Paying tax on business profits
How are taxes on business profits paid? What is the penalty for not paying on time?
Your choice of entity affects the answers to both questions.
If you operate your business as a regular C Corporation, you are considered an employee of the corporation. Income taxes are withheld from your wages and paid by the employer. Any after-wage profit is taxed to and paid by the corporation, generally when the annual tax return is filed.
If you operate your business as an S Corporation, you are still considered to be an employee of the corporation. Income taxes are withheld from your wages and paid by the employer corporation. Any after-wage profit is added to the individual shareholder's income tax return, in proportion to their ownership %, so that this profit is taxed to the individual.
For all other entities, LLCs. Partnerships, and Proprietorships, income from business profit is included on the individual owner/partner's income tax return so that this profit is taxed to the individual(s). This profit is subject to a 14% self-employment (social security) tax in addition to the Federal and Oregon income taxes. Combined taxes on business profit often will range from 38% to 48%, depending on your other sources of income..
IRS and Oregon Dept of Revenue require that you pay income taxes timely.
Timely payments can be made via withholding (from either taxpayer or spouse's wages) and/or by estimated tax vouchers.
You can base the estimate on either 1/ prior year total tax less withholding or 2/ current year total tax less withholding.
Quarterly estimated tax vouchers are due the 15th of April, June, September and January. Current year profit measurement dates are the 31st of March, May, August and December.
Tax preparers, when they prepare your tax return, will usually give you estimated vouchers that are based on the prior year's tax information.
There is a potential underpayment penalty if, when you file your tax return, you owe more than $1,000.
The penalty is based on an annual interest rate that is presently about 4%.
Even if you owe more than $1,000 with the filed return, there is no penalty if you have paid, via withholding and estimated tax the lesser of 1/ an amount equal to prior year's tax or 2/ 90% of the current year's tax.
Income Tax Forms
General - tax returns for all entities have the following similarities:
> They are filed annually, and are due 2 1/2 or 3 1/2 months after year end.
> All have a profit and loss format... showing income, deductions, & the net
difference (called taxable income).
> Income tax is based on a tax rate (%) applied to taxable income.
> Taxable income is taxed whether or not the money is taken out of the business.
Entity Type - Regular Corporation
Form 1120 Corporate Income Tax Return -
> A 5 page form (+ supporting schedules as needed)
> Includes a balance sheet listing assets owned and debt owed.
> Deductions include wages paid to officer/shareholder.
> IRS and OR tax assessed to the corporation is about 21% of profit.
> A taxable loss is carried forward and offset against future income.
Entity Type - Subchapter S Corporation
Form 1120S - S Corporate Income Tax Return -
> Similar in format and content to the Form 1120
> Deductions include wages paid to officer/shareholder
> Taxable income (profit) is not taxed to the corporation.
> Taxable income flows through to the shareholders and is reported to them via
a K-1 form, and taxed to them on their individual returns.
> This "flow through" income is taxed to shareholders at their individual tax rate.
> A taxable loss, to extent funded by the shareholders (vs 3rd party loans), flows
through and is deducted on the shareholder's tax return.
Entity Type - Partnership and multi-member LLC
Form 1065 - Partnership Income Tax Return -
> Similar in format and content to the Form 1120 and 1120S
> Unlike the 1120 and 1120S, partners' "wages/draws" are not deducted on the
> Taxable income or loss flows through, via Form K-1, to the individual partners'
tax returns and is added to or subtracted from the partner's other income.
> The flow through income is normally subject to a 14% self employment (social
security) tax in addition to the income tax.
Entity Type - Single member LLC and Proprietorship
Business Schedule C -
> This is a 2 page schedule that is part of the owner's individual tax return.
> Business profit/loss is the difference between business revenue and deductions.
> There is no deduction for "wages/draws" paid to the owner.
> Business profit/loss is added/deducted (at line 12 page 1 Form 1040) to/from
owner's other page 1 income.
> Business profit is subject to both the income tax and the 14% self employment
(social security) tax.
Business Schedule C - EZ -
Business owners can use this simple 1 page / 3 line report instead of the 2 page Schedule C if all of the following 4 conditions are met:
> Total business expenses do not exceed $5,000.
> The business does not have a loss.
> The business does not carry inventory for resale.
> The owner operates only this one business.