Starting a business as a student entrepreneur is an exciting journey filled with innovative ideas and the potential for great success.
However, amidst the excitement of launching and growing a startup, one critical aspect that is often overlooked is understanding and managing taxes. Navigating the complexities of the tax system can be daunting, but it is essential to ensuring the financial health and legal compliance of your business.
This guide aims to demystify taxes for student entrepreneurs, providing the basic knowledge and practical tips needed to effectively manage your startup’s tax responsibilities.

Understand basic tax concepts
Before diving into the specifics of managing taxes for your startup, it is important to understand some basic tax concepts.

What are taxes?
Taxes are mandatory financial charges or levies imposed by a government on individuals and businesses to fund various public expenditures. For businesses, taxes can come in several forms, each with its own set of rules and regulations. The primary types of taxes relevant to startups include:
● Income tax. This tax is levied on the net income of the business. The rate and regulations can vary depending on the business structure and location.
● Sales tax. Applied to the sale of goods and services, sales tax rates and regulations vary by state and locality.
● Self-employment tax. This tax covers Social Security and Medicare taxes for self-employed individuals that would typically be covered by an employer in traditional employment scenarios.

Key tax terms to know
Familiarizing yourself with key tax terms will help you better understand your responsibilities and benefits under the tax system. Here are some important terms to know:
● Taxable income: The portion of your income that is subject to tax after all deductions and exemptions have been taken into account.
● Deductions: Expenses that can be subtracted from your taxable income, thereby reducing the amount of income subject to tax. Common business deductions include office supplies, travel expenses, and marketing expenses.
● Credits: Direct reductions in the amount of tax you owe. Unlike deductions, which reduce taxable income, credits reduce your actual tax bill. Examples include the Earned Income Tax Credit (EITC) and credits for energy-efficient business practices.
● IRS: The federal agency responsible for administering and enforcing U.S. tax laws. Understanding the role of the IRS and its resources can help you stay compliant and informed.

Set up your business for tax purposes
Starting your business on a solid foundation is critical to effectively managing your tax responsibilities. One of the first decisions you will make is to choose the right business structure. This choice will affect your tax obligations, liability, and how you manage your business finances.

Utilizing small business CPA services can provide invaluable guidance in making these decisions and ensuring your financial setup aligns with your long-term business goals.

Choosing the right structure for your business
The business structure you choose affects everything from day-to-day operations to taxes and even how much of your personal assets are at risk. Here are the most common structures and their tax implications:

Sole Proprietorship
Advantages:
● As the simplest business form, a sole proprietorship requires minimal paperwork and no formal incorporation process.
● You have complete authority over all business decisions.
Disadvantages:
● You are personally liable for all business debts and obligations.
● You are responsible for paying self-employment taxes on your net income.

Partnership
Advantages:
● Partnerships allow you to pool resources and share the financial burden with your partner(s).
● Partners can bring different skills and perspectives to the business.
Disadvantages:
● Each partner is personally liable for the debts and obligations of the business.
● Disagreements among partners can complicate business operations.

Limited Liability Company (LLC)
Advantages:
● Owners (members) are not personally liable for the debts and obligations of the corporation.
● An LLC can choose to be taxed as a sole proprietorship, partnership, or corporation, providing flexibility in tax planning.
Disadvantages:
● Forming an LLC can be more complex and costly than forming a sole proprietorship or partnership.
● LLCs are subject to different state laws and fees.

Corporation
Advantages:
● Shareholders are not personally liable for the debts and obligations of the
corporation.
● Corporations can issue stock to raise capital.
Disadvantages:
● Corporations are taxed on their profits, and shareholders are also taxed on dividends received.
● Corporations must comply with more stringent regulatory and reporting requirements.

Register for an Employer Identification Number
An EIN is a unique identifier assigned to businesses by the IRS for tax purposes. Even if you have no employees, obtaining an EIN is important for several reasons:
● Many banks require an EIN to open a business bank account.
● An EIN is required for filing various business tax returns.
● If you plan to hire employees, you will need an EIN to report employment taxes.

How to apply for an EIN:
● Online. The IRS website offers an easy and quick online application process for obtaining an EIN.
● By mail or fax. You can complete Form SS-4 and mail or fax it to the IRS.
● By phone. International filers can apply for an EIN by calling the IRS.
By choosing the right business structure and obtaining an EIN, you lay the groundwork for effective tax management and set your startup on the path to success.

Manage business finances
Effective financial management is critical to the success of any startup. It not only helps maintain the financial health of your business, but also ensures compliance with tax regulations.

Understanding business expenses
Understanding what qualifies as a business expense and how to properly document it is critical to maximizing tax deductions and minimizing taxable income.
What Qualifies as a Business Expense:
● Expenses must be ordinary (common in your industry) and necessary (helpful and reasonable for your business).
● Expenses must be directly related to the operation of your business.

Common deductible expenses for startups:
● Office supplies. Pens, paper, and other supplies.
● Utilities. Expenses for electricity, water, and Internet services used for business purposes.
● Travel. Business travel expenses, including transportation, lodging and meals.
● Marketing and advertising. Expenses for promoting your business, such as website development, online advertising, and printed materials.
● Professional services. Fees for legal, accounting, and consulting services.

How to document and report expenses:
● Keep receipts and invoices for all business expenses.
● Maintain logs for business travel using personal vehicles.
● Complete expense reports on a regular basis, detailing the purpose and amount of each expense.

Set up a business bank account
Separating your personal and business finances is essential to maintaining financial clarity and protecting your personal assets.

Benefits of separating personal and business finances include
● Having a separate business account makes it easier to track income and expenses.
● Using a business account adds credibility with customers and vendors.
● Separating finances can protect personal assets in the event of a legal dispute.

Steps to open a business bank account:
1. Choose a bank. Choose a bank that offers appropriate business accounts with low fees and good customer service.
2. Gather necessary documents. Typically, you’ll need your EIN, business formation documents, ownership agreements, and personal identification.
3. Open the account. Visit the bank in person or online to open the account and provide the necessary documentation.
4. Deposit funds. Make an initial deposit to activate the account.

Filing taxes for your startup

Deadlines and requirements
Most businesses must file an annual tax return. The exact deadline depends on your business structure:
● Sole proprietorships and single-member LLCs: Generally file Form 1040 with Schedule C by April 15.
● Partnerships: File Form 1065 by March 15.
● Corporations: File Form 1120 by April 15 or the 15th day of the fourth month following the end of your fiscal year.
● Quarterly estimated taxes: Payments are due April 15, June 15, September 15, and January 15 of the following year.
● Payroll taxes: If you have employees, you must deposit payroll taxes on a monthly or biweekly basis, depending on the size of your payroll.

Overview of required forms:
● Form 1040 and Schedule C: Used by sole proprietors and single-member LLCs to report business income and expenses.
● Form 1065: Used by partnerships to report income, deductions, and credits. Each partner receives a Schedule K-1 detailing his or her share of the income.
● Form 1120: Used by corporations to report income, gains, losses, deductions, and credits.
● Form 941: Used by employers to report quarterly payroll taxes.
● Form 1099-NEC: Used to report payments to independent contractors.

Self-employment taxes
If you are self-employed, you must pay self-employment tax in addition to income tax. This tax covers Social Security and Medicare contributions that would normally be withheld by an employer.

Explanation of self-employment tax:
The self-employment tax rate is 15.3%, consisting of 12.4% for Social Security and 2.9% for Medicare.
Only the first $142,800 of your net income is subject to the Social Security portion of the tax
(beginning in 2021; this threshold may change annually).

How to calculate and pay self-employment tax:
1. Determine your net earnings from self-employment by subtracting business expenses from gross income.
2. Calculate your self-employment tax using Schedule SE, which is filed with your annual tax return.
3. Pay your self-employment tax quarterly using Form 1040-ES to avoid penalties for underpayment.

Quarterly estimated taxes
Many small business owners must pay estimated taxes throughout the year, especially if they expect to owe $1,000 or more in taxes when they file their annual return.
What are quarterly estimated taxes?
Estimated taxes help spread the tax burden throughout the year and avoid penalties for underpayment.
If you earn income that isn’t subject to withholding, such as self-employment income, interest, dividends, or rental income, you may be required to pay estimated taxes.

How to calculate and pay estimated taxes:
1. Use your previous year’s tax return as a guide to estimate your income, deductions, and credits for the current year.
2. Use Form 1040-ES to calculate your estimated tax liability. The form includes worksheets to help you determine the amount you owe.
3. Payments are due quarterly on April 15, June 15, September 15, and January 15 of the following year. You can pay online using the IRS’s Electronic Federal Tax
Payment System (EFTPS), by mail, or through other electronic payment options.

By understanding and complying with tax filing deadlines and requirements, accurately calculating self-employment taxes, and making timely quarterly estimated tax payments, you can avoid penalties and ensure that your startup remains in compliance.

Maximize tax benefits

Startup tax deductions
Tax deductions allow you to subtract certain expenses from your taxable income, reducing your overall tax bill. For startups, many everyday business expenses may be deductible.

Common deductions for new businesses:
1. Expenses incurred before your business officially begins operations can be deducted up to $5,000 in the first year, with the remainder depreciated over 15 years. This includes market research, advertising and legal fees.
2. If you use part of your home exclusively for your business, you can deduct a portion of your home expenses, such as mortgage interest, rent, utilities and insurance.
3. The cost of purchasing office equipment, tools and supplies necessary to run your business.
4. Business-related travel expenses and 50% of meal expenses while traveling for business.
5. Expenses related to promoting your business, such as website development, online advertising, and promotional materials.
6. Expenses for legal, accounting, and other professional services directly related to your business.

How to claim deductions:
● Keep detailed records and receipts for all business expenses.
● Categorize expenses appropriately and consistently.
● Use the appropriate IRS forms (such as Schedule C for sole proprietors) to report your deductions.

Tax credits and incentives
Tax credits directly reduce the amount of tax you owe and can be more valuable than deductions. There are several credits and incentives designed to help small businesses and startups.

Overview of available tax credits:
● Research and Development (R&D) Tax Credit. Encourages businesses to invest in research and innovation by providing a credit for qualified research expenses.
● Work Opportunity Tax Credit (WOTC). Provides a credit for hiring individuals from targeted groups that face significant barriers to employment.
● Energy efficient commercial buildings deduction. Provides a deduction for
businesses that install energy-efficient systems and structures.
● Employee retention credit. Available to businesses that retain employees during times of economic hardship.

Hiring and payroll taxes
Hiring employees brings new tax obligations, including payroll taxes. Understanding these requirements will help ensure compliance and avoid costly penalties.

Tax implications of hiring employees:
● Federal payroll taxes. Includes Social Security, Medicare, and federal
unemployment taxes. Employers are responsible for withholding these taxes from employees’ wages and paying them to the IRS on a regular basis.
● State payroll taxes. Varies by state and may include state income tax withholding, state unemployment tax, and other employment-related taxes.
● Employee benefits. Contributions to employee benefits such as health insurance and retirement plans may be deductible.

Seek professional help
Benefits of hiring a tax professional:
● Professional tax accountants have extensive knowledge of tax laws and can provide guidance tailored to your business.
● Professionals ensure that your tax returns are accurate and complete, reducing the risk of errors and audits.
● Outsourcing tax preparation allows you to focus on running your business.

How to choose the right tax professional:
● Look for certified public accountants (CPAs), enrolled agents (EAs), or tax attorneys with experience in small business taxation.
● Ask for recommendations from other business owners and check online reviews.
● Choose a professional who understands your industry and is responsive to your needs.

Bottom line
Effective tax management is a critical aspect of running a successful startup. By understanding basic tax concepts, setting up your business correctly, keeping accurate records, and taking advantage of deductions, credits, and incentives, you can minimize your tax burden and focus on growing your business.
Don’t hesitate to seek professional help when you need it, and take advantage of the free resources available to you. Proper tax management not only ensures compliance, but also provides the financial stability and peace of mind necessary for your entrepreneurial journey.