There are various federal taxes that may apply to your small business. The type and form of business you operate determines what taxes you must pay and how you pay them. At the federal level, several different taxes may apply.

Excise Taxes

The IRS defines an excise tax as a tax imposed on the sale of specific goods or services, or on certain uses. Federal excise tax is typically imposed on the sale of items such as tobacco, fuel, alcohol, tires, heavy trucks and highway tractors, and airline tickets. Many excise taxes are placed in trust funds for projects related to the taxed product or service, such as highway or airport improvements.

An excise tax may be imposed at the time of import, sale by the manufacturer, sale by the retailer, or use by the manufacturer or consumer. Some excise taxes are collected by a third party, which then must remit the taxes to the IRS in a timely manner. An example of a third-party collector of an excise tax is a commercial airline, which collects the excise taxes on airline tickets that are paid by airline passengers. Businesses that are subject to federal excise taxes must generally file Form 720, Quarterly Federal Excise Tax Return. Certain excise taxes, such as those owed to the Alcohol and Tobacco Tax and Trade Bureau, are reported on different forms.

Income Taxes

Income taxes must be paid on business profits. How that tax is paid depends on how the business is structured. Most small businesses are pass-through entities, which means that the business’s profits or losses are passed through to the owners and reported on their personal income tax returns.

Partnerships and multi-member limited liability companies (LLCs) generally file a partnership business tax return for informational purposes only. The individual partners and LLC members pay income taxes for their share of the income of the business. Note, however, that some LLCs elect to be treated as a corporation for tax purposes.

An S corporation files an S corporation income tax return for the business. Like a partnership, an S corporation’s net income is divided among the owners, who pay tax on their share of that income individually.

A sole proprietor reports business profit or loss on a separate schedule filed with the sole proprietor’s individual income tax return. Unless an election to be treated as a corporation has been made, the owner of a single-member LLC also reports the company’s profit or loss directly on the owner’s return.

Social Security and Medicare Taxes

Employers must generally withhold Social Security and Medicare taxes from their employees’ wages and must pay a matching amount. Employers must also withhold the 0.9% additional Medicare tax on employee wages and compensation that exceeds a threshold amount.

Self-Employment Taxes

Self-employment tax is a Social Security and Medicare tax primarily for individuals who work for themselves. It is similar to the Social Security and Medicare taxes paid for other workers.

Federal Unemployment Tax

Employers are required to report and pay the Federal Unemployment Tax Act (FUTA) tax separately from federal income taxes and Social Security and Medicare taxes. FUTA tax is not withheld from wages; employers are responsible for paying the tax.

Business owners should exercise extreme care when it comes to paying taxes since any mistakes on their part could result in significant penalties. For assistance, consult a tax professional.

Small businesses benefit from various tax credits that reduce the amount of tax they pay to the government. Here, we discuss tax credits, why they exist and provide a list of the top tax credits that small business owners should know.

Small Business Tax Credits

A small business tax credit is an amount of money subtracted from the taxes the business owes. Tax credits differ from tax deductions. For example, deductions cut a business’ total tax by a percentage of the deduction, depending on the tax bracket. Alternatively, tax credits reduce the tax due, not the amount of taxable income. In other words, a small business tax credit is a dollar for dollar deal – every dollar of credit cuts the business’ tax by a whole dollar. This credit is a significant benefit for small business owners because it helps recover some operating costs and retains the precious capital needed for growth.

As a practical example, if your business owes $20,000 in taxes, but you can claim a $5,000 tax credit, that amount is subtracted from your total tax bill making the new tax bill $15,000.

The Purpose of Small Business Tax Credits

The U.S. government grants tax credits to promote behaviors it finds favorable. For example, tax credits are offered to businesses as incentives for activities that benefit employees, promote specific industries, or aid or benefit society. One example is the government offering tax credits to businesses that purchase electric vehicles. The government encourages this to fight climate change and global warming. Because tax credits can have such a dramatic impact on a small business’s bottom line, it is crucial to stay apprised of tax credits for which your business is eligible.

7 Small Business Tax Credits for 2021

In the wake of the COVID-19 pandemic, related tax credits for small businesses top the list.

1. Employee Retention Credit

Under the American Rescue Plan, the Employee Retention Credit (ERC) is extended for small businesses through December 2021 and is available for all four quarters of the year. This tax credit allows small businesses to offset payroll tax liabilities by up to $7,000 per employee per quarter. That means a credit of up to $28,000 per employee is available for small businesses whose revenue declined due to the COVID-19 pandemic. A 20 percent decline in gross receipts during a single quarter makes a business eligible for this tax credit.

2. Paid Leave Credit

Another tax credit that falls under the American Rescue Plan is the Paid Leave Credit. This credit is extended through September 30, 2021, and offers credits for small and midsize businesses that offer paid leave to employees for COVID-related illness, quarantine, or family caregiving. The allowable credit is equal to wages up to $5,000 of paid leave for sick or quarantining employees.

Note: Small businesses are no longer required by law to offer paid leave related to COVID; however, if they do, the credit still applies.

Other tax credits of which small businesses should be aware are:

3. Health Care Tax Credit

With the Health Care Tax Credit, the smaller the business, the bigger the credit. The credit is highest for businesses with fewer than ten employees. Generally, the way to qualify for the credit is by enrolling in a Small Business Health Options Program (SHOP).

A business must meet the following requirements to qualify:

• (a) have fewer than 25 full-time employees,
• (b) have an average employee salary of approximately $50,000 per year or less,
• (c) pay at least 50 percent of full-time employees’ healthcare premiums, and
• (d) offer SHOP coverage to all full-time employees.

This credit can be claimed for two consecutive years, applicable from 2017 forward.

4. Work Opportunity Credit

This credit is available to employers who hire from specific groups that face barriers to employment. For example:

• Qualified IV-A Recipient – receiving TANF assistance
• Qualified Veteran – the IRS provides details of what “qualified” entails on their site under Tax Credits
• Ex-Felon
• Designated Community Resident (DCR) – between 18 and 40 years old and living in an empowerment zone, an enterprise community, or a renewal community
• Vocational Rehabilitation Referral – a person who has a physical or mental disability and has been referred to the employer while receiving or upon completion of rehabilitative services
• Summer Youth Employee
• Supplemental Nutrition Assistance Program (SNAP) Recipient
• Supplemental Security Income (SSI) Recipient
• Long-Term Family Assistance Recipient
• Qualified Long-Term Unemployment Recipient

Under the Consolidated Appropriation Act, 2021, this credit was extended until December 31, 2025.

5. Disabled Access Credit

Eligible small businesses that earn $1 million or less and have a maximum of 30 full-time employees in a year can claim this credit each year in which expenditures are incurred to make their business accessible to persons with disabilities under the Americans with Disabilities Act (ADA).

Expenditures include, but are not limited to, installing wheelchair ramps, upgrading restrooms, and providing Braille text materials.

6. Employer-Provided Childcare Facilities and Services

While few businesses these days seem to provide in-house child care for their employees’ children, a tax credit can make this an attractive option. This credit is a general business tax credit for 25 percent of qualified employer-provided child care expenditures plus 10 percent of qualified child care resources and referral expenditures. The credit is capped at $150,000 per tax year.

Qualifying expenditures:

• Include operating costs of a qualified child care facility
• Include costs for acquisition, construction, rehabilitation, or expansion of a property used as a care facility (but not land or any part of the principal residence of the taxpayer)
• May not exceed the fair market value of care provided

The employer-run facility must open enrollment to employees and must not discriminate in favor of highly compensated employees. At least 30 percent of the facility’s enrollment must consist of dependents of taxpayer employees.

7. Research and Development (R&D) Tax Credits

Several R&D tax credits exist for small businesses. These credits typically apply to science, medical and technology-based businesses; however, many businesses engage in qualified R&D activity.

The following activities qualify for an R&D tax credit:

• New prototype or model development
• Proprietary product on which you seek a patent
• Developing a new manufacturing process or business process
• Improving product efficiency or existing business processes
• Improving quality control processes
• Environmental or certification testing

Businesses that qualify for this credit can subtract up to 10 percent of R&D costs from their tax bill.

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Ask your tax professional about small business tax credits that apply to your business. There are additional federal small-business tax credits from state and local governments. Tax credits often expire after a few years, so act quickly to take advantage of those that apply to you.

We invite you to request a consultation online now or call us at 661-323-1514 to learn more about how we can help you save money on your taxes.

First time hiring an independent contractor? Here’s what you need to know about taxes.

Two months ago in this column, we explained the differences between employees and independent contractors. The IRS has strict rules that you must follow when you make this distinction because there are very different tax rules for each type of worker.

If you’re hiring an independent contractor for the first time, here’s the good news: Your income tax obligations are much simpler than they’d be if you were bringing on a new employee. You are not responsible for withholding and submitting payroll taxes to the IRS and state agencies. You simply pay the compensation that you and your worker have negotiated.

Here’s a look at the forms you and your independent contractor will need to complete.

The W-9

Where employees have to fill out a Form W-4 form to get paid by their employers, independent contractors are required to enter tax-related data on a Form W-9. This is a very simple document, requiring only the taxpayer’s:

• Name, address, and business name (if different).
• Business entity type (sole proprietor, partnership, LLC, etc.).
• Taxpayer Identification Number (TIN). This will most likely be your contractor’s social security number, though in rare cases, it may be an employer identification number (EIN).
• Signature and date signed.

You or your independent contractor can print out a copy of the W-9 here. He or she can either send you a completed paper copy or scan it and email it to you. As the employer, you’ll use this information to report your independent contractor’s annual income. The IRS advises you to keep this form for four years in case it has questions at a later time.

Form 1099-NEC

Before tax year 2020, nonemployee compensation was reported in Box 7 of the Form 1099-MISC. Now, though, there is a separate form for it: the Form 1099-NEC. If you paid someone who is not your employee $600 or more during the tax year, you must complete this form. You’ll need to submit one copy to the IRS, one to state taxing agencies, and one to the contractor by January 31 of the year following the year the income was earned.

In addition to the taxpayer’s name, address, and TIN, and your TIN (account number is optional), you must include the following information on the Form 1099-NEC:

• Box 1 should contain the total that you paid the independent contractor during the tax year (nonemployee compensation)
• If the Box 2 is checked, it signifies that you sold $5,000 or more in consumer products to the contractor for resale, on a buy-sell, a deposit-commission, or other basis. The contractor should report income from these sales on the Form 1040’s Schedule C.
• Box 3 is not currently being used by the IRS.
• If you withheld federal income tax from the contractor’s payments, as is required when he or she does not supply a TIN, you must report it in Box 4.
• Boxes 5-7 would only be used if you withheld state income tax.

You can see an example of the Form 1099-NEC here, but you can’t just print or scan and email all of the copies needed. Copy A goes to the IRS, and the other copies go to state tax departments and the independent contractor. You must have an official IRS version of Copy A because it needs to be scanned by the agency. The other copies can be downloaded and printed.

The Form 1099-NECs that you send to the IRS must be accompanied by Form 1096, Annual Summary and Transmittal of U.S. Information Returns. We’ll tell you more about acquiring and preparing all of these forms as the deadline for the 2021 tax year gets closer. Your relationship with your independent contractor should be fairly uncomplicated where taxes are concerned. But if you’re dealing with a situation that causes you to question your handling of it, please let us help. We can also advise you on your classification of your new hire (independent contractor vs. employee), a distinction that the IRS takes very seriously. As always, we’re available to help with year-round tax planning and eventual preparation and filing.

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Hiring an independent contractor for the first time? We can help ensure that you’re handling related tax issues correctly.

Are you sure that the individual you’re hiring is an independent contractor and not an employee? We can help you sort it out.

Two IRS forms must be completed when you hire an independent contractor: the Form W-9 and the Form 1099-NEC.

Did you know that nonemployee compensation is no longer reported on the Form 1099-MISC? The Form 1099-NEC is used now.