For employees, filing taxes can be complicated, but the process is pretty streamlined. Your employer withholds what you elect from each paycheck, and pays a portion of your taxes for you. The employer sends that money to the government over time, and you file a return at the end of the year. If you’re lucky, you get a return. If you’re not, you owe and must pay. It’s not that simple when it comes to business taxes, though.
If you’re a business owner, or even just a self-employed professional, you have quite a few more hoops to jump through to pay your taxes. You have a lot of work necessary just to figure out how much you’ll actually owe, much less make the quarterly payments required of you. The good news is that estimating ow much your business will owe in taxes doesn’t need to give you an embolism.
The Two Surprises
If you’re a business owner and this is the first year your company operated, or the first year you’ve turned a profit, you’re in for a couple of surprises. We’ve already touched on the first one – as a business owner, no one is turning in taxes for you throughout the year. The second one is that you are still responsible for Social Security and Medicare payments, and no one is paying those regularly either.
The Good News
The good news is this – it’s possible to estimate what you’ll owe in business taxes. If you have a ballpark estimate, you can pay enough to avoid IRS penalties. The rule of thumb here is that the IRS requires you to pay at least 90% of all income taxes during the year. So, you have a little bit of leeway in case your estimated taxes are under the amount you actually owe.
How to Figure Out What Your Business Owes
When it comes to determining how much your business owes in taxes, it’s best to start with a determination of whether or not you’ll have to file quarterly or not. The answer is yes for most businesses. However, if you owe taxes of under $1,000 for the year, you won’t have to file quarterly.
Once you determine whether you need to pay quarterly or not, the next step is to figure out what you’ll owe per quarter. To do that, you need to estimate quite a few things, including the following:
- Your taxable income
- Your deductions
- Your adjusted gross income
- Your tax credits
In most cases, you can use your previous year’s numbers as a guide to estimate what you’ll owe this time around. However, if this is your first year as a subcontractor or freelancer, or the first year running a profitable business, that won’t work. In that case, simply take your income up until the current quarter as the base and extrapolate from that point.
You will also need to estimate your business expenses for the quarter, as these will balance against your income. Again, you can use the numbers from last year if you want, or you can use the numbers you’ve generated so far this year to figure it out.
Finally, you need to include your personal income information. Note that this does not apply if your business is a C Corporation. Your personal income information, all of your deductions, and your credits/exemptions will come into play here.
To start estimating how much you’ll owe in business taxes, you have two options. You can do it yourself using Form 1040-ES and the accompanying tax calculation worksheet. You can also work with a tax preparation professional that specializes in helping business owners stay ahead of the IRS. Such a tax firm will be able to help you create as accurate an estimate as possible, and even help you make timely payments every quarter.
Of course, you can also use tax software to estimate your tax liability, but this is only a single step above doing your business’ taxes on your own. Note that you must make sure that self-employment tax is included with each quarterly payment (that’s your Social Security and Medicaid liability per quarter).
Perhaps the simplest method is this – average your income for a year, then divide that into four parts. Each part corresponds to one quarter of the year and will tell you want to pay the government.
Know Your Corporate Tax Rate
If you run either an S Corp or a C Corp, you’ll need to know the corporate tax rate for the year. Note that this doesn’t apply to companies that are not incorporated. The maximum for a C Corp is 35%, but that doesn’t apply to an S Corp. This is because all profits and losses for S Corps are passed along to the shareholders, who claim them on their personal taxes in proportion to their ownership in the business.
For C Corps, the tax rate is 15% if you earn $50,000 or less. If you earn between $50,000 and $75,000, the tax rate is $7,500 plus 25% of the amount beyond $50,000. If you earn between $75,000 and $100,000, the tax rate is $13,750 plus 34% of the amount beyond $75,000. If you earn $100,000 to $335,000, the tax rate is $22,250 plus 39% of the amount over $100,000. If you earn between $335,000 and $10,000,000, the rate is $133,900 plus 35% of the amount over $335,000.
When it’s all said and done, the best thing for small business owners to do is to work with a trusted tax professional. While estimating what your business owes each year can be relatively easy, it’s imperative that your estimate is accurate. Otherwise, you could end up digging a deeper and deeper hole with the IRS, which is never a place you want to be in.