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Basic Business Taxes for Self Employed and Small Business Owners

May 6, 2017

 

Many small business owners are wearing lots of hats, besides running their business and trying to make it work, the business owner also needs to stay on top of all taxes due, stay compliant, and keep accurate records- so there are no surprises at the end of the year.

Here is a quick basic 101 what a Self-Employed person needs to know about business taxes.

 

Accounting Method and Accounting Period - a business owner needs to know what accounting method to use for his or her business. There are two accounting methods that a business uses: Accrual Method and Cash Method.

 

Under Accrual Method all income and expenses are recognized when incurred, no matter if cash was received or spent for these transactions.

 

Under Cash Method all income and expenses are recognized when actual cash changes hand.

 

The Accounting Period can be the usual calendar year or a fiscal year.

 

Most small businesses use Cash Method and regular calendar year as the Accounting Period. Generally, if you produce, purchase, or sell merchandise, you must keep inventory and use the Accrual Method, but there are exceptions to this rule (if average gross receipts for each year ending on or after December 17, 1998 are $1 million or less, you may use Cash Method).

You may choose which Accounting Method and which Accounting Period to use when you file your first Busieness Tax Return. After that, if you wish to change, you will need to file Form 1128 with IRS in order to ask for a change in Accoutnign Period and file Form 3115 to ask for a change in Accounting Method.

 

Business Taxes - there are five general business taxes:

  • Income Tax

  • Estimated Tax

  • Self-Employment Tax

  • Employment Tax

  • Excise Tax

Income Tax - All businesses, except partnerships must file an annual income tax return. A partnership must file an annual information return, but it does no pay income tax. Instead, it "passes through" any profits or losses to its partners. Each partner includes his or her share of the partnership's income or loss on his or her tax return.

The profit of a corporation is taxed to the corporation when earned, and then is taxed to the shareholders when distributed as dividends. This creates a double tax. The corporation does not get a tax deduction when it distributes dividends to shareholders. Shareholders cannot deduct any loss of the corporation.

S Corporations are corporations that elect to pass the corporate income, losses, deductions, and credits through to their shareholders for federal tax purposes. Shareholders of S corporations reports the flow-through of income and losses on their personal tax returns and are taxed at the individual income tax rates.

 

Estimated Taxes - Estimated tax is the method used to pay tax on income that is not subject to withholding. This includes income from self-employment, interest, dividends, alimony, rent, gains from the sale of assets, prized and awards. You also may have to pay estimated tax if the amount of income tax being withheld from your salary, pension, or other income is not enough. Estimated tax is used to pay income tax and self-employment tax, as well as other taxes and amounts reported on your tax return.

If you are filing as a Sole Proprietor, partner, S Corporation shareholder, and/or a self-employed individual, you generally have to make estimated tax payments if you expect to owe tax of $1,000 or more when you file your return.

If you are filing as a C Corporation, you generally have to make estimated tax payments for your corporation if you expect it to owe tax of $500 or more when you file its return.

If you had a tax liability for the prior year, you may have to pay estimated tax for the current year.

You should make estimated tax payments if you expect your tax withholdings to be the lesser of:

  1. 90% of tax due shown on your current tax return, OR

  2. 100% of tax due shown on your prior year tax return

 

Self-Employment Tax - Self-Employment tax (SE tax) is Social Security and Medicare taxes primarly for individuals who work for themselves. Generally, you must pay SE tax and file Schedule SE (Form 1040) if either of the following applies:

  • If your net earnings from self-employment were $400 or more

  • If you work for a church that elects exemptions from Social Security and Medicare taxes, you are subject to SE tax if you received $108.28 or more in wages from the church.

The self-employment tax rate is 15.3%. The rate consists of two parts: 12.4% for social security and 2.9% for Medicare.

You can deduct the employer equivalent portion (7.65%) of your self-employment tax in figuring your adjusted gross income. This deduction only affects your income tax. It does not affect either your net earnings from self-employment or your self-employment tax.

 

Employment Tax - When you have employees, you as the employer have certain employment tax responsabilities that you must pay and forms you must file. Employment taxes include the following:

  • Social Security and Medicare Taxes

  • Federal Income Tax withholdings

  • Federal Uneployment (FUTA) Tax

  • Plus, any Local State employment taxes (for California these are SDI, PIT, SUI, ETT)

 

Excise Tax - You may need to pay excise tax if you do any of the following:

  • Manufacture or sell certain products

  • Operate certain kind of business

  • Use various kinds of equipment, facilities, or products

  • Receive payment for certain services

 

The Excise Taxes are:

  • Environmental Taxes

  • Communications and air transportation taxes

  • Fuel taxes

  • Tax on the first retail sale of heavy trucks, trailers, and tractors

  • Manufacturers taxes on the sale or use of variety of different articles.

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