If you’re like millions of others, you started a small business this year to make up for the uncertainty traditional jobs experienced during the pandemic. For many, it’s a dream come true — you’re your own boss, and you can grow your business to new heights.
But then there’s that pesky thing called taxes. You have to pay them, and as a business owner, you’re on the hook for both sides of the taxes, not just the "employee" side. When I first became self-employed, I had sticker shock at the cost of taxes without an employer covering half of my FICA taxes.
In this guide, I’ll show you everything you need to know when filing small business taxes for the first time. I hope to take the fear out of it for you and instead empower you to be ready when April 15th rolls around.
What Is a Business Tax Return?
Just like a personal tax return shows your income for the year, your business tax return does the same. It will detail the income you bring in, the business expenses you had, and any deductions you’re eligible for.
Hint — work with a licensed professional or, at the very least, reputable tax reporting software, so you take advantage of every deduction available to you. Since you own your own business, you’ll likely have many opportunities for deductions. Take advantage of them.
While your deductions must be business-related, the IRS guidelines are loose enough that you can include a large number of expenses you incur running your business. Here are a few of the most common business expenses.
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Home Office Deduction
If you use a part of your home exclusively for your business, you can write off the portion of the mortgage/rent, utilities, taxes, insurance, and other costs to maintain the area. To take the deduction, calculate the room’s square footage percentage compared to your home’s total square footage. This is the percentage of the home’s expenses you can write off on your taxes.
If your business requires you to travel, whether close or far, you can write off the mileage and/or the wear and tear on your car. Most business owners can write off 57.5 cents per mile driven for business only, so it’s important to keep track of your business versus personal miles since you likely use your car for both.
Office Supplies or Other Supplies to Run Your Business
Any equipment needed to run your business is a business expense. Keep careful documentation of what you spend on these items and, if possible, use a separate business account to pay for them, so your bookkeeping is a lot easier come tax time.
It costs money to start a business, and you can usually write those costs off on your tax returns. Most people can write off up to $5,000 of startup costs, including legal costs, advertising, training, HR to hire employees, or transportation.
Costs to Run the Business
Any other costs you incur to run the business, including paying for internet and phone, can be a deduction. Keep in mind that all costs you write off must only be for business use. For example, if you share a cell phone for business and personal use, you can’t write off 100% of the phone bill.
Advertising is the crux of any business, and you can write off the expenses to do it. Your advertising expenses must align with what’s typical for the area and bring in new business reasonably.
If you aren't married or your spouse’s employer doesn’t offer employer-sponsored health insurance, you may be able to deduct the cost of covering you, your spouse, and any dependent children up to age 27.
Qualified Business Income Deduction
If your total income (not just business income) is less than $164,900 for single-filers and $329,800 for married filing jointly filers, you can deduct 20% of your business income from your taxes.
Self-Employment Tax Deduction
All self-employed taxpayers pay self-employment tax equal to 15.3% of their net income. While it’s a hefty fee, you can write off half of the taxes paid on your taxes. It seems odd, but it’s a legit deduction.
Decisions to make before Filing Business Taxes for the First Time
Before filing business taxes for the first time, you have some big decisions to make. Besides looking for deductions around every corner, you must make these big decisions to determine how you run your business and file your business taxes.
You have two choices for your accounting basis — cash or accrual basis. If you choose the cash basis (most common), you count income when you receive it. You also count expenses when you pay them.
If you choose the accrual method, you count income when you earn it even if you haven’t received it and expenses when you incur them, not necessarily when you pay them.
Choosing your accounting basis should be done with a tax professional. Once you choose it, you usually stick with it, although some changes can occur.
It comes down to when you want to take advantage of deducting your expenses and when you want to report your income. If you expect more unpaid expenses than the income you haven’t yet received, you may benefit from the accrual method.
You have two options for depreciation. You can take a first-year depreciation deduction of up to $1,040,000 to cover your startup costs, including furniture and equipment, or you can depreciate it over 5 to 7 years.
If you are profitable from the start, taking the first-year deduction may help. If your business takes a while to get off the ground, though, you may want the deduction down the road when you’re bringing in more cash.
Documents needed when filing small business taxes for the first time
Once you’ve made the big decisions, it’s time to get your financial house in order. You’ll need a lot of paperwork to file your taxes. I don’t recommend waiting until April 1 to get everything together.
In general, keep careful records — keep a copy of everything in the cloud, so you have the documents when you need them. Throughout the year, carefully document every dollar you bring in and payout. Keep careful records, including important details, so that you can take advantage of every deduction available to you as a new business owner.
To file your taxes, you’ll need the following information and/or documents:
- Gross receipts from sales
- Accounts receivable if you’re using the accrual method
- 1099-INT forms for any business bank accounts
- Proof of any other income not noted in your gross receipts from sales
- Inventory beginning and ending dollar amounts
- Inventory purchased dollar amounts
- Cost of materials and supplies
- Detailed list of any expenses
Decide if You’ll Get Help Filing Taxes for the First Time or DIY Them
Here’s another big decision. Will you get help doing taxes for the first time for your business or DIY them?
If you’re unfamiliar with filing taxes, I recommend hiring an accountant. Here’s a bonus tip — you can write off the expense of hiring an account on your taxes. It’s like killing two birds with one stone. You know you’re filing your taxes right, and you can deduct the cost it incurs.
Why should you consider hiring someone? It comes down to the complexity of your tax returns. If you’re a sole proprietor or even an LLC, you may get away with preparing the taxes yourself. Software like TurboTax makes it easy to go step-by-step, filing your taxes.
If you work as a partnership or corporation, the tax terms and requirements become more complicated. It’s worth hiring someone, so you know you’re reporting everything you should and still getting the deductions you’re eligible to get.
The key is filing the correct forms. If you’re a sole proprietor, you report your income on Schedule C. It’s pretty self-explanatory and easy enough for most people. The same is true if you run an LLC as long as you are the only owner.
If you run a corporation or you classify your LLC as a corporation, you won’t complete Schedule C and instead must complete a separate business tax return on Form 1120. At that point, I would suggest bringing in a professional.
Filing small business taxes for the first time doesn’t have to be overwhelming. If you aren’t sure how to do it, I recommend hiring someone or (at the very least) using tax preparation software.
If you run a sole proprietorship or LLC (not a corporation), the taxes are just an extension of your personal taxes. You create one more schedule. But the key is making sure you get all of the deductions you’re entitled to. Since you’ll cover both sides of FICA tax plus your income tax on profits, you could face a hefty tax bill if you don’t keep careful track of every expense.
If you earned any income, yes, you MUST pay taxes your first year in business. Since you’re self-employed, you’ll pay taxes quarterly since the IRS operates on a pay-as-you-earn model. Just like you’d pay taxes with each paycheck, the IRS wants quarterly payments from self-employed taxpayers.
Just like an individual, businesses need to report all income earned. How much in taxes you owe will depend on the earnings and business deductions.
Yes, if you overpay your taxes, the IRS will issue a refund just like they would if you overpaid your taxes with an employer. Since you’ll pay taxes quarterly, if you estimate high and your sales are down, the IRS will refund you the difference in your overpayment.