Business success comes with a tax: extra taxes (see what we did there?). It’s one of the few negative consequences of running a prosperous company. As an entrepreneur, you have a higher price to pay than those who opt for the stability and safety of working for someone else. This is a good thing though! After all, you are lucky enough to be a steward of your future.
First-time business owners often start with little knowledge, and it takes trial and error to learn and understand the finer details of running a business. So let’s look at some things first-time entrepreneurs don’t usually know about tax to help you escape some of the common mishaps in that dreaded trial-and-error stage.
Just because of this one factor, many people end up overpaying on taxes. A lot of new business owners are unaware that your original financial commitment to your company is referred to as your basis. The government has no right to tax the initial investment you make into your firm because it is already taxed money. Most business owners and organizational setups can therefore claim that sum as tax-free revenue for the first year (or years) of operation.
Something To Be Aware of:
Even if you don’t pay yourself, you will need to start paying more in taxes when you begin making more money from your business than you invested. Unless you are a C corporation, with its own set of benefits and drawbacks, you must pay taxes on your profit.
Too frequently, following a robust year in business, clients drain their business accounts into their personal accounts because they only want to see concrete results for their efforts. However, as mentioned above, success necessitates higher tax payments.
One thing that surprises most new business owners is that even if they keep their business profit in their business bank account, they still have to pay taxes on it. It would be naive to think that you won't have financial difficulties once your company has achieved some success.
Every business experiences periods of prosperity and hardship, and being prepared for those difficult periods will help keep your business afloat. The benefit of paying taxes on your business income is that you may use that as part of your base. If you withdraw money from the company during a particularly successful year, you won’t be subject to further taxes on that money.
Let’s quickly define a pass-through entity and compare that to a C-Corporation. A sole proprietor, single-person LLC, multi-person LLC, and S corporation are all pass-through business entities, meaning the tax burden is transferred to the owner or owners of the business, as opposed to a C-corp, which assumes the burden on its own.
The drawback of a C-corporation is that you are virtually taxed twice on whatever salary you pay yourself. As a disclaimer, several entities are beneficial for various commercial arrangements and collaborations. Before deciding on any aspects of your company’s structure or tax plan, always seek advice from a financial and tax professional.
The US government offers a multitude of tax incentives. One incentive often overlooked is the Research and Development (R&D) Tax Credits.
R&D tax credits are intended to incentivize companies to engage in activities that will benefit the nation's economy and advance outcomes like innovation and employment growth (for a much more in-depth overview of R&D tax credits, check out our ebook).This type of innovation and forward-thinking is something that many startups already possess, so why not take advantage of it to get some extra bang for your buck?
It is crucial to thoroughly document every detail of your application for all tax credit programs. Having formal employment contracts could suffice, although you might also need to keep track of your hypothesis and the outcomes of R&D activity.
In fact, the R&D tax credit just surpassed all other government-funded initiatives for small businesses! By 2026, the IRS expects to distribute $148 billion dollars to companies of all sizes and in myriad industries.
There are plenty of resources at your disposal to help you navigate the world of tax as a new business owner, but it’s an extremely intricate business, and tax isn’t something you want to mess around with. There are genuine, simple ways for you to get the most out of your business taxes. Consider seeking professional assistance upon launching your business so the foundation of your company’s finances can be organized.
At TaxTaker, helping you earn R&D tax credits and extend your runway is exactly what we’re passionate about. Our seasoned tax experts are keen to ensure that you know all the ins and outs necessary to claim this credit and save tens of thousands or more on your taxes every year.
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