As we head into another tax filing season, will small businesses face smooth sailing or choppy waters? That question is on the minds of small business owners and tax professionals alike.
A lot has changed for tax season 2021 – from uncertainty around its start to new tax incentives and programs to help businesses weather the coronavirus pandemic and resulting economic recession.
That’s why it’s a good idea to start planning for your taxes now, even if you’re not quite ready to file. With that in mind, here are a few things to think about for tax season 2021.
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Tax season may get off to a late start
The IRS has announced the start of the 2021 tax filing season to be February 12, 2021, with the deadline set to April 15.
The IRS is still wrapping up processing individual and business returns from last year since the agency halted work during the pandemic’s early days. It’s also still working to distribute economic impact checks. Further complicating matters, the incoming presidential administration and Congress are promising another round of stimulus checks. If such legislation is passed in the middle of tax season, it could further divert IRS resources at a time when the agency is still not operating at full capacity.
The IRS recently assured taxpayers and tax professionals that it is ready for the upcoming tax season. However, that could change if Congress makes any retroactive tax law changes in the next few weeks.
More small business owners may need professional tax preparation
Even small business owners who felt comfortable preparing their own tax returns in prior years may seek professional tax help for the 2021 filing season.
The Families First Coronavirus Response Act and the Coronavirus Aid, Relief and Economic Security (CARES) Act created several new tax incentive and programs, such as:
- Reinstating the ability to carry back net operating losses (NOLs)
- Tax credits for maintaining payroll and offering paid sick or family leave for workers impacted by COVID-19
- Expanded deductions for charitable donations of inventory
- Paycheck Protection Program (PPP) and Economic Injury Disaster loans
- Increases to business interest expense deductions
Small business owners and self-employed people should talk to their tax advisor to ensure they take full advantage of any potential tax benefits offered by this legislation.
PPP loan forgiveness and tax obligations are evolving
If your small business received a PPP loan in 2020 – or plans to apply for one in 2021 – you may want to ask your lender for an extension before applying for loan forgiveness.
IRS guidance on the taxability of loan proceeds and deductibility of expenses paid for with loan funds has been trickling out over the last several months. Currently, forgiven PPP loans are not taxable income. However, expenses paid with loan proceeds, such as payroll, utilities, and rent, may not be deductible. For some small businesses, the loss of those deductions could create unexpected taxable income.
You may want to request an extension before asking for forgiveness. Hopefully, this will push your deadline forward to when the IRS provides more guidance around what is and isn’t allowable and protects your business from a larger tax bill.
PPP loans also interact with other tax breaks offered by the CARES Act. For example, businesses that received PPP loan funds can’t claim the employee retention tax credit but can choose to defer their share of Social Security tax through the end of the year. Make sure you talk to your tax professional about any potential issues.
States may have their own tax deadlines and small business tax incentives
Many state and local governments enacted their own tax relief and incentive programs to help small businesses cope with the COVID-19 pandemic. Some legislation is designed to benefit individual taxpayers, while others target businesses.
For example, California already announced that small businesses will have more time to file 2020 tax returns in 2021. Governor Gavin Newsom signed an executive order giving small businesses a 90-day extension – to the end of July 2021 – for all tax returns and tax payments.
Programs vary by state and locality, so be sure to check with your state’s department of revenue or your tax professional to see how any new incentives will impact your 2020 tax returns.
Setting up a retirement account can offer tax breaks
Business owners interested in reducing their 2020 tax liability may want to look into setting up and contributing to a retirement account.
While 401(k) plans had to be established before the end of 2020 to benefit your 2020 tax liability, you have more time to set up a Simplified Employee Pension plan, also known as a SEP.
Business owners have until the due date of their tax return, including extensions, to set up and contribute a SEP, and contributions can be deducted on the prior-year tax return.
In addition, you may be able to claim a new retirement plan startup costs tax credit. This credit is available to employers that:
- Have 100 or fewer employees who received at least $5,000 of compensation during 2020
- Have at least one plan participant who is not highly compensated
- Did not have another employer-sponsored retirement plan in the past three years
The credit is worth 50% of the cost of setting up the plan, up to a maximum of $500.
The IRS expects to audit more small businesses in 2021
For the past several years, IRS audit efforts have been hampered by budget and personnel cuts. However, at an American Institute of Certified Public Accountants Event in November of 2020, De Lon Harris, the IRS deputy commissioner of examination of small businesses, said the agency plans to ramp up audits of small businesses by about 50% in the coming year.
The IRS is hiring additional specialized auditors to tackle these cases. The agency can audit returns up to three years old, and if auditors find significant problems during those examinations, it can choose to look at even older returns.
Small business owners who wait to avoid winding up in the IRS crosshairs should make sure they’re maintaining good records of income, deductions, and tax credits.
Request an extension if you need more time
Many small business owners might have a tough time gathering the paperwork they need to file their taxes by the March 15 (for partnership and S corporations) or April 15 (for individuals and C corporations) deadline – assuming that deadline isn’t extended as it was in 2020.
In that case, you can request a six-month extension. Companies that report business income and expenses on Schedule C (sole proprietors and single-member LLCs) use Form 4868 to request an extension. Other businesses, including partnerships, multi-member LLCs, and corporations, use Form 7004.
Remember, however, that filing an extension gives you more time to file your tax return, it does not extend the deadline to pay your 2020 tax bill. Unless Congress and the Treasury department act to extend the payment due date, you will need to estimate the amount owed for 2020 and make a payment by the normal deadline. If you don’t, you could end up owing a late payment penalty.
There’s a new 1099 for independent contractors
Beginning this year, the IRS requires business owners to report non-employee compensation (like fees paid to freelancers and independent contractors) on the new Form 1099-NEC. In previous years, those payments were reported in box 7 of Form 1099-MISC.
If you made any payments totaling $600 and above to workers who were not employees, you will need to report these in box 1 of the new form. Form 1099-NEC has to be filed by January 31, 2021.
You can still use Form 1099-MISC to report other kinds of payments, such as:
- Medical and health care payments
- Prizes and awards
- Payments to attorneys
Don’t wait until the last minute to seek tax help
Due to the pandemic, this tax season will likely be remote, so small business owners and managers who want help this tax season should get on their tax pro’s calendar as soon as possible.
Whether you want to meet with your tax preparer in person or plan to send and receive documents digitally, don’t wait until the last minute. With increased demand and less opportunity to walk into your tax preparer’s office, it could be difficult to file on time unless you make an appointment now.
While the 2021 tax filing season doesn’t have massive tax reform legislation like we saw after the Tax Cuts and Jobs Act, it could be a challenging time for small business owners and their tax advisors.
If you haven’t yet, make sure you integrate cloud technologies to better collaborate with your team, accountants, and tax preparers. This will help make tax time a little less stressful no matter what delays, deadlines and tax changes are thrown your way.