This is a guest post by Dustin Pfluger. Dustin has over 13 years of public accounting experience with both national and regional accounting firms focused on providing assurance and consulting services to both public and private companies in a variety of industries.
He joined BKM to contribute his knowledge of mortgage banking, financial services and real estate to the firm’s team. His focus in this area helps him to make complex financial information more accessible to his clients, empowering them to make informed decisions.
A finance company performed a study on taxes based on a decade’s worth of client data. The results showed that 93% of their business clients overpaid their taxes.
Taxation, a complicated yet mandatory aspect of a business, requires experience and expertise. If you wish to learn about taxation yourself, be prepared to study the more than 70,000 pages of the US tax code.
Business owners have two options in this case: they can choose to learn taxes by themselves or get an accounting firm, preferably one that specializes in taxes for your industry or business particular industry that your business is in.
While the best way to plan your strategy is to talk to a tax consultant, you may start by checking key areas such as employee benefits, business expenses, and business structure for possible tax reductions allowable by the law.
1. Evaluate your business expenses
Spending more on your business will lead to more tax deductions. However, it is not always a sound solution since the amount of expenses will still be higher compared to the percentage of tax deductions.
What you can do instead is to review your personal expenses (the money that you are already spending) and evaluate if any fraction of it is connected to your business.
Examples of these expenditures are travel, education, and home office expenses which can all be reported as a business expense as long as you you can prove that these are linked to your business. This way you are able to increase the reported expense without actually increasing the amount of money that you are spending.
2. Offer employee fringe benefits
Wages get an equivalent employment tax cost. Consider offering tax-exempt fringe benefits such as employee discounts, group term life insurance, small amounts of employee benefits (de minimis), child or dependent-care services, and health insurance.
An employee package with fringe benefits will help you attract and retain talent within your company without increasing your business tax. Check out the official list of fringe benefits recognized by the IRS here.
3. Defer taxes through retirement plans
Pre-tax contributions to retirement plans are tax-exempt and are handled as tax-deferred. Taxes will be deducted when the funds are taken in the future when presumably, the person is in a lower tax bracket at retirement.
Consider options such as setting up a 401(k), a SIMPLE IRA, or SEP IRA, depending on what is applicable for your business.
Note that this is not always the case for entrepreneurs who might belong to a higher income tax bracket in the future. However, this option provides a fixed income upon retirement which can also be an attractive option if one already has existing investments in place for the future.
4. Hire family members
The IRS allows hiring family members (child, spouse, or parent) with their wages subject to income tax withholding. Normally, the tax bracket will be lower so you can get additional savings from your family member’s income.
Depending on your tax strategy, you can then opt to put the income in an applicable retirement plan which means that your business will get the tax benefit while saving up for your spouse’s or child’s future.
5. Consider your business structure
Review the tax advantages of registering as a Limited Liability Company (LLC) versus as a corporation. The IRS performs pass-through taxation for LLCs, meaning that the business does not pay corporate taxes but are taxed through its owner(s).
This is particularly useful for higher levels of income when the corporate tax charges more compared to the same income declared as personal tax in an LLC. Owners of LLCs are also not subject to double taxation which is the case for corporation owners. Corporations must pay corporate taxes and owners must hand over obligations for personal dividend tax.
However, registering as LLC has its disadvantages too, such as there are no provisions for property tax exemptions. Weigh the pros and cons and discuss the best structure applicable to your business with your accountant or tax consultant.
6. Study your tax elections
Work closely with your accountant or tax professional to review your options for tax elections such as declaring equipment cost in full on the first year or to use annual depreciation for tax benefits.
Discuss the pros and cons for choosing your tax elections. Evaluate which elections suits your business best as these depend on the current standing of your business and the direction that the business will take in the future.
Aside from equipment costs, other elections include the option to declare start-up costs in the first year of business and deferred compensation (in the case of bonuses).
It takes knowledge of tax laws and proper tax planning to be able to review possible options that will allow you to legally reduce your business taxes. Be sure to speak with your accountant or tax consultant for further advice.
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