You're a small business owner who's killing it in your industry. You've got it all — the talent, the products, the services and the customers. But wait, what's that lurking around the corner? Ah, yes, taxes. The bane of every entrepreneur's existence.
Fortunately, there are several ways to save money on taxes for small businesses. With a little knowledge and some clever planning, it’s simple to know how to reduce taxable income. So grab your calculator — let's get started!
1. Take advantage of deductions
First up on the list is one of the easiest ways to reduce taxable income for small businesses — business deductions. Here are some examples of the most common deductions you can take, whether you’re a sole proprietor, LLC, partnership, C-corp, or S-corp:
- If you have a home office, you can deduct a portion of your rent or mortgage interest, utilities, and other home-related expenses as a home office deduction.
- If you have a company car or use your personal vehicle for business purposes, you can deduct your mileage using the IRS standard rate of 65.5 cents per mile (as of 2023) or actual expenses, including gas, oil changes, and repairs.
- If you purchase any equipment or supplies for your business, such as a new computer or office furniture, you can deduct these expenses.
- If you make any charitable contributions or have uncollectible customer debts, you can deduct these, as well.
Remember to consult with a tax professional to distinguish between deductible and nondeductible expenses, so you don't accidentally claim expenses you shouldn't.
2. Change your business structure
If you’re tired of paying the high cost of taxes as a sole proprietor, changing your business structure can be the key to unlocking significant tax benefits. By transitioning to a limited liability company (LLC) or S-corp, you can benefit from pass-through taxation.
Pass-through taxation is a feature of LLCs and S corporations that allows business income to be taxed on a personal income tax rate. It's like having your cake and eating it, too — only without the added calories!
3. Pay for health insurance
Over the past decade, the cost of family health insurance coverage has surged by 47%, with a 22% increase occurring within the last five years alone, according to a report from the Kaiser Family Foundation.
However, paying for health insurance can provide a double benefit when you're self-employed. Not only does it ensure you have coverage for medical expenses, but the IRS lets you deduct all or part of your insurance premium, lowering your tax bill and saving you money.
4. Save for retirement
Small business owners have tax-advantaged retirement savings options, including a Solo 401(k) for self-employed individuals without employees. How can it reduce taxable income? Simple — the contributions you make are tax deductible. Plus, the account grows tax-deferred until retirement.
If you have employees, setting up a small business retirement plan can help lower your tax bill, too. For example, let's say you own a small consulting firm with three employees. You might set up a SIMPLE IRA plan, which lets you make tax-deductible employer contributions. Plus, you can qualify for a tax credit of up to $500 a year for three years to help offset the startup costs.
5. Hire through the Work Opportunity Tax Credit
Small businesses can claim the Work Opportunity Tax Credit (WOTC) for hiring individuals from certain target groups that have faced barriers to employment. The credit amount varies but can be as high as $2,400 per employee. However, it’s only available until December 31, 2025.
For instance, suppose you own a cleaning company and hire a veteran who recently returned from serving overseas. In addition to becoming eligible for the WOTC, you can give someone who has faced employment challenges a chance to succeed.
6. Reimburse using an accountable plan
If your employee takes a business trip and incurs expenses such as airfare, lodging, and meals, you can reimburse them for these expenses and write them off as a business expense. However, to qualify for the deduction, you must have an accountable plan that meets IRS requirements and provide detailed documentation and receipts to prove that the expenses are legitimate business expenses.
7. Strategically spend on equipment
If you own a business, you must understand how to lower taxable income through strategic spending and depreciation. Depreciation for equipment is like getting a discount on your taxes, because it lets you deduct its cost over the course of a few years.
Suppose you own a construction company and want to buy a new excavator for $150,000. The IRS allows you to offset a portion of that amount over several years due to the excavator's aging and wear and tear. There are various depreciation methods available, so it's essential to consult with your tax professional to determine the best approach for minimizing your tax bill.
8. Take business losses into account
Keeping accurate records of your business losses is a crucial strategy to reduce your tax liability as a small business owner. Compared to commonly used deductions like home mortgage interest and charitable contributions, it can potentially save you thousands of dollars on your tax bill.
9. Plan for year-end tax strategies
Year-end tax planning, such as accelerating or deferring income, making charitable contributions, and maximizing retirement contributions, can lower taxable income. Business owners and independent contractors have deductions and credit available. But planning ahead is critical for avoiding last-minute mistakes and missed opportunities. Here are some tips to help you identify and implement year-end strategies:
- Start early: Begin your year-end tax planning process as early as possible.
- Check your estimated tax payments: Review your estimated tax payments to ensure that you're making accurate payments throughout the year and avoid any underpayment penalties.
- Consult with a tax professional: Work with a tax professional to keep up with the changes in tax laws and ensure you’re using all available deductions and credits.
- Evaluate your inventory: Review your inventory to see if any obsolete or unsellable items can be written off.
- Review your business expenses: Review your business expenses to determine which ones might be deductible and which can be accelerated or deferred to maximize your tax savings.
- Maximize retirement and charity contributions: Consider maximizing your retirement contributions and donating to charity before the end of the year to reduce your taxable income.
Remember, time is money, and planning ahead can save you both.
How NEXT can support small business tax strategy
Having the right business insurance can actually support your tax strategy and save you some cash. Insurance premiums can be tax-deductible, which can lower your taxable income. Plus, having insurance coverage can protect your business from unexpected events and losses, saving you money in the long run.
NEXT creates customized business insurance packages at affordable prices so you can get the coverage you need.
Our streamlined online application allows you to see coverage options and purchase the coverage you need — all in less than 10 minutes. You can access your certificate of insurance online immediately.
If you have questions, our licensed, U.S.-based insurance professionals can help.
