What Are the Biggest Small Business Tax Mistakes

WHAT ARE THE BIGGEST TAX MISTAKES? SMALL BUSINESS WHY DO SMALL BUSINESSES MAKE MISTAKES? In February 2011, Discover Small Business Watch asked small business owners across the country how they felt about tax preparation. FILING TAXES IS HARD FILING TAXES TAKES TIME More small business owners report that tax preparation is harder this year than any of the four previous years. Small business owners say finding and organizing tax documentation is more time-consuming now than ever. 2011: 56% 2007: 39% 2011: 80% 2010: 73% Say it was very or somewhat difficult to prepare their taxes. Say tax preparation and documentation was very or somewhat time consuming. TAXES ARE FRUSTRATING The most frustrating taxes for small business owners continue to be self-employment and federal income taxes. MOST FRUSTRATING TAXES FOR SMALL BUSINESSES 30% SELF-EMPLOYMENT ०. TAXES FEDERAL INCOME TAXES 25% 8% STATE INCOME TAXES REAL AND PERSONAL PROPERTY TAXES 6% 5% EMPLOYER PORTION OF श २० SOCIAL SECURITY TAXES FILING TAXES REQUIRES HELP Compared to consumers, more small business owners prefer to hire a tax professional than use a software program. CONSUMERS SMALL BUSINESS 49% 68% HIRE A PROFESSIONAL 26% 19% USE A SOFTWARE PROGRAM 25% 13% DO NEITHER THE MISTAKES WE MAKE Every tax season brings new challenges for small business owners. Tax experts and small business advisors warn against making one of the following 8 common tax mistakes. NOT KEEPING DOCUMENTATION FOR EXPENSES Even if a small business owner has a professional handling their taxes, it is the owner's responsibility to collect and organize documentation. One of the biggest tax mistakes a small business owner can make is not keeping receipts for all expenses. These receipts are necessary to verify purchases to deduct from the business's taxable income. HOW TO AVOID IT: Invest in a tax diary or organizer to keep all expense records in one place. Also make note of the business purpose of each expense. NOT KNOWING CURRENT TAX LAWS Small businesses are faced with a variety of taxes, which can be a shock for many start-ups. Aside from the well-known federal income tax, state income tax, and payroll taxes, small businesses can face various taxes they never even knew existed. When a business overlooks or misfiles some of these taxes, the penalties can be costly. HOW TO AVOID IT: Work with a tax professional or make it a point to stay up-to-date on changes to tax law. NOT HANDLING DEDUCTIONS PROPERLY Small business owners can run into trouble when calculating deductions without knowledge of limits. For example, the IRS allows business gift deductions of up to $25 for any individual. When businesses file a four-figure deduction for business gifts, it mistakenly reads as though a business gave deductible gifts to at least 40 different people. 24 HOW TO AVOID IT: Find out all deductions you qualify for, and learn the rules regarding limits for specific deductions. Keep these limits in mind when making expenditure decisions. CONFUSING OFFICE EQUIPMENT WITH SUPPLIES Office equipment, such as computers and printers, is considered a capital expenditure, which faces special tax rules and has to be depreciated. If a business deducts computers as supplies, the IRS could rule that the business isn't entitled to the deduction because it improperly categorized the expense. HOW TO AVOID IT: Study up on the IRS definition of a capital expense or check with a tax lawyer about whether an expense qualifies as a capital expenditure. BORROWING FROM EMPLOYEE WITHHOLDING It can be tempting for small business owners to dip into employee social security and income tax withholding to pay bills. However, small business owners assume personal responsibility for those funds. The IRS carefully audits the payment of trust fund taxes In the event of a tax audit, this could result in huge potential penalties. HOW TO AVOID IT: Plan ahead so there isn't a shortfall at the end of the month. Meet with an accountant at least once or twice a year to go over where problems are likely and how to avoid them. NOT CLASSIFYING WORKERS PROPERLY Businesses may classify employees as independent contractors so they won't have to pay payroll taxes on them, cover them in pension plans, or provide them with medical insurance. However, if the IRS ever begins a payroll tax audit, businesses may have to pay payroll taxes for those misclassified employees going back three years, among other penalties. INDEPENDENT HOW TO AVOID IT: Check with an accountant or tax lawyer before filing someone as an independent contractor to make sure it's justified. EMPLOYEE ASSIGNING UNREASONABLE COMPENSATION After a successful year, small business owners may be tempted to increase their salaries by nearly the total amount of profit. The owner will move profits into salary. in part to take advantage of deductions for salary payments. However, the IRS will look at a company to determine whether the owner's salary is reasonable compensation based on the business, the industry, how much work the owner does, and how much similar businesses make. HOW TO AVOID IT: stantiate a reason for a salary increase or the disallow part of the money as unreasonable compensation. may NOT THINKING OF CONSEQUENCES Interest and penalties from fraudulent tax returns – whether intentional or not – can be expensive in the long run as interest typically dates back to the original filing date. Even if a professional is handling a business's taxes, the owner is still responsible for what appears on the return. IRS IRS HOW TO AVOID IT: The business owner should always carefully review the return before it's filed. FIND ANSWERS ONLINE The IRS Small Business Tax Center is packed with resources for small business owners with tax questions. There, you can find out the latest changes to tax laws, the rules regarding deductions, what qualifies as an employee or independent contractor, and more. Visit Irs.gov/businesses/small/index.html SOURCES: DISCOVER SMALL BUSINESS WATCH, MICROSOFT SMALL BUSINESS CENTER, ENTREPRENEUR, INTUIT, REUTERS QuickBooks Online intuit. ex