Did you make too much money this year and you’re concerned about paying a hefty tax bill? As we head into the fourth quarter of 2017, small business owners should be planning for their year-end tax savings strategies. Your CPA may be a reliable source for preparing and executing your tax returns, but do not expect them to provide gainful insights beyond tax loss harvesting in your brokerage account.
You have several ways to save money on taxes before the end of the year. Here are seven strategies that can save on your tax bill. (For more, see: Starting a Small Business: Taxes.)
1. Make S-Election on LLC You Set Up This Year and Use It for Operations
We implement this election for clients every year in December. If you’ve previously paid a lot in self-employment tax and had an limited liability company (LLC) - sometimes a major mistake by other planners - you can easily still elect to be taxed as an S-corporation, retroactively, to January 1, 2017. It’s simple and affordable to file the proper paperwork. There are new IRS regulations that allow for this retroactive classification at year's end. However, don't forget to do your payroll. You are required to take some payroll for yourself out of the company if you make the election.
2. Set Up a Retirement Account By December 31st
A properly designed retirement plan can be self directed and provides the opportunity to defer taxes on a portion of your income. For example, small business owners can deduct up to $51,000 with matching using a 401(k): $18,000 as your deferral before matching and if you are 50 or older you can contribute an additional $5,500. If you have not been saving for retirement, now would be a good time to set up your plan for this year and any other year in which you have earned income.
3. Fund a Long-Term Care Policy and Deduct a Portion of Premiums
Let’s say you already have a retirement plan established and you have already maxed out your contributions. As a high income earner, you cannot save any more money into a tax free retirement vehicle such as a Roth IRA, but you would like to protect more of your cash. Long-term care insurance may be the right solution as a complement to your 401(k) or retirement savings, especially if you are 45 to 65 years old. The risk conversation about outliving wealth has become more relevant over the years, which shifts the responsibility from corporations to individuals. An under-utilized part of the tax code allows business owners to deduct their premiums as a deductible business expense and take out cash tax free upon distribution.
4. Make a Charitable Donation
If you are charitably inclined and you would like to reduce your taxes, consider donating to a charity this year. There are different ways to structure a planning giving strategy and it may not be suitable for every situation. However, if you can afford to give away assets this year, such as cash, CDs, bonds, or money market funds, you may be able to take a significant deduction on your current year income if structured properly. Speak to your CPA or CFP about different gift planning strategies. (For more, see: 5 Tax Breaks Overlooked By Small Business Owners.)
5. Consider Adding Your Children to Company Payroll
This strategy tends to be a forgotten one, but paying your kids for real services provided can generate substantial tax savings. When paying your children through a sole proprietorship or single-member LLC, and the child is less than 18 years of age, the business is not required to withhold FICA or payroll taxes. Second, the child can use his or her standard deduction of $6,350 against any income you pay taxed as earned income exempt from income taxes. However, if you have an S or C-corporation, the Internal Revenue Code requires that you withhold FICA from all employees on the payroll.
Be sure to follow the proper procedures like creating bank accounts for the kids and paying them for actual services useful to the business. Jobs such as clerical work, filing papers, cleaning the office and other entry level tasks are all great ways to get your children involved in the family business. Who knows, they may be able to help you in new ways like social media marketing on Facebook, Twitter, Instagram or Snapchat.
5. Buy a Vehicle
Businesses that could use a large truck or SUV for business purposes should consider buying a vehicle weighing more than 6,000 pounds. The current deduction for depreciation can be up to $25,000, depending on the cost of the vehicle and your business use percentage. Discuss your options with your tax advisor.
6. Make a ROTH Conversion
If you believe taxes are going be higher in the future consider a Roth conversion strategy to convert your traditional IRA or 401(k) to a Roth IRA. It may mean having to pay taxes today at a lower rate and taking tax free withdrawals in the future. This can be a tricky strategy as you don’t want to put yourself into a higher marginal tax bracket, but converting a portion every year can be an effective strategy to creating tax free income in retirement.
7. Defer Income to Next Year or Spend More By Year End, If Possible
This is a standard strategy and you want to recognize income next year and accelerate expenses to this year.
There are various examples provided in this article that may or may not apply to you and your business. If you don’t know where to start the best strategy may be to ensure your books are in order so you can make better decisions in the future. Working with a financial planner can also help you identify areas to help you create a profitable business and your personal goals, such as saving money for retirement. (For more, see: Financial Planning for the Self Employed.)