If one thing can be said for sure about taxes, it’s that they’re complicated. As a small business owner, while you may not fully understand the complexities of all your tax responsibilities, you’re still on the hook for following the rules and making payments correctly. Seeing the laundry list of obligations, tax types, and exceptions may have you wondering how much you’ll end up owing at the end of the quarter or year. Our guide will help break down what your small business tax rate is, other types of tax your small business may need to pay, and how recent legislation may impact your final amount owed in 2020 and beyond.
What is the small business tax rate?
As you may have guessed from the diversity of taxes levied on small businesses, knowing how much tax your company should pay can be a bit of a guessing game. While it’s true that business taxes for two different business owners will never be exactly the same, the Small Business Administration says that the average small business tax rate is 19.8 percent. This figure indicates the effective tax rate for small businesses of all four tax classifications. Broken down by category, the average small business tax rate is:
- Sole proprietorship: 13.3 percent
- Partnership: 23.6 percent
- S corporation: 26.9 percent
- C corporation: 17.5 percent
However, this tax rate isn’t necessarily straightforward.
How are small businesses taxed?
If you own a small business, chances are that the IRS taxes it as a pass-through entity. This entity category includes all business tax classifications except C corporations, so unless you have registered your company as a C corporation by filing Form 8832, you are personally responsible for any taxes owed. In other words, unless your company is a C corporation, your small business’s profits are not taxed, but individual income tax is assessed on your personal earnings from your business. Learn more about classifying your business as a C corporation via this SmartBiz Loans blog post: When to File Form 8832 and How To Do It.
Eight types of small business taxes you may owe
1. Income tax
If your company is a partnership or S corporation, you will pay personal income tax on your business earnings. Both partnerships and S corporations are pass-through entities, so their earnings are passed onto you and taxed at personal income tax rates.
If your company is a C corporation, you will pay corporate income tax on your business earnings instead. Note that for a C corporation, the Tax Cuts and Jobs Act (TCJA) reduced the corporate tax rate to 21 percent from its prior 37 percent.
2. Property tax
If your company owns land or buildings, you will have to pay tax on these properties. Your property tax rates will range by state from 0.18 percent to 1.89 percent.
3. Personal property tax
In addition to property taxes on land and buildings, your company may owe personal property tax on items including but not limited to equipment, furniture, and computers. Often, state and local authorities instead of the federal government levy these taxes on your company.
Your state and local tax authorities will likely collect use taxes and annual taxes on your company’s personal property (in some cases, only one of the two will apply). A use tax is a tax assessed when a company stores, uses, or consumes an item in a jurisdiction, and its rate is often equivalent to the state sales tax rate. Your annual personal property tax will vary in rate based on the value of your property, and your local government will likely require you to submit a filing to claim and pay this tax.
4. Payroll taxes
Payroll taxes encompass Social Security and Medicare (FICA) taxes, federal income taxes, and federal and state unemployment taxes.
For 2020, you will withhold 7.65 percent of the wages you pay your W-2 employees to remit to the government on your employees’ behalf. You will also withhold and remit federal income taxes from your employees, and the amount you’ll withhold varies depending on the information your employees provide on their W-4 Forms.
Your company will also pay FICA taxes of an additional 7.65 percent of the wages it pays employees – in other words, your company matches all FICA taxes it remits on behalf of your employees. If your company is a sole proprietorship, then you are responsible for the entire 15.3 percent FICA tax.
You’ll also have federal and state unemployment insurance taxes assessed on the wages you pay your employees. Note that although the federal unemployment tax rate is six percent, almost all states apply a 5.4 percent credit for paying state unemployment taxes, reducing the effective rate for this payroll tax to 0.6 percent for your small business.
5. Capital gains taxes
Capital gains taxes are taxes made on asset sales and investments. It applies to any assets your company has held for over a year. Assets that your company has held for less than a year are instead added to your business income and taxed accordingly.
If your business is a pass-through entity, your capital gains tax rate changes with your tax bracket and is the same as your individual capital gains tax rate. C corporations instead pay the standard corporate tax rate of 21 percent for capital gains taxes.
6. Sales tax
Your company will collect sales tax on certain goods and services that your customers purchase from you. You then later pay this collected money to your local tax authorities. The nature of this transaction makes sales tax an indirect tax: At no point is your company’s money taken – or taxed – in this process.
7. Excise tax
Excise taxes are only levied on companies operating in a small handful of industries. In most cases, sales tax stands in for excise tax. The IRS offers a detailed guide on the potential excise taxes certain businesses must pay.
8. Business tax
In almost all locations, your company will be required to pay business taxes. Your local government often collects business taxes on companies operating within its jurisdiction even if the state does not. For example, in Nevada, there is no state-level corporate tax, but some jurisdictions may collect gross receipts taxes.
On the other hand, in some locations, only the state government will collect business taxes. In Tennessee, for example, all companies pay state business taxes but only certain localities collect city business taxes.
Did the Tax Cuts and Jobs Act affect small business taxes?
The Tax Cuts and Jobs Act (TCJA) is a series of tax laws that went into effect in 2019. These laws have several repercussions for small business owners. If you own a company classified as a C corporation, the provisions of the TCJA for your corporate tax rate include:
- Companies that make qualified new investments can deduct their full value from their tax liability for that year.
- The Section 179 small business expensing limit for investments on qualified property has doubled from $500,000 to $1,000,000.
- For companies with gross receipts of over $25 million, the maximum amount of deductible net business interest is 30 percent of business income before interest, depreciation, and amortization.
- The deduction for net operating losses is reduced to 80 percent of a company’s taxable income, but unlike before the TCJA was passed, this loss can be carried forward indefinitely.
While these rules are more likely to apply to a business paying a corporation tax rate, any business owner who pays taxes should know them.
The TCJA also sets new rules for pass-through entities, such as a sole proprietorship or an S corporation:
- Individual taxpayers with a taxable income of less than $157,500, or joint filers with income of less than $315,000 can deduct up to 20 percent of their qualified business income (QBI). For incomes up to $207,500 for individuals and $415,000 for joint filers, the QBI percentage decreases to zero on a sliding scale.
- QBI is additionally limited to either:
- 50 percent of all wages a small business pays its employees
- 25 percent of these wages plus 2.5 percent of the basis of the business’ qualified property.
- An individual taxpayer can deduct at most $250,000 of active pass-through business losses (this cap doubles for joint filers).
Learn more about pass-through taxation via this SmartBiz Loans blog post: Partnership Vs. S Corp: Differences You Should Know About.
So, how much does a small business pay in taxes?
As you’ve probably realized by now, there is no firm way to know how much taxes are for small businesses. That said, if your business is a pass-through entity – which, in most cases, it is – you may find it wise to save money according to the federal tax brackets for individual income taxes. Use these guidelines to estimate your annual tax liability, and commit to setting aside enough of your business revenue every month to cover these taxes.
It may also help to review the IRS’s list of business tax classifications and the potential tax types each of these business types might have to pay. That said, taxes vary so much that you ultimately may do best to consult a certified professional accountant to learn not just which taxes you should expect to pay, but how much – and how – you should save.
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