No small business is the same. There are virtually no universal tax-saving tips that automatically cut your taxes in half.
To maximize your deductions and minimize your tax burden, you need detailed knowledge of small business and general tax codes. For most small business owners, barely enough time exists each day to run their company. They don’t have additional time to learn the intricacies of tax and keep up with changes.
For one Toledo, Ohio Realtor, partnering with a local small business tax consultant was an obvious decision, and it certainly paid off.
Uncovering Unknown Tax Problems
Most real estate agents are sole proprietors and run their businesses without an LLC. They’re typically working independently and selling a limited number of homes each year, making $40,000 in revenue and $20,000 in profit.
This Realtor, however, has the support of a team of four employees and a handful of independent contractors. He was making over $250,000 in commission income and $100,000 in profit.
When he met with Tom Friedel, his new tax advisor, he quickly learned a few tax-saving tips: most notably, that a sole proprietorship wasn’t his optimal business structure. No one had talked to him about the benefits of an S Corporation.
As Tom explained to him, it makes sense to be a sole proprietor when you’re working through pains and starting to become more profitable. But when you’re making good money – $50,000 or more in profit – there’s hardly a better tax structure than the S Corp.
Why The S Corp Was The Best Move
As a sole proprietor, you’re working as an individual and don’t have wages or W-2s, and you don’t have to pay standard payroll tax expenses such as unemployment tax, workers’ compensation and other insurance expenses on your income. Instead, you pay a self-employment tax (in addition to income tax), which is essentially Social Security tax, and equals 15.3% of your income.
Tom sat down with his client and created a spreadsheet that detailed how he could cut his tax burden by switching to an S Corp.
An S Corporation is a pass-through entity, meaning the business itself pays no taxes on its income, but “passes” it through to its owner – in this case, the Realtor at hand.
There are additional expenses when you’re taxed as an S Corp: For example, the aforementioned costs such as unemployment and workers’ comp, but most importantly, payroll.
Setting up and managing payroll isn’t easy for a small business owner, but with a small business consultant like Tom, this Realtor didn’t have to stress about this additional task. One of the key tax requirements of an S Corp is that the owner must take a reasonable wage, which is classified as a payroll expense.
The Realtor worked with his tax advisor to set a reasonable wage that would meet the requirements and IRS regulations, while legally maximizing the benefits of the S Corp tax structure.
No longer paying a self-employment tax on his $100,000 profit – which equated to roughly $15,000 – he was only required to pay business income tax on his new profit of $50,000. The remaining $50,000 paid his reasonable wage for the year, which is subject to Social Security.
On his business’s first income return, the Realtor saved $8,500 in total tax expenses.
Each small business is unique, and partnering with a small business tax consultant helped this owner understand how his current business entity was hurting his bottom line. Together, he and Tom worked to organize his records and set up the proper tax return and payroll forms.
By implementing tax-saving tips designed for his specific business needs, this business owner now takes home more of his hard-earned money.