Entrepreneurs are converting their ideas into reality every day with innovative and creative operational techniques. However, small business owners are often too busy bringing their brand on top of neglecting seemingly minor issues like taxation. Unfortunately, tax agencies and the IRS have severe institutional policies, which can be bad news if you’re not too careful about paying your taxes.
There are specific determinants of taxation and different structures to decide how much and when your business has to pay tax. Small companies usually don’t have to spend as much tax as large firms and corporations. Still, they cannot exclude themselves from income taxes or self-employment taxes. Small business owners must keep a comprehensive record of their taxes to avoid facing penalties for inaccuracy. It’s a long and time-consuming process to sort out and file tax returns, but here is a small guide for you to help out with the introduction. Let’s have a look:
Structure of Small Businesses and Their Income Tax:
The law defines a few legal structures, which you need to select for your small business. Under each category are different benefits and costs, with government requirements and hence, certain tax advantages. The tax rates for each business structure are varied, and it would be best for you to have a professional explain it to you. There are many educational programs which you can opt to have a better understanding of the topic. Many professionals understand the benefits of masters in taxation, which is why they pursue this career and would be highly conducive in educating you about the procedure. Let’s look at the type of structures for small businesses and their taxations:
Sole Proprietorship and Partnership
According to IRR, running a sole proprietorship business makes your company a disregarded entity, which means you will not have to file business taxes. Instead, tax agencies hold you accountable for for-profit and losses on your income tax return, according to the tax bracket your income falls under. You would have to pay taxes according to the federal and state income tax bracket, along with self-employment tax for medical care and social security.
For partnership, there are more than two and less than twenty business owners. Hence, they don’t have to pay individual income tax, but the procedure is similar to sole-proprietorship taxation. Rather than filing a business tax return, each partner pays the share on their earnings from their business share. This way, the ones with the highest percentage of ownership have to pay a higher income tax return.
C Corporation and S Corporation
In the C Corporation category of business structure, the owner and the shareholders pay taxes separately from the business entity, commonly known as double taxation. If you choose to go for the C-Corp structure, the tax rate would be around 21%, as set by the law. Also, the shareholders will have to pay taxes for their salaries and dividends from the business.
As an S-Corporation status, you will not have to pay income taxations. The business entity passes on income to either the owners or the shareholders. They pay taxes according to their ownership percentage within their tax brackets.
- Types of Taxes Small Businesses Have to Pay:
Regardless of the size of the business, the government expects you to pay a particular variety of taxes based on your business structure. Both state and federal governments subject small businesses to taxation. Hence, you need to be aware of the expectations from you.
Suppose you set up your small business as a partnership, sole proprietorship, or limited liability company. In that case, you are liable to pay employment taxes on profit and loss of the business. It is not genetically similar to income tax because a company isn’t the entity accountable for tax. Instead, it is a self-employment tax that the owner or shareholders of the firm bear. It is usually in proportion to the percentage of ownership shared by the partners or the shareholders.
As defined by the law, small businesses are liable to pay tax for the property they’re operating on. Some states in the U.S.A collect tax on just the real state land. At the same time, others also ask businesspeople to tax vehicles, equipment, computers, or other fixed assets. The lumpsum amount of percentage of the total property is the actual tax. So, it is essential to look at the state’s tax rates in which you run your business.
Sales or use tax is also a legislative requirement for small businesses in the U.S. Some states require tariffs on all goods and services, while others only ask to file tax on some of them. Sometimes it’s possible to pass the weight of the state’s tax on the consumers, but it increases the price rates and often leads to lower sales. In any way, you are still responsible for collecting the sales and use tax and then sending it to the related tax authority.
- Determinants of Tax Rates for Small Businesses:
There are several ways to decide how the government can charge the business for their taxations. These schemes usually apply to small businesses. Since each tax has its own set of rates, each type of tax determines the rate you have to pay. Some of these factors are:
- Percentage of Income
Both the income tax and self-employment tax are recorded based on the net income of the business. Corporate tax rates are at 21% at the federal level, while state-level corporate taxes are different for each state. Federally, the income tax return for personal earnings can go as high as 37% because neither sole proprietorship nor partnership or LLC pay entity-level taxation. Taxation for self-employment can go up to 15.5% as long as it meets the minimum wage rate.
- Percentage of Gross Sales
Sales tax is for the revenue you get from taxable goods and services which you are selling, and it doesn’t have to do anything with profit or loss. Some states do not have any sales tax legislation; however, others can only charge 10%. It may increase in case you’re selling outside the local city.
- Tax Per Dollar of Property Value
Taxes that get charged for the value of a company’s fixed assets or property are property taxes. Law states this tax as $100 of the property value roughly calculated as its percentage. For instance, $3 per $100 is almost similar to 3% of tax. It varies from business to business and state to state.
The business world is expanding, and with that, it brings several growth opportunities for small businesses. They have a long way to go, and that’s why these essentialities are to be kept in mind. There could be severe consequences for avoiding taxation, which could lead to bankruptcy or collapse. It’s better to be prompt and timely in attending to these issues so that you can proceed to a safer and more successful business path.
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