How to Prevent Tax Evasion in Your Small Business
Contents
- 1 How to Prevent Tax Evasion in Your Small Business
- 1.1 Know What’s Taxable Income
- 1.2 Keep Detailed Records
- 1.3 File and Pay On Time
- 1.4 Claim All Valid Deductions
- 1.5 Take Advantage of Tax Credits
- 1.6 Hire a Professional
- 1.7 Pay Estimated Taxes Quarterly
- 1.8 Correct Any Mistakes
- 1.9 Keep Personal and Business Finances Separate
- 1.10 Watch Out for Common Problem Areas
- 1.11 Stay Organized and Communicate
- 1.12 Monitor Employees
- 1.13 References
How to Prevent Tax Evasion in Your Small Business
Paying taxes is a big part of owning a small business. While no one likes handing money over to the government, failing to pay your fair share can lead to major legal problems. Tax evasion–intentionally avoiding paying taxes you owe–is illegal. It can result in huge fines, jail time, and the collapse of your business. The good news is there are many ways to stay on the right side of the tax code. Follow these tips to keep your small business tax compliant.
Know What’s Taxable Income
The first step is understanding what counts as taxable income for your business. This includes all revenue from sales of products and services. Even bartering transactions where no money changes hands could be taxable. If you’re unsure whether a certain type of payment or exchange should be reported, ask your accountant.
You also need to report all business expenses accurately. Improperly categorizing costs as deductions when they don’t qualify is another form of tax evasion.
Keep Detailed Records
Meticulous record keeping is key to avoiding tax mistakes or misrepresentations. Save receipts for all purchases. Track sales, payments, and expenses. Document business mileage and travel expenses. The more data you have, the easier it will be to accurately calculate your tax liability.
Make sure records are well organized and easy to access in case of an audit. Digital tools like cloud accounting software can help with record keeping for small businesses.
File and Pay On Time
Don’t delay filing your tax returns and paying any tax due. Filing late automatically results in penalties unless you can prove reasonable cause. And intentionally failing to file at all is a red flag for tax evasion.
If you don’t think you can pay on time, you may qualify for an extension. But this only gives you more time to file your return, not extra time to pay. You’ll still owe interest and penalties if you pay late.
Claim All Valid Deductions
Business deductions help lower your taxable income, so be sure to claim all you’re entitled to. Common write-offs include:1
- Equipment, supplies, software, and inventory purchases
- Rent, utilities, insurance, and other operational expenses
- Vehicle mileage and transportation costs
- Meals, travel, and entertainment for business purposes
- Salaries, benefits, and contractor labor
- Interest on business loans and credit cards
- Professional services like legal, accounting, marketing, etc.
But make sure any deductions you claim are allowed by the IRS and that you have the records to back them up.
Take Advantage of Tax Credits
Tax credits directly reduce your tax bill, so they’re especially valuable. Take advantage of small business tax credits like:2
- Research and development credit – for increasing research activities
- Work Opportunity credit – for hiring veterans, food stamp recipients, ex-felons, and other target groups
- Disabled Access credit – for accommodating disabled employees and customers
- Empowerment Zone Employment credit – for hiring employees who live and work in certain urban and rural areas
- Credit for employer-paid FMLA and sick leave – for providing paid family and medical leave to employees
Hire a Professional
Running payroll, tracking income and expenses, claiming deductions and credits – it’s a lot for a small business owner to handle alone. Getting help from a qualified tax preparer or accountant can help you stay compliant.
Just be sure to find someone trustworthy. Unscrupulous tax pros may encourage you to make questionable claims to get bigger refunds.
Pay Estimated Taxes Quarterly
If you have variable or seasonal income, you may need to pay estimated taxes every quarter to avoid penalties. Estimated taxes are due April 15, June 15, September 15, and January 15. The IRS requires you to pay either 90% of your total tax for the year or 100% of the prior year’s tax (110% if your income exceeds $150,000).3
Paying quarterly helps ensure you don’t get stuck with a giant tax bill you can’t afford come April. It also shows the IRS you’re making a good faith effort to meet your obligations.
Correct Any Mistakes
If you discover an error that led to underpayment, amend your return as soon as possible. Similarly, if you receive a notice from the IRS about underreported income or improper deductions, address it right away. Honest mistakes happen, but attempting to hide errors is when you get into tax evasion territory.
Coming clean and paying any additional tax due, plus interest and penalties, shows you’re not willfully cheating. And it helps avoid potentially larger fines and legal action down the road.
Keep Personal and Business Finances Separate
Co-mingling personal and business finances is asking for tax trouble. Have separate bank accounts and credit cards. And never use business funds to pay personal expenses unless you record it properly and claim it as income.
Also, don’t have clients pay you directly. All revenue should go into your business accounts. This helps avoid any temptation to pocket cash payments.
Watch Out for Common Problem Areas
Some types of deductions draw extra scrutiny from the IRS. These include:4
- Home office deductions – Make sure to follow the rules for allowable expenses and calculating the deduction.
- Business use of vehicles – Keep detailed mileage logs and only claim eligible costs.
- Travel and entertainment – Document how expenses relate directly to your business.
- Independent contractors – If you hire contractors, follow IRS guidelines to properly classify them.
Improperly claiming these deductions is a red flag for auditors.
Stay Organized and Communicate
Sloppy record keeping can make it look like you have something to hide. Staying organized demonstrates you’re making a good faith effort to comply.
Also, maintain open communication with your tax preparer or accountant. Discuss any areas of uncertainty and work together to properly report all business income and expenses.
Monitor Employees
As a business owner, you can be held liable if employees engage in tax fraud. This provides incentive to monitor them for suspicious activity. Tell employees you have zero tolerance for underreporting income, misstating expenses, or other tax evasion.
Of course, most tax evasion starts with business owners cutting corners. Set the right example by making ethical business and tax reporting practices part of your workplace culture.
Preventing tax evasion takes diligence. But staying compliant protects your business and provides peace of mind. Follow these tips to keep your small business on the right side of the tax code.
References
1. IRS: Deducting Business Expenses
2. SBA: 6 Small Business Tax Credits & Tax Relief Available Now