Separating Business and Personal Taxes

Separating Business and Personal Taxes

Congratulations! You’ve decided to take the plunge and become an entrepreneur. You probably have at least a small understanding of what this means for you. You should have some knowledge of expenses and revenue. It is important when you first start out as an entrepreneur to choose how you will register your new business.

It can be a bit confusing when it comes to tax time. Here’s a simple rule of thumb that any entrepreneur can handle. If the product or service is not used for business purposes then it can’t be counted as a business expense. At the same time revenue that you receive from your business can be taxed as part of your personal income. Understandably this is what causes the confusion.

For many small business owners it is to their advantage to pay personal taxes on their business income instead of paying both corporate and personal income taxes. It is however advantageous to separate business expenses from personal expenses. For example if you use your car for business trips regularly you may be able to deduct this expense.

Small business owners can take advantage of business tax credits to lower their income tax. This can be helpful since entrepreneurs are responsible for paying self-employment taxes. These self-employment taxes include the normal taxes corporations take out for Social Security and Medicare. If you have any employees working for you, you will also need to pay their share of these taxes.

Sole Proprietorship-Going it Alone

For someone who is going solo with their business it can be difficult to separate personal from business expenses. The IRS doesn’t recognize sole proprietorship as a taxable entity. It is prudent and sometimes necessary to separate business expenses so that you can take those business deductions on Schedule C. This in turn reduces the self-employment taxes you’ll pay.

There are some simple steps that you can take now to separate personal from business expenses.

Partnerships-LLC and S Corporations-Working Together

  1. Get an EIN number-You can register as a Sole Proprietorship here.
  2. Register with your state-This is an important step to pay necessary state taxes. Most states expect you to pay sales taxes on products and services you sell.
  3. Get a business credit card and use it for business transactions only.
  4. Get a separate business checking account.
  5. Separate business expenses by writing or saving business receipts to an online or physical folder.
  6. Keep track of legal and professional fees for your business.

Partnerships can garner some tax savings for small businesses. A limited liability corporation (LLC) is not recognized as an entity by the IRS. LLCs limit your liability for business expenses incurred due to negligence and other failures. S corporations, otherwise known small business corporations, mimic the non-recognition as an entity by the IRS. Each shareholder is responsible for reporting profit or loss on their individual tax returns.

With a partnership it is easier to separate business from personal taxes in some ways. The biggest benefit for S corporations is that members of the corporation don’t have to pay self-employment taxes on business profits.

Relationships between business and personal expenses

It is admittedly difficult to separate business and personal expenses at times. This can be especially true if you are working from home. You need to set up a space that is separate from your living area in order to claim this expense on your taxes.

If you are using your personal car to make business trips you need to justify it before taking this deduction on your taxes. You do need to be careful when claiming this deduction by using your business credit card for these types of expenditures. Due diligence is required to record mileage.

Insurance is something you’ll need to think about very closely. It is one of the reasons why many entrepreneurs form LLCs. LLCs limits the liability you have for damages due to negligence and other factors. It can be difficult to determine what should be included with your personal taxes and what should be included in business taxes when your business is in your home.

The biggest revenue producing relationship is the one that allows you to keep more of your hard-earned profit. All partners benefit when covered by stability of a corporation and the flexibility of a partnership. It is necessary for company growth to maintain a separate entity.

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