Disclaimer: Reducing taxable income is not all-inclusive for every business. You should discuss your options with an attorney and your CPA to find key ways to reduce taxable income that may not be listed below.
Business owners should be trying to reduce their taxable income every year. If you reduce your taxable income, you’ll lower your taxes and may be able to move into lower tax brackets to avoid even further taxes.
We’re going to be discussing how to reduce taxable income in 2021.
How To Reduce Your Business’ Taxable Income in 2021
If you’re not sure how business tax deductions work, your accountant will be able to explain critical strategies that you can use to reduce your tax burden. A few of the key ways businesses can start to try and reduce their taxable income in 2021 are:
Legal Entity Evaluation
If you haven’t changed your legal entity or business structure recently, it may be worthwhile to have an accountant and attorney run a legal entity evaluation for you. For example, if your business is structured as a C Corporation, you’ll be subject to double taxation.
An evaluation may find that you save more money by switching to:
- S-Corporation
- LLC
- Partnership
Business owners often don’t think about their legal entity when considering small business tax preparation, but it may be possible to reduce your tax burden year after year.
You may even benefit from switching to a sole proprietorship because you’ll be able to hire your minor children. In addition, you won’t have to pay or withhold payroll taxes, and the earnings for children are taxed at a lower rate.
Of course, a sole proprietorship also exposes you to liability, so it’s important to discuss your risks with an accountant to find the best legal entity for your business.
Hire Family Members
When hiring children, you can avoid taxes, but what about employing a spouse? If you hire a spouse, you’ll be able to avoid Federal Unemployment Tax Act taxes. However, you may be required to pay for retirement savings for your spouse, depending on their current employment status and benefits.
You’ll want to make sure that your business entity allows you to hire family members because some do not offer these benefits.
Augusta Rule
The Augusta Rule, outlined in Section 280(A) by the IRS, is a rental strategy that can help reduce your taxable income for your business. The rule allows you to rent out your home to your business for up to 14 days.
If the residence is rented out for less than 15 days a year, you don’t have to include the income in your gross income as an individual. But you’re also not allowed to claim any deductions related to the rental on your taxes.
Instead, your business can deduct the expense to reduce taxable income.
If you want to use the Augusta Rule, you’ll need to:
- Rent a personal residence to the business
- Make sure that you have a reason for the rental (retreat, client event, etc.)
You only need to have your business issue a 1099-MISC if the rental income is $600 or more. However, it’s important not to charge higher than the market value for the rental, or you may risk a potential audit.
If you have a second home, you can rent it out, as this rule isn’t tied to a primary residence. Homes near popular events can be rented out over numerous weekends to maximize this deduction.
Investing in Real Estate
Businesses can invest in real estate, too. Of course, you want to make sure that the real estate is separate from personal finances, but it can be an excellent way to add deductions to your taxes in 2021. For example, let’s assume that you run a retail store that you have been renting out.
You can deduct the rental expenses, but if you purchase real estate, the purchase can also be deducted.
The key most important thing to remember is that the purchase can be for any reason outlined in your articles of organization. For example, you can purchase the property to grow materials for the business or housing inventory.
Real estate can be a commercial property or even a house.
If you want, you can rent the property out and earn income from it or use it for your business. The business can then deduct costs related to the upkeep and ownership of the real estate.
Health Savings Account (HSA)
An HSA may be an option for your business, but there are a lot of rules and restrictions around HSAs that may or may not make you eligible to open one. As an employer, you can help fund HSAs of employees, which offer numerous benefits, such as:
- Higher retention rates
- Perk that attracts applicants
- Reduce taxable income
Employers can choose to match contributions to an HSA, which would reduce the business’s taxable income. However, a self-only HDHP does have a limit of $3,600 per year in contributions or up to $7,200 for families.
If you have employees, this is one way that you can retain staff while also reducing your business’s tax burden.
Start a Retirement Plan
An HSA isn’t the only way a business can contribute to their employees while reducing their own tax burden. For example, if you offer a 401(k) plan, you can match contributions up to the legally allowed limit and deduct these contributions.
Employees benefit from an employer match, while your business benefits from substantial tax deductions.
Wrapping Up: How To Reduce Taxable Income 2021
You should have year end tax planning in place to leverage all of the tax deductions that you can. Paying less in taxes means being able to spend more money on improving your business year after year.
We’re here to explain how business tax deductions work and discuss key ways we may be able to reduce your business’s tax burden.
If you’re a business owner who wants to lower their taxable income, we can help.
Click here to discuss how to reduce your business’s taxable income.
