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How a Business is Taxed

by Roger on August 16, 2012

in Administrative

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The way your business is taxed is dependent on the type of  entity you have. By entity I am referring to your business structure, be it a sole proprietorship, partnership, corporation or limited liability company.  We are only going to be covering basic fundamentals here and it is by no means meant to be a guideline  as to how you file your taxes. We would suggest that you employ the assistance of a professional, such as an attorney, accountant or enrolled agent, to answer the more in-depth questions you may have and how the tax code pertains to your particular enterprise.

1. Sole Proprietors – A sole proprietorship is the most  basic requiring the self-employed person to file what is known as a Schedule C,  Profit or Loss from a business, which is attached to your personal tax return.  With the Schedule C you will transfer your income and expenses from your records into the appropriate categories on the Schedule C. A sole proprietor  will also need to file a Schedule SE, Self-Employment Tax, to calculate the social security tax and medicare that is owed.

2. Partnership – Partnerships are what is known  as pass-through entities. A partnership has two or more owners and is required to file a Form 1065, Return of Partnership Income. A partnership return is considered an information return as it doesn’t pay any  taxes itself. Income and losses are then passed to owners on a Schedule K-1,  Partner’s  Share of Income, Deductions,  Credits, etc., which is then reported on their personal return.

3. Corporation – Corporations are taxed as a separate entity using Form 1120, Corporation Tax Return. A Corporation, as a separate entity, pays taxes itself. Most people are familiar with the S Corporation which is a pass-through entity and files a Form 1120S, Income Tax Return for an S Corporation. Like a partnership, the shareholder will receive a Schedule K-1, Shareholder’s Share of Income, Deductions, Credits, etc., which is then reported on their personal tax return. Unlike a partnership, the S-Corporation may be liable for taxes itself.

4. Limited Liability Companies – LLC’s can be taxed in a  number of ways depending on the type of entity classification you choose. The IRS default is, when the LLC has only one member, is taxed as a sole proprietorship. Two or more members, it will be taxed as a partnership. Members of an LLC may file Form 8832, Entity Classification Election, opting for the LLC to be taxed as a corporation.

Keep in mind that each entity is different and there are many factors which need to be considered. Again, I will suggest that if you are unsure, seek the help of a qualified professional.

 

About the Author

Roger

Roger Forte holds an MBA in accounting and has been working with small businesses (and their tax matters) for over 35 years. Mr. Forte is a consultant with Speedy Incorporation and LLC, advising on incorporation and LLC formations. He also serves as the lead blogger on all things relating to accounting for small business on the Speedy Small Business Blog.

 

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