You’ve picked a name for your business, created a website, and have a few clients…now, steer your business in the right direction by targeting these four start-up elements.
- Business structure
- Separate Your Money
1. Choose a Business Structure
The structure you choose will affect many aspects of your business, including how you file taxes. Your small business can be a sole proprietorship, a partnership, a limited liability company (LLC) or a corporation. The majority of my clients and US small business owners find the greatest benefit in being a sole proprietor, so this article will focus on that structure. Click here for information on choosing the business structure that works best for you.
2. Register Your Business
As a sole proprietor, you need to check with your state/local government agency to determine the registration, license, permit and insurance requirements for your specific type of business. At a minimum, owners typically register a fictitious Doing Business As (DBA) name with their state/local government so they can operate in a name other than their legal one. Most sole proprietors with no employees do not need to obtain a Federal Employer Identification Number (EIN), however, it’s usually required when trying to open a business bank account. You can get an EIN for free online by clicking here.
For military spouses, you’ll need to research these requirements every time you PCS. If you qualify for the Military Spouse Residency Relief Act (MSRRA), I recommend doing a google search with the name of your new state and MSRRA (ex: “California MSRRA”) to see how this act may or may not benefit your business.
3. Keep Your Money Separate
Set up an accounting system and a separate business bank account to help you organize your income and expenses…this will make tax time a breeze. You can set up an accounting system using excel, a similar online program, or by enlisting the help of an accountant. Contact me to receive the excel spreadsheet I use. In the event of an audit, the line between your personal and business expenses will be more visible and easier to justify. This separation also aids you in determining the profitability of your business. A lot of small business owners believe they are profitable, but are actually staying afloat by using their personal funds to cover business expenses. Having a separate business account also gives your clients the option of paying you in person or online with their debit/credit card. If you write or receive checks you can do so, more professionally, by using your business’ name.
4. File Taxes
The three most common types of federal tax sole proprietors pay are Income Tax, Estimated Tax, and Self-Employment Tax.
Income tax liability for your business is determined by filing Schedule C or Schedule C-EZ along with your annual Federal 1040 Income Tax Return. It is not uncommon for your new business to have a net loss during the first few years of operation. This is not necessarily a bad thing. In fact, a business loss will usually reduce your adjusted gross income and lower your income tax liability.
Self-employment (SE) taxes are your payment into Social Security and Medicare and are similar to FICA taxes paid by employees. Your net profit from Schedule C is used on IRS Schedule SE to calculate your 15.3% SE tax. If you owe SE taxes, half of the amount can be deducted as an adjustment to income on your 1040.
Many new small business owners ask me if they should make estimated tax payments. Since taxes are not being withheld like they would if you were an employee, it is important to estimate both the income and self-employment taxes you will owe. Generally, if you expect to owe more than $1,000 in tax liability after entering all other deductions and credits, consider making estimated payments to avoid penalties for underpayment of tax. Complete IRS Form 1040-ES to determine if your estimated tax liability is near the $1,000 threshold and how much you should pay on a quarterly basis. Plan to save roughly 25% of your business income to cover the tax liability if you decide not to pay quarterly estimated taxes.
In addition to state and local income taxes, depending on the type of business you operate, you may also be required to collect, report, and pay state and local sales tax.