|Rich Best has spent 28 years in the financial services industry, as an advisor, a managing partner, directors of training and marketing, and now as a consultant to the industry. Rich has written extensively on a broad range of personal finance topics and is published on several top financial sites. Recent books include The American Family Survival Bible and Annuity Facts Revealed: What You MUST Know Before You Invest.|
Tax Filing Mistakes Business Owners Must Avoid
Every year American taxpayers must confront what is arguably one of the most complex tax codes in the world. But, nobody has it harder than small business owners who must be able to navigate many additional layers of nuanced tax rules seemingly designed to keep tax accountants fully employed. Because of that, mistakes are prevalent with business tax returns, and some can be very costly.
The most common tax filing mistake can also be the most punishing mistake you can make, filing an inaccurate return. The IRS could charge your business with a 20 percent penalty if you are found to be negligent in reporting income or understating the amount you owe in taxes. The most common applications of this penalty are when a business can’t validate a deduction and fails to report all of its income. These mistakes tend to occur due to poor recordkeeping, which must be highly attentive to tracking tax-related events and transactions year-round.
Underpaying Estimated Taxes
The IRS expects small businesses to remit income taxes throughout the year with estimated payments. If, after filing your annual tax returns, the IRS finds that you underestimated your taxes, it will hit you with an estimated tax penalty. Although you aren’t required to estimate the amount precisely, you must come pretty close to paying everything you owe.
If your business earns less than $150,000, you must pay at least 90 percent of your final tax bill in estimated payments or 100 percent of your taxes owed from the previous year. If you earn more than $150,000, you must pay a minimum of 110 percent of your last year’s taxes in estimated payments.
If you underpay in any quarter, the IRS will attach a penalty to the underpaid amount; so there is no opportunity to play catch-up in a subsequent quarter. Your best bet is to overestimate your tax bill for the year to avoid the possibility of a penalty.
Mixing Business with Pleasure
Few things raise the ire of the IRS more than mixing personal expenses with business expenses. In many cases, the mistake is unintentional. However, if you present the IRS with a credit card record of business expenses that includes personal expenses, it could negate them as business deductions. This goes back to attentive recordkeeping, but it can be solved in large part by simply keeping your personal life and business life completely separate. That includes separate checking accounts, separate credit cards, and separate reporting.
Claiming 100 Percent of Your Vehicle for Business Use
Business owners who want to maximize their vehicle expense deductions often make the mistake of going overboard by trying to claim 100 percent business use. This can only be justified if you have a separate vehicle for personal use. If you try to claim more than 50 percent use, you will need precise records that include mileage logs, travel dates and times, and the purpose of each trip.
Claiming Business Losses in Consecutive Years
It’s not that the IRS wants you to be profitable; they just don’t want you avoiding taxes. Businesses that report losses year after year are considered suspect by the IRS, and the first place they look is your business deductions. The IRS is on the lookout for people who try to claim their hobby expenses as business losses, which is illegal under the tax code. If you experience a few bad years, you may need to prove your business is legitimate and justify your deductions.
Filing a Schedule C
Most small business owners file their taxes as sole proprietors, requiring filing a Schedule C with their individual tax returns. The Schedule C is where you take business deductions that can lower your taxable income. It is the easiest way to report your business income and expenses, but according to many tax experts, it can also increase the chances of an audit. Of course, you have nothing to fear as long as you have impeccable records. However, you may want to consider a different business structure that separates your personal and business taxes. A subchapter S corporation is a popular business structure for small business owners because all business income and expenses are run directly through the business, and the business owner only pays through personal taxes on the profits reported.
Not Working with a Tax Professional
Most of the common filing mistakes business owners make can be significantly reduced or eliminated simply by working with an IRS-certified tax professional. Look for one experienced in working with small businesses and who guarantees their work. The cost could not be any higher than the amount of time you lose by doing your taxes on your own. The more precise and organized your records, the less it will cost you. The biggest reason for working with a tax professional is to keep up with the changing rules that affect business owners every year. That alone can be worth the cost.
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