Starting a new business is exciting, but it also comes with a host of responsibilities, one of the most important being taxes. If you’re a fresh startup founder, understanding your tax obligations is essential to avoiding legal issues, optimizing deductions, and maintaining healthy financial practices. Let’s dive into the key tax considerations every startup needs to be aware of.
1. Choose the Right Business Structure
One of the first decisions you’ll make as a fresh startup is selecting the legal structure for your business. This choice has significant tax implications, so it’s crucial to understand how each entity is taxed:
- Sole Proprietorship: The simplest structure, but taxes are reported on your personal return. You’ll be subject to self-employment taxes on profits.
- Partnership: A flexible structure for two or more owners, where income and deductions “pass through” to personal returns. Partners also face self-employment tax.
- Limited Liability Company (LLC): Offers liability protection and flexible tax treatment. An LLC can choose to be taxed as a sole proprietorship, partnership, or even a corporation. You can read more in our post on LLCs, but spoiler alert, this is our recommendation for an initial structure.
- C Corporation: Separate from its owners, a C Corp pays taxes at the corporate level, potentially leading to double taxation (once at the corporate level and again on dividends paid to shareholders).
- S Corporation: Similar to an LLC in terms of pass-through taxation, but it avoids self-employment tax on distributions (though salary to shareholders is still subject to payroll taxes). You can read more about S Corps here.
Understanding the benefits and tax differences of each structure can help optimize your tax obligations and impact how much you pay overall.
2. Register for an EIN
An Employer Identification Number (EIN) is like a Social Security number for your business. It’s required for filing taxes, opening a business bank account, and hiring employees. You can easily apply for an EIN through the IRS website.
3. Understand Your Tax Filing Deadlines
Missing tax deadlines can result in penalties, so it’s important to know when your returns are due:
- Annual Income Tax Returns: These will vary depending on your business structure. For example, corporations file Form 1120, while S corporations file Form 1120-S.
- Quarterly Estimated Taxes: Startups are often required to make quarterly estimated tax payments if they expect to owe more than $1,000 in taxes for the year. These payments cover income tax and self-employment tax, which includes Social Security and Medicare.
- Payroll Taxes: If you have W-2 employees, you must withhold income taxes and payroll taxes (Social Security, Medicare) and submit these regularly to the IRS. Filing Form 941 quarterly will help you stay compliant.
- Sales Taxes: If you sell goods or services subject to sales tax, you’ll need to collect and remit this tax to the appropriate state and local tax authorities.
4. Track Your Expenses for Deductions
Deductible expenses reduce your taxable income, meaning you pay less in taxes. As a fresh startup, it’s crucial to track every business expense to ensure you maximize these deductions. Some common tax-deductible expenses include:
- Startup Costs: You can deduct up to $5,000 of business startup costs in your first year, including expenses related to market research, legal fees, and advertising.
- Home Office Deduction: If you work from home, you may qualify to deduct a portion of your rent or mortgage, utilities, and other home office expenses.
- Business Equipment and Supplies: Items like computers, office furniture, and software can often be written off as deductions.
- Travel and Meals: Travel expenses and 50% of meal costs related to business activities are deductible.
- Other Expenses: Any expense considered “reasonable” and “necessary” for your business can be deducted.
Make sure to keep detailed records of all these expenses so you can take full advantage of available deductions.
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5. Payroll Compliance
As your startup grows and you begin hiring employees, you’ll need to stay compliant with payroll taxes. This includes:
- Withholding federal income tax, Social Security, and Medicare taxes from employee wages.
- Paying the employer portion of payroll taxes.
- Filing payroll tax returns, such as Form 941 quarterly.
- Issuing W-2 forms to employees at the end of each year.
6. R&D Tax Credits
If your startup is involved in innovation or technological development, you may qualify for the Research & Development (R&D) tax credit. This credit rewards businesses that invest in research activities related to creating or improving products, processes, or software. Startups can even use the credit to offset payroll taxes in some cases.
7. Be Prepared for State and Local Taxes
Federal taxes aren’t the only taxes you’ll need to consider. Depending on where your business operates, you may also be subject to state and local taxes, such as:
- State income tax: Some states require businesses to file income tax returns, while others don’t.
- Sales tax: If you sell taxable goods or services, you’ll need to collect and remit sales taxes.
- Property tax: If your business owns real estate or equipment, you may be subject to property taxes.
- Franchise tax: Some states charge a franchise tax on businesses for the privilege of doing business within the state.
8. Work With a Tax Professional
Taxes for startups can be complex, and trying to handle them on your own may lead to missed deductions or costly mistakes. It’s often worth investing in a tax professional or accountant who can help guide you through your specific tax obligations, ensure compliance, and help you make informed financial decisions.
Conclusion of Fresh Startup
Navigating taxes as a startup may feel overwhelming at first, but with proper planning and organization, you can stay on top of your obligations and even reduce your tax burden. By choosing the right business structure, understanding your filing requirements, tracking deductions, and working with professionals, you’ll be setting your business up for long-term success.
Always keep in mind that tax laws can change, so staying informed and regularly reviewing your tax strategy will help ensure your startup’s tax health stays in check.
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About the Author
Brett Rosenstein
Founder of Build Accounting
Certified Public Accountant
Brett is the founder and president of Build Accounting where he provides accounting, tax filing, and CFO services for tech startups and SaaS businesses. His goal is to make the accounting and tax process as simple, streamlined, and headache-free for business founders as possible.
Brett received a Bachelor of Science in Business Administration from The Ohio State University. He is also a Certified Public Accountant.
When Brett is not working, he is running, biking, spending time with his wife and daughter, or trying new pizza places.
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