Some small businesses may be in for an unwelcome surprise at tax time.
As the U.S. continues to recover from the pandemic, some businesses may see improved earnings and may owe more taxes than they have in the past few years. Changes to the tax laws in 2022 are also causing some shocking tax laws in the small business world. Meanwhile, new self-employed people often mistakenly equate gross pay with net pay without considering taxes. “If you’re living with the money in your bank account as your net paycheck, it can be a rude awakening,” said Andy Phillips, director of the Tax Institute at H&R Block.
If the owners have miscalculated or spent the money elsewhere, this can cause major problems. This can be especially worrisome because the first estimate for the current tax year is usually done at the same time as last year’s tax bill, a double whammy.
But a larger-than-expected income tax bill doesn’t have to sink the ship. Here are some ways a small business can handle unexpectedly high tax bills.
File even if you can’t pay the entire IRS bill.
Some small businesses may not have filed their taxes by April 18 this year because they don’t have the money to pay their bills. However, they should apply as soon as possible to mitigate the IRS’s “Failure to File” penalty, which applies to taxpayers who owe taxes and do not file by the deadline. A penalty is a percentage of taxes you don’t pay on time.
If you’re looking for an extension, you still have to pay.
Some business owners asked for an extension, presumably thinking it would allow them to delay their payments without financial repercussions. “It’s an extension to file, it’s an extension to pay,” said Kimberly Wilkinson, senior tax manager at Wiss & Company.
Check local disaster exemptions for documentation.
Some taxpayers may benefit from an IRS extension to file last year’s taxes and estimated taxes for 2023 due to disaster situations in their local area. To learn more, they can visit a section of the IRS website specifically devoted to this topic. “This is a huge relief for those affected,” said Michael Prinzo, tax director with CliftonLarsonAllen in Greenwood Village, Colorado.
Review payment plan options.
Owners who need more time to pay may be eligible for a short-term or long-term payment plan. They can visit the appropriate section of the IRS website to see what’s available, as well as potential costs and filing options.
Owners should be aware of the IRS’s “Failure to Pay” penalty based on how long delinquent taxes remain unpaid. Although future penalties can be reduced by setting up a payment plan, it is advisable to pay the tax liability as soon as possible to limit the negative effects of accruing interest.
Don’t get bogged down in payroll tax money.
Sometimes small business owners with employees try to find money that is meant for payroll taxes to pay their personal taxes. This is not allowed and may result in severe punishment. “It’s extremely important that small business owners never borrow from their payroll to pay for something else,” Phillips said.
Consider personal loans, loans with higher interest rates.
A small business owner who needs cash to pay their taxes may consider other short-term financing, such as a bank or credit card loan or tapping an existing line of credit. Interest rates on some of these options can be high—in many cases reaching double digits on an interest basis a year after a Federal Reserve rate hike. According to Anne Zimmerman, president and founder of Zimmerman & Co. CPAs and co-chair of Small Business for America’s Future, a national coalition of small businesses, owners should weigh the cost of the loan against the penalties and interest they’ll receive from the IRS. owners and managers. “Don’t use the IRS as your banker,” Zimmerman said.
Consider filing an amended return.
Small businesses should take a second look at their tax returns and consider filing an amended return if they can claim additional deductions.
“A lot of times, business owners don’t take advantage of all the opportunities they have,” Prinzo said. “Make sure there are no missed planning opportunities.”
For example, there are favorable rules for taking accelerated depreciation, often referred to as bonus depreciation, that can help reduce your tax burden.
In addition, there may be additional opportunities to deduct costs such as software, advertising or certain professional service fees, Phillips said. Small business owners can also deduct home office expenses, if any.
For many small business owners, personal tax credits can also reduce taxes owed. Entrepreneurs may not have considered new living arrangements that may qualify them for tax breaks or benefits, such as marriage, having children, dependents or education expenses. “Life changes generally mean tax changes,” Phillips said.
Work with a CPA to plan ahead and potentially defer taxes.
Planning ahead with a CPA can ensure that owners are not blind-sided in the future.
For example, if the owner sees that they are making more money mid-year, estimates can be changed to minimize some of the impact at income tax time. “The goal is to pay your taxes by the end of the year,” Wilkinson said.
Small businesses can also consider setting up a tax-deferred retirement plan, which can help them save on taxes for 2023, said Cary Carbonaro, a certified financial planner with Advisors Capital Management in Winter Garden, Fla. A client recently did so mid-year, which Carbonaro said eliminated the need for an estimated $300,000 in tax payments.
Thanks to the recent passage of the SECURE 2.0 retirement savings legislation, there may be additional tax benefits for some business owners who start tax-deferred retirement plans, so it’s worth looking into, Prinzo said. Secure 2.0 encourages small business owners to create retirement savings plans through startup plan options and tax credits for both administrative costs, plan set-up and employee matching contributions.
However, even if you take all these steps, it’s still important to keep enough cash on hand for the next tax period, just in case there could be another surprise.