For the typical consumer, tax season can be an overwhelming time of year. For small business owners, it may be doubly nerve-racking – and even triple for new business owners still grasping the finer points of tax returns.
Given many business owners will end up paying – and not getting a payout from – the IRS, it’s worth taking the time to learn how to put yourself in the best tax situation. It starts with knowing what tax break options are available and how they can benefit your business.
Understand the difference between tax credits and tax deductions
Tax credits reduce a company’s taxes by allowing it to deduct all or part of certain expenses from its income tax bill. They directly reduce the amount of tax a business owner has to pay. Tax credits allow businesses to recover some of the cost associated with running a company. Alternatively, tax deductions can help lower taxable income by reducing the amount of income subject to tax based on a percentage of the deduction.
Sure, tax deductions help. But, dollar for dollar, tax credits help more. Tax credits come off the top, so they’re withdrawn from income prior to determining gross before-tax income. In other words, tax credits are a dollar-for-dollar reduction in a gross income tax bill, whereas tax deductions lessen net taxable income.
Although tax credits demand more forethought and planning on the business owner’s part, they often deliver a more than cost-worthy outcome. A tax credit, by its very nature, offers a business an incentive to do or not do something. Typically, these incentives benefit the environment, economy or people’s lives.
Businesses benefit from tax deductions by tracking their business related expenses throughout the year. Keep in mind that, rather than provide an official list by industry, the IRS leaves it to small business owners to follow a general rule of thumb for what constitutes acceptable write-offs. So if something is ordinary or necessary for running your business, then it’s a tax-deductible expense—i.e. rent, travel, office supplies.
Learn how to capitalize on tax deductions
As with tax credits, it pays to understand which business expenses can serve as tax deductions.
Since you won’t find a master list of which expenses qualify for tax deductions on the IRS website, you should consult with your tax advisor, but here are a few you can count on come filing time:
Vehicle Expenses – Whether it’s mileage or a lease payment, if it’s for business – deduct it! As long as you provide documentation, you can claim lease payments, loan interest, vehicle depreciation, mileage, tolls, parking fees, etc. Currently, the IRS allows 54.5 cents per mile for mileage deduction.
Supplies – Don’t toss those receipts! It may seem tedious to file away every receipt for every little supply purchase – especially if it’s from a quick run to the local store for paperclips. But at the end of the year, you’ll find all those little receipts add up to a worthwhile deduction.
Travel & Meals – Business owners can write off up to 50% of expenses incurred during business travel or outings as long as they aren’t considered excessive or luxurious. This deduction applies to food and lodging, but not entertainment, such as concerts or local sporting events. Note: The standard IRS regulations regarding travel and meal deductions have changed in the past few years. Visit the IRS website to confirm any deductible item.
All tax credits and deductions come with various elements and restrictions every small business owner must adhere to. For optimal success, first make sure you understand the different options for tax breaks and then put in the time for year-round tax planning to fully capitalize on the tax season. And please remember to reach out to a trusted tax professional for assistance.
