Startup Taxes: Complete Guide for 2024

Starting a new business is a thrilling journey filled with both opportunities and challenges. Amidst the excitement, one hurdle is maintaining financial health–all while staying tax-compliant. Taxation is notoriously complex, especially in the United States, and new regulations can further complicate matters for startups.

Fortunately, with the right information, startups can maintain financial health and maximize their resources. Whether through exploring non-equity financing or developing a thorough understanding of tax obligations and leveraging deductions, this guide will explain the essential steps required to file your startup taxes and maintain the capital needed to grow and scale.

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How much startup taxes will I owe?

The amount of startup taxes you’ll owe depends on various factors, including your business structure, location, and income level. In the United States, startups must navigate federal, state, and sometimes local tax obligations. For startups operating outside the United States, owning a foreign branch may still result in paying taxes in the United States at individual tax rates.

Startups with an international presence may also face more complex tax obligations in multiple jurisdictions. These startups need to comply with local tax laws, including income taxes, sales taxes, and employment taxes in each country where they operate. These businesses must also navigate transfer pricing regulations and international financial reporting standards to ensure transparency and prevent double taxation.

The type of taxes you need to pay can vary significantly based on whether you operate as a sole proprietorship, partnership, corporation, or another business entity.

For example, a startup based in India with operations in the US must pay federal and state income taxes on US earnings and manage US employment taxes. Additionally, Indian tax laws require reporting global income, but offer foreign tax credits to avoid double taxation. The US-India tax treaty provides further guidance, ensuring fair taxation and compliance with both countries’ regulations.

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Startup Taxes You Need to Pay

This next section will break down the major tax categories you’ll need to pay as a startup operating in the United States. For startups that operate internationally, there may be additional tax categories to consider based on your country of operation.

However, while certain tax treaties provide opportunities to avoid double taxation, businesses with an operational structure in the United States will need to pay the following taxes.

Federal income tax

Source

Starting a business requires understanding federal income tax regulations, as all businesses must pay federal income tax. The rate you pay depends on your business structure.

• Sole Proprietorship: This business income is reported on the owner’s personal tax return (Form 1040) using Schedule C.
• Partnership: Partnerships file an annual information return (Form 1065) but do not pay income tax. Instead, income is passed through to the partners, who report it on their personal tax returns using Schedule K-1.
• Corporation (C-Corp): Corporations file a corporate tax return (Form 1120) with a flat tax rate on their profits.
• S Corporation (S-Corp): Similar to partnerships, S-Corps file an information return (Form 1120S) and income is passed through to shareholders, who report it on their personal tax returns using Schedule K-1.
• Limited Liability Company (LLC): Pass-through entities like LLCs can be taxed in any number of ways depending on the elections made by their members, but often have their income taxed on the owner’s personal tax return.

State income tax

State income taxes vary widely, and startups must pay careful attention to avoid scrutiny. While some states have no income tax, others may be quite high. The structure of your business will impact how state income taxes are calculated and filed, much like federal income taxes.

The first step for any startup is to register your business with the state’s tax authority, which may involve getting a state tax ID number. In addition to standard state tax rates, there are some additional state taxes:

• Franchise Tax: Some states impose a franchise tax on businesses for the privilege of operating in the state, which might be based on income, assets, or another metric.
• Gross Receipts Tax: A few states levy a gross receipts tax, which is a tax on total gross revenues, regardless of profitability.

Startups who operate across states might be wondering where they have to file. A few state-specific considerations are:

• Nexus: Determine if your business has a nexus in a state, meaning sufficient business presence to be subject to state taxes.
• Apportionment: For businesses operating in multiple states, apportionment rules determine how much of your income is taxable in each state. These rules vary by state and often consider factors like property, payroll, and sales.

Ensure you understand your state’s requirements to avoid unexpected liabilities.

Franchise tax

Many states charge a franchise tax for the privilege of operating within their jurisdiction. This tax is typically calculated based on the company’s net worth or capital held in the state. Franchise taxes typically apply to corporations, LLCs, and partnerships, but the specific requirements vary by state.

For instance, California requires a minimum franchise tax of $800, while Texas calculates the tax based on total revenue. Be sure to check your state’s specific requirements and deadlines to ensure compliance and avoid penalties.

Penalty taxes

Penalties can arise from any number of factors, such as late filings, underpayment of taxes, or failure to comply with regulations.

Here are some of the more common penalty

• Failure to File Penalty: This is imposed when a business does not file taxes by the due date, and is generally calculated at 5% of the unpaid taxes for each month the return is late, up to a maximum of 25%.
• Failure to Pay Penalty: This is imposed if a business does not pay the tax owed by the due date at 0.5% of the unpaid taxes for each month the payment is late, up to a maximum of 25%.
• Underpayment of Estimated Tax Penalty: This is imposed if a business underpays its estimated taxes throughout the year, based on the amount of underpayment and the interest rate set by the IRS.
• Failure to Deposit Employment Taxes: This is imposed for failing to deposit payroll taxes on time, and ranges from 2% to 15% of the unpaid tax, depending on how late the payment is.
• Information Return Penalties: These are imposed for failing to file required informational returns, such as Form 1099s for independent contractors, and penalties vary but can be substantial.
• Accuracy-Related Penalties: These are imposed for understating income, overstating deductions, or negligence, and are typically 20% of the underpayment of tax attributable to the inaccuracy.
• Trust Fund Recovery Penalty: This is imposed when a responsible person willfully fails to collect or pay over withheld income and employment taxes and is equal to the amount of unpaid trust fund taxes.
• Franchise Tax Penalties: These are assessed by states for failing to pay franchise taxes, which are levied for the privilege of doing business in the state, and the amount varies by state.

While penalties can be a challenge, accurate record keeping, professional guidance, and timely payments and filings can protect your business.

Other taxes

Depending on your location and business activities, you might also encounter sales tax, property tax, or employment tax.

Tax liabilities also become more complex when startups sell equity. Equity financing often involves complicated tax considerations, such as the valuation of shares, capital gains tax, and potential double taxation.

To avoid this confusion, startups may look instead to non-dilutive funding options. This type of financing allows startups to maintain ownership while securing capital. This not only simplifies taxes but also allows startup owners to remain in control of their business and its profits.

Revenue-based financing (RBF) is one such flexible funding solution where a business receives capital in exchange for a percentage of its future revenue. In this type of financing, startups incur a fixed fee of, for example, 10% on a principal of $500,000.

Each month, the startup pays back an equal fraction of both. In this example, the total amount owed is $550,000 in equal payments over twelve months.

Efficient Capital Labs (ECL) specializes in providing RBF tailored for B2B SaaS businesses, particularly those earning global revenue. Thanks to ECL’s $100M debt facility with US-based rates and flexible funding, the platform is able to provide extremely competitive offers to customers.

ECL’s unique approach to RBF offers several advantages:

1. Fixed Fee Structure: Unlike RBF models that rely on a pure percentage of revenue, ECL charges a fixed fee on the principal amount. This provides greater predictability and simplifies financial planning. For example, if a startup borrows $500,000 with a fixed fee of 10%, the total repayment would be $550,000, divided into equal monthly payments over a set term, typically 12 months.
2. No Equity Dilution: ECL’s funding model is non-dilutive, meaning startups retain full ownership and control. This is particularly advantageous for businesses looking to scale without giving up equity.
3. Fast and Flexible Access to Capital: ECL offers a streamlined application process, enabling startups to access the funds they need quickly. This flexibility is crucial for startups facing unexpected expenses or opportunities for rapid growth.
4. Support for Global Operations: ECL understands the unique challenges faced by B2B SaaS businesses with international operations. Theri funding solutions are designed to accommodate startups that have a product or operations base in a separate country, providing the financial support needed to navigate cross-border challenges effectively.

By partnering with ECL, startups can secure the funding they need to maintain financial stability, invest in growth, and stay compliant with tax obligations, all while retaining full ownership and control.

Apply now to learn more about ECL and get financing in less than 72 hours.

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What to Know About Startup Taxes

Here are some of the basics to know before filing startup taxes in the United States.

Startup Tax Due Dates

While federal income taxes are generally due on April 15th each year, businesses may have various deadlines, especially for quarterly estimated tax payments. Late filings can result in significant penalties.

Your Corporation Type

Your corporation type (e.g., C-corp, S-corp, etc.) dictates specific tax obligations and benefits. C-corporations pay corporate income tax, while S-corporations pass income directly to shareholders, avoiding double taxation.

Organizing Your Financial Documents

Proper documentation is essential for efficient tax filing. Keep thorough records of the following:

• Assets: Detailed records of what your business owns, including equipment, inventory, and property.
• Liabilities: Documentation of what your business owes, such as loans, accounts payable, and mortgages.
• Income: Records of all revenue generated by your business.
• Expenses: Documentation of all costs incurred by your business, including operational expenses, salaries, and utilities.
• Balance Sheets: A financial statement that summarizes your company’s assets, liabilities, and equity.
• Income Statements: A financial document showing your company’s income and expenses to determine profitability.
• Cash Flow Statements: A summary of your company’s cash inflows and outflows.

Startup Employee Taxes

Employment tax is a critical consideration for startups. It encompasses several components, including Social Security, Medicare, and federal unemployment taxes. It’s important to withhold the correct amounts for employee wages and ensure timely deposits to avoid penalties.

Some B2B SaaS startups hire overseas team members, which introduces additional complexities to employment tax.

• Classification of Workers: Determine whether overseas team members are employees or independent contractors since this will affect tax withholding and reporting, and misclassification can result in significant penalties.
• Tax Treaties: Some countries have tax treaties with the United States that can affect the taxation of foreign employees. In some cases, these treaties may provide relief from double taxation.
• Foreign Employment Taxes: In addition to US taxes, you may also be subject to foreign employment taxes.

Startups with fluctuating revenue often look to alternative revenue streams such as merchant cash advance (MCA) or revenue-based financing (RBF) to provide the necessary funds to cover payroll and other employee-related expenses, ensuring you stay compliant with tax obligations.

How to Record Startup Expenses for Taxes

Properly recording startup expenses helps with accurate tax filings and maximizing potential deductions. Here’s a step-by-step guide:

1. Identify and categorize expenses into startup costs (those incurred before the business begins operations) and organizational costs (expenses related to setting up the business structure).
2. Keep detailed records of all receipts, invoices, and digital records using accounting software or digital tools to keep track of expenses electronically.
3. Separate personal and business expenses by opening separate bank accounts and ensuring each expense is well-documented and clearly related to business activities.
4. Use accounting software for expense tracking and financial reporting.
5. Categorize deductible and non-deductible expenses to calculate your taxable income.
6. Understand IRS guidelines, including important forms and instructions relevant to business expenses, such as Form 4562 for depreciation and amortization.
7. Amortize startup costs by deducting up to $5,000 of startup costs in the first year, if eligible, and amortizing any additional costs.
8. Consult a tax professional such as a CPA or tax advisor to ensure you’re taking advantage of all possible deductions and planning to optimize your financial management and tax savings.

Be sure to regularly review your expenses and financial recordings, and make necessary adjustments based on changes in business operations or tax regulations.

Deductibles vs Non-deductibles

A crucial step in determining your tax liability as a startup is understanding deductible costs, which allows you to reduce your taxable income and retain more capital for growth.

• Deductible costs are expenses that a business can subtract from its total income to reduce the amount of income subject to taxation. Some examples are operational expenses, advertising and marketing, professional services, interest payments, depreciation, employee benefits, travel and meals, and research and development.
• Non-deductible costs are those that a business cannot subtract from its total income for tax purposes, such as personal expenses, capital expenditures, lobbying and political contributions, fines and penalties, entertainment expenses, or federal income taxes and dividends paid.

The startup cost deduction enables new businesses to offset expenses such as market research, legal fees, and advertising in their initial year up to $5,000, with any additional costs amortized over 15 years. This provides significant financial relief during the initial years of your business.

Sometimes, interest payments can be considered deductible business expenses. Consult a tax professional about whether or not interest payments on any loans or financing you’ve received may qualify.

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How to File Your Startup Taxes

Filing taxes for a startup can be daunting, but with careful preparation and attention to detail, you can ensure compliance and maximize your deductions. Here’s a step-by-step guide:

1. Determine your business structure:some text
   1. Sole Proprietorship: Report business income and expenses on Schedule C of your personal tax return (Form 1040).
   2. Partnership: File Form 1065 and issue Schedule K-1 to each partner.
   3. Corporation: File Form 1120 for C corporations or Form 1120S for S corporations
   4. LLC: Depending on how your LLC is taxed, file the corresponding forms.
2. Gather necessary documents: financial statements, receipts and invoices, and tax forms.
3. Calculate gross income using your total revenue from sales and services, with necessary adjustments for returns, allowances, and discounts.
4. Identify and deduct business expenses: Use Form 4562 to claim deductions for depreciation and amortization of business assets.
5. Account for self-employment and payroll taxes:some text
   1. Self Employment Tax: Sole proprietors, partners, and LLC members may need to pay self-employment tax using Schedule SE
   2. Employee Withholding: Ensure all federal and state income taxes, Social Security, and Medicare taxes are withheld and deposited.
   3. Payroll Tax Forms: File Forms 941 (quarterly) and 940 (annual) for payroll taxes.
6. Review tax credits and deductions:some text
   1. Research and Development CrediT: Claim credits for qualifying R%D expenses.
   2. Startup Costs Deduction: Deduct up to $5,000 of startup costs in the first year.
7. File State and Local Taxes, including State Income Tax, Franchise Tax, and Sales Tax.
8. Submit your tax return electronically or via paper filing.

Taxation for startups can be complicated, which is why identifying alternative financing solutions that offer simplified cash flow management is essential. With solutions such as ECL’s revenue-based financing, startups can expect predictable repayments, which helps startups better manage their cash flow and ensures that they have the necessary funds available for tax payments.

Other Documents You Need to File

Aside from your federal and state tax returns, here are some other documents you might need to file in order to ensure full compliance with tax regulations:

1. Payroll Tax Forms: These might include Form 941, Form 940, Form W-2, and Form W3.
2. Sales Tax Returns: Depending on your business’s location and sales activities, you may be required to collect and remit sales tax to tax authorities.
3. Informational Returns for Independent Contractors: If you hire independent contractors and pay them $600 or more in a year, you must issue Form 1099-NEC to report payments, as well as Form 1096.
4. Estimated Tax Payments: Sole proprietors, partners, and S corporation shareholders may need to make estimated quarterly tax payments using Form 1040-ES to cover income tax and self-employment tax.
5. State-Specific Forms: Some states require businesses to file annual or biennial franchise tax reports. State Unemployment Insurance (SUI) forms are also used to report wages and contributions to state unemployment insurance programs.
6. Miscellaneous Filings: For businesses operating out of a home office, Form 8829 calculates the allowable deduction for business use of the home. Form 4562 is used to claim depreciation and amortization on a business property.
7. Informational Filings: If your business has foreign financial accounts with a total value exceeding $10,000 at any time during the year, you must file a Foreign Bank Account Report (FBAR). Additionally, US citizens and residents who are officers, directors, or shareholders in certain foreign corporations must file Form 5471 to report their interest.

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More about Startup Taxes

Let’s explore some frequently asked questions about startup taxes.

Can you deduct start-up costs with no income?

Yes, you can deduct startup costs even if your business hasn’t generated income yet. These deductions can help offset future tax liabilities as your business grows.

What is the best taxation for startups?

The best taxation strategy depends on your business model, income projections, and long-term goals. Consult with a tax professional to help you choose the most advantageous structure.

Do I have to pay taxes if I start a business?

Yes, you must pay taxes once you start a business, even if it has not yet earned income. This includes paying self-employment tax for sole proprietors and estimated taxes for businesses expecting to owe $1,000 or more in taxes.

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Access Non-dilutive Startup Funding

Navigating a startup is complex, but you’re not alone. Efficient Capital Labs offers innovative revenue-based financing solutions tailored to your startup’s needs. Unlike traditional loans, our financing options provide flexibility and are based on your future recurring SaaS revenue. You can access funding in three days, maintain equity, and benefit from financing without the hassle of credit checks, interest rates, or lengthy applications.

With a 75%+ repeat customer rate, you can join over 100 global SaaS founders who found success with ECL, and enter tax season knowing you’re set up for success.

Apply here in under 10 minutes to access capital and get funding in less than 72 hours.