If you own a business as a sole proprietorship or operate your business as a sole proprietorship (that is, you have not designated a legal business entity like an LLC, corporation, or partnership), you must complete a Schedule C with your personal tax return. If you operate your business as a single-member limited liability company (LLC), you also should use a Schedule C for your business income taxes.
To prepare a Schedule C, you will need all the end of year business information:
- A profit and loss statement (sometimes called an income statement) showing the revenue or gross income for the entire year.
- All other business expenses (would also be found in the income statement)
- A balance sheet for the year ending December 31, 201X
- Statements about assets showing purchase of assets in 201X
- Information on inventory to prepare a cost of goods sold calculation if your business sells products. To calculate the cost of goods sold you would need the beginning inventory, ending inventory, cost of labor and material and supplies expenses.
- Details on travel and car/truck expenses, meals and entertainment expenses, and home business expenses.
If you own an S-Corporation, then you have to file an 1120 instead of a 1040. A corporation is separate from its owners (shareholders) concerning income taxes. As a separate entity, the corporation's owners do not pay the taxes for the corporation. A corporation pays income tax by filing a corporate tax return on Form 1120 and paying the taxes as indicated by this return. Corporate income taxes are paid at the corporate income tax rate, not the personal tax rate.
To Prepare a Form 1120, you will need all the end of year business information:
- Basic information about the corporation, including name, address, Employer ID (EIN), date of incorporation, and total assets.
- Information about total assets.
- Information About Corporate Income
- Income by category, including gross receipts, cost of goods sold, dividends, interest, rents, royalties, and capital gains.
- Deductions - Tax-deductible Expenses like officer compensation (gross annual compensation), other salaries/wages, repairs and maintenance, bad debts, rents, taxes and licenses, interest expense, charitable contributions, depreciation (Form 4562), depletion, advertising, pension, and profit-sharing
- Employee benefit programs
- Domestic production activities (Form 8903)
- Other deductions (separate schedule for each of these deductions) include: business startup and organizational costs, insurance premiums, legal and professional fees (payments to attorneys, CPAs, and other professionals, including payments made to non-employees or independent contractors on 1099-MISC forms, supplies used in the business, travel, meals and entertainment expenses.
- Tax, Refundable Credits, & Payments:Taxable income, tax from a schedule, less any credits. If overpayment, refund amount. If underpayment, the amount owed.
Schedules
- Schedule A Cost of Goods Sold
- Schedule C - Dividends and Special Deductions, Compensation of officers
- Schedule J - More detail on tax computation, including credits and other taxes
- Schedule K - Other information, about accounting method, business type, NAICS classification number, ownership of stock and information about shareholders.
- Schedule L - Balance Sheet per books, at the beginning of the year and the end of the year
- Schedule M-1 Reconciliation of Income/Loss Per books with Income per return
- Schedule M-2 Analysis of retained earnings per books
If you own a Partnership or a multiple member Limited Liability Company, then you should file a 1065 instead of a 1040. A partnership pays income tax through the returns of its partners. Allocating a share of income or loss to each partner according to the terms of the partnership agreement. The partnership files an information return on Form 1065, then gives each partner Schedule K-1 showing his or her share of income/loss for the year.
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To Prepare a Form 1065, you will need all the end of year business information:
- Profit and loss statement, showing your net partnership income (or loss) including the specific sources of revenue, and all deductible expenses of the partnership/LLC for the year.
- Balance Sheet for the partnership at the beginning and the end of the year. The beginning year balance sheet must match last year's end-of-year balance sheet.
- Information about the partnership, including the Employer ID number, business code, and the date the partnership was started.
- The accounting method used by the partnership: cash or accrual. This information is important in figuring out when income and expenses should be recorded.
- Total gross receipts returns, and allowances: allowances includes discounts and complementary products and services.
- Information to calculate the cost of goods sold.
- Information on the expenses of the Partnership like salaries and wages of employees, but not partners, guaranteed payments to partners, repairs and maintenance expenses,
- rent, taxes, licenses, permits, and fees paid by the partnership, any interests paid,
- Depreciation calculation for the year, business assets like business equipment and vehicles bought during the year, retirement plans for partners and employees and
- employee benefit programs.
- Information on Your Business Assets
- Information Needed for Schedule K-1 Forms
Schedule K-1 provides information about the partnership and the partners, including taxable income of partners from passive activities and other activities, qualified dividends, net capital gains, and income from other activities. You will need a list of partners and their partnership type (general or limited), distributions and contributions by partners.
Some other things you should know about your personal returns as it relates to business
Self Employment Taxes
If you own a business that is not a corporation, you are considered to be self-employed. This means you must pay self-employment taxes, based on the net income of your business. Self-employment taxes are paid to the Social Security Administration for Social Security and Medicare eligibility. These taxes are payable on your personal tax return, along with the income tax liability for your business. These taxes are not withheld from your income as a business owner, so you must calculate the amount of this tax and keep track of how much you owe. When you file your personal tax return, you must include your business income form and a calculation of the self-employment tax you owe, based on that income. Self-employment tax is then added to the income tax you owe, and the grand total is what you must pay. The tax rate is similar to the rate employers, and employees pay together for Federal Insurance Contributions Act (FICA) taxes.
Half of the amount of the calculated self-employment tax is credited back to the business owner before figuring the adjusted gross income amount on the owner's tax return.
Self-employment taxes, like income taxes, aren't withheld from your income as a business owner. So you must pay these taxes at tax time. If the amount of tax owed is too much, the IRS can penalize you for underpayment.
Quarterly Payments
Anyone who is self-employed may be required to pay quarterly taxes and has to file an annual return but usually pay estimated taxes on a quarterly basis. Quarterly taxes generally fall into two categories:
- The self-employment tax (Social Security and Medicare)
- Income tax on the profits that your business made and any other income
To calculate your taxable income as a business owner:
- Take your annual gross income—the total revenue you received—and deduct expenses, and any deductions you’re eligible for. For example, if your annual revenue was $100,000 and you have business deductions that total $30,000, your taxable income is $70,000.
Once you have an estimate for the taxes, you’ll owe for the year, divide that number by four and submit your quarterly payments by their due dates. If you undergo significant changes in income or expenses during the year, that may impact the quarterly taxes you need to pay.
Estimated Tax Payments
Estimated tax is a method of paying tax on income that is not subject to withholding tax. This can include income from self-employment, business earnings, interest, rent, dividends, and other sources.
The IRS requires estimated tax to be paid quarterly, typically in 4 equal installments. If you underpay your estimated tax, you will have to write a bigger check to the IRS when you file your tax return. If you overpay your estimated tax, you will receive the excess amount as a tax refund.
Self-employed persons or sole proprietor business owners, partnerships, corporations, and S Corporation shareholders and the people who owed taxes for the prior year are generally required to pay the estimated taxes. IRS Form 1040-ES (Estimated Tax For Individuals) is used to calculate and pay estimated tax.
To determine how much you have to pay for estimated tax, you must compile your income, deductions, credits, and paid taxes. Most people can look at their income/liability numbers from the previous year to gauge what they’ll owe the next year.
For the purpose of the estimated tax, the year is divided into four payment periods. Each period has a specific payment deadline, and failing to pay on time can result in IRS penalties:
• January 1 — March 31: Deadline is April 15
• April 1 — May 31: Deadline is June 16
• June 1 — August 31: Deadline is September 15
• September 1 — December 31: Deadline is January 15 (of the following year)
Remember that it is important to submit your tax payments on time. Even if you’ve already missed a few installments for estimated tax, you should still try to pay them as soon as possible to avoid penalty.
Contribution to retirement plans to reduce taxes
Tax-deferred 401(k)s reduce taxable income.
Three types of tax-deferred 401(k)s:
- The SIMPLE 401(k) for businesses employing fewer than 100 people
- The Safe Harbor 401(k), in which employees always own 100 percent of any money their employer contributes
- And the traditional 401(k) popular with companies that have large workforces
With any tax-deferred 401(k), workers set aside part of their pay before federal and state income taxes are withheld. These plans save you taxes today: Money pulled from your take-home pay and put into a 401(k) lowers your taxable income so you pay less income tax.
- Tax-deferred interest with 401(k)s
You also save taxes on the earnings your traditional, SIMPLE or Safe Harbor 401(k) makes. When you put money into a bank savings account, for example, you pay taxes on any interest it earns every year.
- Withdrawal timing to save taxes
By using a tax-deferred 401(k) participants pay the government taxes when they withdraw their earnings and contributions.
As a retiree, your income often drops, putting you into a lower tax bracket than you had as an employee. Money you take from a tax-deferred 401(k) during retirement years therefore, gets taxed at a rate lower than what you pay while fully employed.
- Roth 401(k)s reduce post-retirement taxes
Like tax-deferred 401(k)s, earnings grow tax-free in a Roth 401(k). However, the IRS Roth earnings aren't taxable if you keep them in the account until you're 59 1/2 and you've had the account for five years.
Unlike a tax-deferred 401(k), contributions to a Roth 401(k) have no effect on your taxable income when they are subtracted from your paycheck. That’s because the funds are removed after taxes, not before. This means you are effectively paying taxes as you contribute, so you won’t have to pay taxes on the funds when you withdraw.
- Tax benefits for saving
Based on your income and filing status, your contributions to a qualified 401(k) may lower your tax bill more through the saver's credit, or retirement savings contributions credit.
