Explanation of Small Business Tax Brackets
When it comes to small business tax brackets, various factors can come into play. For C corporations, there's essentially only one tax bracket. The 2017 Tax Cuts and Jobs Act (TCJA) made it so that all C corporations are taxed a flat rate on business income. Other types of small businesses have effective tax rates that can fluctuate dramatically.
Sole proprietors, partnerships, limited liability companies (LLCs), and S corporations are considered pass-through entities to the IRS. This means that their profits or losses are passed through to the business owners, who claim them on their personal tax returns. These small business owners fall under tax brackets for individual taxpayers. Their income tax rate depends on their personal income from the business.
However, the business tax system in the United States isn't quite that simple, and a number of things can affect the tax bracket that a small business owner falls under. This guide will explain the factors that go into how a small business is taxed.
What Is the Small Business Tax Rate?
There's no set tax rate universal to every small business. How a business is taxed has a lot to do with what type of business it is. For example, if your business is a C corporation, its income will be taxed at the corporate income tax rate of 21%. Before the 2017 TCJA, C corporations could be taxed at a rate as high as 35%, based on their income.
If your business is a pass-through entity (owners list income on their personal income tax returns), the owners will be taxed based on their individual tax bracket. Sole proprietorships, partnerships, LLCs, and S corporations are in this category.
Income taxes are progressive, meaning tax rates increase with taxable income. Here's a list of current individual tax bracket rates based on yearly income:
- Income of $9,950 or less: 10%
- Income over $9,950: 12%
- Income over $40,525: 22%
- Income over $86,375: 24%
- Income over $164,925: 32%
- Income over $209,425: 35%
- Income over $523,600: 37%
How Much Are Small Business Taxes?
When it comes to federal income taxes, C corporations are easy to figure out. All you have to do is multiply your taxable income by 21% (0.21) to get your answer. Pass-through entities are legally considered the same as their owners when it comes to taxes. The amount of income tax their owners will pay will depend on what individual tax bracket they fall under.
If your company has employees, it'll also have to pay other payroll taxes. Payroll taxes include Federal Insurance Contributions Act (FICA) taxes for Social Security and Medicare, the Federal Unemployment Tax Act (FUTA), workers' compensation taxes, and various taxes from state or local governments. If you're self-employed, you don't have to worry about taxes like FUTA or workers' compensation, but you'll have to pay the employee and employer portion of FICA taxes. In this case, it's known as the Self-Employment Contributions Act (SECA).
Depending on the nature of your business, you may have to pay a few other types of taxes. You might have to pay local taxes, sales taxes on your transactions, excise taxes on certain items like beer or tobacco, or property taxes if you have an office space. These taxes will vary, depending on the state or city where you operate and the products or services you sell. For example, in Texas, the sales tax rate is 6.25%, and localities can have a sales tax rate up to 2%, making the total sales tax rate as much as 8.25%.
C corporations are considered to be "double taxed" because not only does the business entity have to pay taxes on profits, but also the owners have to declare taxes on their own income. C corporations pay a flat rate of 21% on all taxable income. If a C corporation has $100,000 in taxable income, it will pay $21,000 in income tax. If the corporation has employees, it will also have to pay the following:
- 15.3% in FICA taxes (7.65% paid by the employer and 7.45% in tax withholding from the employee)
- 6% (can be 0.6% if the business qualifies for the 5.6% tax credit) of any employee's first $7,000 in taxable income on FUTA taxes
- Workers' compensation taxes that vary based on the nature of the job
- Any sales, excise, or property taxes
An owner of a pass-through entity will list their portion of the capital gains for the business on a personal tax return. This makes it a little more difficult to decipher how much individual income tax the owner will pay. Individual tax brackets are progressive, which means that higher income is taxed at a higher level. Let's say a sole proprietorship makes $100,000 in a tax year. Here is how the owner's self-employment tax ($18,021) would be calculated:
- 10% of income up to $9,950 = $995
- 12% of income from $9,951 to $40,525 = $3,669
- 22% of income from $40,526 to $86,375 = $10,087
- 24% of income from $86,376 to $100,000 = $3,270
$995 + $3,669 + $10,087 + $3,270= $18,021
Keep in mind that these individual tax brackets can vary based on the filing status of different filers. The sole proprietorship would also have to pay the following taxes:
- 15.3% of taxable income in FICA taxes
- Any state, sales, excise, or property taxes
Money That Small Businesses Can Make Before Paying Taxes
According to tax law, if your business makes less than $400 in a year, you won't be required to file income taxes. That's about the only way to avoid paying income taxes. However, there are a few ways that a business can pay less.
You can try qualifying for tax deductions. Deductions decrease your taxable income. For example, if your business makes $100,000, and you can deduct $30,000 in work expenses, your taxable income will now be $80,000. Businesses deduct things like travel expenses, supplies, and internet costs. Be sure to keep a record of all your business expenses. Charitable businesses may even be able to apply for certain exemptions. These allow organizations like churches to receive contributions and donations that are tax-deductible.
Tax credits are even better. If your business is eligible for a tax credit, it can deduct the full amount of that credit from its taxes. For example, if your business owed $20,000 in income taxes but were eligible for a $5,000 tax credit, it would only owe $15,000 in income taxes. Credits are reserved for businesses that are environmentally friendly or do things like conduct important research. These taxes can make a huge difference in your company's bottom line.
If your business is already a C corporation (that follows certain guidelines ), you can request that it be taxed as an S corporation. Filing as an S corporation makes your business a pass-through entity, which means income tax will be filed on its owners' personal tax returns, and the business won't be double-taxed like a C corporation.
It also lets you claim some of your income for the year as nondividend distributions. Nondividend distributions are considered a repayment of your initial investment in the company and are not taxable like regular income. Your nondividend distributions for the year can't be more than your stock basis in a company.
Conquer Your Small Business Taxes With Skynova
Depending on the business structure of your company, understanding your tax liability can be confusing. But there are a few general rules you should remember:
- The IRS taxes the income for C corporations at a flat rate, so it's fairly simple to figure out how much you owe.
- The owners of pass-through entities claim income on their personal income tax returns.
- Businesses with employees have to pay taxes for unemployment and workers' compensation insurance.
- Self-employed workers have to pay both the employee portion and employer portion of their Social Security and Medicare taxes, but they don't have to pay taxes for unemployment insurance or workers' compensation.
- Different states can have their own taxes for things like sales, certain products (excise taxes), and property tax.
Keeping track of your business records can be overwhelming if you don't have a dedicated system to do it. This can make you sweat when it comes to tax time. If your business doesn't have an accounting department, we can help. Skynova offers accounting software to help you keep accurate records of your income, expenses, gross receipts, sales tax, and payments. It even comes with invoicing to make receiving payments even easier.
We also have other professional-looking, free business templates that are printable and can make handling your finances quick and simple. You'll save loads of time over making these documents yourself. See how our cloud-based software products can make creating, sending, and getting approval for business documents easy and fast. Let us bear some of the accounting burdens so that you can focus on your business.