Tax Planning

The Dos and Don’ts of Small Business Tax Planning

March 10, 2023

Many business owners struggle when it comes to navigating the tax regulations and different brackets for various industries. The tax information is overwhelming, especially when you have no idea where to start and what questions to ask. And the post-pandemic economy isn’t exactly friendly for anyone.

Does this mean you can’t get better at tax planning for your small business? No. It just means that you need to be more knowledgeable. You need to know what you should and shouldn’t do if you don’t want your tax bill to ruin your lifestyle or slow down business operations.

The Dos of Small Business Tax Planning

If you want to hit it out of the park with your tax planning strategy, there are at least five actions you must take.

1. Get Accustomed to Financial Jargon

Tax legislation can be complex and even vague at times. At least, that’s how it can appear for small business owners and self-employed individuals without a financial background.

Unfortunately, that’s not even the biggest challenge. What throws many people off worse than the existing regulations is the jargon. If you don’t know financial terminology, you might not understand what your financial reports show you about the business.

Worse still, you can file incorrect or misleading paperwork and invite an audit from the IRS. Confusing terms like revenue and profit, cost of goods sold, expenses, gross profit, profit margins, net sales, and others will prevent you from filing taxes correctly. Not to mention how it can affect some of your financial decisions.

For example, making a $150 sale doesn’t mean you have to pay taxes on $150. First, you deduct production costs to figure out the gross profit. Then, you deduct expenses to determine the final taxable figure.

Start learning terminology and financial jargon if you want to get better at tax planning for small businesses. Knowing the basics is still better than not knowing them.

2. Manage Your Records Better

An accountant needs accurate data when doing your taxes. But the accuracy depends on your recordkeeping practices. If you’re disorganized with your invoices, bank statements, and other financial documents, your accountant won’t be able to do a good job.

Accounting software is essential as it can give you a blueprint for managing financial statements. In addition, technology and digitalization can do great things for your business and make tax planning easier.

Records of incoming and outgoing cash are mandatory to create accurate tax paperwork and avoid missing out on potential benefits.

3. Pay Taxes Quarterly

No one likes paying taxes. Even fewer individuals and business owners like the idea of paying taxes quarterly. It might be the last thing on your mind when your business struggles with cash flow.

Although it sounds counterintuitive, paying taxes quarterly in advance can lessen the overall financial burden on your company. Furthermore, it forces you to keep track of your records, create financial reports consistently, and have more accurate data come tax season.

Of course, you won’t know the final tax amount until you draw the line at the end of the fiscal year. But that doesn’t mean you can’t pay taxes on estimated quarterly earnings. If you don’t hit those earnings at the end of the year, you get your money back. If you make more profit, you’ll have less to pay because you already contributed substantially in advance.

Estimating quarterly earnings is usually done by looking at a company’s financial history from previous years and other business metrics. For this step, it can be helpful to work with an experienced accounting and bookkeeping service, like Swyft Books. First, financial experts can do a better job of projecting earnings. Secondly, based on your industry, they’ll know when the filing and payment deadlines are for each quarter.

4. Know Your Deductions

You can’t deduct all of your expenses to pay less in taxes. It depends on your business type and the costs you incur to offer your products and services. However, a big part of tax planning is to lower your profitability on paper. Fewer profits mean paying less tax. Therefore, you should identify all reasonable and acceptable business expenses.

One way to do this is to look at your competitors. For instance, you can inquire about ordinary expenses in your niche if you’re operating a SaaS business. Then, you have your necessary expenses. These can be items and services that directly assist you in manufacturing products, managing daily operations, delivering your services to clients, and more. Potential expenses include accounting, legal, insurance, inventory, marketing, utilities, and payroll.

With that in mind, working with an accounting service is best when trying to assess your expenses. Until you have a greater understanding of tax laws and loopholes, you’ll need experts to explain the criteria for legitimate business deductions.

5. Pay Off Debts

It’s tempting to want to hold onto your money when you have good cash flow. But here’s something you might not know. Paying debt in advance can benefit your tax planning and even save you money in the long run.

Loan interest is tax-deductible. Therefore, every payment you make to pay down your business debt during the financial year is tax-deductible. If you want to lower your taxes, making extra payments between the interest deadlines or settling the entire debt will help you make a larger deduction on your tax return.

You can always check the IRS website to see what business loan interests are tax-deductible for your industry and work with your lender to develop a beneficial payment plan. Additionally, talking to your advisor or using a third-party bookkeeping service like Swyft Books can help you prioritize what debts to pay based on your cash flow, earnings estimates, and tax savings goals.

The Don’ts of Small Business Tax Planning

Small business tax planning can be overwhelming, especially for newer entrepreneurs. That’s why some of the next mistakes are common, despite being completely avoidable.

1. Missing Deadlines

Whether or not tax planning is constantly on your mind, it’s definitely a priority when tax season is right around the corner. Many business owners wait until the last moment to get all their paperwork in order and share it with an accountant.

What happens if you do this?

Depending on the complexity of your business and finances, there’s a good chance you’ll miss the filing and payment deadlines. If you don’t file tax returns on time, you can receive penalties of up to 5% per month. That 5% is calculated against your entire tax bill, which can be a substantial sum, especially when not maximizing deductions.

Luckily, late filing penalties max out at 25%. However, if you missed the filing deadline, it doesn’t take much to miss the payment deadline. Late payment penalties compound in perpetuity. Therefore, missing deadlines isn’t something you want when filing business or personal tax returns.

2. Not Maximizing Deductions

The IRS created stringent tax legislation. That said, it also allows a wide range of deductions, particularly for small businesses. While many small business owners are aware that they qualify for deductions, they don’t make an effort to maximize them.

Claiming business deductions is one of the best ways to reduce your tax bill and spend capital simultaneously. If you’re not working with an experienced accountant or a professional third-party bookkeeping service, you probably don’t know about half the deductions you can claim on your tax returns. This is a bad tax planning habit to develop if you’re aiming to save money.

3. Not Keeping Personal and Business Expenses Separate

Self-employed individuals often mix business and personal expenses. But plenty of small business owners make the same mistake. Doing so can create the perfect financial storm that will cost you money and could even have legal ramifications.

You want to keep corporate and personal credit cards separate. It’s also mandatory to understand what you can write off as a business expense and what you can’t.

Separating your business and personal finances enables better deductibles tracking, helps accountants do a better job, and prevents incorrect claims and tax return filings.

4. Misunderstanding Different Business Structures

Not understanding business structures is one of the most costly mistakes you can make as an entrepreneur. It affects new and budding small business owners, and here’s why.

Suppose you don’t understand the tax implications of various business structures. In that case, you can pick the wrong one in a rush to register your company, greenlight operations, and enter the market. Unfortunately, you risk exposing your company to tax liabilities you could’ve avoided. You may also deprive your business and yourself of various tax benefits, loan possibilities, and more.

Even if you have already started your business, it’s not too late to make some adjustments. If you haven’t created a legal entity yet, do some research and talk to financial and business advisors. That way, you can pick the perfect structure that provides sufficient benefits and legal protection.

5. Not Setting Money Aside for Payroll and Taxes

Here’s something that goes through the mind of every small business owner: “I’ll settle my duties at the end of the fiscal year with what’s left in the bank or whatever money I make at that time.”

It seems like a good strategy because it leaves you free to dip into your reserves and cash flow to make business acquisitions, invest in inventory, hire new employees, or spend on marketing. But this is a costly error.

Your tax bill and payroll tax obligations can be higher than you think. Operational issues, workflow problems, or any down period that affects your cash flow could render you unable to make payments. Tax season arrives, and your accountant does the math and submits the tax return, but your company doesn’t have enough money for you to settle your debts with the state. It happens more often than you think.

Putting at least some money aside for taxes and creating a little nest egg is one of the best business practices, whether you’re self-employed or a small business owner.

Always Follow the Best Tax Planning Practices

You’ll always need expert help to navigate taxes, manage financial planning, and beat the system at its own game. The tax system only feels rigged when you have no clue what to do. Once you get the hang of it, put in some effort, and work with the right people, it will get better.

You can be on time with your payments and filings every year, pay your employees, and still make a nice profit. Good tax planning will help you achieve these goals, starting with making better choices, adopting the proper habits, and avoiding common mistakes.

If you need more assistance in this area, the Swyft Books bookkeeping and accounting service is at your disposal. Don’t hesitate to reach out and get the expertise you need in your business.