(Posted 6/22/98)

Taxing Tips
By Susan Kushnick

Everything you wanted to know about taxes (but were afraid to ask). Includes a breakdown of the kinds of taxes paid by a small-business owner.

Welcome to the world of small-business and self-employment taxes, where the rules are a little different. You pay in advance four times a year instead of once, you act as both tax collector and payer, and the annual deadline for filing could be as early as March 15.

As a small-business owner, there are six basic kinds of taxes you need to know about:

1. Estimated taxes
2. Payroll taxes
3. Self-employment taxes
4. Corporate taxes
5. Sales taxes
6. State and local taxes

Estimated Taxes
As an individual, you file and pay taxes once a year. Businesses, on the other hand, pay estimated taxes quarterly. The idea is you calculate what you expect to owe on an annual basis, divide it by four, and pay in advance in installments: April 15, July 15, October 15, and January 15. When you file your return on April 15, if the actual amount comes out to less, you either get a refund or apply it to the current year's taxes.

Payroll Taxes
Payroll taxes are designed to fund the unemployment compensation system and Social Security. They work like this:

  • You are required to pay taxes under the Federal Unemployment Tax Act (FUTA) if during the current or preceding calendar year you pay wages of least $1,500 to your employees in any calendar quarter, or if you have at least one employee on any given day in each of 20 different calendar weeks. This tax is a flat 6.2 percent of the first $7,000 of wages that you pay each employee. (After an employee earns more than $7,000 in a given calendar year, you have met your FUTA liability for that year.) You are also required to pay state unemployment taxes to meet your obligations under the State Unemployment Tax Act (SUTA). These taxes vary from state to state. For more details, contact your state's Tax Department or visit the CCH Web site at http://www.toolkit.cch.com for a clickable map with details about each state's unemployment tax requirements.
  • As the employer, you are responsible for withholding federal and state income taxes from the wages of your employees.
  • You must also withhold 7.65 percent of the employees' wages for FICA (Federal Insurance Contribution Act) and you must contribute an additional 7.65 percent of the wages.
  • The total 15.3 percent FICA plus the withheld income tax must be deposited in a federal deposit bank every quarter.
  • Starting in the first quarter of 1998, some companies can pay these taxes by phone using the 941Telefile system, or electronically using the Electronic Federal Tax Payment System (EFTPS). The IRS automatically sends eligible businesses 941Telefile packets, which include instructions for filing. Filing by phone or electronically is free and paperless. (For some businesses, switching from paper to EFTPS is actually mandatory, and there are penalties for not complying by January 1, 1999.)
  • Self-Employment Taxes
    If you are a sole proprietor, an active partner in a partnership, or a manager in a limited liability company (LLC), the net earned income you receive from the business may be subject to self-employment taxes.
    • If you're a sole proprietor, you file an individual income tax form 1040 and attach a Schedule C that itemizes the profits and losses from your business.
    • If your Schedule C shows a net profit of $400 or more, you pay a 15.3 percent self-employment tax on 93.35 percent of your Schedule C income.
    • You also pay a tax calculated on a form called Scheduled SE, that is the sole proprietor's version of FICA.

    Corporate Taxes
    If your business is unincorporated, you can probably get away with figuring out the taxes yourself. But if you've chosen the corporation route, it gets pretty complicated, and you're better off getting an accountant to help.

    The C Corporation is the only business entity that pays taxes. This means if your business is a C corporation, your income is taxed twice--once at the corporate level and once at the personal level. If your business is another type of company, such as an S Corporation or LLC (limited liability company), you calculate the business income and then file under a 1040, or individual, return. A corporation uses form 1120; an S corporation uses form 1120S; and LLCs and partnerships use form 1065. S corporations are exempt from federal income taxes.

    The filing deadline for corporations is March 15 instead of April 15.

    Sales Tax
    If you've got a business that resells a product, you get to put on your tax collector hat to collect the appropriate sales tax to send to the IRS.

    If you buy merchandise that you will be reselling, apply to your state Tax Department for a resale number that will exempt you from paying sales tax yourself on the items you purchase.

    State and Local Taxes
    State and local governments want a piece of you, too. As a matter of fact, as the burden of funding social programs falls more heavily on the states, you can expect to see more of an increase in state and local taxes. Equally worrisome, though, is a trend toward more state tax audits as local governments try to increase tax revenues. So it's especially important to understand the regulations to avoid penalties.

    Here are a few tips:

    • Be sure to collect sales taxes not only in the state where you're based, but in every state you conduct business. Companies that fail to do this could be subject to back taxes, interest, and penalties.
    • If you have a new company that's operating at a loss, you don't have to pay a state income tax. But you're still required to collect sales taxes.
    • Be aware of regulations requiring you to pay property taxes. Taxable property includes real property (land and any improvements to land), inventory, supplies, machinery and equipment, stocks, bonds, mortgages, and intellectual property.
    • The good news from the state and local level is that some states actually offer small business tax incentives and exemptions. In Massachusetts, for example, if your business generates even one new job in an area designated as an "economic target," you'll qualify for property tax credits. In other states, items used in research and development or manufacturing may be eligible.

    Finding an Accountant

    Choose an accountant the same way you would choose a lawyer or doctor: Word-of-mouth recommendations from friends and colleagues work best. You'll most likely get more personal service from a local practitioner who specializes in small businesses than if you went to one of the big accounting firms.

    Accounting fees vary widely, with the small firms charging less than larger companies. Typical fees range from as little as $75 an hour for the services of a tax accountant in a small firm to as much as $200 an hour for someone who works for a larger firm.

    Most small businesses spend about $4,000 a year on accounting services, but you can probably cut down on that expense by doing as much as you can yourself and checking with an accountant to be sure you've got it right. If you do the basic paperwork like sorting business expenses, filing payroll tax forms, and filling out the simpler parts of your tax returns, you'll avoid paying that hefty hourly fee to a CPA (certified public accountant).

    Another way to save on accounting expenses is to forego the services of an expensive CPA and work with an enrolled agent (EA), who can help you prepare and file your tax return and can even represent you if you're audited. EAs typically charge around $60 an hour. To find an EA, visit the Web site of the National Association of Enrolled Agents at http://www.naea.org.

    News from the Tax Front

    Tax laws change often. Here are some new regulations that affect small businesses:

    • If you find yourself involved in a lawsuit with the IRS, you should be heartened to know that the new Taxpayer Bill of Rights shifts the burden of proof from the taxpayer to the IRS. The same law authorizes the IRS to return certain property it seized for failure to pay taxes if the return would make it easier for the taxpayer to meet its tax obligations. In addition, the amount exempt from seizure has been raised to $1,250 from $1,100 for books and tools of trade.
    • A new regulation allows businesses to claim tax credits for hiring certain qualified workers who started working after September 30, 1996 and before October 1, 1997. Employees who qualify include high-risk youths, some veterans, and recipients of food stamps.
    • If you have a home-based business, you may now take a deduction for space in your home used to store product samples as well as inventory if your home business is the only fixed location of a retail or wholesale company and you sell products.
    • If you are self-employed (or are a partner or own 2 percent of an S corporation), you may deduct 40 percent of your medical insurance premiums for yourself and your family. By the year 2007, you will be able to deduct all of it. It phases in at 60 percent in 2002; 80 percent from 2003 to 2005; 90 percent in 2006; and 100 percent in 2007.
    • If you operate a home-based business, you are now able to claim the expenses of maintaining a home office even if you don't spend most of your time there, as a result of a recent U.S. Supreme Court ruling.
    • The mileage rate for business use of a car has been increased to 31.5 cents a mile from 31 cents.
    • The write-off for equipment purchases has been increased to $18,000 from $17,500. Rather than depreciate the cost over a period of years, it can now be applied immediately.

    Software that Does the Job (Almost)

    Although there are several good programs available to help small businesses with tax issues, Jeffrey Frieder, a New York Cityñbased accountant who specializes in small businesses, advises his clients to exercise some caution when using them. Noting instances where software missed important points and deductions, he suggests a cost-saving compromise: Use the programs to prepare the return, but get a professional to look it over before filing. That said, here are the major players in tax preparation software:

    • TurboTax (Intuit) $39.95
    • MacInTax for Business (Intuit) $69.95
    • Kiplinger TaxCut (Block Financial Corp.) $19.95
    • Personal Tax Edge (Parsons Technology) $19

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