Going out of business?

Know the tax consequences before closing your doors.

You can close your business by selling all of the assets or converting the assets to personal use. The tax consequences of selling your business depend on whether you are operating a sole proprietorship or corporation. As a sole proprietor, if you sell all the assets of your business, you report the sale of each asset separately to determine the gain or loss. If you close your sole proprietorship business and keep all the assets to use personally, there may be some tax on recapture of depreciation.

When you want to end your corporate business, you can either sell the stock or the assets. If the assets are sold, the corporation pays the tax on any gain. As the shareholder, you don’t have any tax consequences unless the corporation liquidates and distributes the proceeds to you in exchange for your stock. If the stock is sold, you report the sale of your corporate stock on your personal tax return.

If you take the assets out of the corporation, gain or loss is recognized on the liquidating distribution of assets as if the corporation sold the assets to you at fair market value. You, as the shareholder, do not have any tax consequences unless the fair market value of the assets distributed exceeds your stock basis.

As with any sales contract, it’s important to determine the tax consequences before signing on the dotted line.

Should You Pay Estimated Taxes?

If you receive income and do not have taxes withheld from it, then you may be required to pay estimated taxes. Common examples of this type of income are interest, dividends, self-employment profits, alimony, and rent. When estimated taxes are required, they should be paid upfront or quarterly (April 15, June 15, Sept. 15, and Jan. 15). Like all other tax requirements, failure to comply results in nasty penalties.

There is a general guideline to determine if you will need to pay estimated taxes. For 2011, estimated taxes are necessary if both of the following are true:

1. Estimate the total amount of taxes that you will owe in 2011. From this, subtract the total amount of taxes you will have withheld from your income and apply any credits you will be eligible for. The end result is at least $1,000.
2. Estimate the total amount of taxes that you will owe in 2011 and multiply it by 0.90. Now, determine the total amount of taxes that you owed in 2010. Both results are greater than the total amount of taxes you will have withheld from your income and any credits you will be eligible for in 2011.

If you need to pay estimated taxes, you can use the worksheet in Form 1040ES to determine the amount due. As always, your accountant can help you through this process and answer any questions that may arise.

Surprise Tax for the Self-Employed

A self-employed individual expects to pay taxes on profits from their business. Unfortunately, there is an additional tax that must be paid when all is said and done.

When you work for an employer, the employer withholds Social Security and Medicare taxes from your pay. The employer also pays their portion of Social Security and Medicare taxes. Depending on the size of the payroll, the employer may make these payments weekly or monthly. A self-employed individual does not have Social Security and Medicare taxes paid for them. Instead, they pay self-employment taxes on the profits of the business.

If you have your own business or are a subcontractor, the IRS considers you self-employed. This requires you to pay self-employment tax on the profits of your business. Typically, the IRS requires self-employed individuals to make quarterly estimated tax payments. If you fail to make these payments, you may be penalized at the end of the year.

Here is a helpful tip for the self-employed. Open a bank account just for your self-employment taxes. Every week or month, deposit enough money into the new account to cover the taxes for that time period. At the end of each quarter, when your self-employment taxes are due, you should have enough money saved up to make your payment. This will reduce the shock and frustration of trying to find the money to make the payment at the last minute. It will also help you avoid the nasty penalties from the IRS for not making your payments large enough or on time.

New Mileage Rates for 2011

Due to outrageous gas prices, the IRS will increase mileage rates for the second half of 2011. What does this mean for you? If you are reimbursed for your mileage or claim your mileage on your tax return, you will have to distinguish the miles traveled in the first half of the year from the miles traveled in the second half of the year. For those that log their mileage on a daily or weekly basis, this may not be an issue. For those that do not frequently log their travel, take note that your employer or accountant will be asking you to determine in which part of the year the mileage occurred.

01/01/2011 – 06/30/2011 RATES

• Business Mileage: 51 cents per mile
• Medical/Moving Mileage: 19 cents per mile
• Charitable Mileage: 14 cents per mile

07/01/2011 – 12/31/2011 RATES

• Business Mileage: 55.5 cents per mile
• Medical/Moving Mileage: 23.5 cents per mile
• Charitable Mileage: 14 cents per mile

Stark County Sales Tax Rate Change

If your business makes sales in Stark County, Ohio, please take note of the new sales tax rate. Effective July 1, 2011, the sales and use tax rate for Stark County will change from 6.00% to 5.75%.

Employing Relatives in Your Business

Employing family members is a big advantage of having your own business. But before you start hiring, make sure you know the federal tax rules.

Employing Your Child
If your business is a corporation, the wages that you pay your child are subject to the same federal taxes as an employee that is not related to you.

If your business is a partnership where one or more of the partners is not a parent of the child, the wages that you pay your child are subject to the same federal taxes as an employee that is not related to you.

If your business is a sole proprietorship or a partnership where each partner is a parent of the child, the wages that you pay your child are not subject to:

• Social Security taxes (for children under 18 years of age)
• Medicare taxes (for children under 18 years of age)
• Federal Unemployment taxes (FUTA) (for children under 21 years of age)

Employing Your Parent
Generally, the wages that you pay your parent are subject to the same federal taxes as an employee that is not related to you. However, FUTA taxes are always excluded.

Employing/Working with Your Spouse
If your business is a corporation or a partnership where your spouse is not a partner, the wages that you pay your spouse are subject to the same federal taxes as an employee that is not related to you.

If your business is a partnership where you and your spouse are partners, then the rules of a general partnership should be followed.

If your business is not a corporation or a partnership and there is an employer/employee type of relationship between you and your spouse, then your spouse may be treated as an employee. This type of relationship is characterized by you (the owner) having substantial control over management of the business and your spouse being under the direction of you. In this case, the wages that you pay your spouse are subject to the same federal taxes as an employee that is not related to you. However, FUTA taxes are excluded.

If your business is not a corporation or a partnership, but there is a partnership type of relationship between you and your spouse, then your spouse may be treated as a partner. This type of relationship is characterized by you and your spouse having equal control over management of the business, providing equal services to the business, and contributing equal capital to the business. In this case, the business income should be reported on Form 1065, U.S. Return of Partnership Income, and the rules of a general partnership should be followed.

The Small Business and Work Opportunity Act of 2007 allows spouses with a partnership type of relationship to opt out of being treated as a partnership if they meet the criteria of a joint venture. The requirements for this qualification are:

• The only members of the joint venture are husband and wife
• Both spouses materially participate in the business
• Both spouses elect to not be treated as a partnership

If you and your spouse choose this route, you must then follow these steps to properly account for the business financials and taxes:

1. Divide all income, deductions, gains, losses, and credit between each spouse accordingly.
2. You and your spouse must jointly file a Form 1040 tax return and elect to be treated as a qualified joint venture.
3. With your joint tax return, each spouse must file their own Schedule C, Profit or Loss from Business, using the information from Step 1.
4. With your joint tax return, each spouse must file their own Schedule SE, Self Employment Tax, using the information from Step 1. This step gives each spouse credit for social security earnings for calculating retirement benefits.

The tax consequences of employing a relative can be complicated depending on your situation. It is always best to discuss your circumstances with your accountant or payroll specialist before hiring.

DISCLAIMER:  All information on this post is the opinion of the author and is not offered as legal advice.  Please consult the appropriate authoritative laws, codes, rulings, cases, etc. for the most accurate and timely information.  This firm offers valuable professional tax advice only as part of prepaid engagements.

Limited Liability Company (LLC)

A limited liability company (LLC) is a cross between a C corporation and a partnership. An owner of an LLC is called a member, not a shareholder. Members of an LLC can consist of a single individual, two or more individuals, corporations, and/or other LLCs, depending on the state.

Formation
The steps to form this type of business entity depend on the state, but there are some general rules. Make sure that your business name: is different from all existing LLCs in the state, contains the LLC designation (LLC, Limited Company), and does not include restricted words (bank, insurance). Then register the business with the state, which will automatically register the business name as well. Next, file the articles of organization with the appropriate office of your state. Lastly, a tax ID number and the appropriate business licenses and permits need to be obtained. Be sure to check with your state’s business filing office for any additional requirements.

Liability
The LLC is held liable for the debts and obligations of the business. This means that the assets belonging to the owner(s) of the company are protected. However, this protection is limited. The member(s) may be liable for tort actions committed by members or employees of the company.

Taxation
The IRS does not recognize an LLC as a business entity. Therefore, LLCs must file as a C corporation (Form 1120), a partnership (Form 1065), or a sole proprietorship (Schedule C on personal tax return), depending on the classification of the company. The IRS will choose the classification based on the number of owners, but you can elect to file as a different classification by filing Form 8832, Entity Classification Election. Any profits/losses are generally passed through to the member(s), who pays the business income taxes through his/her personal income tax return. The owner(s) are required to pay self-employment taxes and possibly estimated taxes. 

Fees and Forms
An LLC is easier and less expensive to form and operate than a corporation. Although an operating agreement is not required by most states, it is highly recommended that a one is documented. Without documentation of important arrangements such as how decisions will be made, how profits will be divided, and how to change ownership, business relationships may be strained and put in jeopardy.

Investment Needs
The funding of an LLC is often limited to the personal assets of the owner(s) and loans.

Operational Continuity
In many states the business dissolves upon the death or retirement of an owner and the surviving owner(s) may create a new LLC. However, if an operating agreement was documented and contains a provision regarding the continuance of the LLC after a member leaves the business, the remaining member(s) may prolong the LLC.

For information on changing your business structure, see Changing Your Business Structure.

DISCLAIMER:  All information on this post is the opinion of the author and is not offered as legal advice.  Please consult the appropriate authoritative laws, codes, rulings, cases, etc. for the most accurate and timely information.  This firm offers valuable professional tax advice only as part of prepaid engagements.

S Corporation

An S corporation is independent of its owner(s), or shareholder(s).

Formation
To form this type of business entity, one must register the business as a corporation with the Secretary of State office by filing articles of incorporation. One must also formally file a trade name, unless the business operates under the registered name. Generally, a corporate designation (Corporation, Incorporated) must be included at the end of the business name. Then, a tax ID number and the appropriate business licenses and permits need to be obtained. To qualify for the S corporation election, the business must meet the following stipulations:

• Be a domestic corporation
• Have only allowable shareholders
  • Including individuals, certain trusts, and estates
  • May not include partnerships, corporations, or non-resident aliens
• Have no more than 100 shareholders
• Have one class of stock
• Not be an ineligible corporation (certain financial institutions, insurance companies, and domestic international sales corporations)

If the requirements are satisfied, all shareholders must sign and file Form 2553, Election by a Small Business Corporation, to elect the S corporation status.

Liability
Because an S corporation is independent of the shareholder(s), the owner(s) is protected from the business liabilities. However, this protection is limited. The shareholder(s) is accountable for their investment in stock of the company and may be liable for some litigation.

Taxation
An S corporation does not pay income tax on profits from the business, but it is still required to report the annual income, deductions, gains, and losses of the business using Form 1120S, U.S. Income Tax Return for an S Corporation. The owner(s) of an S corporation pays the taxes on his/her personal tax return, eliminating the double taxation.

Fees and Forms
An S corporation is costly and may require a great deal of time to form. This type of business entity is highly regulated which means a large amount of paperwork, recordkeeping, and legal fees will be incurred. Some of the additional administrative duties include scheduled director and shareholder meetings and by-laws.

Investment Needs
With an S corporation, funds can be raised through the sale of stock; although stockholders must meet certain requirements (see Formation).

Operational Continuity
The business does not dissolve upon the death or retirement of an owner.

For information on changing your business structure, see Changing Your Business Structure.

DISCLAIMER:  All information on this post is the opinion of the author and is not offered as legal advice.  Please consult the appropriate authoritative laws, codes, rulings, cases, etc. for the most accurate and timely information.  This firm offers valuable professional tax advice only as part of prepaid engagements.

C Corporation

A C corporation is independent of its owner(s), or shareholder(s).

Formation
To form this type of business entity, one must register the business as a corporation with the Secretary of State office by filing articles of incorporation. One must also formally file a trade name, unless the business operates under the registered name. Generally, a corporate designation (Corporation, Incorporated) must be included at the end of the business name. Lastly, a tax ID number and the appropriate business licenses and permits need to be obtained.

Liability
Because a C corporation is independent of the shareholder(s), the corporation is held liable for the debts and obligations of the business. This means that the assets belonging to the owner(s) of the company are protected. The owner(s) is only accountable for their investment in stock of the company. However, this protection from business liabilities may be lost if the owner(s) comingles personal and business finances.

Taxation
A C corporation pays income tax on profits from the business using Form 1120, U.S. Corporation Income Tax Return. The owner(s) of a C corporation pays taxes on dividends and additional profits received on his/her personal tax return. This is considered double taxation.

Fees and Forms
A C corporation is costly and may require a great deal of time to form. This type of business entity is highly regulated which means a large amount of paperwork, recordkeeping, and legal fees will be incurred. 

Investment Needs
With a C corporation, funds can be raised through the sale of stock and has the ability to “go public” through an initial public offering (IPO).

Operational Continuity
The business does not dissolve upon the death or retirement of an owner.

For information on changing your business structure, see Changing Your Business Structure.

DISCLAIMER:  All information on this post is the opinion of the author and is not offered as legal advice.  Please consult the appropriate authoritative laws, codes, rulings, cases, etc. for the most accurate and timely information.  This firm offers valuable professional tax advice only as part of prepaid engagements.

Partnership

In a partnership two or more people share ownership of the business.

Formation
To form a partnership the owners generally register the business with the state.  They must also formally file a trade name, unless the business operates under the registered name. Lastly, they need to obtain a tax ID number and the appropriate business licenses and permits.

Liability
The owners of a partnership are personally liable for all debts and obligations of the business. In addition, each partner is liable for the decisions made by the other partner(s). This means that the owner(s) personal assets may be seized to satisfy business debt. In a general partnership these liabilities and obligations are divided equally among the partners unless otherwise agreed upon. In a limited partnership, the liability, as well as management decisions, is restricted for the chosen partner(s) and is based on investment percentages.

Taxation
The annual income, deductions, gains, and losses of the business are filed on Form 1065, U.S. Return of Partnership Income. Any profits/losses are then passed through to the partners via Schedule K-1’s. Each partner pays taxes on their share of the income on their personal income tax return. The owners may also be required to pay self-employment taxes and/or estimated taxes. 

Fees and Forms
A partnership is generally easy and inexpensive to form. There are no fees and forms required for operating a business as a partnership. However, it is highly recommended that a legal partnership agreement is documented. Without documentation of important arrangements such as how decisions will be made, how profits will be divided, and how to change ownership, business relationships may be strained and put in jeopardy.

Investment Needs
The funding of a partnership is often limited to the personal assets of the owners and loans.

Operational Continuity
The business does not necessarily dissolve upon the death or retirement of an owner. The partnership may continue on with the existing partners (so long as there are two or more) or may bring in additional partners, depending on the partnership agreement.

For information on changing your business structure, see Changing Your Business Structure.

DISCLAIMER:  All information on this post is the opinion of the author and is not offered as legal advice.  Please consult the appropriate authoritative laws, codes, rulings, cases, etc. for the most accurate and timely information.  This firm offers valuable professional tax advice only as part of prepaid engagements.