Arguably the biggest tax mistake that businesses make is not really giving their taxes the attention they deserve. Some companies wait until they start earning revenue to think about taxes; others wait until year-end to adopt aggressive tax strategies. But to avoid tax trouble down the line, and to hold onto more of your profits, you need to think about taxes from the outset.
As we start a new year, this is a great time to get better financial control over your business. For a first step, we’d like to recommend that you be proactive, taking the necessary steps to save on taxes for the year rather than waiting until the end of the year to do the “tax scramble.”
Follow these steps to start the year off right and stay on top of all of your tax obligations:
1. Choose the right legal entity. The legal entity you choose for your company will greatly impact your taxes, so it’s essential that you carefully think through this decision. It is possible to change your legal entity down the road, if necessary. For many businesses, this can be a good move.
There are many choices when it comes to your legal entity: sole proprietor, partnership, or some form of corporation. Legal entity isn’t a one-size-fits-all proposition. There’s no one “right” choice—only the best choice for your business. Get informed as to the pros and cons of each type of entity. For example, owners of C corps pay a corporate income tax in addition to their individual taxes. Knowing the tax laws associated with each of the entities will help you choose the best legal entity for your small business.
2. Understand your tax obligations. Unfortunately, ignorance of tax laws won’t cut you any slack. You are responsible for knowing—and staying in compliance with—all of your tax responsibilities. Once your business has begun to earn revenue, you’re suddenly on the hook for a multitude of taxes that need to be taken care of on a recurring basis. You need to take into account your particular location and legal entity and ask yourself what full tax compliance looks like for your company? Take into consideration all of the things that you may be responsible for such as state and federal taxes, licensing fees, payroll taxes, and 1099s.
Contact Early Growth Financial Services for all of your tax needs.
3. Separate business and personal finances. It never ceases to amaze me how many small business owners don’t separate their personal finances from their business finances. We see it all the time. So many startups are guilty of using their personal expenses for business usage and business expenses for personal. You simply cannot use one bank account for both personal and business. Open a separate business account and make sure to keep costs separate and maintain a separate income statement and balance sheet. If you need to, you can transfer funds from your personal to business account, and vice versa, as long as the accounts live separately. Failure to keep the lines clear between these accounts can lead to major confusion and time and money spent cleaning up the mess. Worse, you could face legal issues, be forced to pay additional taxes, and even be stripped of its corporate status.
4. Document and deduct all relevant business expenses. Don’t forget to deduct all “ordinary and necessary” business expenses, from business day one. These types of expenses include everything from work-related travel to office supplies to client entertainment and office space, and more. Keep track of expenses as you go, rather than waiting until filing time to dig up those old receipts.
For our clients, we highly recommend using Expensify as an inexpensive solution, for its ease of use and simple integration with QuickBooks. There are plenty of great online expense tools. Just make sure that you choose one that takes pictures of your receipts, imports your credit/debit cards and banking information, auto-creates expense reports, and offers tracking options. And make sure you actually use it!
5. Pay quarterly taxes. Even if you aren’t legally required to pay quarterly taxes, it’s still advisable so as to avoid an end-of-the-year tax bill that throws you into a tailspin. Your first year, you get a free pass, but after that, you’re responsible for regular filing. For example, if you incorporate in 2014, you’ll have to file a tax return in the beginning of 2015. Then, in 2015, you’ll file quarterly, whether you’re an LLC or not. A professional can help you estimate your annual taxes and give you information for filings throughout the year.
6. Use the best accounting tools for your business. Small businesses need a user-friendly system for tracking financial transactions: expenses to revenue earned, billing, and all financial obligations. There are many systems to choose from. At least 80 percent of our clients use Quickbooks because it is relatively inexpensive and easy to use, but there are many other systems—both software and cloud—that could work for your business.
When selecting your accounting system, choose one that allows for dual entry accounting. And think long-term. Look for a system that will work with you now, and grow with you so it’s still the right system for your business wherever it is you find your business, five years down the road and beyond.
7. Seek professional tax help. Once your small business is established, you need your own tax advisor to accept liability, help save you money, and make sure you follow all state and federal regulations. Your tax accountant should be a trusted business partner who understands the needs of small businesses like yours and is committed to working with you year-round to help minimize your taxes.
What are you doing this year to save on taxes? Tell us about it in comments below or contact Early Growth Financial Services to find out how our professional tax services can save you money.
David Ehrenberg is the founder and CEO of Early Growth Financial Services, an outsourced financial services firm that provides small to mid-sized businesses with accounting, CFO services, tax, valuation, and corporate governance services and support. He is a financial expert and small business mentor whose passion is helping businesses to focus on what they do best. Follow David @EarlyGrowthFS.