Small Business Tax Deductions & Credits
If you are looking for a way to help minimize the costs of running a business and get a little money back at tax time there are very good chances with small business tax credits.
Small businesses are entitled to claim tax credits that reduce the amount of tax you pay to the government. Businesses of all sizes usually file for tax credits and tax deductions as part of their annual tax filing process.
As tax and accounting advisors, we’re breaking down everything you need to know about small business tax credits, including:
• What are tax credits and why do they exist?
• What’s the difference between tax credits and tax deductions?
• A comprehensive list of small business tax credits you need to know about
This article will help small business owners understand tax credits and discover which ones are relevant for your business.
What Are Small Business Tax Credits and Why Do They Exist?
The U.S. government rewards individuals and businesses with tax credits for small and large acts that contribute to strengthening the economy, fighting climate change and employing and improving people’s lives.
Tax credits are offered to businesses as incentives for activities that benefit employees, specific industries and society. Some businesses like pharmacies and pharmaceuticals companies can claim tax credits for doing research and development, providing benefits for their employees and buying electric vehicles.
It’s important to be aware of tax credits for which your small business may be eligible because they can make a dramatic difference to your bottom line. That’s because tax credits cut the actual tax you pay as a small business owner.
In fact, small business tax credits are dollar for dollar which means every dollar of credit cuts your tax by a full dollar. This is huge for small businesses because it allows you to recover some of the costs of running a business and keep much-needed capital that will allow you to grow and prosper.
For example, if you owe $30,000 in small business taxes, but you claim a $10,000 tax credit, you can subtract that full amount from your tax bill. Your new tax bill would be $20,000. Small business tax credits add up quickly!
It literally pays to pay attention to the way small business tax credits—and your very own business change. This is an activity you and your tax professional will want to schedule in every year at tax time.
What’s the Difference between a Tax Deduction and a Tax Credit?
You’ve probably heard about tax deductions. As a small business owner, you receive a tax deduction for every business-related expense you claim on your taxes, including rent, supplies, travel and business-related subscriptions.
Deductions cut your taxable income, so every dollar of deductions will cut your total tax by a percentage of that deduction depending on your tax bracket. Tax deductions become more valuable as your taxable income rises. For example, if you’re in the 15% bracket, every dollar you deduct cuts your tax by 15 cents. If you’re in the 35% bracket, that same dollar deduction cuts your tax by 35 cents.
In contrast, tax credits are like turbocharged tax deductions because every dollar of credit cuts your tax by a full dollar. Plus, tax credits are more valuable for taxpayers in lower brackets. If you’re in the 35% bracket, you need $2,857 in deductions to equal a $1,000 credit. In the 15% bracket, you’d need a whopping $6,667 in deductions to equal that $1,000 credit.
14 Tax Credits You Should Know About
Here is a list of tax credits your business may be eligible for. This comprehensive compilation does not include all small business tax credit available, but these are the ones that many small companies should be aware of and potentially pursue.
Remember, small business tax credits have limits and qualifications that your business must meet to receive the credit. Indicate the ones that seem like a good fit and make a note to discuss with a trusted tax professional.
1. GENERAL BUSINESS TAX CREDIT
This catch-all tax credit is comprised of a number of individual tax credits designed to motivate business owners to undertake specific activities, such as purchase qualified electric vehicles, get into new markets and retain employees. Some of these tax credits are covered below.
You’ll need to fill out a separate form for each of these credits and then you can add them all up on the General Business Tax Credit—Form 3800.
2. CREDIT FOR SMALL EMPLOYER HEALTH INSURANCE PREMIUMS
If you want to provide health insurance coverage to your employees—and get a tax credit in the process—this one is for you. According to the IRS, the credit can be up to 50% of the premiums you paid for health insurance coverage under a qualifying arrangement, or, if you’re an eligible tax-exempt employer, up to 35% of the premiums you paid. Either way, it’s a significant tax credit.
You’re eligible if:
• Paid premiums for employee health insurance coverage that you purchased through the SHOP Marketplace (for employers with fewer than 50 full-time employees) under a qualifying arrangement.
• You had fewer than 25 full-time employees for the tax year
• You paid average annual wages for the tax year of less than $54,000. (This is the 2018 number; it’s subject to change every year.)
For more information about the Small Business Health Care Credit, visit the Taxpayer Advocate Service. And you can fill out a claim on Form 8941.
3. CREDIT FOR PAID FAMILY AND MEDICAL LEAVE
This tax credit was authorized by congress in 2017 to motivate small business owners to provide paid leave to their employees covered by the Family and Medical Leave Act. It provides certain employees up to 12 weeks of unpaid, job-protected leave, plus access to group health benefits, every year.
Reasons for a leave include the birth of a child or a health emergency in the family. The IRS says that eligible employers may claim the credit, which is equal to a percentage of wages they pay to qualifying employees while they’re on family and medical leave.
Small business owners are eligible for this tax credit if they have a written policy that meets the requirements, including providing at least two weeks of paid family and medical leave every year to all qualifying employees who work full time. (This is prorated for part-time employees.) The paid leave should also not be less than 50% of the wages normally paid to the employee.
Qualifying employees must have worked at least a year for the employer and earned less than $72,000 in the previous year. The tax credit ranges from 12.5% to 25% of the wages paid to qualifying employees on family or medical leave for up to 12 weeks, depending on the amount of the employee’s normal wages.
The credit is effective for wages paid in taxable years of the employer beginning after December 31, 2017, and it is not available for wages paid in taxable years beginning after December 31, 2019.
For more information about this tax credit, see the IRS Employer Credit for Paid Family and Medical Leave FAQs. You can enter a claim on Form 8994.
4. ALTERNATIVE FUEL CREDITS
These niche tax credits are calculated from the costs associated with the production of alcohol-based fuels such as methanol and ethanol and other alternative fuels including biodiesel or renewable diesel. The idea behind it is to encourage business owners to invest in other fuels to reduce the U.S. dependence on imported oil.
Please note that they will only apply if you happen to be involved in the production of fuels, not the consumption of them.
You can use Forms 8849, 4136, 6478 or 8864 to make a claim or a refund for alcohol, biodiesel or renewable diesel or alternative fuel used to produce a mixture.
5. ALTERNATIVE MOTOR VEHICLE CREDIT
Take advantage of a tax credit of up to $8,000 that encourages the purchase of an alternative fuel source vehicle. This does not apply to hybrids or electric vehicles since they use conventional fuel sources.
Currently the IRS only recognizes a few vehicles, including the Mercedes-Benz 2012 F-Cell and cars from the Honda FCX Clarity series, all of which use hydrogen fuel-cell technology. You can claim this tax credit on Form 8910.
Related tax credits include:
• Alternative Fuel Vehicle Refueling Property Credit (Form 8911)
• Qualified Electric Vehicle Credit (Form 8834)
6. DISABLED ACCESS CREDIT
This tax credit encourages businesses to make their offices and other facilities fully accessible to people with disabilities. Some of the upgrades include installing ramps, improving storage and display units, upgrading restrooms and providing text in braille.
Your small business is eligible for this credit if you have a total revenue of $1 million or less or have 30 or fewer full-time employees. You can cover up to 50% of disabled access expenditures, ranging from $250 to $10,000. The maximum credit available is $5,000 on $10,000 of expenditures.
Claim this credit on Form 8826.
7. CREDIT FOR EMPLOYER-PROVIDED CHILD CARE FACILITIES AND SERVICES
Here’s a tax credit for businesses that directly pay the child care expenses for its employees or help their employees secure child care. The credit is for 25% of expenses, plus 10% of child care resource and referral expenditures, up to $150,000 a year.
Fun fact: Employees can actually realize a greater benefit from the Employer-provided Child Care Tax Credit than they would from the Child and Dependent Care Tax Credit they could claim on their own personal tax return. Let’s say an employee pays $3,000 for childcare, the maximum credit they can take on their return is $1,050 ($3,000 x 35%). The employee effectively paid $1,950 for child-care services ($3,000 – $1,050 = $1,950).
If the employer pays $3,000 to a child-care facility for an employee’s child, the employee saves the $1,950. It’s important to note that the employer is not subject to the $3,000 limitation per child when calculating the credit. On average the full-time care for a child is $5,973. Thus, savings for most employees would be substantial, although child care payments made in excess of $5,000 are added to the employee’s gross wages.
Keep in mind if you are incorporated and an employee of the corporation you could also be eligible for the same benefits that you offer to the rest of your employees.
Claim this tax credit on Form 8882.
8. REHABILITATION, ENERGY AND REFORESTATION INVESTMENTS CREDIT
This tax credit is for investments in reforestation, building rehabilitation and alternative energy property used in business. The credit is generally 10% of expenditures and is limited to $10,000 per year.
Claim this tax credit on Form 3468.
9. QUALIFIED RESEARCH EXPENSES CREDIT / INCREASING RESEARCH ACTIVITIES CREDIT
These small business tax credits are designed to encourage domestic research and development. The calculation of the credit can be very complex, but it can also provide substantial tax savings.
This definition is relatively broad but encompasses activities such as: