Tax Strategies for Profitable Small Businesses

Small business owners can accidentally leave money on the table by not having a solid tax plan in effect. Tax planning for entrepreneurs varies greatly depending on industry, headcount, location, and other factors, but one fact will always remain true: small business tax deductions add up fast, and you might miss some shockingly valuable benefits without proper planning. Proactive tax planning can lead to more wealth and fewer nasty surprises in April.

Here are our small business tax tips and ways that small business owners don't have to lose out on advantages normally reserved for larger companies.

Set Up a Retirement Plan for Owner(s) and Key Employees

Small business owners aren't limited to just IRAs and Roth IRAs. You can open a solo 401(k), or even make significantly more tax-advantaged contributions with a SEP.

SIMPLE IRAs are a flexible option for small businesses with employees and there is no limit on the number of employees if you plan to grow. Both employees and employers can make contributions to the plan as well. The annual contribution limit is $16,000, with a catch-up contribution of $3,500 for employees 50 and older.

SEP-IRAs are ideal for solo business owners and companies that want to stay small, as the contribution limits are more flexible (smaller of $66,000 or 25% of the employee's compensation) and employers are not required to contribute every year. There is also the major drawback of businesses being the only permitted contributor.

Employees cannot make contributions to a SEP-IRA the way they would with a traditional corporate 401(k). Subsequently, this makes SEP-IRAs more desirable for industries that face constricted cash flows for a protracted timeframe, companies with just one owner-employee, or very small businesses that don't plan to grow to more than 100 employees.

Contributions to these plans can create significant tax savings on both business and personal levels, and contributions on employees' behalves are also deductible.

Check with a CPA to Review Your Business Entity Structure and Current Tax Rates

Tax laws change every year. Your business can change priorities and circumstances as well.

Winding down your current entity and starting a new one can create a costly disruption. However, it may be worth it if your current needs and tax rates necessitate it. Growing businesses may need to change to a new structure if they take on investors or foreign partners. A multiple-member LLC may provide more flexibility than a partnership.

With many key provisions of the 2018 Tax Cuts and Jobs Act set to expire in 2025, several small business benefits will no longer exist. The permanent reduction in corporate tax rates, however, may make forming a C corporation more favorable for your business.

The right structure can reduce your income tax liability while also considering other taxes like franchise taxes and fees that states and municipalities charge. Check with your local CPA to determine if restructuring your business is a sound move at this juncture as far as tax reduction goes.

Pay for Certain Expenses at the End of the Year

If there were any last-minute business expenses you were pondering, it may be worth making those purchases in the current year instead of waiting for the next year. If you expect the current year's profit to be higher than next year's, try to prepay as many expenses as possible to reduce your tax burden.

Supplies purchases, employee bonuses, subscriptions, and other expenses that can be prepaid for one year will be deductible in the current year without having to allocate the deduction over multiple tax years. You can also do this with rent, insurance, and other annual premiums. However, if your prepayment extends for more than one year, you won't be able to deduct the ensuing year's prepaid expenses until next year.

Rack Up Credit Card Rewards for Business Expenses

Business owners aren't restricted to the types of credit cards they can use for daily purchases and large business expenses. Provided that these cards are kept separate from your personal credit cards for simplified recordkeeping, you can use a credit card with incredibly robust rewards and introductory offers for business purchases.

Generally, credit card rewards are tax-free because you only receive these rewards as a condition of spending. Even in the event you are audited and the IRS finds that certain business expenses were not actually deductible, you can still keep the rewards earned from those purchases and not face any tax consequences.

Look for a credit card with a rewards program that best matches your personal needs or desires, such as earning airline miles or hotel rewards to get a free vacation. Look over each credit card rewards program and compare the mechanics to what you purchase for your business on a regular basis, and how you can attain your tax-free rewards faster.

Cash vs. Accrual Method of Accounting

Most small business owners rely on the cash method of accounting, which recognizes income and expenses in the year they are paid or received. Under the accrual method, however, income and expenses are recognized when the service is performed.

While this can cause confusion, it can also produce significant tax savings for certain types of businesses. The IRS also mandates that businesses of certain sizes and revenue thresholds use the accrual method of accounting.

Businesses that rely on deferral of goods and services over long-term contracts, such as construction and software, are more likely to benefit from switching to accrual accounting. Businesses that have a shorter revenue cycle, like restaurants, are more likely to benefit from the cash method.

Qualify for Health Insurance Deductions Without Having a Group Plan

There are a range of tax benefits for small business health coverage. Solo business owners can buy plans from state exchanges or the open market and use the self-employed health insurance deduction if they don't have coverage through a spouse or parent.

Health reimbursement arrangements (HRAs) are another tax-favored option if you don't have access to a group-term plan. Individual HRAs are only available to employers that don't offer group insurance. These plans allow employees (including owners) to purchase insurance pre-tax, and get reimbursed for copays and deductibles.

Tax planning is crucial for small business owners. Tax planning can include small steps, like last-minute business expenses at the end of the year, or major investments like creating a retirement account at the business level. Proper planning, and consulting a tax professional if you are unsure about a specific law or strategy, helps ensure lower taxes and less stress throughout the year.