How should I structure my business for tax efficiency? It’s a question we hear often from business owners and entrepreneurs. And the answer? That depends…
Whether you choose to operate as a sole proprietorship, C-corporation, S-corporation, partnership or LLC, there are unique deductions that can lower your taxable income and keep more money in your business. Here’s a quick overview of each:
Sole proprietorships. As a sole proprietor, you have the freedom and flexibility to run your business as an individual. This business structure comes with its own set of tax deductions that can help save you some cash, including:
- The home office deduction. If you use a portion of your residence exclusively for your business, you can deduct expenses like rent, mortgage interest, utilities and insurance.
- Self-employment tax. You’re responsible for paying both the employer and employee portions of Social Security and Medicare taxes. However, you can deduct the employer portion of these taxes when calculating your business’s net income.
- Personal vehicle use. If you use your personal car for business purposes, you can deduct gas, maintenance and insurance or other related expenses.
- Professional fees. Any expenses considered ordinary or necessary for your business — such as legal or accounting fees — can be written off on your tax return.
C-corporations. Unlike sole proprietorships paying individual income tax, businesses operating as a C-corporation must pay corporate taxes — which can also be beneficial when it comes to deductions:
- Employee wages and benefits. C-corporations can deduct the full amount of employee salaries, bonuses and benefits as ordinary and necessary business expenses. This deduction not only helps reduce your taxable income but also can help to attract and retain top talent by offering competitive compensation packages.
- Business travel and entertainment expenses. This deduction includes airfare, hotel accommodations, meals and even some client entertainment expenses.
- Research and development (R&D) tax credit. If your business invests in R&D activities, you may be eligible for a tax credit that can significantly reduce your tax liability.
S-corporations. S-corporations, also known as “small business corporations,” offer exclusive tax advantages to minimize your liability:
- Qualified Business Income (QBI) deduction. Under this deduction, business owners can deduct up to 20% of their qualified business income on their taxes.
- Expenses related to employee benefits. This includes health insurance premiums, retirement plan contributions and other fringe benefits provided to employees. Additionally, S-corporations can deduct business-related expenses such as advertising, professional fees and office supplies.
Partnerships and LLCs. Partnerships and LLCs, also known as “pass-through entities,” allow profits and losses to flow through to the individual partners or members, who then report them on their personal tax returns. Deductions include:
- Self-employment tax. This one is exclusively available to partners and LLC members. Similar to sole proprietors, these individuals can deduct the employer portion of their self-employment taxes when calculating their taxable income.
- Expenses related to employee wages and benefits. This deduction covers salaries, bonuses and benefits provided to employees. You can also deduct ordinary and necessary business expenses such as rent, utilities, professional fees and advertising costs.
Boost your bottom line
When it comes to taxes, every dollar saved can add up to a significant amount of cash. Keep in mind, there are other tax deductions that eligible businesses can make, regardless of structure — from charitable donations to health insurance to retirement plan contributions.
We know that’s a lot to take in when you’re just starting out. Choosing (or changing) your entity type is a big decision, so be sure you’re getting professional guidance. Reach out if we can help.
This document is for informational purposes only and should not be considered tax or financial advice. Be sure to consult with a knowledgeable financial or legal advisor for guidance that is specific to your tax situation.