You are smart, ambitious and work hard to create an edge on the competition. Are you as smart and ambitious regarding income tax planning?
Here are some of the facts:
The IRS tax code is complicated, ambiguous, and ever-changing
Income taxes are a significant expense item for most small businesses
Many businesses do not take advantage of legal tax strategies
Many businesses pay too much in income taxes
Don't be intimidated. Find someone to explain the income tax system and how it applies to your business in plain language.
Here are some areas to think about in order to minimize your tax bill:
Tax vs. book methods of accounting
You need to understand the difference between your book method of accounting (typically, the accrual method) and the tax method (the method that your taxable income is derived – it could be accrual, cash, or one of several other methods, depending on your industry). Given your current and projected future company financial profile, there may be methods available to you that offer more flexibility and tax deferral options.
On a recent business analysis for a client, we determined that changing the tax accounting method to another IRS-accepted method would save a present value of $100,000 in taxes over the next five years. This change did not eliminate the taxes the business would owe. It simply postponed them into the future, which in this case represented real savings for the business in that it generated losses that resulted in cash refunds. Management decided that in the near term, the money could be better utilized in the business than giving it to the government.
Certain industries offer more flexible tax accounting methods than others, and some method changes require IRS approval, while others do not. Ask questions. A method change may make sense for your business.
Estimated tax payments
Generally, two points on estimated tax payments apply: 1) Estimated income taxes are due uniformly throughout the year; and 2) Current year estimated tax payments are based on last year's tax (or this year's tax, if it is less). If you don't follow the rules and underpay the IRS, you will be penalized. On the other hand, if you overpay, you get the satisfaction of granting an interest-free loan. The idea is to remit just enough tax to avoid penalty.
Tax law allows businesses to satisfy the estimated tax prepayment requirements in a variety of ways – many times it is not as simple as last year's tax divided by four equals your current year quarterly estimated tax payment amount. Make sure you are making the best choice as to when taxes are actually due.
Depreciation
The Section 179 deduction allows many businesses to expense some depreciable assets in the year they are placed in service. The limit for 2009 year expensing is $250,000; and it begins to phase out dollar for dollar when total asset acquisitions for the tax year exceed $800,000. Note that the Section 179 amount will decrease to $125,000 in 2010. You must have taxable income to claim this deduction, and the assets purchased can be either new or used. In addition, a special 50% "bonus" depreciation allowance continues to be available in 2009, which must be used to tax depreciate new assets only.
Have a taxable loss?
Another tax savings strategy is to take advantage of tax law that allows businesses to carry back losses. The carry back period was expanded to five years depending on the entity type. This increases your ability to successfully carry back taxable losses to offset previous tax-paying years, thus obtaining cash refunds now, when you need it.
Happy planning!
Income tax planning is simply a part of sound comprehensive business planning; an important component that assures your business has the needed capital and cash to sustain business operations. Be smart – give the strategic attention it deserves.
