Small Business Corner

Find answers to common business tax questions and learn more about your federal tax responsibilities as a small business owner.

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Business Income Taxes

 

As a business owner, it is important to understand your tax obligations at the federal, state, and local levels. Doing so will help ensure you file your taxes accurately and make required payments on time. Importantly, the business entity structure you choose when starting a business will determine what taxes you will pay and how you pay them.​

All businesses, except partnerships, must file an annual income tax return. The appropriate form depends on your business entity structure (e.g., LLC, S-Corp, Corporation). For more information about the various entities, see the Business Entities FAQs below.

 

Partnerships file an annual information return (IRS Form 1065) to report income, gains, losses, and other important tax information.

 

Almost every state imposes a business or corporate income tax, though each state and locality has its own tax laws. Check out the Small Business Administration's state-by-state lookup tool to find out the business income tax requirements in your state or territory.

Small Business: Frequently Asked Tax Questions (FATQs)

General

What records do I need to keep for tax purposes?


According to the IRS, you must keep records such as receipts, canceled checks, and other documents (W-2s, 1099s, invoices, etc.) that support any item of income, deduction, or tax credit appearing on a tax return for as long as those records may become material in the administration of any provision of the Internal Revenue Code. Basically, you are required to keep all records that support the amounts reported on your tax return until the time limitations for that return expires (usually 3 years). Generally, records must be kept for at least 3 years, but there are certain situations that require they be kept for longer. Also, if you need information from a previously filed tax return, you may either:

  1. Request a copy of your tax transcript by submitting a Form 4506-T (Request for Trascript of Tax Return); or
  2. Create an account on IRS.gov to view a history of your account transcipts (visit https://www.irs.gov/payments/view-your-tax-account).
For more information, see Taxlete's Recordkeeping topic and IRS Topic No. 305 (Recordkeeping).




What are estimated tax payments? Do I need to make estimated payments, and if so, how do I make the payments?


Taxpayers are generally required to pay taxes on their income as its received or earned. For most employees, these taxes are paid automatically through what is known as tax withholding---the process by which an employer withholds a prefixed amount from an employee's wages to cover the employee's payroll tax obligations (e.g., income tax, social security tax, and Medicare tax). However, if you are self-employed or an independent contractor, then you will generally need to make estimated tax payments to the IRS because you are not subject to employee tax withholding. Sole proprietors, partners, and S corporation shareholders may also need to make estimated tax payments. You generally need to make estimated tax payments if you expect to owe $1,000 or more in taxes (including self-employment tax) when you file your tax return . Use IRS Form 1040-ES (Estimated Tax for Individuals) to calculate and pay the tax. If you are not required to make estimated tax payments, you can pay any tax due at the time you file your return. Estimated Tax Payment Options Estimated tax payments may be made electronically using several different options, including:

  • Paying electronically through the Electronic Federal Tax Payment System (EFTPS);
  • Paying with Direct Pay by authorizing an electronic funds withdrawal when you file Form 1040 or Form 1040-SR electronically; or
  • Paying by credit or debit card over the phone or by Internet.
For more information on estimated tax payments, see Taxlete's blog article entitled Some taxpayers may be required to make estimated tax payments.




When are employment tax deposits due?


Employers must deposit employment taxes on either a monthly or semi-weekly schedule. Before the beginning of each calendar year, employers must determine which of the two deposit schedules they are required to use. The required deposit schedule is based on the employer’s total employment tax liability reported on its IRS Form 941. Note, however, you do not need to make employment tax deposits if your total tax liability for the quarter is less than $2,500; you may pay the liability at the time you file your Form 941. Also, there are special rules for Form 944 and Form 945 filers. Depositng Taxes Employers must use an electronic funds transfer (EFT) to make all federal tax deposits. Generally, an EFT is made using the Electronic Federal Tax Payment System (EFTPS). If an employer does not want to use EFTPS, the employer can make arrangements with a tax professional, financial institution, payroll service, or other trusted third party to make electronic deposits on the employer's behalf. EFTPS is a free service provided by the Department of the Treasury. For more information about EFTPS or to enroll in EFTPS, visit EFTPS.gov or call 800-555-4477 or 800-733-4829 (TDD). Additional information about EFTPS is also available in IRS Publication 966 (Electronic Federal Tax Payment System). Note, the deadlines for depositing employment taxes are not the same as the deadlines for reporting employment taxes. Employers must report and file their employment tax returns quarterly using IRS Form 941 (Employer’s Quarterly Federal Tax Return).




What are employment taxes? As an employer, do I need to pay employment taxes?


Employers are required by law to withhold federal income tax and Federal Insurance Contributions Act (FICA) taxes, which include Social Security and Medicare taxes, from employee wages and pay the withheld wages over to the Internal Revenue Service. The amounts withheld from employee wages are commonly referred to as “trust fund taxes” because the employee’s income and FICA taxes are said to be held in trust by the employer for the United States. These taxes, together with the employer's required share of FICA tax contributions, are commonly called employment taxes. Reporting Employment Taxes Employers are required to report employment taxes quarterly to the IRS by filing Form 941 (Employer’s Quarterly Federal Tax Return). Forms 941 are due on:

  • April 30th (for the period January 1st through March 31st);
  • July 31st (for the period April 1st through June 30th);
  • October 31st (for the period July 1st through September 30th); and
  • January 31st (for the period October 1st through December 31st).
If you timely deposited all taxes when due (as explained below), then you have an additional 10 days past the due date to file Form 941. Depositing Employment Taxes An employer is required by law to make periodic deposits of employment taxes in an appropriate federal depository in accordance with federal tax deposit laws and regulations. There are two deposit schedules: monthly and semi-weekly. Before the beginning of each calendar year, you must determine which of the two deposit schedules you’re required to use. Generally, if you paid more than $50,000 total in employment taxes from July 1, 2018 through June 30, 2019, then you probably fall within the semi-weekly deposit requirement. Review the deposit tables on pages 25 through 29 in IRS Publication 15 (Employer's Tax Guide). Note, however, you do not need to make employment tax deposits if your total tax liability for a given quarter is less than $2,500; you may pay the liability at the time you file your Form 941.




What is unemployment tax? As an employer, am I required to pay unemployment tax?


Employers report and pay federal unemployment ("FUTA") tax separately from its other tax obligations (e.g., federal income tax, social security tax, and Medicare tax). Employers are required to pay FUTA tax solely from their own funds. Employees are not responsible for paying FUTA tax and employers cannot withhold the tax from an employee's wages. For more information on FUTA tax, see IRS Publication 15 (Employer's Tax Guide) and IRS Publication 15-A (Employer's Supplemental Tax Guide).




When is federal unemployment (FUTA) tax due?


Federal unemployment (FUTA) tax deposits are due on January 31st, April 30th, July 31st, and/or October 31st . If the deposit due date falls on a Saturday, Sunday, or legal holiday, you may make the deposit on the next business day. Quarterly Deposit Requirement: If an employer's liability for the fourth quarter (plus any undeposited amount from any earlier quarter) is over $500, deposit the entire amount by January 31st and then continue making tax deposits on a quarterly basis. Annual Deposit Requirement : If an employer's liability for the fourth quarter (plus any deposited amount from any earlier quarter) is $500 or less, an employer may either: (a) make a one-time annual deposit by January 31st; (b) pay the tax with a credit or debit card; or (c) pay the tax when the employer submits its Form 940.




When valuing inventory, what should I include and what should I exclude?


According to the IRS, the value of inventory should include all of the following:

  • Merchandise or stock in trade;
  • Raw materials;
  • Work in process;
  • Finished products; and
  • Supplies that physically become a part of the item intended for sale.
Also, the following merchandise should be included in inventory:
  • Purchased merchandise if title has passed to you even if the merchandise is in transit to you or you do not have physical possession of it for another reason;
  • Goods under contract for sale that you have not yet segregated and applied to the contract;
  • Goods out on consignment; and
  • Goods held for sale in display rooms, merchandise mart rooms, or booths located away from your place of business.
Do not include the following merchandise in inventory:
  • Goods you have sold, but only if title has passed to the buyer;
  • Goods consigned to you; or
  • Goods ordered for future delivery if you do not yet have title.
Some additional items that should not be included in inventory are:
  • Land, buildings, and equipment used in your business
  • Notes, accounts receivable, and similar assets
  • Supplies that do not physically become part of the item intended for sale
For more information, see page 14 of IRS Publication 538 (Accounting Periods and Methods).




Do I need to report payments I make or receive in the course of my business?


Yes. Information Returns If you make or receive payments in the course of your business, you may have to report the payments to the IRS on what is known as an information returns (e.g., IRS Forms 1099-MISC and Forms W-2). The IRS compares the payments shown on information returns with a recepient's income tax return to see if the recepient properly reported the payments as income. Note, you must also provide the recepient with a copy of each information return you are required to file with the IRS. Form 1099-MISC Use IRS Form 1099-MISC (Miscellaneous Income) to report certain payments you make in the course of your business. These payments include the following items:

  • Payments of $600 or more for services performed for your business by people not treated as your employees, such as fees to subcontractors, attorneys, accountants, or directors.
  • Rent payments of $600 or more (except for rents paid to real estate agents).
  • Prizes and awards of $600 or more that are not for services, such as winnings on television or radio shows.
  • Royalty payments of $10 or more.
  • Payments to certain crew members by operators of fishing boats.
You also use Form 1099-MISC to report sales of $5,000 or more of consumer goods to a person for resale anywhere other than in a permanent retail establishment. Form W-2 You must file IRS Form W-2 (Wage and Tax Statement) to report payments to your employees (e.g., wages, tips, and other compensation, withheld income, social security, and Medicare taxes). You can file Forms W-2 online. For more information about Form W-2, see the General Instructions for Forms W-2 and W-3. Penalties The law provides for the following penalties if you are required to file a Form 1099-MISC or a Form W-2 but fail to do so, or if you do not correctly report the information on the forms:
  • Failure-to-file information returns. This penalty applies if you do not file information returns by the due date, do not include all required information, or report incorrect information.
  • Failure-to-furnish correct payee statements. This penalty applies if you do not furnish a required statement to a payee by the required date, do not include all required information, or report incorrect information.




Are there any special reporting requirements for large cash payments I receive in the course of my trade or business?


Yes. If you receive more than $10,000 in cash in one transaction, or two or more related business transactions, then you are required to file IRS Form 8300 (Report of Cash Payments Over $10,000 Received in a Trade or Business). Cash includes U.S. and foreign coin and currency. It also includes certain monetary instruments such as cashier's and traveler's checks and money orders. Cash does not include a check drawn on an individual's personal account (personal check). For more information, see IRS Publication 1544 (Reporting Cash Payments of Over $10,000).




What is an accounting method?


An accounting method is a set of rules used to determine when and how income and expenses are reported. Your accounting method includes not only the overall method of accounting you use, but also the accounting treatment you use for any material item. You choose an accounting method for your business when you file your first income tax return that includes a Schedule C for the business. After that, if you want to change your accounting method, you generally must receive IRS approval. Kinds of Accounting Methods Generally, you can use any of the following accounting methods.

  • Cash method;
  • An accrual method;
  • Special methods of accounting for certain items of income and expenses; or
  • Combination method using elements of two or more of the above.
You must use the same accounting method to figure your taxable income and to keep your books. Also, you must use an accounting method that clearly shows your income.




How does the cash method of accounting work?


Under the cash method, include in your gross income all items of income you actually or constructively receive during your tax year. If you receive property or services, you must include their fair market value in income. According to the IRS, most individuals and many sole proprietors with no inventory use the cash method because they find it easier to keep cash method records. However, if an inventory is necessary to account for your income, you generally must use an accrual method of accounting for sales and purchases, unless you are a small business taxpayer. For more information, see IRS Publication 334 (Inventories). Expenses Under the cash method, you generally deduct expenses in the tax year in which you actually pay them. This includes business expenses for which you contest liability. However, you may not be able to deduct an expense paid in advance or you may be required to capitalize certain costs. See IRS Publication 344 (Uniform Capitalization Rules).




How does the accrual method of accounting work?


Under an accrual method of accounting, you generally report income in the year it is earned and deduct or capitalize expenses in the year they are incurred. The purpose of an accrual method of accounting is to match income and expenses in the correct year. Example: You are a calendar year accrual method taxpayer. You sold a computer on December 28, 2019. You billed the customer in the first week of January 2020, but you did not receive payment until February 2020. You must include the amount received for the computer in your 2019 income.




What is "basis" and "adjusted basis"?


Basis The cost or purchase price of property is usually its basis for figuring the gain or loss from its sale or other disposition. However, if you acquired the property by gift, inheritance, or in some way other than buying it, you must use a basis other than its cost. For more information about basis, see IRS Publication 551: Basis of Assets. Adjusted Basis The adjusted basis of property is your original cost or other basis plus certain additions, and minus certain deductions such as depreciation and casualty losses. In determining gain or loss, the costs of transferring property to a new owner, such as selling expenses, are added to the adjusted basis of the property.




What is an excise tax?


The federal government taxes businesses that manufacture or sell certain products. You may also have to pay this tax in other situations, including if your business uses various types of equipment, facilities, or other products. Learn about federal excise tax requirements and the forms you must file by reviewing the Excise Tax section on the IRS's Business Taxes page.





Self-employed

What does it mean to be "self-employed"?


According to the IRS, you are a self-employed person if you:

  1. Carry on a trade or business as a sole proprietor or an independent contractor;
  2. Are a member of a partnership that carries on a trade or business; or
  3. Are otherwise in business for yourself (including a part-time business).




What constitutes a "trade" or "business" for self-employment purposes?


Generally, a trade or business is an activity carried on to make a profit. The facts and circumstances of each case determine whether or not an activity is a trade or business. You do not need to actually make a profit to be in a trade or business as long as you have a profit motive. You also do need to make ongoing efforts to further the interests of your business.




Who is a sole proprietor?


A sole proprietor is someone who owns an unincorporated business by himself or herself. You are also considered a sole proprietor for income tax purposes if you are an individual and the sole member of a domestic limited liability company (LLC), unless you elect to have the LLC treated as a corporation. See the Business Entities FAQs for more information.




Reporting Business Income: How do I report the business income I receive as a sole proprietor?


Self-employed indiviudals who operate a business as a sole proprietor must report their business income and expenses on an IRS Form Schedule C (Profit or Loss from Business Form) and file it together with their federal income tax return.




Independent Contractor: What does it mean to be an independent contractor?


An independent contractor is an individual or business that contracts with another person or entity to provide goods or services in exchange for compensation. Independent contractors are not employees and, therefore, do not have the same rights and protections afforded to employees.

Generally, people who offer services to the public by way of an independent trade, business, or profession (e.g., doctors, dentists, veterinarians, lawyers, accountants, contractors, subcontractors, public stenographers, and auctioneers) are treated as independent contractors. Also, people who provide a service generally associated with the sharing economy (or on-demand, gig, or access economy), such as ride-sharing, may be treated as independent contractors. However, determining whether someone is an independent contractor rather than an employee depends on the specific facts and circumstances of each situation. General Rule: an individual is an independent contractor if the person paying for the work has the right to control or to direct only the result of the work and not how it will be done. The earnings of a person who is working as an independent contractor are subject to self-employment tax. For more information on determining whether you are an employee or independent contractor, see IRS Publication 15-A (Employer's Supplemental Tax Guide).




What is self-employment tax?


Indiviudals who work for themselves (sole proprietors) are generally required to pay self-employment (SE) tax, which consists of social security and Medicare taxes. These taxes are generally required to be withheld from employee wages (as part of payroll taxes), but this is not the case for indiviudals who are self-employed. Thus, self-employed indiviudals are responsible for remtting these taxes. Your payments of SE tax contribute to your coverage under the social security system. Social security coverage provides you with retirement benefits, disability benefits, survivor benefits, and hospital insurance (Medicare) benefits. You usually must pay self-employment tax if you had net earnings from self-employment of $400 or more . You calculate net earnings by subtracting your ordinary business expenses from the gross income you received in your trade or business. The law sets the SE tax rate as a percentage of your net earnings from self-employment. Currently, that rate is 12.4% for social security and 2.9% for Medicare taxes. Note also that for 2020, the social security tax applies to all earnings up to a maximum of $137,700. There is no similar earnings cap for Medicare taxes. Who is Considered Self-Employed You are considered self-employed for SE tax purpose if you are a sole proprietor (including an independent contractor), a partner in a partnership (including a member of a multi-member limited liability company (LLC) that is treated as a partnership for federal tax purposes) or are otherwise in business for yourself. The term sole proprietor also includes: (a) the member of a single member LLC that's disregarded for federal income tax purposes; and (b) a member of a qualified joint venture. Calculating SE Tax Compute SE tax on Schedule SE (Form 1040 or 1040-SR). Note, you can deduct the employer-equivalent portion of SE tax when determining your adjusted gross income (i.e., as an above-the-line deduction). You can also use the IRS's Interactive Assistant Tool to determine whether you have income that is subject to self-employment tax.




Filing Requirement: Do I have to file an income tax return if I was self-employed during the tax year?


According to the IRS, you have to file an income tax return for 2019 if you had net earnings of $400 or more from self-employment. If your net earnings were less than $400, you still have to file an income tax return if you meet any other filing requirement listed in Charts A, B, or C in the Instructions for IRS Forms 1040 and 1040-SR, pages 9-11.




Reporting Business Payments: Do I need to report business payments I make to vendors or others recipients?


Yes, generally if the payment is $600 or more. Use IRS Form 1099-MISC (Miscellaneous Income) to report certain payments you make in the course of your trade or business. These payments include the following items:

  • Payments of $600 or more for services performed for your business by people not treated as your employees, such as fees to subcontractors, attorneys, accountants, or directors.
  • Rent payments of $600 or more, other than rents paid to real estate agents.
  • Prizes and awards of $600 or more that are not for services, such as winnings on TV or radio shows.
  • Royalty payments of $10 or more.
  • Payments to certain crew members by operators of fishing boats.
You must also use Form 1099-MISC to report your sales of $5,000 or more of consumer goods to a person for resale anywhere other than in a permanent retail establishment.




Large Transactions: If my business received more than $10,000 in cash from one transaction, am I required to report that transaction to the IRS?


Yes. If you receive more than $10,000 in cash in one transaction (or from two or more related business transactions) you must file an IRS Form 8300 (Report of Cash Payments Over $10,000 Received in a Trade or Business). Cash includes U.S. and foreign coin and currency. It also includes certain monetary instruments such as cashier's and traveler's checks and money orders. Cash does not include a check drawn on an individual's personal account (personal check). Penalties There are civil and criminal penalties, including up to 5 years in prison, for: (1) not filing a Form 8300; (2) filing (or causing the filing of) a false or fraudulent Form 8300; or (3) structuring a transaction to evade reporting requirements. For more information, see IRS Publication 1544: Reporting Cash Payments of Over $10,000 (Received in a Trade or Business).





Business Entities

What are the tax differences between a sole proprietorship, a partnership, an LLC, and a corporation?


Sole Proprietorships Sole proprietors must report all business income or losses on their personal income tax return; the business itself is not taxed separately. The IRS calls this “pass-through” taxation because business profits pass through the business to be taxed on a sole proprietor's personal tax return. For more information, see the Self-Employed FAQs or visit the IRS's Sole Proprietorships page. Partnerships A partnership is the relationship existing between two or more persons who join to carry on a trade or business. Similar to sole proprietors, partnerships are considered pass-through entities for tax purposes. That is, the partnerships's profits or lossess pass through to the individual partners who must then report the profits or losses on their personal income tax returns. Even though a partnserhip does not file an income tax return, it must still file an annual information return to report the income, deductions, gains, losses, etc. from its operations. Instead, as stated above, it passes through any profits or losses to each of its partners. Each partner includes his or her share of the partnership's income or loss on his or her tax return. Partners are not employees and should not be issued a Form W-2. The partnership must furnish copies of Schedule K-1 (Form 1065) to the partners by the date Form 1065 is required to be filed, including extensions. For more information, see the Partnerships FAQs or visit the IRS's Partnership page. Limited Liability Companies A Limited Liability Company (LLC) is a business structure allowed by state statute. Each state may use different regulations so be sure to review your state's specific requirements if you are interested in starting a LLC. Owners of an LLC are called members. Most states do not restrict ownership, so members may include individuals, corporations, other LLCs and foreign entities. There is no maximum number of members. Most states also permit “single-member” LLCs, those having only one owner. Depending on elections made by the LLC and the number of members, the IRS will treat an LLC as either a corporation, partnership, or as a disregarded entity (part of the LLC’s owner’s tax return). Specifically, a domestic LLC with at least two members is classified as a partnership for federal income tax purposes unless it files IRS Form 8832 (Entity Classification Election) and affirmatively elects to be treated as a corporation. For income tax purposes, an LLC with only one member is treated as a disregarded entity unless it files IRS Form 8832 and elects to be treated as a corporation. However, for purposes of employment tax and certain excise taxes, an LLC with only one member is still considered a separate entity. For more information, visit the IRS's Limited Liability Company (LLC) page. Corporations For federal income tax purposes, a C corporation is recognized as a separate taxpaying entity. A corporation conducts business, realizes net income or loss, pays taxes and distributes profits to shareholders. 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 situation. Importantly, the corporation does not receive a tax deduction when it distributes dividends to shareholders, and shareholders cannot deduct any losses attributed to the corporation. For more information, see the FAQs for Corporations or visit the IRS's Forming a Corporation page. S Corporations S corporations are corporations that elect to pass corporate income, losses, deductions, and credits through to their shareholders for federal tax purposes. Shareholders of S corporations report the flow-through of income and losses on their personal tax returns and are assessed tax at their individual income tax rates. This allows S corporations to avoid double taxation on the corporate income. S corporations are responsible for tax on certain built-in gains and passive income at the entity level. For more information, see the Corporations FAQ section or visit the IRS's S Corporation page.




What is a limited liability company (LLC)?


A limited liability company (LLC) is an entity formed under state law by filing certain articles of organization. Generally, for income tax purposes, a single-member LLC is disregarded as an entity separate from its owner and reports its income and deductions on its owner's federal income tax return. For example, if the single-member LLC is not engaged in farming and the owner is an individual, he or she may use a Schedule C to report income or losses for the relevant tax year.




What is an S corporation?


An S corporation is a corporation that elects to pass corporate income, losses, deductions, and credits through to its shareholders for federal tax purposes. Shareholders of S corporations report the flow-through of income and losses on their personal tax returns and are assessed tax at their individual income tax rates. This allows S corporations to avoid double taxation on corporate income. However, S corporations are responsible for tax on certain built-in gains and passive income at the entity level. To qualify for S corporation status, the corporation must meet the following requirements:

  1. Have only allowable shareholders;
    • That is, individuals, certain trusts, and estates;
    • May not be partnerships, corporations or non-resident alien shareholders;
  2. Be a domestic corporation;
  3. Have no more than 100 shareholders;
  4. Have only one class of stock; and
  5. Not be an ineligible corporation (i.e., certain financial institutions, insurance companies, and domestic international sales corporations).
In order to become an S corporation, the corporation must submit IRS Form 2553 (Election by a Small Business Corporation) signed by all the shareholders. For more information, see IRS.gov (S Corporations).




Does an S corporation pay tax on its income?


In general, an S corporation does not pay tax on its income. Instead, the income, losses, deductions, and credits of the corporation are passed through to the shareholders based on each shareholder's pro rata share. You must report your share of these items on your personal tax return. Generally, the items passed through to you will increase or decrease the basis of your S corporation stock as appropriate.




For tax purposes, does the IRS treat an single-member LLC differently than a multi-member LLC?


Yes. Multi-Member LLC A domestic LLC with at least two members is classified as a partnership for federal income tax purposes unless it files IRS Form 8832 (Entity Classification Election) and affirmatively elects to be treated as a corporation. This means that the LLC does not file its own income tax return but it is required to file an information return (IRS Form 1065) that reports the income, deductions, gains, losses, etc. from its operations. For more information, see the Partnerships FAQs. Single-Member LLC An LLC with only one member is treated as a disregarded entity for tax purposes unless it files IRS Form 8832 and elects to be treated as a corporation. This means that the LLC does not file its own income tax return; instead, the LLC's profits or losses flow through to the indiviudal owner who then reports the profits or losses on his or her personal income tax return (usually on a Schedule C). However, for purposes of employment tax and certain excise taxes, an LLC with only one member is still considered a separate entity.




Partnerships: How do they file and pay quarterly estimated tax payments?


Partnerships are not required to file an income tax return, but they are required to file an information return--- IRS Form 1065 (U.S. Return of Partnership Income)---to report income and expenses. A partnership does not pay tax on its income, but rather it "passes through" any profits or losses to its partners. Generally, the partnership must prepare and give partners a Schedule K-1 (Partner’s Share of Income, Deductions, Credits, etc.). The partners report the information from the K-1 on their individual income tax returns and pay any taxes due, including estimated taxes. How Partners Pay Estimated Tax Because partners are not employees of the partnership, partnerships do not withhold tax from their distributions to pay the partners' income and self-employment taxes shown on their Forms 1040 (U.S. Individual Income Tax Return). Thus, the partners may need to pay estimated tax payments using a Form 1040-ES (Estimated Tax for Individuals). As a partner, you can pay the estimated tax by:

  • Crediting an overpayment on your previous return to the estimated tax due in the current tax year;
  • Mailing your payment (check or money order) with a payment voucher from Form 1040-ES;
  • Using Direct Pay;
  • Using the Electronic Federal Tax Payment System (EFTPS);
  • Requesting an electronic funds withdrawal (EFW) if you are filing Form 1040 electronically;
  • Using a credit or debit card; or
  • Cash.
For more information, see the following resources:




Partnerships: How are they taxed?


A partnership generally is not a taxable entity. The income, gains, losses, deductions, and credits of a partnership pass through to its partners based on each partner's distributive share of these items. Generally, the partnership must prepare a Schedule K-1 (Partner’s Share of Income, Deductions, Credits, etc.) for each of its partners. The partners then report the information from the K-1 on their individual income tax returns and pay any taxes due, including estimated taxes.For more information, see IRS Publication 541 (Partnerships).




Partnerships: How do you determine a partner's distributive share for tax purposes?


A partner's distributive share of partnership income, gains, losses, deductions, or credits generally is based on the partnership agreement. Partners must report their distributive share of these items on their income tax return regardless of whether any of the items are actually distributed to the partners. However, a partner's distributive share of the partnership losses (including capital losses) is limited to the adjusted basis of the partner's partnership interest at the end of the partnership year in which the losses took place. For information, see IRS Publication 541 (Partnerships).




Partnerships: Even though the partnership is not a taxable entity, does it still need to file a tax return?


Yes. Although a partnership generally pays no tax, it must file an information return on a Form 1065 (U.S. Return of Partnership Income). This shows the result of the partnership's operations for its tax year and the items that must be passed through to the partners.




Does an S corporation file a tax return?


Yes. An S corporation must file a Form 1120S (U.S. Income Tax Return for an S Corporation). This shows the results of the corporation's operations for its tax year and the items of income, losses, deductions, or credits that affect the shareholders' individual income tax returns. For additional information, see the Instructions for Form 1120S.





Deductions

Business Income: Can I deduct a portion of my business income?


Yes. For tax years 2018 through 2026, taxpayers (except for corporations) with pass-through business income are allowed a pass-through deduction for a portion of the qualified business income (QBI). Generally, the amount of the deduction cannot exceed 20% of the qualified pass-through business income with respect to a qualified trade or business, subject to certain limitations. Remember, a pass-through entitiy is any business that is a: (a) sole proprietorship; (b) partnership; (c) S corporation; (d) limited liability company (LLC); or (e) limited liability partnership (LLP). A qualified trade or business is any trade except the performance of services as an employee, or trades or businesses that provide services in the fields of health, law, accounting, actuarial science, performing arts, consulting, athletics, financial services, brokerage services, any business who principal asset is the skill and reputation of one or more employees or owners, and investment management and securities and commodities dealers and traders. These excepted trades or businesses are called " specified service trade or business" (SSTB). If your business is a SSTB and your taxablae income is over a certain amount, the QBI deduction gradually phases out. For 2018, the phase-out range for married indiviudals filing jointly begins at $315,00 and ends at $415,000. Thus, the QBI deduction is no longer available for these taxpayers once there taxable income exceeds $415,000. Note also that employees do not qualify for the pass-through deduction. IRS regulations make it clear that employees cannot claim the deduction simply by having their employers reclassify them as independent contractors. For more information, see IRS Publication 535 (Business Expenses), Chapter 12, page 50.




Meals & Entertainment: Can I deduct business expenses for meals and entertainment?


The 2018 Tax Cut and Jobs Act eliminated the deduction for expenses related to activities generally considered entertainment, amusement or recreational. According to the IRS, taxpayers may continue to deduct 50% of the cost of business meals if:

  1. The expense is an ordinary and necessary expense paid or incurred during the taxable year in carrying on any trade or business;
  2. The expense is not lavish or extravagant under the circumstances;
  3. The taxpayer, or an employee of the taxpayer, is present at the furnishing of the food or beverages;
  4. The food and beverages are provided to a current or potential business customer, client, consultant, or similar business contact; and
  5. In the case of food and beverages provided during or at an entertainment activity, the food and beverages are purchased separately from the entertainment, or the cost of the food and beverages is stated separately from the cost of the entertainment on one or more bills, invoices, or receipts.
For more information, see the following IRS video:




Home Office: Can I deduct business expenses related to the use of my home office?


Yes. If you use part of your home for business, you may be able to deduct expenses for the business use of your home. The home office deduction is available for homeowners and renters, and applies to all types of homes. Simplified Option The IRS provides a simplified method to determine your expenses for business use of your home. The simplified method is an alternative to calculating and substantiating actual expenses. In most cases, you will figure your deduction by multiplying $5 by the area of your home used for a qualified business use. The area you use to figure your deduction is limited to 300 square feet. For more information, see the Instructions for Schedule C (Form 1040). Standard Method Taxpayers using the standard method instead of the simplified method must determine the actual expenses of their home office. These expenses may include mortgage interest, insurance, utilities, repairs, and depreciation. Generally, when using the standard method, deductions for a home office are based on the percentage of your home devoted to business use. So, if you use a whole room or part of a room for conducting your business, you need to figure out the percentage of your home devoted to your business activities. Requirements to Claim the Home Office Deduction Regardless of the method chosen, there are three basic requirements for your home office to qualify for the deduction.

  1. Exclusive use test;
  2. Regulat use test; and
  3. Principal place of your business test.
Exclusive Use Test To qualify under the exclusive use test, you must use a specific area of your home only for your trade or business. The area used for business can be a room or other separately identifiable space. The space does not need to be marked off by a permanent partition. Note, you do not meet the requirements of the exclusive use test if you use the area in question both for business and for personal purposes. Regular Use Test To qualify under the regular use test, you must use a specific area of your home for business on a continuing basis. You do not meet the test if your business use of the area is only occasional or incidental, even if you do not use that area for any other purpose. Principal Place of Your Business Test You must show that you use your home as your principal place of business. If you conduct business at a location outside of your home, but also use your home substantially and regularly to conduct business, you may qualify for a home office deduction. For example, if you have in-person meetings with patients, clients, or customers in your home in the normal course of your business, even though you also carry on business at another location, you can deduct your expenses for the part of your home used exclusively and regularly for business. You can deduct expenses for a separate free-standing structure, such as a studio, garage, or barn, if you use it exclusively and regularly for your business. The structure does not have to be your principal place of business or the only place where you meet patients, clients, or customers. Generally, deductions for a home office are based on the percentage of your home devoted to business use. So, if you use a whole room or part of a room for conducting your business, you need to figure out the percentage of your home devoted to your business activities. For more information, see the IRS's Home Office Deduction page.




Business Equipment: Can I deduct the cost of equipment that I buy to use in my business?


Equipment is generally considered a capital asset. You can deduct the cost of a capital asset, but not all at once. The general rule requires you to depreciate the asset by deducting a portion of asset's cost on your tax return over several years. Section 179 Deduction Exception You can choose to take an immediate deduction for certain types of property that you would otherwise depreciate over several years. You must make this election in the year that you placed the property in service using Form 4562 (Depreciation and Amortization). However, you cannot take this special deduction on property that you have previously used personally and then converted to business use. This deduction is limited to your wages and net business income. There is also a maximum dollar limit, which changes from year to year. The maximum dollar limitation is printed on the Form 4562 every year. For 2019, the expense deduction was limited to $1,020,000. If you cannot use all of the Section 179 Deduction because of the income limit, you can carry the unused deduction over to the next tax year. De Minimus Safe Harbor Rule Alternatively, you may deduct the cost of tangible personal property under the IRS's de minimus safe harbor rule. The deduction limit is $2,500 per invoice or item ($5,00 for taxpayers with applicable financial statements). But if you choose this option, then you must take the deduction for all qualified property. Under the Section 179 option, however, you can choose to deduct some items and capitalize others. For more information about the de minimus safe harbor rule, see the IRS's FAQ page on Tangible Property Regulations. For more information, see IRS Publication 946 (How to Depreciate Property).




Rental Equipment: Can I deduct the rental costs for equipment I rent or lease for my business?


Yes. If you are renting or leasing an asset, you can deduct your monthly rent or lease costs as an expense.




Building Improvements: I have owned a building for several years and made major improvements to it this year. Can I deduct the cost of those improvements?


Normally, the cost of major improvements is not deductible all in one year. They must be capitalized and depreciated. The total improvements you made in a given year are treated as though you purchased a new building. Thus, you would recover the cost of the improvement using the depreciation methods in effect for the tax year you made them. But there is an exception under I.R.C. section 179.
Section 179 Property A taxpayer may elect to expense the cost of the following improvements made to nonresidential real property after the date when the property was first placed in service:

  1. Qualified improvement property, which means any improvement to a building’s interior.
    • However, improvements do not qualify if they are attributable to: (a) the enlargement of the building, (b) any elevator or escalator; or (c) the internal structural framework of the building.\
  2. Roofs, HVAC, fire protection systems, alarm systems and security systems.
For more information, see the IRS's fact sheet on this topic.




Cost of Goods: Can I deduct the cost of the goods I sell in my trade or business?


Yes. If you make or buy goods to sell, you can deduct the cost of goods sold (COGS) from your gross receipts on a Schedule C (which you file with your federal tax return). However, to determine these costs, you must value your inventory at the beginning and end of each tax year. Calculating Cost of Goods Sold Calculate your cost of goods sold by filling out lines 35 through 42 of your Schedule C. These lines are reproduced below. Line 35: _______ Inventory at beginning of year
Note, if this amount is different from the closing inventory amount reported on your prior year's tax return, you will need to attach an explanation. Line 36: _______ Purchases (substract the cost of items withdrawn for personal use) Line 37: _______ Cost of labor (do not include any amounts paid to yourself) Line 38: _______ Materials and supplies Line 39: _______ Other costs Line 40: _______ Add lines 35 through 39 Line 41: _______ Inventory remaining at end of year Line 42: _______ Subtract line 41 from line 40 to arrive at COGS Notable Exception: Treating Inventory as Non-incidental Materials & Supplies Small business owners can elect to not keep an inventory, and subsequently treat inventory items as non-incindental materials and supplies. This election enables small business taxpayers to deduct the costs to acquire or produce an inventory item rather than being burdened with having to track the value of the inventory item. For more information, see Taxlete's blog post entitled Treating inventories as non-incidental materials & supplies: an exception worth understanding. For more information about each of the lines involved in calculating COGS, see IRS Publication 334 (Tax Guide for Small Business).




Gifts: Can I deduct the costs of gifts I give to people in the course of my trade or business?


Yes, but you can deduct no more than $25 for business gifts you give directly or indirectly to each person during your tax year. Examples of indirect gifts:

  • A gift to a company that is intended for the eventual personal use or benefit of a particular person or a limited class of people will be considered an indirect gift to that particular person or to the individuals within that class of people who receive the gift.
  • If you give a gift to a member of a customer's family, the gift is generally considered to be an indirect gift to the customer.
Special Rules:
  • If you and your spouse both give gifts, both of you are treated as one taxpayer. It does not matter whether you have separate businesses, are separately employed, or whether each of you has an independent connection with the recipient.
  • If a partnership gives gifts, the partnership and the partners are treated as one taxpayer.
Exceptions to the $25 Limit: The following items are NOT considered gifts for purposes of the $25 limit:
  1. An item that costs $4 or less and:
    • Has your name clearly and permanently imprinted on the gift, and
    • Is one of a number of identical items you widely distribute (e.g., pens, desk sets, and plastic bags and cases).
  2. Signs, display racks, or other promotional material to be used on the business premises of the recipient.
For more information, see IRS Publication 463 (Travel, Gift, and Car Expenses).





Depreciation

Capital Assets: Are there any other capital assets besides equipment that can be depreciated?


There are several types of capital assets that can be depreciated when you use them in your business, including real property (i.e., buildings or anything else built on or attached to land) and personal property (cars, trucks, equipment, furniture, or almost anything that is not real property). You may depreciate property that meets all the following requirements:

  1. It must be property you own;
  2. It must be used in a business or income-producing activity;
  3. It must have a determinable useful life;
  4. It must be expected to last more than one year; and
  5. It must not be excepted property.
    • Excepted property---as described in IRS Publication 946 (How to Depreciate Property)---includes certain intangible property, certain term interests, equipment used to build capital improvements, and property placed in service and disposed of in the same year.
For more information, see IRS Topic No. 704 (Depreciation).




Land: Can I depreciate the cost of land?


No. Land can never be depreciated. Since land cannot be depreciated, you need to allocate the original purchase price between land and building. You can use the property tax assessor's values to compute a ratio of the value of the land to the building.




Mixed-Use Capital Assets: How do I depreciate a capital asset (like a car) that I use for both business and personal?


Only the business portion of the asset can be depreciated on your tax return. For example, if you use your car 60% for business use, depreciation can be claimed on 60% of the cost.




If I owe money on an asset, can I still depreciate it?


Yes. As long as you are responsible for making payments on the asset, you can take a depreciation deduction.




What is depreciation?


Depreciation is the annual deduction that allows you to recover the cost or other basis of your business or investment property over a certain number of years. Depreciation starts when you first use the property in your business or for the production of income. It ends when you either take the property out of service, deduct all your depreciable cost or basis, or no longer use the property in your business or for the production of income. If property you acquire to use in your business is expected to last more than 1 year, you generally cannot deduct the entire cost as a business expense in the year you acquire it. You must spread the cost over more than 1 tax year and deduct part of the cost each year on a Schedule C. You can depreciate property that meets all of the following requirements:

  1. It must be property you own;
  2. It must be used in business or held to produce income (you never can depreciate inventory because it is not held for use in your business);
  3. It must have a useful life that extends substantially beyond the year it is placed in service;
  4. It must have a determinable useful life, which means that it must be something that wears out, decays, gets used up, becomes obsolete, or loses its value from natural causes (you never can depreciate the cost of land because land does not wear out, become obsolete, or get used up); and
  5. It must not be excepted property, which includes property placed in service and disposed of in the same year.
For more information, see IRS Publication 946 (How to Depreciate Property) and IRS Topic No. 704 (Depreciation).




What information do I need to compute depreciation on my capital assets?


You need the following information to compute depreciation:

  1. Basis;
  2. Class Life;
  3. Placed in Service; and
  4. Method of Depreciation.




What is basis?


Basis is your original cost in the asset, including sales tax, freight and installation. The cost of the property includes:

  1. Cash;
  2. The amount of money borrowed to purchase the asset;
  3. The value of any items you traded for the new asset; and
  4. The value of bartered services.
Your basis will increase by the amount of major improvements you make to the property and will decrease by the amount of depreciation deductions you take on your tax return. This adjusted basis is used to measure your gain or loss when you sell the property.




What is class life?


Class life is the number of years over which an asset can be depreciated. Federal tax law defines a specific class life for each type of asset. For example, real property has a class life of 39 years, office furniture has 7 years, and automobiles have 5 years. For more information, see IRS Publication 946 (How to Depreciate Property).




Why is the term "placed in service" important?


Property is placed in service when it is ready and available for use in your business even if you have not begun using it. This date determines when you can begin to depreciate the asset.




Can I depreciate inventory?


No. You cannot depreciate inventory because it is not held for use in your business. Inventory is any property you hold primarily for sale to customers in the ordinary course of your business.




What method of depreciation do most taxpayers use?


According to the IRS, the method used by most taxpayers is the Modified Accelerated Cost Recovery System (MACRS). MACRS provides a uniform method for all taxpayers to compute the depreciation. Using the basis, class life, and the MACRS tables, you can compute the deduction for each asset in the year it is placed in service and each subsequent year of its class life. Example: Shawn bought and placed in service a used pickup for $15,000 on March 5, 1998. The pickup has a 5 year class life. His depreciation deduction for each year is computed in the following table. Straight Line Method This method lets you deduct the same amount of depreciation each year over the useful life of the property. To figure your deduction, first determine the adjusted basis, salvage value, and estimated useful life of your property. Subtract the salvage value, if any, from the adjusted basis. The balance is the total depreciation you can take over the useful life of the property. Divide the balance by the number of years in the useful life. This gives you your yearly depreciation deduction. Unless there is a big change in adjusted basis or useful life, this amount will stay the same throughout the time you depreciate the property. If, in the first year, you use the property for less than a full year, you must prorate your depreciation deduction for the number of months in use. Example: In April, Frank bought a patent for $5,100 that is not a section 197 intangible. He depreciates the patent under the straight-line method, using a 17-year useful life and no salvage value. He divides the $5,100 basis by 17 years to get his $300 yearly depreciation deduction. He only used the patent for 9 months during the first year, so he multiplies $300 by 9/12 to get his deduction of $225 for the first year. Next year, Frank can deduct $300 for the full year. For more information, see IRS Publication 946 (How to Depreciate Property).




Are there any exception to the general rule that the costs to acquire business property must be depreciated?


Yes. Rather than depreciate the costs to acquire certain capital assets, business taxpayers may choose to deduct the costs in accordance with either of the two exceptions:

  1. The Section 179 Deduction; or
  2. The De Minimus Safe Harbor Rule.
Section 179 Deduction Exception Under the exception, you can choose to take an immediate deduction for tangible personal property and qualified real property that you would otherwise be required to depreciate over several years. You must make this election in the year that you placed the property in service using IRS Form 4562 (Depreciation and Amortization). You cannot take this special deduction on property that you have previously used personally and then converted to business use. This special deduction is limited to your wages and net business income, and there is also a maximum dollar limit, which changes from year to year. The maximum dollar limitation is printed on the Instructions to the Form 4562 every year. For 2019, the expense deduction was limited to $1,020,000. If you cannot use all of the Section 179 Deduction because of the income limit, you can carry the unused deduction over to the next tax year. De Minimus Safe Harbor Rule Alternatively, you may deduct the cost of tangible personal property under the IRS's de minimus safe harbor rule. The deduction limit is $2,500 per invoice or item ($5,00 for taxpayers with applicable financial statements). But if you choose this option, then you must take the deduction for all qualified property. Under the Section 179 option, however, you can choose to deduct some items and capitalize others. For more information about the de minimus safe harbor rule, see the IRS's FAQ page on Tangible Property Regulations. For more information on the Section 179 Deduction, see the Instructions for Form 4562.




Rental or Leased Equipment: Can I claim depreciation on equipment that I rent or lease for my business?


No. Usually only the owner can depreciate a capital asset.




100% Bonus Depreciation: What is it and how does it work?


Bonus depreciation is a tax incentive that allows a business to immediately deduct a large percentage of the purchase price of eligible assets, such as machinery, rather than write them off over the "useful life" of that asset. The 2018 Tax Cuts and Jobs Act increased the bonus depreciation percentage from 50% to 100% for qualified property acquired and placed in service after Sept. 27, 2017, and before Jan. 1, 2023. Note, though, the bonus depreciation percentage for qualified property that a taxpayer acquired before Sept. 28, 2017, and placed in service before Jan. 1, 2018, remains at 50%. NOTE - A taxpayer must elect to take bonus depreciation in the first year that the depreciable item is placed in service. However, businesses can elect not to use bonus depreciation and instead depreciate the property over a longer period if they find that to be more advantageous. Qualified Property Property is considered "qualified property" for purposes of 100% bonus depreciation if it meets the following:

  • Tangible property depreciated under MACRS with a recovery period of 20 years or less;
  • Computer software defined in and depreciated under section 167(f)(1) of the Internal Revenue Code;
  • Water utility property;
  • Qualified film, television, and live theatrical productions, as defined in sections 181(d) and (e) of the Internal Revenue Code;
  • A specified plant for which you made the election to apply section 168(k)(5) for the tax year in which the plant is planted or grafted; or
  • It is not excepted property.
For more information, see IRS Publication 946 (How to Depreciate Property).





 

Form 941


Form 941 is used by employer's to report the amounts withheld from employees' paychecks for income, social security and medicare taxes.

Form 1065

Partnerships file an information return (Form 1065) to report their income, gains, losses, deductions, credits, etc.

Form 1120

Form 1120 is used by domestic corporations use to: (a) report their income, gains, losses, deductions, or credits; and (b) figure their income tax liability.

Form W-2

A Form W-2 should be completed by an employer for each employee that was paid $600 or more during the tax year (to include non-cash payments).

Form 940

Form 940 is used to report an employer's annual Federal Unemployment Tax Act (FUTA) tax. 

Schedule K-1 (Form 1065)

Schedule K-1 is used to report a partner's share of partnership income, losses, deductions, and credits. 

Schedule C (Form 1040)

Use Schedule C to report income or loss from a business you operated or a profession you practiced as a sole proprietor.

Form 1099-MISC

File a Form 1099-MISC for each person or entity you paid $600 or more to during the year in the course of your trade or business. This includes payments made to independent contractors and payments for rent.

 
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