Tax season can approach all too quickly, especially for busy small business owners who are focused on their day-to-day operations. If you must rush to gather tax information, you have little chance of planning or optimizing your tax situation. Disorganization may even cause you to miss out on valuable deductions.
To stop costly mistakes and set your business up for a streamlined tax season, it’s vital to start tax preparation early.
Tax season preparation is crucial. Consider taking these end-of-the-year steps to sail into tax season stress-free and organized.
If your small business has been operating for a while, you know how it tends to fare during the final few months of the year. A.J. Gross, president of ALG Tax Solutions, said a good understanding of your business is essential for creating an accurate projection.
“You need to be able to see where you think the business is going to end up overall for the fourth quarter,” Gross said. “If you plan on growing or expect a downturn, it’s based on the entire year and your business cycle.”
For example, say you have a seasonal business that winds down during the summer, with sales slowing to a crawl during the holidays. In this case, you should be prepared for your expected end-of-the-year slowdown. Conversely, if you own a retail store, you know your business and employees will be swamped once Black Friday rolls around.
Most small businesses use the previous year’s figures as a starting point to compare and plan estimated taxes for the following year. Examine your past three quarters’ results to see how they differ from the previous year’s.
If you find that your estimated income taxes for both years are close, use that information to determine whether you should increase your tax payments due to an income boost or save funds for when you file your tax return.
“You may not necessarily want the government to hold on to your money, so you can pay the minimum amount,” Gross said. “However, it may be good to have a certain amount saved in case you know you’re going to owe taxes based on a better year.”
Every deductible expense reduces your taxable income and, generally, your tax liability.
One way to increase tax deductions is by making upgrades or capital improvements near the end of the year. John J. Petosa — a licensed CPA, attorney and faculty member at the Whitman School of Management at Syracuse University — advises businesses to consider moving forward with the purchase of necessary new equipment or other business property that qualifies for a Section 179 deduction. Under that deduction, small business owners can deduct all or part of the cost of specific qualifying property in the year they put the items into service, instead of spreading the deduction over several years.
“If you were waiting on that new computer system, you may wish to buy it [now] and put it in service this year [and] write it all off, which reduces your overall taxable income,” Petosa suggested.
But Gross added a significant caveat: Your purchase must make sense in the near or short term. “You only want to make investments that will improve the profitability of the business,” Gross cautioned. “If it doesn’t improve your profitability, it doesn’t make sense.”
For example, if you purchase and deduct a $50,000 piece of machinery when you have a 30 percent tax rate, you reap $15,000 in tax savings. If that piece of machinery helps you grow your business, it may be a wise move. If not, you’ve spent more on the machinery than you will save in taxes.
Perks are compelling ways to attract and retain top talent. While many small businesses offer offbeat perks to sweeten the deal, the tried-and-true benefit of a retirement plan is still a significant boon to workers.
Tax season is an excellent time to review retirement plan options. Small businesses can choose from qualified retirement plans beyond the typical 401(k) plan or IRA. For example, a Simplified Employee Pension (SEP) plan can help you put away up to 25 percent of your income (up to $66,000 for 2023).
“The nice thing about some of these plans is, if you put together an SEP, you don’t have to contribute the funds until the due date of the return, and if you file an extension, you can have until the extended due date, even though you will have already taken a deduction on the return,” Gross explained.
Unfortunately, some items just don’t sell, and some debts can’t be collected. Neither situation is ideal, but they may reduce your taxes.
In the ordinary course of business, you deduct the cost of inventory when you sell it. However, according to Gross, you can dispose of items that can no longer be sold and deduct your original cost as a business expense.
Similarly, if someone owes your business money and your debt collection strategies have failed, you may qualify for a deduction. Note that you can’t take a deduction for income you haven’t recognized — for example, if you operate on a cash basis and customers don’t pay their bills.
Think twice about when you send and receive payments near the end of the year. “If, for any reason, you’re near the end of December and you have the option to defer receiving a check until the following year, you can potentially do that because you didn’t receive the cash until the following year,” Gross said. “Same goes for expenses. If you write a check and it doesn’t get cashed until [next year], it’s still an expense in the current year.” Note that credit card expenses are always recorded in the year the transaction is made.
By planning your year-end cash flow, Gross said, you can essentially accelerate expenses while deferring income to reduce the current year’s tax bill.
Cash and accrual accounting differ. Cash-method businesses record income and expenses when the money is received. With the accrual method, businesses record income as it’s earned and expenses as they are accrued.
As an individual, filing tax returns is relatively straightforward, thanks to accounting software applications and other tax solutions. However, if you own a business, it may be better to have an expert prepare your taxes.
U.S. tax law is incredibly complex. Failure to properly file income or payroll taxes can spell doom for your small business. Falling behind in business taxes can lead to tax liens or levies, wage garnishment and, potentially, the end of your company.
According to Gross, if you do your small business taxes on your own, the Tax Cuts and Jobs Act of 2017 made some things harder. “The latest changes actually made things more complicated for small businesses, since it changed how and what you can deduct,” Gross said.
For example, if you have a pass-through business — such as a sole proprietorship, partnership or S corporation — the law allows for a 20 percent income tax deduction, though married individuals who own certain businesses, like law firms or doctor’s offices, can claim it only if their yearly income is below $315,000 (or $157,000, if single).
The cost of tax preparation services varies by the size and complexity of your business and the expertise of the tax professionals. If your operation has only a few employees, your costs can start at about $500; larger businesses may pay $2,500 or more. Regardless, Gross suggested hiring a tax professional if you have any doubts about needing help.
“An established business should probably hire a tax professional just because of the amount of deductions and tax planning necessary,” Gross said. “You’re definitely less likely to get in trouble by doing something by mistake if you hire a professional.”
The Tax Cuts and Jobs Act of 2017 also changed or limited specific deductible business expenses. For example, a percentage of business dinners and lunches can still be deducted, but businesses can no longer expense leisure activities, like tickets to concerts or sporting events.
Many businesses practice charitable giving to do good, increase their business presence in the community, and reduce taxable income. For your business to deduct a donation, it must have some business purpose. For example, you may receive ad space or have your name on a stadium fence in return for your donation.
You can deduct other types of charitable contributions if you itemize your deductions on your individual income tax return.
The following informational and other tax, business and payroll forms are due shortly after the end of the year:
You also may need to file other federal, state and local tax returns, depending on your business and its location.
The secret to getting your optimal tax result with the least stress is to keep up with taxes year-round. Check out these tax tips for small businesses:
Tax season doesn’t have to be a dreaded chore or one that leaves you wondering whether you could have done better if only you had time. By getting ready for the next tax season now, you can save yourself and your tax professional time and stress and plan for a more prosperous business year to come.
Andrew Martins contributed to this article. Source interviews were conducted for a previous version of this article.