Taxes are always stressful, and running a business just makes it more complicated. There are tons of potential worries, especially if you're a relatively new business owner.
The situation in 2020 didn't make it any easier. With the COVID-19 pandemic, it was a year unlike any other in our lifetimes. This led to new complications for businesses, as lockdowns made their survival uncertain. However, it also led to tax opportunities that can help businesses recover some of their losses.
In this article, we'll discuss year-end tax planning in 2020 for small businesses, and how you can take advantage of these opportunities.
What is Year-End Tax Planning?
In case you're still new to running a business (or you need a refresher), here's a quick introduction to year-end tax planning.
Investopedia defines tax planning as "the analysis of a financial situation or plan from a tax perspective. The purpose of tax planning is to ensure tax efficiency. Through tax planning, all elements of the financial plan work together in the most tax-efficient manner possible. Tax planning is an essential part of an individual investor's financial plan. Reduction of tax liability and maximizing the ability to contribute to retirement plans are crucial for success."
Basically, tax planning helps your business pay less in taxes. A good tax plan will take advantage of every financial opportunity to help keep your business healthy.
Here are our best tips for year-end tax planning in 2020.
1. Don't Put it Off
Our first tip is a small but important one: don't procrastinate. Get your tax planning done as soon as you can.
Getting everything sorted out tax-wise before the end of the year might seem like a big job. Especially if you've never done it before. But even if it's not your first time, it can still be intimidating, even more so than usual in 2020.
It's easy to want to procrastinate on tasks like this, and you're probably already stressed out from other events. It's been a rough year. But if you wait too long, you might miss out on opportunities that could have helped you save big when you file your taxes.
2. Consider Help from a Tax Professional
Generally, there are three types of people when it comes to doing taxes. Some do it themselves on paper. Others use software like TurboTax. The third type contacts a professional to do it for them.
If you've done your business's taxes before, your experience and tools can definitely come in handy. But there's a lot of uncertainty in 2020. Mainly, this has to do with the Presidential election and certain other elections that could shift the balance of power in Congress.
Basically, if the Democratic Party takes control of the Senate, it's more likely that President-Elect Biden's tax proposals will go through. Some of these proposals may affect businesses within certain income brackets. For example, businesses making charitable donations may receive less of a tax break for doing so in 2021, as opposed to 2020. So, if you have the money to spare and want to make a large donation, it may make more sense to do so in 2020 rather than waiting another year.
And that's just scratching the surface.
This is why you may want a tax professional to help you in 2020. With so many variables, and so much uncertainty, this is a difficult year to do tax planning on your own.
3. Create a Plan for Tax Payment
Few things can be more disruptive to a business than unexpected problems with cash flow. Having to make a large tax payment in April can be a massive issue if you're not prepared for it. The sooner you have an idea of what your taxes are going to be like, the sooner you can create an intelligent plan for paying them off.
You have a few options for planning your tax payment. You could open a line of credit or save money ahead of time. If you haven't planned anything yet for 2020, remember you only have a few months to get the payment together.
One smart way to avoid this problem in the future is to consider making quarterly estimated tax payments. This will prevent you from having to make a large lump sum payment in April. At worst, you'll have a bit left over to pay if you paid too little. And remember if you overpay on estimated taxes, you'll get that back as a refund anyway.
Not all businesses are in identical situations, so we do recommend talking to an accountant to see if this is the best solution for you.
4. Refresh Your Knowledge and Evaluate Your System
Even if your taxes are in the hands of professionals this year, you should still make sure you're familiar with all the IRS forms, schedules, and other publications. Tax laws can change regularly, so it's important to make sure you're up to date.
You should also evaluate your tax filing process. Many businesses operate inefficiently around tax time, and spend too much time on the basics of the process. You can prevent wasted time by keeping as organized as possible throughout the year in preparation for doing your taxes. The goal is to improve your system so you can more easily meet deadlines and ensure accuracy. But best yet, this increased efficiency will give you more time to look for tax strategy opportunities so you can shift away from simple compliance, and more toward using your tax process to add value.
5. Get a Tax Break by Contributing to a Retirement Fund
Small business owners can get a tax credit by contributing to a retirement fund, like a personal IRA or a 401k. This is a step best taken with the advice of a tax professional, but it's possible for a small business owner to set up a personal retirement fund and make tax-deductible contributions within a certain amount. Company retirement plans (for your employees) can also be eligible for a tax credit depending on how much you contribute. In some cases, small businesses can even get a tax credit to help mitigate the cost of setting up such a fund in the first place.
6. Make Charitable Contributions for a Tax Credit
Donating to charity is one of the most popular methods for getting a credit so you'll need to pay less at tax time. If your business can afford it, 2020 is a great time to make a donation — not only will you get the tax credit, you'll also make a difference in today's difficult world. Just remember that you'll need to make your donation before the end of the year for it to count on your 2020 taxes.
7. Claim AMT Refunds (If Applicable)
The Tax Cuts and Jobs Act (TCJA) of 2017 repealed the corporate alternative minimum tax (AMT). However, it also allows corporations to claim any unused AMT credits from the tax years of 2018, 2019, 2020 and 2021. However, the CARES (Coronavirus Aid, Relief, and Economic Security) Act has accelerated this timeline so corporations can claim all remaining credits in either 2018 or 2019. If you have AMT credits you want to claim, you need to file by the end of 2020. The fastest way for many businesses would be to use Form 1139 to file a tentative refund claim, but you should consult with a tax advisor first.
8. Get Tax Refunds by Carrying Over Your Net Operating Losses (NOLs)
One purpose of the CARES Act is to help businesses survive the rough economic landscape caused by COVID-19. As part of that goal, it brought back a tax provision that allows businesses to use their current losses against their past income to receive an immediate refund. NOLs (net operating losses) from 2018 through 2020 can be carried back for 5 years for refunds against prior taxes. Basically, this means that if your business has sustained losses, you can apply for a tax refund on these previous years to recover some funds.
If you're interested in getting this refund, you'll need to file a tentative refund claim by December 31, 2020. C corporations will need to make the claim themselves, while passthrough entities will pass the loss onto the business owner who can then file the claim. If you expect losses in 2020, make sure you file your taxes as quickly as possible for the year because you won't be able to claim an NOL refund for 2020 until your return has been filed.
9. Quickly Claim Disaster Loss Refunds
Tax rules in the United States make provisions for disasters. If your business has suffered losses that can be directly linked to a disaster, you can claim some of these losses on your taxes.
Normally, this would include natural disasters like hurricanes and wildfires. Acceptable losses include destruction of property, loss of inventory, closure of offices and other facilities, and more. The US government needs to actually declare a disaster area in your business's location for this to be possible.
In 2020, the government's disaster declaration for COVID-19 designated all 50 states, Washington, DC, and 5 US territories as disaster areas, meaning every business in these areas could be eligible to claim losses from COVID-19. The losses have to be directly attributable to the pandemic.
The most helpful aspect of the disaster loss refund is that you can claim it for a year prior to the disaster. This is meant to help businesses get refunds more quickly so they can survive. You would do this by amending your tax return for the previous year, so your business would get a refund sooner. If you suffered losses in 2020 due to COVID-19, you can submit an amended 2019 return and claim your 2020 losses to get a tax refund as soon as possible.
10. Claim a Retroactive Refund for Bonus Depreciation
Bonus depreciation is a tax provision that lets companies immediately deduct the cost of several types of business investments. The CARES Act smoothed this process in a few ways and also expanded it to apply to more types of investments. This includes qualified improvement property (QIP), which covers almost any improvement to building interiors that a business either owns or leases. This would potentially include office space changes to meet COVID safety guidelines, as well as improvements to retail spaces.
While this provision is only useful for businesses that operate from a building, like retail stores or eCommerce office headquarters (not home-based businesses), it has a lot of potential if you do fit into this category. The CARES Act made it retroactive to allow you to deduct qualified improvements dating back to January 1, 2018. A qualifying business could submit amended returns for the applicable years to claim these refunds.
2020 is the most complex year for tax planning in recent memory. With the uncertain economic and political landscape, things have been tough for businesses. But the CARES Act and other legislation can ease the burden, as long as you make smart tax planning decisions:
- Don't put it off
- Consider help from a tax professional
- Create a plan for tax payment
- Keep your knowledge up to date and evaluate your process
- Contribute to a retirement fund for a tax break
- Get another tax break through charitable contributions
- Claim AMT refunds if you can
- Use NOLs for more refunds
- Claim disaster loss refunds
- Get a retroactive refund for bonus depreciation (if your business uses a qualified property)
One final note is that we encourage you to do additional research on the tax provisions that may directly affect your business. It's impossible to provide completely accurate tax advice to every business in a single article, as your method of incorporation, location, and specific circumstances all need to be taken into account. But at least you have a starting point — and despite all that's happened in 2020, take some encouragement from the fact that tax legislation has been developed to help your business survive.