By taking a closer look at your business’s financial situation, you may be able to identify potential tax savings strategies. As you evaluate potential credits and minimization opportunities, keep in mind that the application of various strategies may differ depending upon your business’s unique situation and accounting method. Here’s how to assess your options and, ultimately, help keep the tax tab down.
“Small-business taxpayers generally choose their accounting method when they start the business and file their first tax return. After that, taxpayers must get approval from the IRS to change their method of accounting,” says David Walters, CPA, CFP (Certified Financial Planner) with Palisades Hudson Financial Group in Portland, Oregon.
The cash basis method reports the actual inflow and outflow of cash and allows for deductions and income reported for the year they are paid and received, while the accrual basis method applies income and expenses in the year incurred. “Most taxpayers use the cash basis method of accounting so they are only paying taxes on what they’ve collected, although businesses with inventory may be required to use the accrual basis method,” he says.
The cash basis method allows businesses to take steps to improve their tax outlook. “Since the reporting of income and expenses for cash basis taxpayers is not tied to the performance of the service itself, they typically have more flexibility at the end of the year to manipulate income and expenses,” says Walters.
To help keep your tax tab down, consider these five tax planning tips:
1. Stay organized and meet with a professional
It’s easy to put off tax planning, but constantly liaising with your accountant will help you maximize savings year round. View each business quarter as an opportunity to make progress in your big picture tax plan. Work with your accountant to determine the best accounting method for your business. Confirm that you’re taking advantage of all applicable deductions, and that you understand all relevant tax regulations and laws, which change regularly.
2. Introduce retirement accounts
“Consider putting a pension plan in place for your business. It is a great way for a small business owner to save taxes and accumulate money for retirement along with keeping and attracting talented employees,” says Mario Conde, a certified public accountant and founding partner of CondeBoyce, LLP, one of the leading full-service public accounting firms in the New York metro area.
3. Watch out for sloppy bookkeeping
Make sure your accounting records are up-to-date and that you’ve correctly labeled loans to the business made by yourself or an outside source in your business ledgers. “Periodically, I see loan money recorded as revenue in the ledgers, and you don’t want to pay extra taxes because of sloppy bookkeeping,” says Conde. “Also make sure you have recorded any out-of-pocket business expenses that were, for whatever reason, paid with personal funds instead of business funds.”
4. Evaluate your corporate structure
Work with a tax and/or legal professional to evaluate your business entity. “Are you operating as a sole proprietor when you should be an S corporation or a limited liability company? Consider doing this now so any change in entity structure is in place as soon as possible,” Conde advises.
5. Accelerate deductions and defer income
If you are a cash basis taxpayer, income is taxed in the year it is received. “It may be a good idea to defer at least some of your year-end accounts payable until the following year”, says Deborah Sweeney, CEO of MyCorporation, which helps small-business owners incorporate and form LLCs. Doing so can help reduce your overall tax liability.
“Keep in mind that it only makes sense to defer income if you think you will be in the same or lower tax bracket next year. You don’t want to be hit with a bigger tax bill next year if additional income could push you into a higher tax bracket,” she notes.
Increase your deductions by strategically purchasing big ticket items, such as equipment or software. Cash basis taxpayers may pay outstanding vendor invoices as well as year-end staff bonuses before the close of the calendar year. Remember, this strategy may not make sense if you’re expecting to make significantly more next year. It’s always a good idea to consult a tax professional.
When it comes to your personal income tax return, “Contributing to charity by donating appreciated stock or property rather than cash is a fantastic way to supercharge tax benefits,” says Sweeney. “Make sure you will be itemizing your taxes, though. If you are taking a standard tax deduction, this deduction will not matter. Unless qualifying deductions exceed $6,200 (single) or $12,400 (filing jointly), the standard deduction is the way to go.” You should also ask your tax advisor about the effect such contributions may have on your alternative minimum tax calculation.
Remember, tax planning is a year-long affair. Don’t wait until the end of the year to consider your tax bill. Take steps now to maximize potential savings.
