Tax season is a grueling time of year for many small businesses. It’s often associated with the stress of combing through budgets and spreadsheets and working long nights to account for every penny. However, you can prevent tax-season headaches by thinking about your taxes year-round and preparing for tax season long before it’s time to file.
By folding tax planning into your overall business strategy, you can avoid falling behind on your taxes and tackle your taxes far more effectively, possibly even ending up with bigger deductions than you anticipated.
What is strategic tax planning?
Strategic tax planning is when a small business creates a plan to minimize the amount of taxes it pays in a given period. You should start planning formal tax-strategy sessions in the middle of each tax year to give yourself ample time to create and apply your strategies.
Every entrepreneur should have a basic understanding of the provisions of the tax code and work with a certified public accountant (CPA) when possible to implement the correct individualized strategy.
FYI: Small businesses should follow two rules when making a tax plan. First, never incur additional expenses just for a tax deduction. Second, defer taxes when possible to use that money interest-free until the next deadline.
What is the importance of business tax planning?
Business tax planning sets up small business owners for success, putting them in the best possible position for growth. We’ll explore three key benefits of business tax planning.
Business tax planning mitigates your liabilities.
It is essential for small businesses to create a tax plan to mitigate their liabilities, especially when these transactions are taxed. By giving yourself time to prepare for your taxes, you can do the following:
- Avoid common mistakes.
- Maximize tax relief.
- Reduce your payable taxes by deducting your expenses from earned income.
- Have greater control over when you pay your taxes.
According to Anthony Mezzasalma, CPA at Mezzasalma Advisors, an example of poor tax planning is taking in a large amount of revenue before the end of the year that could potentially move your business into the next tax bracket.
Instead of paying more taxes because of that revenue, good tax planning would have your business receive that money at the start of the new year. If delaying revenue isn’t an option, consider spending some of the money on business expenses.
“[Say] a client comes to me in December, and they’re like, ‘I landed a big client, and it’s looking like I have more income [this year]. What can we do about it?'” Mezzasalma said. “If it’s December before [the] end of year … maybe you accelerate your expenses and buy that piece of equipment you were thinking about buying, or you defer some revenue. There’s less you can do after the fact.”
It helps you stay up to date on tax laws.
A tax plan also means you stay updated on the tax law changes. Since the pandemic, deadlines and tax requirements for small businesses have been constantly changing. Having a tax plan helps you understand what’s changed and lets you reassess your strategy accordingly.
With a clear understanding of current tax laws, you won’t risk noncompliance with new or updated regulations, and you’ll minimize the number of errors on your return. In turn, you won’t have to worry as much about an audited return or owing more money down the line.
Strategic tax planning enables growth.
A solid tax-planning strategy allows you to better understand your business’s financial health so that you can make sound financial projections and investments. Additionally, it helps you become more familiar with the ebb and flow of how your business operates.
With proper tax planning, you can also capitalize on any deductions you might be eligible for so that you can save money and further fund your business’s future.
Tip: Some of the best tax-saving tips for small businesses are to stay on top of your adjusted gross income, track your receipts, and use tax preparation and filing software that automatically accounts for tax laws and rules.
Business tax-planning strategies
Here are some of the best tips for keeping taxes a priority for your small business 365 days a year.
1. Use the right business tax software.
One of the best ways to stay on top of your taxes is to use business accounting software. Here are a few of our picks for the best accounting software:
- Intuit QuickBooks Online: We chose QuickBooks Online as the best accounting software for small businesses because of its wide range of features, variety of integrations, affordability and excellent reputation. Its features include professional invoicing, expense tracking and cash flow management. To learn more, read our in-depth Intuit QuickBooks Online review.
- Oracle NetSuite: Oracle NetSuite is our pick for the best enterprise resource planning tools. The software helps you manage billing, reporting and manufacturing in one centralized dashboard. The service offers a tax engine that provides domestic and global tax management, processes taxes according to local laws, and supports all currencies and exchange rates. Read our full review of Oracle NetSuite for more information.
- FreshBooks: FreshBooks is our pick for the best accounting software for invoicing. FreshBooks makes it easy for business owners to create professional invoices and receive payment quickly. Additionally, the software helps you run profit and loss reports, sales tax summaries, and accounts aging and expense reports. Check out our detailed FreshBooks review for additional features.
- Zoho Books: Zoho Books is an excellent option for microbusinesses or small businesses with few employees. The software helps you track bills, manage vendor credits and add reporting tags to transactions. It offers a ton of features at an affordable price for businesses that don’t require a complicated accounting program. Our Zoho Books review goes into more detail about the software’s features.
Automating your accounting tasks and having all your financial documents in one place can be helpful come tax season. By investing in accounting software, you won’t have to worry about untracked expenses or missing documents.
FYI: Many other resources and apps help ensure an efficient tax-filing process. For example, document management systems help you track everything related to your business expenses, income and taxes.
2. Track your spending and have regular budget check-ins.
Aim to track all your spending throughout the year so that none of your fixed and variable expenses are hard to pin down once tax season rolls around. It’s incredible how much you forget when it’s time to file. Noting expenses when they happen ensures you don’t forget them at the end of the year.
“If you’re staying on top of things during the year, you can more easily identify and act on opportunities that you can’t otherwise act on after the year’s over,” Mezzasalma said. “By keeping your books up to date, you can realize how well you’re doing that year and react accordingly.”
For some, it helps to have monthly expense and budget-planning check-ins. For others, it’s best to go through business spending every week. Get on a schedule to track your business’s spending habits consistently. You can also use an app to track your spending. If you don’t track your spending and expenses, you could be hit with fines later, or you may lose sight of possible deductions when filing your taxes.
3. Keep your business and personal expenses separate.
Regardless of whether you’ve been regularly tracking your spending, ensure you separate business expenses from personal expenses to avoid confusion. If you haven’t done so already, set up a separate bank account for your small business and make business purchases using your business credit card only. [Learn how to apply and qualify for a business credit card.]
4. Keep important deadlines top of mind.
Stay aware of crucial deadlines throughout the year to hold yourself accountable. Make a note of all of your tax deadlines, and don’t be afraid to set up business deadlines for yourself. If you want to have monthly or quarterly expense check-ins, keep those on a calendar, and set deadlines for when you want to track your expenses. Keeping critical dates and deadlines organized will help you at tax time.
5. Hire an accountant or business tax professional.
If you find taxes for your small business overwhelming or confusing, or if you just want another resource, consider hiring an accountant or other tax professional to help. Tax professionals are highly knowledgeable and can assist as much or little as you need. They can also help hold you accountable during the year to maintain smart and legal business tax practices and finances. Additionally, a tax professional can help you stay aware of hidden fees and documents.
6. Take advantage of the qualified business income deduction.
The qualified business income deduction provides pass-through business owners a deduction worth up to 20% of their share of a business’s income. However, there are regulations and limitations involved.
Pass-through business entities include sole proprietorships, partnerships, limited liability companies (LLCs) and S corporations that are not subject to corporate income tax because their profits flow through to owners, who are then taxed under the individual income tax.
If you own a specified service trade or business (SSTB) and your income exceeds a certain threshold, you’ll lose out on this deduction. An SSTB can be any service-based business, such as a law firm, medical facility, accounting firm or investment firm.
7. Consider employee bonuses and retirement benefits.
Awarding employee bonuses is an excellent way to motivate and incentivize your employees to work harder, and it’s also tax-deductible for your business. The IRS requires you to finalize bonuses by the end of the year and pay the bonuses within two-and-a-half months from the end of the year. You also must pay the bonus directly to the employee, not to a sole proprietor or LLC, so that the bonus remains tax-deductible.
Similarly, setting up one of the best retirement plans for your employees can reduce your business’s taxable income. If your business sets up a 401(k) plan for an employee before the end of the tax year, you can deduct the contributions made to the plan.
Andrew Martins and Joanna Furlong contributed to the writing and reporting in this article. Source interviews were conducted for a previous version of this article.