5 Tax Hacks for the Modern Entrepreneur
Modern Entrepreneur: We can dramatically reduce your small business taxes.
If you’re a modern entrepreneur, I want to help you understand the keys to lawfully mitigating your taxes.
Now is a fantastic time to start & run your business, and we want to help you grow profits whether you're a small startup, or you've been running for decades.
It’s not uncommon for us to find $3,000 - $12,000 in annual tax savings, from businesses making about $80,000 - $180,000 in profits, and that amount goes up dramatically as you earn more. We help large businesses, but we know how many entrepreneurs, subcontractors, side hustlers, and startups there are that need to know that there's hope to keep more of your profits.
THE BOTTOM LINE
If you want to reduce your taxes in a meaningful way, you need to do things throughout the year to reduce your taxes and not wait until the end of the year.
Waiting to think about taxes till year end results in overpaid taxes.
Typically, small businesses just do their bookkeeping throughout the year and then they come to a tax person before April 15th the following year.
This typical, year-end-only way of doing things is terrible. These strategies are going to help you reduce taxes, but you need to be doing this stuff throughout the year, NOT waiting till the end of the year.
5 Tax Hacks for the Modern Entrepreneur
#1 - Setup & Maximize the S-Corp
If you make more than about $40,000 on your schedule C or as a business, you should probably look at becoming an S-Corp.
Remember, everyone, by default, starts out being taxed as a "sole proprietorship" which is outlined here.
If you become an S-Corp, chances are you can save a ton in self-employment taxes.
Besides just becoming an S-Corp, you’ll need to work to “maximize” the S-Corp.
Now, this is all for illustration purposes only, it’s not specific and we need to abide by the IRS rules concerning the S-Corp, but let’s look at some rough numbers here.
2 Examples of Sole Prop Taxation:
If you made $60,000 net as a Sole Prop, you’d pay $9,180 a year in Self Employment Taxes. If you made $120,000 net as a Sole Prop, you’d pay $18,360 a year in Self Employment Taxes.
Again, these are the income taxes you pay.
Now, if you were to take those businesses and convert them into S-Corps, you’d probably be able to reduce your self-employment taxes dramatically.
Long story short, the business becomes a corporation, and you need to pay yourself a salary from the business, and then you’ll take an owners draw or owners distribution or dividend.
You’ll have 2 types of income, a salary and an owner’s dividend, or distribution.
The salary portion is subject to the self employment taxes, and the dividend, or owners distribution, is NOT subject to the self employment taxes.
>Salary IS SUBJECT to the 15.3% SE Taxes
>Dividend IS NOT SUBJECT to the 15.3% SE Taxes
In other words, you pay 15.3% on the salary portion, and do not pay it on the portion that’s a distribution.
We want to take as small of a salary as possible right?
The IRS says you must take a “reasonable” salary.
Essentially, there’s case law and IRS guidelines to show how a “reasonable salary” would be determined.
So you have to take a salary, we just need to work to take as low of a salary as what’s reasonable according to the guidelines.
AFTER THE S-CORP In the previous example, let’s pretend you take 50% of your net profits as a salary, and the other half as a distribution.
If you made $60,000 - pays $9,180 a year in SE taxes
If you made $120,000 - pays $18,360 a year in SE taxes
$30,000 Salary & $30,000 Dividend SAVES $4,590 in SE taxes $60,000 Salary & $60,000 Dividend SAVES $9,180 in SE taxes
That’s right, an S-Corp can produce massive amounts of tax savings.
The primary takeaway concerning S-Corporation is to save taxes. There’s compliance, bureaucracy and some decisions to be made in order to run an S-Corp properly.
The savings from an S-Corp, can usually fuel investments and business growth, to help you get where you need to be. The bottom line is that you’ll want to work with an accountant throughout the year to decide on what your salary should be, and to help you comply with all the bureaucracy & rules.
You’ll need a payroll system, to file an 1120s tax return and you’ll need some documents and processes, but an S-Corp can help you save some serious money each year.
#2 - Use Retirement Plans to Drastically Reduce Your Taxes
We all know we should invest, but if you have self-employment or small business income, you better be taking advantage of the super-tax efficient retirement plans available to you.
Small Businesses have access to powerful retirement tools individuals do NOT have access to.
SEP IRA’s SIMPLE IRA’s
Defined Pension Plans
SOLO 401k Plans or Individual 401k Plans
Did you know that a business owner can have their business put up to 25% of their Schedule C profits, or their S-Corp salary, and make an employer profit share contribution to a retirement plan, up to $57,000 (not exceeding other limitations).
You read that correctly.
You can write off $57,000 and send it right into your retirement plan.
You can dump up to $57,000 into a retirement plan, essentially NEVER owe self-employment taxes on it, and only pay income taxes when you withdraw after age 59 ½.
If you invested $57,000, you’ve essentially (now, this is illustration), avoided paying $7,956 in SE taxes on it…. Essentially you’ve just made a 15.3% return on that money right away.
The government knows it needs to help people invest for retirement, otherwise the social security benefit system won’t be able to keep up. Therefore, the government has provided employers with massive tax incentives to use retirement savings as compensation.
The TRICK with using retirement plans to reduce your taxes, is that you need to remember that they are NON-DISCRIMINATORY. You can’t give yourself awesome benefits and withhold them from your staff.
What does that mean?
Whatever benefit you offer to yourself, the other employees need to have a proportional benefit offered to them as well.
That’s why so many large companies provide a safe harbor 401k plan, which is when the employer will MATCH up to 4% of the employee’s salary contributions.
It’s then proportional to the salary, it gets the employee involved, and the employer contributions are still super tax efficient.
So if you have employees, you must carefully offer them proportional benefits; but if you have no employees, you have some amazing opportunities.
If you have “statutory employees”, which are full-time, non-family member or shareholder employees, you’ll need to offer the same contributions as you do to yourself.
Retirement Plans for Businesses without Employees
If you don’t have employees, you’ll be able to use SEP IRA’s and Individual 401k’s, to make massive employer contributions to yourself, and you won’t have to worry about employee discriminatory regulations. Your business can make a massive employer contribution to your retirement plan each year, and as long as you can afford it, it’s a great write off.
With a SEP IRA, Employers can contribute up to 25%, of the schedule C, or S-Corp salary, not to exceed $57,000.
With a Solo 401k, there’s both an employer, and employee contribution side. The employer (company) can contribute up to 25% of schedule C compensation or 25% of S-Corp salary, not to exceed $57,000. On top of that, the employee can make a contribution of either deductible, or ROTH, of up to the 401k employee contribution limits which is around $19,500 (plus catch up for people over 50).
Example: S-Corp makes 100,000 and you take a $50,000 salary Your business could make a 25% contribution of $12,500 (direct write off in business). You could make an employee contribution of $19,500 which could be either ROTH, or deductible if you’re in a high tax bracket. The 2 combined cannot exceed the $57,000 combined limit.
Example: LLC Makes $100,000 in a Solo 401k
Business could make an employer contribution of 25% or 25,000 (direct write off). You could make an $19,500 employee contribution to either ROTH or deductible. Essentially, you should get your employees to consider their overall compensation package, not just their wages, and then use retirement plans and benefits to compensate employees because the business get’s additional tax favorability, rather than actually being taxed.
#3 Real Estate Investing to Reduce Your State Business Taxes
Don’t roll your eyes, here’s where I'm going with this.
You should own an office building you rent to your regular business. You would have an LLC that owns the building, and then you would have your regular S-Corp, or regular business lease from that business.
The S-Corp will deduct the lease, which means you won’t pay SE taxes, and you can drastically impact the other taxes.
The LLC that owns the real estate will have some major tax advantages which I’ll get into here.
There’s more to talk about here, but we’ll leave that for another article. Most business owners are consumed with their operations, and it gets really hard to do anything outside of their operation, which makes you roll your eyes when I mention using real estate investing as a big way to reduce your taxes.
You’ll have to save up for the down payment, because your regular business cannot write off the down payment for a real estate purchase. If you can own a rental property, you can make serious money with tax efficiencies.
Advantages of Buy & Hold Real Estate
The income from buy and hold real estate activities is not subject to self-employment taxes. You get to depreciate your property against the income generated from the rental.
You can do bonus depreciation & cost segregations to speed up write offs and you can have a regular business activity rent from the passive activity.
Real estate usually appreciates.
You can borrow and use the equity from the property to do other things. You can utilize leverage, where the bank provides the majority of what you need to actually acquire an income producing asset.
Being a landlord is no joke, and there’s obviously a great deal of risk involved in owning real estate, but the government has provided a host of tax advantages that even small investors can use.
Real estate investing can help you dramatically reduce your taxes & grow your business.
#4 Hire Your Kids & Save the Equivalent of College
Long story short, this is different for S-Corps and Sole Props or regular old LLC’s.
You can hire kids under 18, have them do legit work, and they don’t have to pay employment taxes if it’s a “disregarded entity”, which means NOT AN S-CORP.
Money to kids can avoid the 15.3% employment tax, and then they have massive standard deductions on their 1040. If you hire your kids in an S-Corp, the wages they earn would be subject to employment taxes (7.65 to business & 7.65% to the kid), but then they get to use the standard deduction on their 1040 which is $12,950.
So, your kid wouldn’t pay income tax on up to $12,950 of income! Besides that, they could also put up to $5,500/year into an IRA, or Roth IRA.
In an S-Corp, they would still have to pay the employment taxes though.
For children under 18 working in an unincorporated family business, there is a FICA or FUTA exemption. In other words, you do not have to pay employment taxes on the wages your minor child earns performing legit work in your business.
That means you could pay that child, let’s say, $12,950 for legit, tracked and accounted for work.
$12,950 When you earn it = $1,981 in SE taxes & maybe another $1,500 in income taxes.
$12,950 to your kids in a disregarded entity = 0
Seriously, you could save a TON in taxes.
You need to chat with us about how to do this right, but the bottom line is that your child must actually work, you should write up a contract, keep track of hours and make things really official.
Beyond that, you’d need to have the child do a tax return. There’s also some tax law that shows children under 18, and as young as 7, would be able to do something like this.
You’ll need to have them perform actual work in the business, but they can legitimately earn lots of super tax efficient wealth to help them build financial momentum, as well as build work experience.
#5 Use a Home Office to Reduce your Taxes as a Modern Entrepreneur
In proportion to business use, you can deduct many items from your home office.
Real Estate Taxes
Pest control Repairs to office
Depreciation of furniture
Depreciation of the home
You’ll need to read the IRS codes and choose the proper method, but you’ll need to measure the proportion of TIME and SPACE, of your total square footage is used for business.
Once you’ve established that proportion, you can deduct that proportion of the previously listed expenses from your taxes.
Build a separate building for your home office.
Since the pandemic, there's been a huge influx of people building additions on their home to be 100% business use.
If you build yourself an office that would be 100% business use, you’d be able to use bonus depreciation of the improvements and write those off. You’re using your home for your business, and there’s some great ways to maximize these write offs and find some major tax efficiencies.
About Staggs Consulting
Modern Entrepreneurs deserve high caliber accounting services, and they deserve to get all the tax breaks big businesses get with their fancy, high-paid attorneys and accountants.
My name is Sherry, and I own Staggs Consulting which is based out of Phoenix, Arizona and Albuquerque, New Mexico and we exist to help small businesses thrive, providing high levels of strategy & services to small businesses that otherwise couldn’t have afforded it.
We specialize in small business taxes, bookkeeping and accounting, but unlike your typical firm, we provide what we call the “outsourced accounting service”.
Our outsourced accounting service doesn’t just do tax returns, bookkeeping, payroll and compliance; we provide a year-round, fully-engaged service to help your business scale & grow.
What we’re really doing is 3 things:
1 - Proactively plan & mitigate your taxes
2 - Save you time & make you more productive
3 - Provide CPA caliber guidance & perspective to help you scale your business
The main difference is that with our outsourced accounting service, we’re going to pro-actively work throughout the year to deploy strategies that help your business.
Meaningful tax & accounting strategy needs to happen before the end of the year.
If you wait to meet with an accountant until tax season, you’ve already missed the window to deploy meaningful tax mitigation strategies that can lower your taxes by tens of thousands each year.