Effective tax planning is one of the most vexing priorities for a small business owner, and the uncertainty currently hanging over tax reform in Washington doesn’t help. Nonetheless, it is clear that savvy small business owners can benefit from key strategies that will give them a head start on effective tax decisions as the year comes to a close.
1. Make decisions this year that will also work for next year.
One of the most common strategies for small business owners at the end of the year is to accelerate deductions and credits, while deferring income at the same time. If yours is a cash-basis business, this is particularly true and so the temptation is to focus exclusively on decisions that reduce your tax burden for this tax year.
However, it’s also important to keep in mind that the more you defer income this year, the more income you’ll have to report next year (and the more expenses you expedite this year, the fewer deductions you’ll be able to take next year). The point is that this technique is only effective if you use it in moderation to balance your anticipated taxes this year — and next year. Don’t set yourself up for success today while hurting your future position at the same time.
It’s also essential to keep in mind that a dollar spent is not a dollar deducted, so by all means, avoid making major purchases for questionable business priorities just to achieve a tax deduction. Generally speaking, $1.00 spent leads to between zero and sixty cents of tax saved.
2. Maximize your retirement contributions…now.
One of the best strategies for effective year-end tax planning is to use this opportunity to maximize your retirement contributions. As a small business owner, you have the ability to craft a retirement plan that takes advantage of tax deferral rules to maximize both today’s tax savings and tomorrow’s retirement savings as well. This requires consulting a professional since even for simple businesses, there are many options such as 401(K), SEP and SIMPLE plans, but the benefits of this double-win (increasing retirement savings and reducing tax burden) cannot be overstated.
3. Plan carefully for your payroll.
If you’re the owner of an “S” corporation or an LLC which recently declared “S” election with the IRS, you need to complete your payroll before December 31st. What’s essential is that you balance your payroll amount for the year appropriately so that it’s adjusted (either up, or down) based upon your net income. Remember to always file your quarterly payroll since waiting until year-end can also be a flag for a possible IRS audit.
4. Strategize carefully if you face a possible loss.
For small businesses who are in the early stages of their growth, it’s not uncommon for the business to report a Net Operating Loss (NOL) in one or more of the firm’s early-stage growth years. While no business is healthy if it continues to carry a Net Operating Loss indefinitely, a reasonable and anticipated loss can be beneficial from a tax perspective because you may be able to reduce tax payments in the future and also claw back prior tax payments, if applicable. This tax relief can be strategically used to help you achieve a more balanced tax position in future years if you choose to apply it this way.
5. Consider making your family more than just friends of the business.
If you run a small business that your family is involved with in any capacity, consider formalizing their involvement, as in many cases additional tax benefits can accrue. If your spouse is on the payroll, there may be tax benefits if he or she is going to contribute money to your company’s retirement plan. And if a dependent child is on the payroll, the benefits can be myriad. For example, sole proprietorships and single-member LLCs do not have to withhold FICA or payroll taxes if they employee the owner’s minor child in some capacity. There are other approaches that work for “S” or “C” corporations, so to learn more, speak with your accountant or CPA.
6. Don’t wait until year-end to plan your taxes.
As with all business decisions, the key to effective tax strategy is to plan ahead. Ideally, you should be meeting with your CFO or CPA on a monthly or, at a minimum, quarterly basis. The goal of the IRS is to tax you accurately and precisely based upon business decisions and conditions that shift and vary throughout the year. That’s why it’s essential that, after addressing this year’s immediate needs, you carve out time in the New Year to meet with your CPA and specifically talk about next year’s tax strategy. To get ahead, plan ahead!
These six strategies represent just a beginning point in the process of creating and implementing an effective and flexible tax strategy for your business. And as a small business owner, your business tax decisions also have an enduring and immediate impact on your personal taxes as well.
Before implementing any of these strategies, sit down with your CPA and begin a discussion to identify the best tax strategies for your specific business and personal situation. Your commitment, plus your CPA’s expertise, will give you the best path to consistent, reliable results — both now, and in the future.