Have you decided to launch your own startup? Great! There's nothing like being your own boss.
But just like Uncle Ben pointed out in Spider-Man, "With great power there must also come great responsibility." While a startup’s mission may be different from a Marvel superhero’s, one weight to bear as a founder is managing your taxes.
To stay on top of your finances, you should think about your startup tax liability and have a well-laid-out plan when you get to tax time.
If you don't, your startup could end up paying more than its fair share of taxes. That undue tax burden could result in financial strain on your startup, making it difficult to grow. The good news is that a startup tax plan can help ensure you don't pay anything more than what you owe to the IRS.
Read on to learn about fundamental tax planning strategies for startups that can help protect your business's stability and financial health.
Why Is Tax Planning Crucial for Startups?
First, comprehensive tax planning will keep your business out of hot water with the IRS by keeping your company compliant with state and federal tax regulations.
Staying on top of your company’s taxes will help your startup avoid tax audits or hefty fines. Secondly, proper tax planning will help minimize your annual startup taxes by identifying tax-exempt business expenses and tax credits that may otherwise be overlooked.
Key Tax Planning Strategies for Startups
While business taxes can sometimes seem complex, understanding just a few basic principles can make matters much easier.
With a little knowledge, you can learn to manage your business startup taxes in a way that works to improve your organization’s overall financial situation. Here are several invaluable tax planning strategies that every business owner should know.
1. Choose the Right Business Structure
Selecting the right business structure for your startup will largely depend on the type of organization you run and the tax bracket you belong to. Unless your company is a C corporation, your business income tax rates will lie somewhere between 10 and 37%. S corporations, LLCs, and sole proprietorships are all pass-through entities, which means the personal tax rate of the business owner determines the company’s tax rate. With partnerships, each owner pays their own share of business income taxes.
Each type of business entity comes with various tax benefits. For example, business owners of corporations and LLCs enjoy greater personal liability protection against business debts or bankruptcy. These structures are ideal for larger companies that are often exposed to various financial risks. However, if you’re starting a new business alone and are looking for a less complicated tax structure, a sole proprietorship may be best for you.
2. Maximize Tax Deductions and Credits
One of the most important tax planning strategies is to claim any tax credits or deductions that may be available. Doing this will help to reduce your overall taxable income, contributing to a more substantial income tax return at the end of the year.
If you’re a self-employed contractor or a sole proprietor, keeping up with deductible expenses and tax credits will lower the size of each quarterly tax payment. While you may wish to simply claim a standard deduction, it could result in more tax savings to itemize your deductions, such as marketing expenses, office supplies, employee training, and meals purchased during the course of doing business.
3. Take Advantage of Tax-Advantaged Accounts
Opening one or more tax-advantaged accounts can also reduce your overall tax liability each year. For example, your retirement contributions to a 401(k) plan are tax-deferred, meaning you won’t have to pay taxes on it until the money is withdrawn from the account.
You can also open a Health Savings Account (HSA), which protects cash contributions from being taxed so long as the money only goes to qualifying medical bills. Several education savings plans are also available that are tax-free with certain stipulations.
4. Plan for Depreciation and Amortization
In business, the depreciation and amortization of assets can be leveraged for more tax deductions. If you have a capital expense of purchasing a fleet of 10 cars for $100,000 and expect these vehicles to depreciate by half over 5 years, you can deduct up to $10,000 a year in depreciation until your losses are recovered.
Amortization works in much the same way but is used exclusively for writing off the costs of intangible assets such as intellectual property, copyrights, or trademarks.
5. Implement Strategic Employee Benefits
Offering various benefits to employees is an excellent way to improve employee morale and retention. In addition, many conventional and ‘fringe’ employee benefits are tax deductible. Aside from retirement plans and health savings accounts mentioned earlier, you can also offer group-term life insurance, parking costs, dependent care assistance, or employee stock options. Additional tax-deductible employee benefits may include the construction costs of installing accessibility features at your business for workers with disabilities or the costs of running a tuition reimbursement program.
6. Monitor State and Local Tax Obligations
Different states, cities, or municipalities have different types of tax laws that are important to know. Currently, 43 states in the U.S. have some form of income tax and sales tax, property tax, and payroll tax. These will vary by location.
Before launching your business in a certain area, familiarize yourself with the tax laws and implications for your company.
7. Stay Updated on Tax Law Changes
The United States tax code is constantly changing, and states pass new laws that can drastically change your tax situation from one year to another.
For instance, several states have begun passing new tax regulations governing the sale of tobacco products and gasoline in 2023. Stay abreast of any updates to state and federal tax laws that can impact your company’s bottom line or the amount of taxes you pay.
Maximize Your Taxing Strategies With the Right Startup Tax Services
No matter how great your business idea is, you need to understand the taxes that will govern your business to maintain your profits. By following these tax planning strategies, you can help control your company’s tax burden and ultimately preserve more profits to fund growth going forward.
To always qualify for the maximum amount of tax deductions and credits, you may find it valuable to work with an experienced team of tax advisors who understand the complexities of your industry.
You will also need to keep your general finances in order so you know your tax liability. A good financial software will help you stay on top of the numbers and in good graces with the IRS.