How to Avoid a Hefty Tax Bill
My new business did well last year. The only unpleasant result is that I just had my tax return prepared and I owe a good deal. What can I do this year to avoid paying a hefty bill next time around?—J.N.R., Granada Hills, Calif.
Your tax preparer should be able to give you some specific suggestions based on your 2007 return and your sales projections for 2008. For instance, if you're not already making quarterly tax payments, you probably need to do so. This spreads out your tax liability over the entire year rather than having to pay it all at once, and if you're earning over a certain amount, you'll incur a penalty in 2008 if you're not filing quarterlies.
If your tax preparer is not experienced in working with entrepreneurs, seek out a savvy accountant or financial planner who's familiar with tax rules that particularly affect small companies. You don't want to take unnecessary risks that will increase your chances of an IRS audit, but you can certainly be proactive about saving on taxes whenever possible.
Many times, owners of sole proprietorships and other "pass-through" entities such as S Corporations don't take advantage of all the legitimate deductions they could be claiming. For instance, if your company headquarters is a spare bedroom in your house, consider taking the home-office deduction, under which you can deduct a portion of your home expenses for your business operations. Keep close track of all your business expenses: Don't forget everyday outlays such as office supplies, postage, industry publications to which you subscribe, and Internet hosting for your Web site, as well as larger expenses such as professional meetings or trade shows you attend. Retain your receipts for all business expenses that you file.
Todd Jackson, managing director at accounting firm RSM McGladrey, suggested some more sophisticated tax tips you might discuss with your accountant if you think they might apply to you:
Reclassify your property: "If you own your business space, think of having an engineering study done on the building. If parts of the building are used exclusively with respect to the business going on, you can classify them as equipment and depreciate them much faster than you would as property," he said.
Take credits for research and development: Are you spending money doing research to discover new business components or gain tech knowledge? You can take 20% of your excess expenses as a credit, says Jackson. "The trick is that you have to be able to document the research and show accumulated costs," he says.
If you're exporting or thinking about it: You can set up a separate company as your sales agent and assign 50% of your profits to it as deemed commission. "If you're qualified for foreign sales and you do this, your original business gets a deduction for half of its profits," Jackson says. Your sales agent firm can then pay that profit out to you personally as a dividend, saving you up to 20% on your income tax liability.