How Much Does a Small Business Pay in Taxes?
For the 2019 tax year, the small company tax rate for a C-corporation is a flat 21%, and it will stay thus for the 2020 tax year. The effective small company tax rate is 19.8 percent on average. Businesses, on the other hand, pay varying amounts of taxes depending on their legal organizations. Sole proprietorships pay a 13.3% tax rate, small partnerships pay a 23.6 percent tax rate, and small S-corporations pay a 26.9% tax rate, on average.
Taxes are complex, and many small company owners are unsure how to calculate their tax obligation. Many company owners are unaware of the corporate income tax rate, the tax breaks available to them, or even what words like pass-through income imply. Furthermore, companies must pay payroll taxes, unemployment taxes, and other types of taxes in addition to income taxes.
To make matters even more complicated, small company tax rates, deductions, and relevant regulations may vary from year to year, necessitating constant monitoring to guarantee you’re fulfilling your tax responsibilities fully and correctly.
While understanding how small company taxes are calculated and handled may be difficult for any business owner, knowing the fundamentals will help you make the best choices and work with your tax expert. This book explains the many kinds of taxes that your business may be subject to, as well as the various small business tax rates that are applied to your earnings—it also contains changes to tax legislation that may impact your firm.
Types of Small Business Taxes are discussed in this article.
When Should You Pay Your Small Business Taxes?
Rates of Taxation by Type
State Tax Rates for Small Businesses
What Effect Do Deductions and Credits Have on Your Tax Rate?
Choosing Your Tax Rate
Small Business Taxes: What They Are and How They Work
One of the most challenging aspects of taxes for small company owners is that there is no one “small business tax,” which means there is no single small business tax rate. When it comes to business taxes, though, most individuals think about federal income taxes and how those rates affect their company.
However, federal income tax is just one of many taxes that your company may be obliged to pay. Depending on your business structure, whether you have workers, and what goods or services you offer to your customers or use to do business, your firm may have to pay one or more types of taxes.
There are six kinds of company taxes in general:
Taxes on earnings
Individuals must pay income tax on earnings, investment income, and profits from the sale of property they own, as most people are aware. A company, on the other hand, must pay tax on its net income (income after deducting costs) each year.
LLCs, sole proprietorships, and a few other kinds of businesses, on the other hand, are classified as pass-through companies, which means the company does not pay income tax. The proprietors pay personal income tax on the company income and declare it on their personal tax return.
It’s essential to note, however, that not all revenue is taxed the same way—for example, shareholders in a C-corporation pay a different small business income tax rate on dividend income than on regular net income from the company.
Tax on Employees/Payroll
You are responsible for paying employment taxes, commonly known as payroll taxes, on your workers’ salaries if you have them. Federal income tax withholding, social security and Medicare taxes, and federal and state unemployment taxes are all examples of employment taxes.
Many companies employ a payroll service to handle their payroll tax obligations and submit their tax forms on their behalf. Employment taxes are complex, and failing to file and pay on time may result in hefty fines and, in rare instances, criminal prosecution.
Tax on Self-Employment
Individuals who work for themselves are liable for self-employment taxes, which include social security and Medicare. If your net self-employment earnings were at least $400 last year, you must pay this tax. The majority of companies pay half of the entire amount of social security and Medicare taxes on their workers’ salaries, with the other half withheld and paid by the company.
Self-employed people, on the other hand, are responsible for paying all of these taxes on their own. There are certain exceptions, such as for self-employed people who work for a church or on a fishing crew.
If your company operates in a certain sector or offers specific goods or services, you may be subject to excise taxes on these transactions and operations. An excise tax is an indirect tax, meaning it is not paid directly by the product’s customer.
As with cigarettes and liquor, the tax is often incorporated in the price of the product or service. Businesses that sell excise-taxed goods or services are responsible for collecting and remitting the taxes to the IRS.
Taxes on purchases
Although there is no federal sales tax in the United States, sales taxes are imposed by 45 states and hundreds of municipalities. Sales tax is calculated, collected, and reported to municipal and state governments by business owners. At the time of purchase, customers pay sales tax on products and services.
Even some online merchants now have to collect and submit sales tax from out-of-state consumers, according to a recent court ruling. As a small company owner, it’s critical to be aware of your state’s and municipality’s sales tax regulations.
Taxes on real estate
You must pay a business property tax to the city or county where your commercial property, land, or brick-and-mortar site is situated if you own commercial property, land, or a brick-and-mortar location.
When Should You Pay Your Small Business Taxes?
When it comes to taxes, when you have to pay them is just as significant as what kind of taxes you have to pay. Most people only pay their taxes once, before the IRS sets a deadline. Most company owners, on the other hand, must pay estimated income taxes and self-employment taxes on a regular basis.
Estimated taxes are taxes that you pay throughout the course of the year based on your forecasted taxable income at the end of the year. Any company owner who anticipates to owe more than $1,000 in taxes for the year must make quarterly anticipated tax payments. When you submit your tax return, the estimated tax payments you made during the year are subtracted from your total obligation. Because federal income tax is a pay-as-you-go tax, failing to make necessary anticipated tax payments on time may result in fines and interest.
Tax Rates for Small Businesses by Tax Type
The Tax Cuts and Jobs Act (TCJA) lowered the corporate income tax rate in the United States from a maximum of 35 percent to a flat rate of 21 percent, effective for the 2018 tax year. As a result, no matter how much money your C-corporation earns, you’ll never pay more than a 21% income tax rate. A separate, capital gains tax rate applies if you receive a dividend or payout from the company. Many individuals believe that C-corporations are subject to double taxation since they pay a corporate tax rate plus dividend taxes.
S-corporations, limited liability companies, and general partnerships are examples of pass-through organizations that have a distinct federal small business income tax rate. These company owners, like sole proprietors, record business revenue on their personal tax returns and pay taxes at their individual tax rates. The tax rate you pay is determined on your taxable income and filing status (single or joint filing). Individual income tax rates are generally progressive, which means that individuals with a higher income pay more taxes than those with a lower income.
Here’s a quick rundown of the small company tax rates to remember:
C-Corporation Income Tax Rate
As previously stated, all C-corporations pay a flat tax rate of 21% on net business income.
C-Corporation Dividend Tax Rates
Dividends or payouts from a company must be taxed by the shareholders. The tax rate on dividends is determined by whether they are qualified or unqualified. If you’ve held the underlying stock for at least 60 days, dividends are eligible. For the 2020 tax year, the rate on eligible dividends varies from 0% if you earn less than $40,000 to 20% if you earn more than $441,450. The dividend tax rate on non-qualified dividends, commonly known as ordinary dividends, is equivalent to the shareholder’s normal income tax rate.
Pass-Through Entities and Sole Proprietorships Income Tax Rates
For pass-through companies and sole proprietorships, the federal small business tax rate is equivalent to the owner’s personal income tax rate. Personal income tax rates for the 2019 (and 2020) tax years vary from 10% to 37%, depending on income and filing status. A single filer with $100,000 in net business income, for example, will pay a 24 percent tax rate.
It’s worth noting, however, that beginning with the 2018 tax year, sole proprietors and owners of pass-through companies may deduct up to 20% of their company income before calculating their tax rate. The tax filer may deduct up to $20,000 from the net business income in the case above. They would only have to declare $80,000 in earnings, lowering their tax rate to 22%.
This small company tax deduction, however, is subject to income and business type limitations. To qualify for the maximum deduction, you must earn less than $157,500 (single taxpayers) or $315,000 (joint filers).  Professional service companies, like as law firms and doctor’s offices, are usually not eligible for the entire deduction.
Rates of Employment Tax
Employment taxes include social security taxes, Medicare taxes, and unemployment taxes, as we briefly stated above. The following is a breakdown of the small company tax rates:
For 2020, the Social Security tax will be 12.4% on earnings up to $137,700 (increasing from $132,900 in 2019). Half of this sum (6.2 percent) is paid by the employer, while the other half is taken from the employee’s salary. If you work for yourself, you must pay the whole amount as part of your self-employment taxes.
The Medicare tax is 2.9 percent of all earnings given to an employee (there is no minimum wage), and the tax is shared between the employer and the employee. For workers earning more than $200,000 per year, there are extra Medicare withholding obligations.
Unemployment Tax: 6% of the first $7,000 you pay to an employee is subject to the federal unemployment tax. If you’ve paid state unemployment taxes, you may generally claim a credit against this tax. The federal unemployment tax rate is lowered to 0.6 percent if you qualify for the full 5.4 percent credit.
State Unemployment Taxes: Each state levy its own unemployment tax. The rate is usually determined by the company’s size and age, the industry, the company’s previous rate of turnover, and the number of former workers who have filed for unemployment benefits.
Rates of Excise Tax
Excise tax rates vary significantly depending on the kind of goods or service you’re selling. In IRS Publication 510, you may learn more about the various kinds of excise taxes and their rates. It’s worth noting that some states levy excise taxes as well.
Rates of Sales Tax
The rate of sales tax varies significantly depending on the state and region. The first step in determining your small business’s sales tax rate is to establish whether you’re in an origin-based or destination-based state.
Sales tax rates in origin-based jurisdictions, such as Texas and Pennsylvania, are determined by the location of the seller or company. Sales tax rates in destination-based jurisdictions like Florida and New York are determined by the customer’s location. Within states, charges may vary depending on the area you’re in and the goods you’re selling.
Rates of Property Tax
Property taxes, like sales taxes, vary significantly depending on the city and county. The property will be registered with the local tax office when you buy it. You will get information about property tax rates and deadlines from this agency. Property taxes are based on the assessed value of the property rather than the purchase price or fair market value.
State Tax Rates for Small Businesses
Your company is also responsible for complying with state and local tax responsibilities in addition to federal taxes. With the exception of South Dakota and Wyoming, every state taxes or charges company revenue in some way. For state small company tax rates, there are three major models:
C-corporations must pay a corporate income tax rate of 4 percent to 9 percent on net company income in most states.
Gross Receipts Tax: Instead of a corporate income tax, a few jurisdictions, notably Texas and Washington, levy a gross receipts tax. Instead of levying a net income tax, a gross receipts tax is imposed on a company’s gross sales. Before this tax is computed, a company’s deductions are generally not allowed.
Some states levy a franchise tax in addition to or instead of a gross receipts tax or an income tax. The value of a company’s stock or assets is used to determine the franchise tax, which typically varies from 0.1 percent to 0.9 percent.
Having said that, bear in mind that even if a state does not levy an individual income tax, your company may still be subject to taxation. New Hampshire, for example, has no personal income tax but does have a corporate income tax and a franchise tax. In addition, states may levy their own payroll and excise taxes. State and municipal governments are the only ones that levy sales taxes.
You may contact your state’s business tax department for additional information on state business tax rates.
How Do Deductions and Credits Affect Your Tax Rate As A Small Business?
Calculating your ultimate small company tax rate isn’t as simple as multiplying your net income by your tax rate, as we discussed in relation to the 20% deduction sole proprietors and other pass-through entity business owners may take. Rather, there are a number of variables that may influence your ultimate tax bill:
Tax Deductions: To reduce their taxable income, many company owners take advantage of tax deductions (such as home business tax deductions) on business expenditures. Some tax deductions may have a significant impact on your bottom line. The Section 179 deduction, for example, allows companies to deduct the whole cost of an item, such as a car or equipment, in the year it is purchased.
Other businesses may have net operating loss deductions carried over from a previous year that decrease the amount of taxable revenue in the current year.
Tax Credits: Your company may be eligible for tax credits that lower your tax bill and lower your effective small business tax rate. Tax credits are preferable to deductions because they enable you to deduct the exact amount of taxes that you owe. Businesses that utilize alternative fuels or alternative sources of energy, for example, may be eligible for a tax credit.
Due to deductions and credits, two companies with the same net revenue for the year may pay different amounts of federal income tax in the end.
How to Handle Taxes in a Small Business
Now that you’ve learned about the various small business tax rates and what your company may anticipate, you’re probably wondering how you can plan so you won’t be caught off guard when it’s time to pay your taxes. Because no two companies will pay the same amount of tax, each one will take a somewhat different strategy.
The greatest thing a company owner can do, though, is set money away in advance. Depending on your small company tax rate, you may want to set aside as much as 40% of your revenue each quarter to pay state and federal taxes. This is particularly essential when you’re just starting out in business since you won’t have a full grasp of your company’s tax obligations.
Setting aside money to pay taxes in a bank account separate from your business’s day-to-day earnings is a good idea. This manner, you won’t waste money that was supposed to go to the IRS. You may also set up recurring transfers from your company bank account to a separate account so you always have money set aside to pay your tax payment.
Don’t worry if you make a mistake and pay less than you owe. Most company owners may avoid the underpayment penalty by paying the same amount of taxes each quarter as the previous year. The IRS website has additional information on this regulation.
Calculating the Tax Rate for Your Small Business
Understanding and fulfilling your tax obligations are, at the end of the day, some of the most difficult aspects of operating a company. There are many factors that contribute to the complexity of company taxes: there are several taxes to consider, your small business tax rate will vary depending on your organization type, and there are numerous deductions and credits to consider.
As a result, working with a competent tax expert, such as a CPA, enrolled agent, or tax attorney, is the greatest thing you can do for your company. Their knowledge can assist you in determining which taxes your company is liable for and ensuring that you are paying the proper small business tax rate.