Taxes for Business Owners: What to Know

Article Summary:

• Taxes for business owners vary by state and business structure.
• Business entities may pay federal, state, and local taxes.
• Some businesses are pass-through entities, while others like corporations face double taxation.

According to data from the Small Business Administration (SBA), there are 34,752,434 small businesses in the U.S. which make up 43.5% of the Gross Domestic Product (GDP). Small businesses have a major impact on the economy and also the lives of business owners. While the focus of any business is to earn a profit, all business entities are subject to taxes. This guide covers, taxes for business owners, double taxation, and tips for tax planning.

Types of Taxes for Business Owners

Whether you’re a sole proprietor or have a C corporation, you’ll be responsible for paying business taxes. The purpose of a business is to sell a product or service and to turn a profit. Business owners are taxed on their earnings. However, how and how much they are taxed vary based on business structure and local and state laws.

According to the Internal Revenue Service (IRS), five common types of taxes for business owners include:

1. Income tax. This is a tax on business income. Nearly all business structures, aside from partnerships, need to submit an annual income tax return. The IRS notes that partnerships file an information return. For federal income taxes, businesses pay taxes as they earn revenue, which is sometimes referred to as a pay-as-you-go tax.
2. Estimated taxes. Many business owners must pay quarterly estimated taxes on the income they earn.
3. Self-employment tax. Individuals working for themselves must pay their own Social Security and Medicare taxes through the self-employment tax which is 15.3%. The way it breaks down is that 12.4% goes to Social Security and the remaining 2.9% goes to Medicare.
4. Employment taxes. If your business has employees, as an employer you’re responsible for including Social Security and Medicare taxes, federal income tax withholding, and federal unemployment (FUTA) tax.
5. Excise tax. Some businesses that use certain equipment or sell certain items may need to pay excise taxes.

While there are different types of taxes for business owners to be aware of, they may be paid to different government agencies or tax boards. For example, as a business owner, you may pay business taxes at the federal, state, and local levels. Based on the nuances between business structures and different state and local laws, no two businesses have the same tax situation.

Different Business Structures

A business structure outlines the framework for how your business is set up and how it will be taxed. Taxes for business owners are highly dependent on the type of business structure an entity has.

• Sole proprietorships: This is the most common business structure in the U.S., according to data from the Small Business Administration (SBA) with 86.3% of nonemployer firms being sole proprietorships. Typically, sole proprietors are solo business owners who aren’t incorporated and there’s no legal distinction between the individual and business. This can include freelancers and other types of independent contractors.
• Limited liability company: An LLC or limited liability company may offer some protection and separate personal and business finances. An LLC is a “pass-through” entity as any profits and losses incurred pass through your personal income and aren’t subject to corporate taxes.
• Partnerships: This business entity is between two or more partners doing business together. Each party shares in the business profits and losses. An annual information return must be filed, but taxes must be passed through to each party’s personal income taxes.
• S Corporations: Through an S corporation, business owners can pass through profits via their personal income and avoid the double taxation corporations face. Business owners must meet certain qualifying requirements to be an S corp.
• Corporations: According to the Small Business Administration (SBA), a corporation is considered a separate legal entity. This business structure offers the highest level of protection from any personal liability but comes at a cost. Taxes for business owners under a corporation can be complicated and nuanced. Corporations can face double taxation with corporate profits and when shareholders receive dividends.

What to Know About Double Taxation and Taxes for Business Owners

Nearly all business entities avoid double taxation as they’re considered pass-through entities. For example, sole proprietorships, limited liability companies, partnerships, and S corporations are all pass-through entities where profits pass through individual income tax returns, according to the Tax Policy Center.

Corporations, on the other hand, get taxed as a corporation for any profits. When corporations distribute dividends to shareholders, those get taxed, leading to double taxation. Corporations can’t deduct any distributions to shareholders, nor can shareholders deduct potential losses from the corporation.

Tax Planning Tips for Small Business Owners

As a scrappy small business, you want to maximize earnings and reduce your tax burden while ensuring you meet tax and compliance requirements. Tax planning isn’t a once-a-year type of thing but is a year-round endeavor. To smooth out the process here are some tax planning tips for small business owners.

• Maintain impeccable records. Make sure you have accurate and organized financial records. Taxes for business owners can already be complicated, but having your records in order can make everything smoother.
• Save enough. Have a separate bank account to set aside business taxes. You can talk to a tax professional to discuss what’s appropriate to save. A good benchmark to follow is to save 30% to 40% of earnings.
• Prepare ahead of time. Don’t get caught by surprise. Put tax deadlines in your calendar for each tax year. Make an appointment with your accountant early. If possible and applicable, file your income tax return early.
• Fill out the right tax forms. Each business structure will have different tax forms to file. For example, sole proprietorships and LLCs can file a Schedule C alongside Form 1040.
• Work with a professional. If you’re a solo business owner, it can be tempting to do your business taxes yourself. Save yourself a headache and potential tax obligations down the line and work with a vetted tax professional. They can walk you through what tax credits and deductions you may qualify for and can help you navigate everything.

Final Thoughts

In general, taxpayers of all types don’t enjoy paying or dealing with taxes. Taxes for business owners can complicate the matter even more. But it’s something everyone must deal with and there are ways to make the process easier.

Understand how your business structure affects your tax rates. Be proactive with estimated tax payments and other filing requirements. Work with a tax professional to help you maximize deductions and walk you through any tax obligations and benefits. Integrating tax planning into your business can help you stay in good standing and ensure you’re in the best position possible, so that you can keep your focus on your business.

FAQs about Taxes for Business Owners

What Do I Pay Taxes on as a Business Owner?

Tax laws vary by state, but taxes for business owners typically include state tax and local taxes on business income and employment, according to the Small Business Administration (SBA).

How Much Should You Put Away for Taxes as a Business Owner?

How much you should save for business income taxes depends on many factors, but a solid benchmark is to set aside 30% to 40% of earnings. Taxes for business owners vary by business structure, state, and other factors.

Is a S Corp Better Than LLC?

Whether an S Corp is better than an LLC depends on your business and level of revenue. However, some small business owners may qualify for certain tax benefits with an S Corp that outweigh the costs of set up and the associated requirements.

How Are Small Businesses Taxed in the U.S.?

Taxes for business owners depend largely on business structure. However, some common taxes for small business owners include income tax, estimated taxes, self-employment tax, employment taxes, and excise tax, according to the IRS.

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