It’s time to think about startup tax!
Ideally, a business has solid bookkeeping, tracks things well, and is ready to file on time every year.
But business is messy — especially when it comes to startups.
Tax requirements can be hectic, and compliance can seem challenging. Despite a company’s best efforts to maintain accurate accounting records, things can slip through the cracks if you’re not diligent.
Mistakes to Avoid When Filing Taxes for Your Startup
Although it’s difficult to prioritize, good planning can make some of these mistakes easy to avoid.
Not filing 1099s
Startups often use contractors instead of hiring employees because of higher flexibility and the perception of less paperwork. However, contractors you’ve paid over $600 for services provided in a specific tax year need to receive 1099s, and the IRS also requires this information.
Not filing those 1099s can be costly. The details necessary for reporting include the company/person’s name, addresses, social security number, and amount paid.
Not claiming the R&D tax credit
Due to a lack of awareness and understanding by businesses and accountants alike, the R&D tax credit is often underutilized. This oversight can cost companies millions of dollars each year.
The purpose of the credit is to boost the use and advancement of technology in US-operated businesses. Qualified expenditures must be related to innovation, process development, and technology implementation within your company.
The good news is, you can still be eligible to claim qualified R&D expenses from recent years even if you’re not profitable.
Not claiming all revenue
Sometimes companies develop complex business structures with multiple revenue streams (i.e., through numerous products and sales channels) or various sub-companies. This complexity might cause them to miss some revenue or forget to include it while consolidating financial statements.
Of course, this leads to (incorrectly) reduced revenue, leading to lower accounting profits and thus lower taxes.
However, such errors leading to a material misstatement in your tax filings may result in a penalty.
Not properly tracking expenses
Business expenses lead to a reduction in taxable business income and tax expenses. But the inability to prove genuine business expenses means those deductions may ultimately be disallowed if you’re audited.
Sometimes, expenses can be hidden and not shown in your expense ledger. For instance, you may have missed recording bank charges in your accounting system, which you must identify during bank reconciliation.
Likewise, unidentified bad debt can lead to artificially higher revenue and profitability, higher taxable income, and higher tax liability.
Not maintaining sufficient financial records
Your financial records serve as the primary input in the process of calculating tax liability.
Details of your revenue, expenses, assets, and liabilities are obtained from your startup’s financial records and are used to determine tax liability. Hence, it’s important to implement strong monthly accounting close processes and closely analyze the trends in your financial statements.
Regular financial statement reviews can be a good idea for monitoring and controlling financial records and helping to quickly identify gaps and take corrective actions.
Too little reserves for estimated taxes
Reserves for estimated tax refers to the amount set aside for paying future taxes. Many businesses underestimate tax expenses, leading to inflated profitability figures and nasty surprises when the payments are due.
Although it may not be possible to record actual tax expenses at the end of each period, it’s generally possible to make a reasonable estimate. This expense needs not only to be recorded in your financial records; it also needs to be set aside so you have adequate cash to make the tax payments.
Your tax advisor can help with the correct amount for your business’s specific situation. But the general rule of thumb is to estimate a rate of about 30%.
Prepare Your Startupfor Next Year Now
Efficient tax management requires good planning from the very start. Tax codes provide some flexibility in adjusting income against previous losses and allowances.
It’s critical to start tax planning from the first day of the year. Best practices from a tax perspective include:
- Maintaining accurate accounting records
- Strict separation of business and personal accounts,
- Early (ideally regular) tracking of allowable expenses
- Assessing eligibility for tax credits and deductions (like R&D tax credits)
Maintaining all of this on your own can be challenging, but starting early with professional accounting and tax support can ease your burden.
Ready to File Your Startup Tax?
Taxes for startups can be challenging, and there are some common mistakes startups often make.
Not filing your 1099s, ignoring available tax credits (like R&D), and sloppy record-keeping can lead to trouble. That trouble can come in the form of higher than necessary tax payments, or it can lead to penalties and excess interest.
But with a bit of planning, good record-keeping, and help from professionals, many of those mistakes are easily avoidable.