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Why Small Business Hates the Taxman
Why Small Business Hates the Taxman
It’s actually NOT the money.
Posted Monday, March 16, 2009 - 9:30am
To hear the United States Chamber of Commerce tell it, small businesses across the country are living in fear of the Obama administration's economic plan, particularly the part that would raise taxes on families making more than $250,000 a year. But I'd wager that most small businesses, starting with my own, have a very different set of concerns when it comes to taxes.
For many of us, it's not about the money. It's about the sheer hassle of compliance with the tax laws and the complete loss of control you feel when dealing with the government.
I'll admit that it's easy for me to say that tax rates aren't a concern since my business is running at break-even and thus doesn't have any profits to tax. I don't pay myself anywhere near $250K, obviously, and in fact for 2008 we'll be distributing losses to investors in New West Publishing LLC.
But that doesn't mean we don't pay taxes. There are, first of all, payroll taxes, which have two components. There is the money the company pays for each employee for Social Security and Medicare, and then there is the money that the company withholds from employee wages for both Social Security and income taxes.
The money from withholding is not "our" money, but because we pay the payroll taxes in a monthly lump sum it doesn't feel that way. Every month we have to write a significant check to the U.S. Treasury; it's one of our larger payables and the most unforgiving in terms of timing. If you're late you get hit with a large and non-negotiable penalty—a necessary measure, perhaps, lest everyone pay late but still something that can seem punitive when you're struggling to make payroll.
We also have to pay payroll taxes to the state, which is a whole separate process. We pay for unemployment insurance and for workers' compensation insurance, both of which are mandatory and thus also a form of tax. We have only five full-time and half a dozen part-time employees, but our very skilled bookkeeper spends at least a few hours every week on paperwork related to all of this. The systems on the government side often seem very archaic, and mistakes are surprisingly common.
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Comments
Tax savings
Do you just want to complain or do you really want business solutions?
First, recognize that we are in Great Recession and reduce your staff payroll by the amount of your monthly SS & MR taxes so they will now be "free" - so that one is solved.
Second, get a payroll service, they escrow the taxes automatically and send in all tax returns and payments automatically. You will never write a check or have a late-file penalty again. Reduce your over-rated bookkeeper to part-time and those savings pay for the payroll service many times over - so that is solved.
Third, tell your investors to grow up. We all file extensions automatically these days, taxpayers pay in on an estimated basis, and they have until 10/15 to receive the K-1 and file their returns. This situation is entirely emotional and simply foolish these days. It's a complex world so deal with it simply and move on - so that one is solved.
Fourth, elect Sub-S status and learn how to save thousands of dollars on your own self-employment taxes by adjusting your salary down to as low as 25% of the earnings. This commomnplace strategy has been in place for over a decade and if you haven't been using it to your advantage then you need a new CPA.
Fifth, you sir need to buck up. Your taxes are necessary to retain our position as the most successful and safe country on the planet and in the history of the world. If you insist on simply whining about it, please purchase a passport and ticket to China and see how you fir in over there. Right, I am firmly in the Love Her or Leave Her camp!
p.s. Paco6945, with all due respect sir, you are obviously intelligent, an entrepreneur and thus bold, and write well, but you must face the fact that you are also a mathematical twit. Your tax rate logic is simply non-sensical and you need to spend less time on-line and more time in the office of a qualified Cpa.
The Golden Goose's death
Couldn't agree more with the comments about taxes on working capital. I am a partner of a small business, in which our net is about $1m per year. As part of our agreement, 50% is retained in the business for investment, growth and working capital requirements of the business (plus 35% for taxes, leaves 15% for the self, no killing the fat hog here). Yet all these monies are considered taxable income. In effect the government is taking away from small business the monies that will fund future growth. With the recent stimulus package that was passed, the government says it will create approximately 3 million new jobs. Yet this averages out to a cost of about $300k per job. I bet if small business were offerred a $50k tax credit, a lot more growth would be created than what the government is able achieve, at a fraction of the cost. Besides the only part of the country which will benefit is D.C. as they hire more government employees to create additional regulations. The small business person carries all the risks. No government bailout programs. Not eligible for unemployment if the business fails. Has their personal assets pledged as collateral for loans, etc. They work longer hours than most people and carry home the burden of cash flow, meeting payroll, satisfying customers all the while keeping the tax man at bay. As the government turns to small business to raise taxes in order to finance its wasteful programs, hopefully the small business person does not say "this is not worth it". Because then congress and this administration will only have themselves to blame in killing the golden (tax revevue) goose.
Yes and No
Well, you are half right. I hate the hassle and I ALSO hate the fact that the feds tax my working capital. Unlike you, my company is organized as a corporation (Sub S) and is profitable most years. Sub S corporations are taxed the same was LLCs are taxed. The tax liability flows through to the owner. The problem is that the money doesn't necessarily flow through to the owner.
Last year my company had abuot $4MM in gross revenue. My salary is $100K. My income tax liability was $220K. So, in a way, my absolute tax rate was 220%, nevermind marginal tax rates. Ouch. How can this be? I'll explain.
The net profit of my company was $600K (15% of revenues, not bad, but not great - I think Microsoft's net was 35%). I had to include the entire $600K on my personal tax return, making my gross income (including my salary) $700,000. I didn't actually receive the $600K. I suppose I could have drawn it all out and bought a Rolls Royce, but then I wouldn't be in business. The $600K makes up part of my working capital. Of course, I had to draw out about $200K to pay income taxes over and above what I had withheld.
If Obama really wanted to save jobs, he would exempt from taxes small business profits that are not paid to owners -- i.e., amounts that are kept in the company as working capital. With that extra $200,000, I could probably take the risk to increase the number of employees from 35 to 40.
And also, please eliminate the hasssles.
I completely agree
We also have a small business and are an LLC. We sell physical goods, so there is a lot of money tied up in our warehouse as working capital. The net profits look good on paper, but as we grow and expand, we pay larger and larger taxes all the while having more and more invested in inventory and marketing. This limits our ability to expand and thus to create jobs.
Our business indirectly or directly creates jobs for thorugh warehouse, customer service and more. All of them are in the US. But we have constrained our growth due to the working capital requirements and heavy taxation on paper profits. If our business fails, the gov't does not return the taxes we paid in the good years even though we did not cash in. It is like paying taxes when a share of stock you own goes up, but you have not sold it to realize the gains.
There are many practical reasons we went with LLC (or like the comment above S-corp) than a C-corp as suggested by the second comment. As a small business C-corps are subject to double taxation as Paco6945 explains. You pay on the corporate profits and again on the distribution. It is even worse than the S-corp and LLC.
LLC Taxation
Paco6945, have you looked into filing IRS form 8832 to be treated as a corporation for tax purposes?
Treated as a Corp?
Why? Small Sub C corp rates go up to 39% and then owners still have to pay cap gains on dividends. Even if one doesn't distribute dividends, the feds presume cap gain tax on retained earnings above a certain amount ($250K, I think). So instead of owing $220K, I would pay my normal tax on my salary plus the corporation would pay $205K on its profit. Then I would have to pay 15% additional tax on any money I withdrew from working capital to pay my tax bill. Like I say, the tax rates are structured to negatively affect successful small businesses most -- the very businesses that create most new jobs. One solution that looks better and better to me is to replace all income and payroll taxes with the FairTax. Google FairTax.org for a description.