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Updated: March 27th, 2020
While working on your business’ taxes and finances might not bring you as much joy as sipping eggnog, it could be your final opportunity to make decisions that may raise or lower your taxes for the year. That makes the end of the year an especially important time for many small business owners. Keep these five tips in mind and your eye on the goal — saving as much money as possible. You’ll thank yourself later when you file your tax return.
Knowing how much money you made this year and how much you expect to make next year is an essential first step. “Growing could put you in a higher tax bracket next year,” says Eric Nisall, an accountant and founder of AccountLancer. And tax tips for small business owners can vary depending on whether you expect to be in the same, a lower, or a higher tax bracket next year. (Don’t forget to consider how tax changes could impact your business and income.)
While you’re at it, start organizing all your accounts and documents from 2018. Not only will you have a better sense of how your business is doing, but you could also save money if you plan to hire a tax professional to help with end-of-year tax planning or file your return in 2019. Otherwise, you might wind up paying their high hourly rate to do your administrative tasks.
Depending on your business, clients, and accounting method, you may have some control over when you receive income. For example, you could delay invoicing clients until Dec. 31 or early January and get paid for this year’s work next year. Or, you could ask clients if they can pay right away so you can include the money in 2018’s income.
If you’re growing, you may want to claim as much income as possible this year. If you wind up in a higher tax bracket next year, the extra income won’t be taxed at the higher rate.
On the other hand, when you don’t expect to grow, or think business may slow down, you could try to delay your income. You’ll either pay the same or less tax on the money next year.
One quick note: Even if you use cash-method accounting (meaning you record income when you receive the money, not based on your accounts payable) you have to count income as soon as it’s available. For example, if a client says a payment is ready or sends you a check in December, you can’t “move” the income to next year by delaying a transfer or waiting to deposit the check.
While it’s true that making more business purchases before the end of the year could lower your taxable income this year, that’s not necessarily the best move for two reasons.
“Don’t spend just to get a deduction, since you may end up saving more [money] by just paying the tax,” says Nisall. In other words, keep in mind that buying a $1,000 piece of equipment because it will lower your taxes by $300 will still cost you $700 overall. “If you need to make a purchase, go ahead, so long as it’s something that will actually benefit you in the near-term as opposed to hampering your free cash.”
The second reason — you guessed it — depends on next year’s projections. “If you are a growing business, you will probably benefit from delaying expenses rather than trying to speed up the recognition,” says Nisall. Putting the expense on next year’s books could reduce income that will be taxed at a higher rate, saving you more money overall.
Starting a retirement plan lets you save for tomorrow while lowering your taxes today. Small business owners may have several types of tax-advantaged retirement plans to choose from, such as a SEP-IRA, SIMPLE IRA, and Solo 401(k).
Although there are annual contribution limits, small business owners can generally contribute more money to their retirement plans than employees who don’t own a business. “Depending on their marginal tax rate, they could be saving in the low tens of thousands of dollars with combined federal and state income taxes,” says Mario Hernandez, a partner at Gemmer Asset Management LLC in Walnut Creek, California.
But that’s only part of the potential benefit — “It’s also a path to personal wealth that can open up more flexibility down the road and help you get to the point where you have your business working for you,” says Hernandez.
You should learn about the pros and cons of each plan type, such as whether you need to contribute to every employee’s account, before starting a plan for your business. There are also deadlines to consider.
SIMPLE IRAs need to be started by Oct. 1, so they may not work as a last-minute option.
With a Solo 401(k), you need to set up the plan by the end of the year if you want to make contributions for that year. For example, establish the plan by Dec. 31, 2018 to make deductible contributions for the 2018 tax year. However, you can make employer contributions to the plan up until you file your business tax return, including extensions, which could be as late as Oct.15, 2019.
A SEP IRA could provide even more flexibility, as you can establish and make contributions by your business’ tax return due date (including extensions).
Focusing on your taxes at the end of the year and when you file a return is a good start, but you could benefit from considering tax planning year-round.
The end of this year is also the start of next, which makes it an opportune time to establish new best practices or even make a New Year’s resolution to get more involved in your business’ finances. “By starting early, you will give yourself enough time to consider all of your options rather than making rash decisions which might not even benefit you,” says Nisall.
Funding Circle believes informed consumers are better consumers. We strive to provide informative and educational content useful for you and your business. However, please note that tax laws and regulations are complex and subject to change. We strongly recommend consulting your financial or tax professional regarding your specific circumstance.