Starting a business in the U.S. can be quite a task from registration, choosing a location, to managing initial set-up expenses. The business owner has to prepare for everything. Along with all these initial steps it is also important to be aware of certain income tax points which can be helpful in running a successful business.
In this article A.G. Tax analysts have highlighted a few important factors to keep in mind before starting a business in the U.S. based on tax tips shared by the U.S. Internal Revenue Service (IRS). Being aware and prepared for one’s tax responsibility can help one avoid any tax situations, and unnecessary tax expenses.
Business structuring is a very important step from a tax perspective. The type of structure you choose will determine the tax forms to be file and how the income will taxed. In the U.S., the usual business structures are sole proprietors, partnerships, S-Corporations, Limited Liability Corporations (LLC) and C-Corporations.
The individual alone owns the company and is responsible for its assets and liabilities. The income of a sole proprietor is reportable as self-employment income on the individual’s tax return.
A Partnership can have two or more business partners, wherein each partner is equally liable or based on the ownership percentage and to report partnership income the business would need to file Form 1065 U.S. Return of Partnership Income.
Limited Liability Corporations (LLC) and S-Corporations
These structures are taxed much the same as partnerships.
A C-corporation is treated as a separate entity for tax purposes and needs to pay its own taxes. The business owner would need to pay taxes on any salary or dividends paid to him/her on their personal income tax return.
Types of business taxes
There are four general types of business taxes: income tax, self-employment tax, employment tax and excise tax. In most cases, the types of tax a business pays depends on the business structure. Advance tax payments are necessary for income tax and self-employment taxes. The business entity needs to estimate these taxes and pay it to the IRS within the expected time period to avoid penalties and/or interest. Additionally, the business owner needs to withhold and remit employment taxes in a timely manner.
Certain Federal excise taxes may also be imposable. These taxes are usually payable as part of the purchase price. However, the business also needs to remit the excise tax it collects. The most common excise tax is the Federal fuel tax paid on gasoline purchases.
Obtaining an Employer Identification Number (EIN)
An Employer Identification Number (EIN) is a unique nine-digit number provided by the IRS to business entities. This is so that the IRS can identify these business entities, and verify if the organization is tax compliant. The business entity uses it to report taxes and file their federal tax return just like an individual taxpayer uses the Social Security Number (SSN).
Methods of Accounting
It is important to choose the method of accounting when you first start, since once finalized it is difficult to change the method. IRS approval is necessary in this case. Therefore the business owner should go through the pros and cons of each method and accordingly pick the method that best works for the business.
There are basically two accounting methods: cash and accrual. Under the cash method, only the income received and expenses actually paid for is reported when filing the federal business tax return. Under the accrual method, the income and expense are reported regardless of whether or not the amount is paid. Since the income is subject to advance taxes, the amount is not taxable when it is actually received, likewise a bad debt is claimable if the income is not realized.
Choosing The Tax Year
Most entities need to have a specific tax year. In many cases, it is the calendar year. However, C-Corporations have the option of choosing a different tax year other than the required year. This choice is made while filing the first tax return. IRS approval is mandatory in order to change the tax year.
Health Care Insurance for Employees
In the U.S., under the Affordable Care Act (ACA), business owners need to provide basic health coverage to their employees. There is a Small Business Health Care Tax Credit available to small employers that pay the insurance premiums. In order to qualify for this credit, the business must have fewer than 25 employees. These employees must work full-time, or a combination of full-time and part-time with the average annual pay of less than $50,000.
The small business owner can claim up to 50% of the premiums paid. Taxpayers can carry-back or forward this tax credit to other tax years. Additionally, since the business owner only claims half the premium expense, the other half can be claimed as an income tax expense.
Although we have excluded state tax consequences from this article, it is very important to be familiar with state requirements. Each state has additional requirements for starting and operating a business. This is in addition to separate income, employment and sales tax laws. There are over 2500 taxing jurisdictions in the United States, therefore, it is important to be aware of the tax consequences of business presence as well as providing goods or services in these jurisdictions.
Foreign corporations and Non-resident Owners
Individuals considering starting a business in the U.S. as a foreign corporation or starting a U.S. corporation as a non-resident sole proprietor, shareholder, or partner will need to consider how the U.S. tax laws work with the tax laws of their home country. Negative, sometimes harsh consequences can result if the tax laws do not “match”.
In conclusion, these are just a few important points to keep in mind, to avoid any tax issues. We recommend that new business owners consult a tax professional regarding business taxes, as well as planning structure and flow of business. Planning can help to minimize the tax burden.
AG Tax LLP Can Help
If you have any tax-related queries, need assistance with tax planning or filing your tax returns please contact us. We are a team of highly experienced tax professionals with extensive knowledge of U.S. and Canadian cross-border compliance as well as U.S. and Canadian tax laws.
Furthermore, as a full service accounting firm, AG Tax is dedicated to assist you with even your most complex tax needs.
We can assist with:
- Canadian Personal and corporate tax returns
- Cross Border Taxation and Planning
- U.S. Personal and Corporate Taxation
- Disclosure of Foreign Assets and other information filings
- Retirement planning
- Estate Planning, Inheritance tax advice
To obtain a quote or to arrange for a consultation to discuss your tax related queries, please contact us at:
- 416-238-5920 (Greater Toronto Area, ON)
- 604-538-8735 (Greater Vancouver Area, BC)
- 780-702-2732 (Greater Edmonton Area, AB)
Disclaimer: The information in this publication is accurate as of the time of its publication. AG Tax assumes no responsibility for changes to tax legislation subsequent to the publication of this document. The information provided is for general information purposes only and should not be acted upon without seeking professional advice. If you would like to engage our services, please contact our staff and obtain authorization to send our firm confidential information. A client relationship is not created by the transmission of information. A client relationship is only formed with our firm when a scope and engagement letter signed by the firm and the potential client detailing the terms of engagement is present.