase your employees’ satisfaction. A few fringe benefit examples include:
- Disability insurance
- Health insurance
- Dental insurance
- Long-term care insurance
- Transportation reimbursement
- Tuition reimbursement
- Childcare assistance
- Life insurance
- Adoption assistance
- Employee discounts
Some fringe benefits are excluded from taxation but others are not. You must understand the guidelines around fringe benefits before starting employee programs. Speaking with a tax advisor can help you to learn what is acceptable and what is not.
4. Defer Taxable Income
If you use the cash accounting method, you can defer some of your income. This means you claim expenses now that aren’t necessarily paid until next year. Here are a few examples:
- Putting expenses on credit cards
- Mail checks before the end of the year
- Prepay some expenses at the end of the year
- Send invoices in the last days of December so you record the income in January
You must do each of these strategically. There are strict rules around business taxes with the IRS and you don’t want to get into hot water with them.
Do you need help with tax planning? Check out our tax planning services.
5. Write Off Bad Debts
If you sell products on credit and have outstanding accounts, you may be able to write them off as bad debts at the end of the year. You should assess any accounts receivable amounts you have.
Then you need to determine which are uncollectible. That amount could reduce your taxable income. You can only do this if you use the accrual accounting method.
6. Restructure Your Organization
Restructuring your organization or changing the type of entity you have will impact your tax rate. You are responsible for paying self-employment taxes if you have the following structures:
- Sole proprietorship
- Limited liability company
- Limited partnership
Changing the type of business entity you have can greatly reduce your tax liability if it is high. Before you register as a new type of entity, you must understand the implications. Speaking with a tax professional can give you the guidance you need to make the best decision for your organization.
What Is a Pass-Through Business?
Pass-through entities do not pay federal income tax at the entity level. With these companies, the business’s income “passes through” the owner’s individual tax return. This is true for the following types of business structures:
- Sole proprietorships
- Single-member LLCs
- S Corporations
The highest tax bracket on individual returns is 37%. These individuals are responsible for paying several different taxes, however, so it adds up quickly. Individuals may be required to pay the following:
- Income taxes
- Self-employment taxes
- Excise taxes
- Employer taxes
- Estimated taxes
If you aren’t a legal or accounting professional, it is best to discuss these options with a tax professional.
The current administration has proposed an increase in corporate tax rates. Currently, it is at 21%. The proposed plan increased it to 28%.
For example, if you have an LLC or sole proprietorship where you are in the highest tax bracket, changing could be beneficial. Incorporating would reduce your tax rate significantly. Tax law changes yearly, so it’s important to note that rates probably won’t stay the same.
7. Assess Your Accounting Method
The two most common accounting methods are cash and accrual. There are pros and cons to using both types of accounting methods. Your business must choose one and stick with it.
With the cash method, when you receive income, you have to claim it. This is also true for when you incur expenses, you claim them the same year. This is the most common method of accounting for small businesses.
If your business has $25 million in average receipts over the past three years, you cannot use this method.
With accrual accounting, the year you earn the income is the year you report it. You also pay and report expenses the same year. This is the method recognized by investors and banking institutions.
8. Pay Debt
You can deduct the loan interest as a business expense. If you need to decrease taxable income, paying off the interest on a business loan or credit card will help you. The IRS does not allow this for personal loans or credit cards.
9. Remain Updated On Tax Law Changes
Tax laws change and update every year. It’s important that you stay current on changes so you know what to expect at tax time. Since the COVID-19 pandemic, there have been more deductions and credits available for businesses.
Following tax legislation and proposed plans will help you better plan for the following year’s taxes. Download our free e-book with more tax planning tips.
10. Employ Family Members
A business can receive significant tax savings by hiring family members. Did you know children can work tax-free if they make income under the threshold? The Tax Cuts and Jobs Act in 2018 nearly doubled the exemption amount for dependent minors.
You must comply with child labor laws if you hire your children to do odds and ends with your business. If the child is under 21, you don’t have to pay Federal Unemployment Tax Act (FUTA) taxes. Children under 18 are not subject to Federal Income Contributions Act (FICA) taxes.
By hiring adult family members, your business qualifies for a reasonable compensation deduction. The IRS can and will question the amount of compensation provided if it is questionable to the services performed. It’s important to remain honest.
If you employ your spouse, you only have to withhold federal and Medicare taxes. These benefits are only available if you do not own a corporation or partnership. If both parents of the child own the partnership, and there are no other partners, they do apply.
11. Start a Retirement Plan
You can lower taxable income by starting a retirement plan for employees. You can even deduct expenses by starting a retirement plan for yourself. Why pay a higher tax liability when you could be investing in futures?
Offering a 401(k) plan to your employees will reap a lot of benefits. For example:
- Better brand reputation
- Attract top talent
- Lower tax liability
- Business tax credits
- Business tax deductions
There are also several types of retirement plans available. Some apply to self-employed individuals while others also apply to small business owners. For businesses with high profits, you could save hundreds of thousands of dollars a year for retirement and greatly reduce your AGI.
You can contribute up to 20% of your income into a SEP IRA as a self-employed individual. You can set up this type of plan at any time. There are no catch-up contributions required for them, either. The amount is capped at a certain amount and changes with tax laws.
This type of retirement plan allows for the highest pre-tax contributions. It changes yearly, so it’s important you understand current tax laws. In 2021, you could contribute nearly $20K with $6,500 in catch-up contributions.
Defined Benefit Pension Plan
This type of plan offers the most tax benefits. You can combine this with a 401(k) plan to maximize your contributions.
There are contribution limits depending on income and age. This type of plan can easily save you hundreds of thousands of dollars for retirement. And the best part is it also lowers your tax liability!
12. Make Repairs or Needed Improvements
Does your office or facility need painting? Do you have repairs needed to walls or floors? Could you improve your building to make it more welcoming or safe?
If you complete business repairs and improvements before the end of the year, you may be able to claim them as a tax deduction. Routine maintenance is also a tax deduction for most businesses. Businesses are often required to depreciate improvements over a set amount of years.
Making repairs or improvements is very beneficial and lowers your AGI. You have to understand what qualifies and what doesn’t before starting new projects.
13. Pre-Pay for Professional Services
If you need to quickly lower your taxable income at the end of the year, pre-pay for next year’s services. This could be a variety of services, including:
- Business insurance premiums
- Equipment rent
- Office rent
- Vehicle lease payments
- Workers’ compensation insurance
- Legal services
There are guidelines around what services can be prepaid and claimed as an expense. We recommend you speak to a tax professional before prepaying your expenses!
14. Claim the Health Care Tax Credit
The health care credit is only available for small businesses with 25 or fewer employees. Did you offer a health care plan to your workers from the Small Business Health Options Program Marketplace? If you did and you also meet the wage requirements, you may qualify for this credit.
The maximum credit is:
- 50% of premiums paid for employees
- 35% of premiums paid for tax-exempt employers
You can only claim this credit for two consecutive tax years. The credit is a sliding scale. For example, the smaller the employer, the bigger the credit.
15. Claim All Deductions
Since the beginning of the COVID-19 pandemic, there have been many new credits and deductions for businesses. Did you know that if you started a new company in 2021, you can claim a $5,000 credit for startup expenses if the original amount didn’t exceed $50,000?
Some of the deductions are complex and require several calculations. Working with a tax professional will help you understand what your business is eligible for.
Following the pandemic, the 50% deduction on business meals increased to 100%. That is still in effect for 2022. This deduction is available if the meal is an ordinary and necessary part of doing business.
Employee Retention Credit (ERC)
The government created employee retention credit to entice employers to keep people on the payroll during the pandemic. The credit is worth half of the employee’s wages and health care costs. The original credit in 2020 was worth $5,000 per employee.
This amount increased for the 2021 year to $7,000 per quarter or $28,000 for the year. Your business had to suspend operations due to the pandemic to qualify for this credit.
There are a few requirements and nuances to getting this credit. It’s best to speak with a tax professional to see if your business is eligible. This credit is refundable, so it could mean cash returned to your business.
Excess Business Losses
This deduction is available for all businesses except corporations. In 2021, an individual could deduct up to $262,000 in business losses. Excess business losses become net operating losses that are carried to future tax years.
Corporations can deduct 25% of charitable contributions. All other business types can deduct 100% of contributions on their individual return if they itemize deductions. If they take the standard deduction, they can claim $300 in contributions.
Donating funds to charities can significantly impact your AGI.
Work Opportunity Tax Credit
This credit is eligible for some businesses. It is for those that hire employees from certain groups, such as:
- SNAP recipients
- Residents of certain communities
- Other specific groups
There are a lot of guidelines for the Work Opportunity Tax Credit. The amount varies per new hire from these groups but is generally equal to 40% of the first $6,000 in qualified wages paid.
Child Care Assistance Credit
Does your company offer child care assistance to employees? Your business can receive 25% of expenses paid toward child care with this credit. The maximum amount you can claim is $150,000 annually.
Pension Plan Startup Costs Credit
If you just started a pension plan for your workers, you could get a credit. It equals $5,000 for the first three years after you started the pension plan.
Benefits of Business Tax Planning Strategies
There are many different tax planning strategies for business owners to utilize. Once you understand your tax bracket and liability, you can plan your finances to invest in your company instead of paying high tax bills. Tax brackets are complicated and do change the amount of money you owe.
For example, if you make $25,000 a year, you pay two rates. The first $10,275 is taxed at 10% while the rest is taxed at 12%.
Tax planning not only reduces your taxable income, but it helps you make fewer errors.
When you have a business tax planning strategy in place, you save time. You consider tax implications throughout the year and track expenses accordingly. This means that come tax time, you aren’t scrambling to find information or trying to figure out how to pay a large tax bill.
It can be very time-consuming trying to organize your financials and figure out tax liability weeks before it is due. When you take the time to plan for taxes, you make a big difference in your company’s operations. Creating systems and processes will only benefit your company.
Lower Tax Liability
Strategically planning for taxes can greatly decrease your tax liability. Understanding how to allocate more funds toward growing your business is a positive skill that will last a lifetime. Business taxes can seem daunting at first and may deter some people from starting a business.
But when you understand how to reduce your liability through deductions and credits, the task doesn’t seem so daunting. Tax planning allows business owners to take advantage of every opportunity.
Enable Business Growth
Having a sound financial management system in place leads to better decision-making. When you have a solid tax planning strategy in place, you have a better grasp of how business changes will impact your tax liability. Tax planning also leads to:
- Better financial projections
- Strategic investments
- Business expansion opportunities
Enable your business to grow with strategic tax planning! Truly understanding deductions and credits means more money to invest in your business.
Business owners make a lot of mistakes when they don’t plan properly. Sometimes, people will make big purchases in hopes it will lower tax liability but it doesn’t qualify. Or they purchase it at the wrong time, meaning they have to claim it the next year.
The biggest mistake is not understanding how taxes work or what you owe. This leads to many business problems, even leading to eventual closures. Don’t risk potentially losing your company!
Should You Hire a Tax Advisor?
One of the best business moves is to consult a tax advisor. Not only will you receive expert advice, but you will greatly minimize the amount of your tax liability. The IRS has swift and hefty penalties for not filing your taxes correctly.
You can mitigate that risk and ensure you do everything correctly with a tax advisor. Even if you remain updated on ongoing tax law changes, there are some regulations that are hard to navigate.
If you have any doubts or concerns about planning for or filing your business taxes, you must speak with a tax professional. Don’t put your company at risk for expensive penalties that are avoidable. Save your state of mind and ensure your business is compliant by working with a tax expert.
Are you still not convinced? Or are you interested in learning more? Check out these 14 reasons why you should work with a tax planner.
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This article covered 15 business tax planning strategies. We hope this will help you to tackle your tax planning strategy and move your company forward!
Are you interested in speaking to a tax advisor? At Bennett Financials, we focus on helping more businesses succeed. We leverage our 35 years of expertise to guide your financial decision-making.
Are you interested in getting started? Book a free consultation to discuss what tax planning strategies are best for business growth in your industry.