If you’re working as an employee in the US, filing your annual tax return is usually a simple process of reviewing the tax tables for the year and calculating your income tax on Form 1040. However, tax filing is a little more complicated for those who are self-employed or run a corporation. In this article, we’ll help you determine your corporate income tax liability based on your business entity type. Let’s dive in!
What is tax liability?
Tax liability is the amount of money you owe to the US government based on the current income of your business. Only C corporations are subject to paying corporate income taxes.
On the other hand, if your business structure is a sole proprietorship, partnership, S corporation, or LLC, you’ll be subject to pass-through taxation, which means that any profits earned will be taxed on your personal tax return.
How to determine your corporate income tax liability
If your business is a C-corp, you’ll need to pay your taxes at a federal corporate tax rate, which is a flat 21%, plus your state tax rate, which varies by state.
According to the US tax system, C corporations pay their taxes twice: at the corporate level and then again at the shareholders level when they receive the profits as dividends. For example, if a C corporation distributed all or part of its $1 million in profit to shareholders, they will be taxed on it again when they file their individual tax returns.
One way for C-corps to avoid this double taxation is to incorporate as an S-corp instead of a C-corp. S corporations are flow-through entities, meaning profits and losses flow through the business to owners and shareholders. By that, S corporations don’t have to pay the corporate income tax liability. However, there are certain drawbacks in the S corporation status that may exceed the tax savings. You can discuss choosing your business type with a tax professional or a certified public accountant.
If your business is not a C-corp, you should calculate and keep track of your business tax liability quarterly based on your annual taxable income. Estimating your business tax liability on a regular basis enables you to make quarterly payments to the IRS, avoiding facing a big tax bill at the end of the fiscal year. If you’re not sure how to calculate your corporate tax, check our guides on filing taxes as a corporation and an independent contractor:
- How to File Taxes as an Independent Contractor: A Step-by-Step Guide
- Qualified Business Income Deduction And Who Is Eligible?
Bonus: Other types of tax liabilities
Corporate income tax liability is just one of several tax liabilities your business may have. There are a couple of other tax liabilities to consider, such as the following.
If you work as a sole proprietor, you must file Schedule C for your business. This means you’ll need to pay self-employment tax. In most cases, the self-employment tax liability is calculated at the same time as your tax return. Self-employment tax liability is included in your tax bill by multiplying your estimated taxable income by 15.3 %.
Don’t forget that half of your self-employment tax is deductible! For example, if you have $50,000 in taxable income per year, your self-employment tax is $7,650. However, half of that, or $3,825, would be fully deductible.
If you sell products in your business’s jurisdiction, you’re responsible for paying sales tax. Similar to employee income tax withholding, sales tax should be collected from customers at the time of purchase. It’s recorded as a liability at the same time, and the amount is offset by the sales tax you charge and collect from your customers.
Payroll tax includes the income tax you withhold from staff paychecks, along with the employer portion of Federal Insurance Contributions (FICA) and any state and federal unemployment taxes.
The bottom line
Understanding your corporate income tax liability helps you control your financial situation, manage your budget properly, stay on top of your business expenses and deductions, and make more accurate decisions. If you’d like to explore more helpful accounting knowledge, tax preparation tips, and engaging success stories, we encourage you to subscribe to the Shoeboxed blog.
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