A small business is a privately owned company that sells goods or services and employs less than a certain number of people. It can be a brick-and-mortar store or an online shop, a traditional family-run operation that has been passed down from generation to generation, or an established startup. Small businesses are vital to the economy, creating two-thirds of all new jobs and financing local government services through taxes. They also tend to be more community-oriented, sponsoring local events and donating time or money to help those in need.
There is no one-size-fits-all definition of a small business, with federal, state, and local agencies using different criteria to determine which businesses are officially designated as such. For example, the Small Business Administration (SBA) defines a small business based on its industry code in the North American Industry Classification System (NAICS), with size standards varying by industry. To qualify as a small business, companies must have average annual receipts below the threshold for their NAICS code.
How Do Small Businesses Work?
Small business owners can be sole proprietors, partnerships, corporations, or other legal entities, but they must have fewer employees than larger companies and earn less in annual revenues to meet size requirements. These criteria are used to determine whether a company is eligible for government grants, scores small business loans, or wins contracts with federal agencies.
To qualify as a small business, companies need to be independently owned and operated, headquartered in the United States, and doing at least half of their business here. They also must have a small workforce and revenue below their industry’s threshold, with some exceptions. For example, cotton farms and beef cattle ranches can have more than 30 employees and still be considered small businesses by the SBA.
Common Small Business Tax Deductions
When preparing for taxes, it’s important to remember that small business tax deductions can help lower your taxable income and reduce the amount you have to pay in taxes. In order to claim these deductions, you need to keep detailed records of all the expenses your business incurs throughout the year. This includes things like advertising, office supplies, transportation, and freight shipping costs. You can also deduct fees related to your business bank accounts and credit cards, including annual service charges, transfer and overdraft fees, merchant or transaction fees, and more.
- If you use your home as a workspace, you can deduct a portion of your mortgage or rent, utilities, insurance, and maintenance costs. You can also deduct mileage, travel expenses, and the cost of meals while traveling for business. These deductions can significantly reduce the amount you have to pay in taxes, saving you thousands of dollars.
- Another common small business tax deduction is the premiums paid for health insurance. This expense is 100% deductible for small businesses, and can be claimed on Schedule C (Self-Employment Tax).
- Finally, you can deduct the cost of providing meals to employees or clients. This can include everything from pizza for the team after a long day to meals at company events or picnics. This is a great way to save on taxes and benefit your employees or clients.
- Another commonly overlooked expense is the cost of business-related travel and entertainment. This includes taxi, bus, and Uber-type fares. Additionally, you can deduct the mileage you drive for business purposes (excluding commuting to and from your home office). This is a great way to save on fuel costs and get more out of your car.
- One commonly missed deduction is the cost of shipping. If you sell physical products, you can include the cost of shipping in your inventory and COGS. This includes both domestic and international shipping costs. In addition, if your business uses a courier service to pick up and deliver items, you can also deduct those fees. These are known as miscellaneous or freight shipping expenses.
- The startup costs of your business are also deductible. The IRS considers these capital expenses because you’re investing in your business rather than spending money that could be easily turned around and spent on something else. These costs are typically depreciated over several years through a process called amortization. For more information on claiming business startup costs, see IRS Publication 535.
- Another valuable small business tax deduction is the qualified small-business credit. This deduction is available to pass-through entities, such as sole proprietorships, partnerships, and limited liability companies (LLCs). It is equal to 20 percent of your “qualified business income,” which includes gross receipts from the active conduct of your business plus any capital gains, amortized startup costs, and qualified real estate investment trust (REIT) distributions.
- In addition, you can also deduct any fees associated with your business bank account, such as service charges, transfer fees, and overdraft fees. You can also deduct any fees paid to freelancers or independent contractors if they are ordinary and necessary for your business.
The best way to make sure you’re not missing any important tax deductions is to keep detailed records of all your expenses throughout the year. This will help you avoid costly mistakes come tax time. If you’re not confident in your ability to keep track of all the details, consider hiring a professional tax preparer. A good tax preparer can help you identify deductions, determine your business’s best structure, and avoid any potential problems.