There may not be any major changes to the small business tax code in 2020, but there are some important things to keep in mind. In 2018, Congress passed major adjustments to business tax law, including a lower corporate tax rate, new rules for pass-through businesses and a tax break for some industries.
"The tax changes were so significant, I would imagine that there's still a lot of issues in terms of digesting what has occurred," said Wayne Winegarden, senior fellow in business and economics at the Pacific Research Institute and managing editor of EconoSTATS.
As a small business owner, it's important to stay up to date on current tax laws so you pay the right amount each year. [Doing your taxes on your own? Find the best software to use in our reviews of the Best Tax Software for Business 2020.]
Types of small business taxes
Small businesses face a variety of different taxes; these taxes vary based on the structure of your business, but here are the five primary ones:
Income tax: With the exception of partnerships, all businesses file annual income tax returns. Partnerships, however, file an information return.
Self-employment tax: Relevant for most small business owners, this tax is on your net earnings from self-employment and goes toward your Social Security and Medicare obligations.
Employment taxes: If you have employees, you have taxes (and forms) related to their Social Security and Medicare taxes, federal income tax withholdings, and federal unemployment tax. Payroll taxes fall into this category.
Excise tax: There are a number of different types of taxes that fall into the excise tax category. This affects you if you make or sell specific products; operate a certain business type; use specific equipment, facilities, or products; or are paid for specific types of services. If that all sounds vague, it's because it cuts across a number of categories. The classic examples of products that carry an excise tax are fuel, tobacco and alcohol. You can learn more about excise taxes from the IRS.
- Estimated taxes: Many businesses (sole proprietors, partners and S corporation shareholders) must pay quarterly estimated tax payments. This occurs if you do not have taxes withheld from each paycheck or do not have a sufficient amount withheld from each paycheck.
Things to remember in 2020
These are two minor aspects of tax law to keep in mind in 2020. Tax reform stemming from the 2018 law is still taking effect, and understanding all of the regulations that will be implemented is important for you as you work with your accountant or tax professional.
The noteworthy changes include deductions for pass-throughs, first-year bonus depreciation and net operating loss changes.
- International business: Anthony Parent, founding partner of Parent & Parent LLP, said many small businesses may have a rude awakening if they have significant operations abroad. "There are a lot of small and medium businesses that have some sort of international components," he said. "We're trying to get ahead of it and warn people." International taxation and regulation are very complicated, so it's important to work directly with a professional to ensure you're being taxed at the correct rate.
- SALT cap: As of 2019, filers can only deduct up to $10,000 in state and local property and income taxes. Many business owners operating a pass-through entity in a high-tax state can take advantage of SALT deductions. Winegarden said all business owners should be aware of this cap. "I really think in the high-tax states, the SALT cap is going to be meaningful, more for small businesses just because they're going to be filing through their personal taxes," he said.
Deduction for pass-throughs and corporations
The biggest change businesses saw in 2019 was a significant deduction for both pass-through and corporate entities. Pass-through businesses are small businesses structured as S-corps, limited liability companies, sole proprietorships and partnerships. Pass-throughs make up approximately 95% of U.S. businesses. The new law provides a 20% deduction for those businesses. The only limitation is on service-based businesses, like law and accounting firms that make more than $315,000 per year ($157,500 if single).
C corporations are also getting a big deduction: The new law lowers the tax rate from 35% to 21%. This slashed rate aims to bring major corporations back to the U.S. to employ workers and create wealth.
First-year bonus depreciation
The first-year bonus depreciation deduction is now 100%. In other words, businesses that make eligible equipment and property purchases can deduct the full amount of the purchase price instead of writing off a portion of the expense each year. This provides businesses with more money upfront, which lawmakers hope will be invested back into the business or used to hire workers.
"The new tax plan will allow businesses to write off the cost of assets in one shot," said Josh Zimmelman, founder of Westwood Tax & Consulting. "A company can invest in vehicles, computers and equipment, and claim the entire expense on their … tax return."
Winegarden said the break is an incentive for businesses to spend more. "Anything that gets you closer to complete expensing is going to increase the value of the depreciation, lower the tax burden and reward those capital-intensive firms," he said.
Net operating loss changes
Net operating losses (NOL) can no longer be carried back for two years, but instead can be applied for an indefinite amount of time going forward. NOLs occur when a business's tax deductions exceed its taxable income. It functions as a form of tax relief for businesses, where business owners can apply a NOL to future tax payments.
The change eliminates businesses' ability to restructure taxes completed in years past, but it extends the lifespan of NOLs indefinitely; however, this can only be applied to 80% of taxable income.
Winegarden said the thinking behind this change is to incentivize businesses to take risks and spend more money. "Knowing you can carry [the net operating loss] forward and indefinitely … lowers the cost of failure," he said.
In addition to some structural changes, there are some important deadlines to keep in mind:
- S-corps must file their business taxes by March 15.
- The deadline for 2020 tax returns is April 15.
- Quarterly estimated tax deadlines are due April 15, June 15, Sept. 15 and Jan. 15.
Small business tax tips
If you've purchased a business this year or are new to small business tax structures, there are a few things to keep in mind. While it is possible to do your taxes on your own, consider working with a CPA. A tax professional can ensure your business is taking advantage of all the deductions available and, more importantly, can ensure you're paying everything you owe. Here are five other tips:
Think about taxes all year long. Small business owners should not treat income taxes as an annual event. Rather, tax planning should be a year-round activity. Waiting until the last minute makes tax preparation more complicated, and it limits your money-saving options.
Be aware of law changes. Even with the help of a skilled professional, a small business owner must keep up with new changes. This will ensure your tax professional is doing the best possible job, and it keeps you informed as a business owner.
Don't make assumptions. Never make business decisions assuming that particular tax breaks will pass or that certain policies will be enacted.
Choose the right state to incorporate in. You don't need to incorporate your business in the same state that you run your business. If you are just starting out, here are some of the best states to consider incorporating your business in.
- You don't actually want a tax refund. It is possible to get a tax refund as a small business, but in most cases, it isn't to your benefit. Typically, a refund means you overestimated the amount of taxes you paid, which could have been reinvested back into your business.
Top small business tax deductions
This isn't a comprehensive list of tax deductions available to small businesses (and you need to ensure that your business is eligible for these deductions). While this list provides potential deductions, it's best to work with a CPA who can ensure you get all of your relevant deductions.
Rent: If you rent your office space or retail location, the cost of your rent is fully deductible.
Home office: If you have a dedicated workspace in your home (it must be regularly and solely used for business), then you are eligible to deduct expenses related to that portion of your home. The simple option is to take $5 per square foot up to 300 feet, but you can break it down as a percentage of the total square footage of your home and itemize your costs related to the space.
Advertising: Promoting your business not only helps grow your business, but it may shrink your taxes, as these expenses are fully deductible as well. This includes things like business cards, fliers and digital marketing spend.
Vehicle: As long as you can document and verify that the vehicle is used for business purposes, you can deduct the operation costs. Like the home office deduction, you can choose to use the simple deduction, which is 58 cents per mile as of 2019, or you can itemize specific costs.
Utilities: The basics of keeping your business running are fully deductible as well. This includes electricity, water, heat, internet and landline.
Travel: Business travel costs are fully deductible. This includes any flights, hotels and other transportation costs you incur while on a business trip.
- Employee salaries: Paying your employees pays off. Their salaries, along with many benefits like retirement and education offerings, are tax-deductible.
Small business tax resources
Here are some additional resources for learning about taxes:
- The U.S. Small Business Administration maintains a guide on navigating the tax code and staying up to date on your tax responsibilities as a business owner.
- The IRS website has more information about how the Affordable Care Act (ACA) affects small business owners' taxes. Note: Further changes to the ACA may be on the horizon.
- If you have a choice regarding the state that your business will operate in, then you may want to consider the small business tax rates by state, additional information and recommendations are available at the Tax Foundation.
- The U.S. Small Business Administration has a helpful guide on choosing the right business structure if you are just starting your business this year.
- The IRS website has additional details on the Small Business Health Care Tax Credit, which provides a tax credit to small businesses that offer health care coverage to its employees. You can learn if you are eligible, and how to calculate and claim your credit.
- The IRS maintains its own information center on self-employed and small business taxes.
- In addition to our recommendations on the best tax software, see which accounting software solutions we think are the best for small business owners.
Matt D'Angelo contributed to the reporting and writing in this article. Some source interviews were conducted for a previous version of this article.