Business Tax Information
- Business Tax Basics
- Business Income Tax
- Self-Employment (SE) Tax
- Estimated Tax for Businesses
- Employment Taxes
- Excise Tax
- Types of Business Entities
1. Business Tax Basics
There are five main types of business taxes:
• Income Tax
• Self-Employment Tax
• Estimated Tax
• Employment Taxes
• Excise Tax
The type of business entity that you operate will determine which tax(es) you have to pay, as well as how you pay those taxes.
Income Tax
All businesses must file an income tax return each year – excluding Partnerships, which must file an “information return.” The tax form that you use depends on how your business is organized (i.e. the type of business entity established).
Federal business income tax operates on a “pay-as-you-go” system, which means that you must pay the tax throughout the year as income is earned/received. Employees typically have their income tax withheld from their paychecks. If you do not pay withholding taxes, or you have too little withheld, you may be required to pay Estimated Tax (see below) in four quarterly installments. If you are not required to pay estimated tax, you can pay any tax due when you file your income tax return.
Self-Employment (SE) Tax
Self-employment tax (also called “SE tax”) is a Social Security and Medicare tax aimed mainly at individuals who are self-employed. The SE tax payments you make go towards your coverage under the federal Social Security system. Social Security coverage essentially provides retirement benefits, disability benefits, health care benefits (Medicare), and survivor benefits.
In general, you must pay Self-Employment Tax and file “Schedule SE” (on Form 1040) if either of the following applies:
• Your net earnings from self-employment income were $400 or more
• You work for a qualified church-controlled organization (other than as a minister or member of a religious order) that has elected an exemption from Social Security and Medicare taxes. In this case, you are subject to SE Tax if you earn $108.28 or more in wages from the church/organization.
To pay self-employment tax, you must have a Social Security number (SSN) or an individual taxpayer identification number (ITIN).
Note that there are special rules for fishing crew members, notary public employees, aliens, state or local government employees, foreign government employees, and international organization employees.
You should also note that whenever SE Tax is mentioned, it generally only refers to Social Security and Medicare taxes, and does not include any other taxes that self-employed individuals may be subject to. Keep in mind that other information may be required for your particular type of business.
For more information, please refer to the IRS “Self-Employment Tax” publication.
Estimated Tax
In general, you must pay your income tax (which includes self-employment tax) by making regular payments of Estimated Tax throughout the year.
Estimated tax is a way of paying tax on your income that isn’t subject to withholding tax. According to the IRS, this can include “income from self-employment, interest, dividends, alimony, rent, gains from the sale of assets, prizes, and awards.” You may also be subject to estimated tax if the amount withheld from your salary/pension is not enough.
Estimated tax is used to pay your income tax (or self-employment tax) and any other taxes that are reported on your annual income tax return. Note that if you do not pay enough tax through withholding or estimated payments, you may be subject to a penalty. Additionally, if you do not pay enough tax by the due date of each period (generally 4 installments during the year) you may be charged a late fee – even if you are owed a tax refund when you file your return.
Employment Taxes
If you are an employer (and you have employees), you are responsible for certain employment taxes and you will need to pay them and file forms for them. Employment taxes generally include the following:
• Social Security and Medicare Taxes
• Federal Income Tax Withholding
• Federal Unemployment Tax (FUTA)
Employers typically must withhold Federal Income Tax from their employee’s wages. You also withhold part of the Social Security and Medicare taxes from your employee’s wages, and pay a matching amount yourself. Your employee’s W-4 tax form should inform you as to how much to withhold from each wage payment.
The FUTA tax is reported and paid separately from Federal Income Tax, and Social Security and Medicare taxes. FUTA tax is paid only from the employer’s own funds – employees do not pay FUTA tax, nor have it withheld from their wages.
Also note that self-employed individuals are subject to Self-Employment Tax, which is basically a Social Security and Medicare tax for people who work for themselves.
Excise Tax
Excise taxes are paid when purchases are made on certain goods/products. Excise tax is typically included in the price of the product.
There are also excise taxes on some activities, including highway usage by trucks and wagering.
2. Business Income Tax
All businesses must file an income tax return each year – excluding Partnerships, which must file an “information return.” The tax form that you use depends on how your business is organized (i.e. the type of business entity established).
Federal business income tax operates on a “pay-as-you-go” system, which means that you must pay the tax throughout the year as income is earned/received. Employees typically have their income tax withheld from their paychecks. If you do not pay withholding taxes, or you have too little withheld, you may be required to pay Estimated Tax in four quarterly installments. If you are not required to pay estimated tax, you can pay any tax due when you file your income tax return.
Estimated Tax
In general, you must pay your income tax (which includes self-employment tax) by making regular payments of Estimated Tax throughout the year.
Estimated tax is a way of paying tax on your income that isn’t subject to withholding tax. According to the IRS, this can include “income from self-employment, interest, dividends, alimony, rent, gains from the sale of assets, prizes, and awards.” You may also be subject to estimated tax if the amount withheld from your salary/pension is not enough.
Estimated tax is used to pay your income tax (or self-employment tax) and any other taxes that are reported on your annual income tax return. Note that if you do not pay enough tax through withholding or estimated payments, you may be subject to a penalty. Additionally, if you do not pay enough tax by the due date of each period (generally 4 installments during the year) you may be charged a late fee – even if you are owed a tax refund when you file your return.
Sole Proprietors, Partners, and S Corporation Shareholders
You usually have to make estimated tax payments if you expect to owe $1,000 or more in tax when you file your annual income tax return. To calculate and pay your estimated tax, use IRS Tax Form 1040-ES (Estimated Tax for Individuals). For more information, see IRSA Publication 505 (Tax Withholding and Estimated Tax).
Corporations
In general, you must make estimated tax payments for your corporation if you expect it to owe $500 or more in tax when you file its annual return. To calculate the estimated tax, use IRS Tax Form 1120-W (Estimated Tax for Corporations). Note that you will mostly likely be required to deposit tax payments electronically. For more information, see IRS Publication 542.
Which Forms to File
If you are a sole proprietor, use IRS Tax Form 1040 and Schedule C or C-EZ (or Schedule F for farm business) to report your income tax.
If you are a partnership, use IRS Tax Form 1065 to report your income tax.
If you are a partner in a partnership (i.e. an individual), use IRS Tax Form 1040 and Schedule E to report your income tax.
If you are a corporation or S corporation, use IRS Tax Form 1120 or 1120-A (corporation) 1120-S (S corporation) to report your income tax.
If you are a S corporation shareholder, use IRS Tax Form 1040 and Schedule E to report your income tax.
3. Self-Employment (SE) Tax
Self-employment tax (also called “SE tax”) is a Social Security and Medicare tax aimed mainly at individuals who are self-employed. The SE tax payments you make go towards your coverage under the federal Social Security system. Social Security coverage essentially provides retirement benefits, disability benefits, health care benefits (Medicare), and survivor benefits.
In general, you must pay Self-Employment Tax and file “Schedule SE” (on Form 1040) if either of the following applies:
- Your net earnings from self-employment income were $400 or more
- You work for a qualified church-controlled organization (other than as a minister or member of a religious order) that has elected an exemption from Social Security and Medicare taxes. In this case, you are subject to SE Tax if you earn $108.28 or more in wages from the church/organization.
To pay self-employment tax, you must have a Social Security number (SSN) or an individual taxpayer identification number (ITIN).
Note that there are special rules for fishing crew members, notary public employees, aliens, state or local government employees, foreign government employees, and international organization employees.
You should also note that whenever SE tax is mentioned, it generally only refers to Social Security and Medicare taxes, and does not include any other taxes that self-employed individuals may be subject to. Keep in mind that other information may be required for your particular type of business.
You may deduct ½ of your self-employment tax as an adjustment to your income on Tax Form 1040. Keep in mind that the Social Security Administration (SSA) places a time cap on how long you have to report self-employment income, and you can typically only get credit for self-employment income that is reported within 3 years, 3 months and 15 days after the tax year during which you earned the income.
Self-Employment Tax Rate
The 2010 Tax Relief Act reduced the self-employment tax by 2% for self-employment income earned in calendar year 2011.
The self-employment tax rate for self-employment income earned in calendar year 2011 is 13.3% (10.4% for Social Security and 2.9% for Medicare). The Temporary Payroll Tax Cut Continuation Act of 2011 extended the self-employment tax reduction of 2% for calendar year 2012 so the rates for 2011 remain in effect for 2012. For self-employment income earned in 2010, the self-employment tax rate is 15.3%. The rate consists of two parts: 12.4% for social security (old-age, survivors, and disability insurance) and 2.9% for Medicare (hospital insurance).
For both 2010 and 2011, the first $106,800 of your combined wages, tips, and net earnings are subject to any combination of the Social Security part of self-employment tax, Social Security tax, or railroad retirement (tier 1) tax. Income you make after $106,800 will not be subject to the Social Security tax.
All your combined wages, tips, and net earnings in the current year are subject to any combination of the 2.9% Medicare part of Self-Employment tax, Social Security tax, or railroad retirement (tier 1) tax.
If your wages and tips are subject to either Social Security or railroad retirement (tier 1) tax, or both, and total at least $106,800, do not pay the Social Security part of the self-employment tax on any of your net earnings. However, you must pay the 2.9% Medicare part of the self-employment tax on all your net earnings.
If you use a tax year other than the calendar year, you must use the tax rate and maximum earnings limit in effect at the beginning of your tax year. Even if the tax rate or maximum earnings limit changes during your tax year, continue to use the same rate and limit throughout your tax year.
4. Estimated Tax for Businesses
In general, you must pay your income tax (which includes self-employment tax) by making regular payments of Estimated Tax throughout the year.
Estimated Tax is a way of paying tax on your income that isn’t subject to withholding tax. According to the IRS, this can include “income from self-employment, interest, dividends, alimony, rent, gains from the sale of assets, prizes, and awards.” You may also be subject to estimated tax if the amount withheld from your salary/pension is not enough.
Estimated tax is used to pay your income tax (or self-employment tax) and any other taxes that are reported on your annual income tax return. Note that if you do not pay enough tax through withholding or estimated payments, you may be subject to a penalty. Additionally, if you do not pay enough tax by the due date of each period (generally 4 installments during the year) you may be charged a late fee – even if you are owed a tax refund when you file your return.
Estimated Tax
Estimated Tax is the method that individuals and businesses use to pay tax on their income that is not subject to withholding. This may include income from self-employment, interest, dividends, alimony, rent, gains from the sale of assets, prizes, and awards. You also may have to pay Estimated Tax if the amount of income tax being withheld from your paycheck (salary, pension, or other income) is not enough.
Estimated Taxes are used to pay for income tax and self-employment tax, as well as other taxes and amounts that are required to be reported on your income tax return (Form 1040). If you do not pay enough through withholding or estimated tax payments during the year, you may be charged a penalty by the IRS. If you do not pay enough Estimated tax by the due date of each payment period (typically quarterly) you may be charged a penalty -- even if you are due a tax refund when you file your return.
Estimated tax payments are typically made in quarterly installments using IRS Form 1040-ES, which can be filed electronically or by paper mail.
Who Must Pay Estimated Tax?
The following individuals are generally required to make Estimated Tax payments if you owe tax of $1,000 or more when you file your tax return:
- Sole proprietors
- Partners
- S-corporation shareholders
- Self-employed individuals
Corporations are generally required to make Estimated Tax payments if it’s expect to owe tax of $500 or more when it’s corporate return is filed.
Note that if you had a tax liability for the previous year, you may need to pay Estimated Tax for the current year. For more information regarding who must pay Estimated Taxes, see the Instructions and Worksheet for IRS Tax Form 1040-ES.
Who Doesn’t Have to Pay Estimated Tax?
Most individuals can avoid having to pay Estimated Tax by asking their employer to withhold more tax from their wages. To do this, you must file a new Form W-4 with your employer. There is a special line on the W-4 Form where you can enter the additional amount that you want your employer to withhold from your paychecks.
You do not have to pay Estimated Tax for the current year as long as you meet all 3 of the following requirements:
- You had no tax liability for the previous year (meaning that your total tax was zero, or you did not have to file an income tax return)
- You have been a U.S. citizen or resident for the entire year
- Your prior tax year covered a 12-month period
Note that Estimated Tax requirements are different for famers and fishermen. For more information regarding Estimated Tax, see IRS Publication 505 (Tax Withholding and Estimated Tax).
How to Calculate Your Estimated Tax
To calculate your Estimated Tax, you must know your expected Adjusted Gross Income (AGI), taxable income, taxes, deductions, and tax credits for the year.
When determining your Estimated Tax for the current year, it may help to use your prior year income tax return as a guide – using the information from that return as a starting point (for income, deductions and credits). You may also use the worksheet on Form 1040-ES to figure your Estimated Tax.
You will need to estimate the amount of income that you expect to earn for the year. If you estimated your earning too high or too low, simply complete another Form 1040-ES worksheet to recalculate your Estimated Tax for the next quarter. Keep in mind, you want to try to estimate your income as accurately as possible, to avoid being subject to penalties.
Note that you are required to make adjustments for changes in your personal situation as well as any recent changes to the tax law.
When to Pay Estimated Tax
Estimated Tax payments are made in 4 quarterly installments. Each payment period has a specific due date. If you fail to pay enough tax by the quarterly deadlines, you may be charged a penalty (even if you are owed a tax refund when you file your income tax return).
Estimated Tax payments are due on the 15th day of the 4th, 6th, and 9th months of your tax year, and on the 15th day of the 1st month after your tax year ends. Typically, these dates fall on April 15th, June 15th, September 15th, and January 15th.
How to Pay Estimated Taxes
The following individuals should use IRS Tax Form 1040-ES to figure and pay Estimated Tax:
- Sole proprietors
- Partners
- S-corporation shareholders
- Self-employed individuals
If you are filing as a Corporation, you should use IRS Tax Form 1120-W to calculate your Estimated Tax. Note that a corporation’s Estimated Tax payments must be deposited electronically. For more information, see IRS Publication 542 (Corporations) and/or the Instructions for Form 110-W.
Both individuals and businesses can pay their Estimated Tax online using the Electronic Federal Tax Payment System (EFTPS).
5. Employment Taxes
If you are an employer (and you have employees), you are responsible for certain employment taxes and you will need to pay them and file forms for them. Employment taxes generally include the following:
- Social Security and Medicare Taxes
- Federal Income Tax Withholding
- Federal Unemployment Tax (FUTA)
Employers typically must withhold Federal Income Tax from their employee’s wages. You also withhold part of the Social Security and Medicare taxes from your employee’s wages, and pay a matching amount yourself. Your employee’s W-4 tax form should inform you as to how much to withhold from each wage payment.
The FUTA tax is reported and paid separately from Federal Income Tax, and Social Security and Medicare taxes. FUTA tax is paid only from the employer’s own funds – employees do not pay FUTA tax, nor have it withheld from their wages.
Also note that self-employed individuals are subject to Self-Employment Tax, which is basically a Social Security and Medicare tax for people who work for themselves.
Withholding Federal Income Tax
Employers must generally withhold federal income tax from their employee’s wages. The employee will need to fill out Form W-4 so you know how much to withhold from each paycheck.
Social Security Tax and Medicare Tax
As an employer, you must also withhold part of the Social Security tax and Medicare tax from their employee’s wages, and pay a matching amount yourself. Social Security and Medicare taxes are used to pay for the benefits that workers (and their families) receive – including benefits for old-age, survivors, disability insurance, and hospital insurance. These benefits fall under the Federal Insurance Contributions Act (FICA).
These taxes can be reported using IRS Tax Form 941 (Employer’s Quarterly Federal Tax Return).
Federal Unemployment Tax (FUTA)
The FUTA tax is reported and paid separately from Federal Income Tax, and Social Security and Medicare taxes. FUTA tax is paid only from the employer’s own funds – employees do not pay FUTA tax, nor have it withheld from their wages.
Your federal unemployment tax can be reported on IRS Tax Form 940 (Employer’s Annual Federal Unemployment Tax Return).
6. Excise Tax
Excise taxes are paid when purchases are made on certain goods/products. There are also excise taxes on some activities, including highway usage by trucks and wagering.
Excise tax is an indirect tax that is typically included in the price of the product. There are several general excise tax programs -- including alcohol, tobacco, and motor fuel.
According to the IRS, you may be subject to excise tax if you do any of the following:
- Manufacture or sell certain products
- Operate certain kinds of businesses
- Use various kinds of equipment, facilities, or products
- Receive payment for certain services
Excise Tax Forms
Form 720 – Quarterly Federal Excise Tax Return
This tax form is used to report several categories of federal excise taxes, including environmental taxes, fuel taxes, communications and air transportation taxes, manufacturers taxes, and tax on the retail sale of heavy trucks, tractors, and trailers.
Form 2290 – Heavy Highway Vehicle Use Tax Return
This tax form is used to report federal excise tax on certain trucks, tractors, and buses used on public highways. Vehicles with a taxable gross weight of 55,000 pounds or more are generally subject to this tax.
Form 730 – Monthly Tax Return for Wagers
This tax form is used to report federal excise tax on wagering. If you are in the business of accepting wagers, or conducting a wagering pool or lottery, you may be subject to this tax. You can use Form 730 to calculate the tax on the wagers you receive.
Form 11-C – Occupational Tax and Registration Return for Wagering
This tax form is used to register for wagering, as well as to pay the federal Occupational Tax on wagering.
7. Types of Business Entities
When you begin a business, you must decide what type of business entity you want to establish – this will affect how you file your taxes.
A corporation is typically defined as “a legal entity or structure created under the laws of a state, which is has distinct privileges and liabilities separate from those of its members.” Corporations are mainly used to conduct business and consist of a person or group of persons who are its shareholders.
In general, every corporation must be registered with the federal, state, and municipal government where it conducts business activities ― and will be subject to the applicable laws, regulations, and taxes.
The following is a list of different types of business entities:
- C Corporations
- S Corporations
- Sole Proprietorships
- Partnerships
- Limited Liability Companies (LLCs)
- Estates
- Trusts
- Non-Profit Organizations
C Corporations
A “C corporation” is basically any company that is taxed separately from its owners, based on U.S. income tax law. For income tax purposes, the majority of businesses are regarded as C corporations.
Corporations in the United States are formed under the laws of a particular state, based on where the corporation conducts business. Laws and procedures are different in each state, so be sure to check on your state’s registration requirements. Companies must also obtain a federal Employer Identification Number (EIN) from the Internal Revenue Service (IRS).
When a corporation is formed, the potential shareholders will give money and/or property in exchange for the corporation’s capital stock. The corporation will then conduct business, arrive at net income or loss, pay its taxes, and distribute profits to its shareholders.
According to the IRS, the following businesses (formed after 1996) are taxed as corporations:
- A business formed under a federal or state law that refers to it as a corporation, body corporate, or body politic.
- A business formed under a state law that refers to it as a joint-stock company or joint-stock association.
- An insurance company.
- Certain banks.
- A business wholly owned by a state or local government.
- A business specifically required to be taxed as a corporation by the Internal Revenue Code (such as publicly traded partnerships).
- Certain foreign businesses.
- Any other business that elects to be taxed as a corporation (such as a Limited Liability Company, or LLC) by filing IRS Tax Form 8832 (Entity Classification Election).
Corporate Tax Rates (2011):
Taxable income up to $50,000.................................................15% tax rate
Taxable income between $50,001 and $75,000..........................25% tax rate, plus $7,500
Taxable income between $75,001 and $100,000.........................34% tax rate, plus $13,750
Taxable income between $100,001 and $335,000.......................39% tax rate, plus $22,250
Taxable income between $335,001 and $10,000,000...................34% tax rate, plus $113,900
Taxable income between $10,000,001 and $15,000,000...............35% tax rate, plus $3,400,000
Taxable income between $15,000,001 and $18,333,333...............38% tax rate, plus $5,150,000
Taxable income over $18,333,334..............................................35% tax rate
For federal income tax purposes, a C corporation is characterized as a separate taxpaying entity. A corporation’s profits are taxed when earned. The shareholders are also taxed when they receive dividends, which essentially means that these profits are being taxed twice. Note that corporations do not get tax deductions when distributing dividends to shareholders, and shareholders do not get tax deductions for any losses of the corporation.
For more information about corporations and corporate taxes, see IRS Publication 542 (Corporations).
S-Corporations
An S corporation is a business that elects to pass its income, losses, deductions, and credits onto its shareholders. The shareholders of an S corporation report the business’s earnings/losses on their personal income tax returns, which is taxed at their individual income tax rate. In other words, the shareholders are subject to tax on their share of income based on their shareholdings. This flow-through process for reporting income helps to avoid the double taxation that often happens with C corporations.
In order to be classified as an S corporation for federal tax purposes, the company must meet the following requirements (as laid out by the IRS):
- Be a domestic corporation
- Have only allowable shareholders -- including individuals and certain trusts and estates; may not include partnerships, corporations, or non-resident alien shareholders
- Have no more than 100 shareholders
- Have one class of stock
- Not be an ineligible corporation (i.e. certain financial institutions, insurance companies, and domestic international sales corporations)
To apply for S corporation status, a company must submit Tax Form 2553 (Election by a Small Business Corporation) to the IRS, which must be signed by all the shareholders.
For more information about filing taxes for an S corporation, see the Instructions for IRS Tax Form 1120S (U.S. Income Tax Return for an S Corporation).
Sole Proprietorships
A sole proprietorship is the simplest type of business entity. It is basically an unincorporated business that’s owned by a single individual. A sole proprietorship has no existence apart from its owner, therefore all business risks and liabilities are undertaken by the owner. Business income and expenses must be reported on the owner’s personal income tax return.
Profits and losses for a sole proprietorship are reported on Tax Form 1040 (U.S. Individual Income Tax Return) Schedule C, Schedule C-EZ, or Schedule F. Note that sole proprietors may need to file other tax forms as well, such as employment tax returns or excise tax returns.
For more information about sole proprietorships, please see IRS Publication 334 (Tax Guide for Small Businesses).
Partnerships
A partnership refers to an unincorporated business that is operated by two or more people (known as partners). Each partner supplies money, property, and/or labor in exchange for a portion of the business’s profits and losses. A partnership may be a syndicate, joint venture, group, pool, limited partnership, or other unincorporated organization through which business activities are conducted.
