Strategies for Small Businesses and Sole Proprietors to Save Money on Taxes -Part 8 of 10
When it comes to reducing your tax bill, tax credits are the MVP. Unlike deductions that just chip away at your taxable income, tax credits knock dollars right off your tax bill. For small business owners and sole proprietors, knowing which credits are available—and how to use them—can be a game changer for your bottom line. Let’s dig into the key tax credits that can make a real impact and how to make the most of them.
1. What Are Tax Credits, Really?
Tax credits directly reduce what you owe in taxes. If you owe $10,000 and have a $1,000 tax credit, your bill drops to $9,000. Simple, right? Credits are even better than deductions because they cut your tax bill dollar for dollar. And some credits are refundable, which means if your credits exceed what you owe, you could even get money back. Nonrefundable credits, on the other hand, only take your tax bill down to zero, no refunds involved.
There are plenty of tax credits designed specifically for small businesses. They’re meant to encourage hiring, innovation, and investment in certain sectors or technologies. Here’s what you should know about the heavy hitters.
2. The Work Opportunity Tax Credit (WOTC)
If you’re hiring, the Work Opportunity Tax Credit (WOTC) should be on your radar. This federal credit rewards businesses that hire individuals from groups who typically face challenges getting employment, like veterans, people on public assistance, or ex-felons.
Eligibility:
- You qualify if you hire individuals from specific target groups.
- Employees need to work at least 120 hours for you to get the credit.
Credit Details:
- The credit can be up to $9,600 per eligible employee, depending on their group and hours worked.
- Typically, it’s 40% of the first $6,000 of wages if they put in at least 400 hours in their first year.
Example: You hire a qualified veteran who works over 400 hours and earns $10,000. You’re looking at a $2,400 credit (40% of $6,000). Not bad, right?
Pro Tip: Use job placement services that specialize in connecting you with candidates from these target groups. It can streamline hiring and make claiming the credit smoother.
3. Research and Development (R&D) Tax Credit
Got a business focused on innovation? The R&D tax credit is your friend. Whether you’re developing new products, improving processes, or creating software, this credit helps offset the costs of your research efforts.
Eligibility:
- Businesses investing in qualified research activities, like developing new products or tech, qualify.
- Qualifying expenses include wages for employees involved in R&D, supplies, and testing costs.
Credit Details:
- Generally, the credit equals 20% of qualified expenses above a certain base amount. Different calculation methods can affect this, so choose what works best for you.
Example: Say you spend $50,000 on qualified R&D, including employee wages for a new software project. You could qualify for a credit of $10,000 or more, depending on how you calculate your base amount.
Pro Tip: Keep meticulous records of R&D activities and expenses. Payroll records are crucial. A tax pro familiar with R&D credits can help make sure you’re doing it right, as calculations can get complicated.
4. Disabled Access Credit
Want to make your business more accessible and save money while doing it? The Disabled Access Credit helps small businesses offset the costs of making facilities ADA-compliant.
Eligibility:
- Available for small businesses with gross receipts of $1 million or less or fewer than 30 full-time employees.
- Expenses must directly improve accessibility, like installing ramps or modifying restrooms.
Credit Details:
- Covers 50% of expenses over $250, up to $5,000.
Example: You spend $7,000 on a new wheelchair ramp and wider doorways. The first $250 doesn’t count, but 50% of the remaining $6,750 qualifies. That’s a credit of $3,375.
Pro Tip: Plan accessibility upgrades during profitable years when you could use the credit to offset a hefty tax bill. Consult an ADA specialist to ensure your improvements qualify.
5. Employer-Provided Child Care Credit
Looking to boost employee retention and get a nice tax break? The Employer-Provided Child Care Credit is designed to encourage businesses to support their employees’ child care needs.
Eligibility:
- Applies if you provide on-site child care or contract with third-party providers for your employees.
- Also covers costs related to building or expanding child care facilities.
Credit Details:
- You can claim 25% of qualified child care expenses plus 10% of expenses for child care referral services, up to $150,000 annually.
Example: If your business spends $100,000 on child care services, that’s a $25,000 credit. Spend $10,000 on child care referral services? Add another $1,000 to your credit.
Pro Tip: If on-site child care isn’t feasible, partner with local child care providers. It’s a great perk for employees and helps you qualify for the credit.
6. New Markets Tax Credit (NMTC)
The NMTC encourages investments in low-income communities by providing tax credits to businesses and investors.
Eligibility:
- Your business must be in a designated low-income area.
- Investors need to make qualified equity investments in Community Development Entities (CDEs) that fund businesses in these areas.
Credit Details:
- The credit is 39% of the investment, spread out over seven years.
Example: Invest $100,000 in a qualifying business through a CDE, and you’ll get $39,000 in tax credits over seven years.
Pro Tip: If your business operates in a low-income area and needs funding, look into NMTC programs. You could secure financing and benefit from associated tax credits.
7. Energy Efficiency and Renewable Energy Tax Credits
If you’re investing in making your business more energy-efficient, you may qualify for some juicy tax credits.
Investment Tax Credit (ITC):
- This is for renewable energy projects, like installing solar panels or wind turbines.
- The credit can be up to 30% of the cost of the system.
Energy Efficient Building Deduction:
- Make energy improvements to your building (new HVAC, insulation, lighting), and you could qualify for deductions under Section 179D.
Example: Install a $50,000 solar panel system, and you might qualify for a $15,000 credit (30% of the cost).
Pro Tip: Combine energy projects within the same year to maximize your tax benefit. You’ll not only lower your tax bill but also save on energy costs in the long run.
8. Family and Medical Leave Credit
If you offer paid family and medical leave to employees, you could be rewarded with a tax credit.
Eligibility:
- Your policy must offer at least two weeks of paid leave to full-time employees, covering at least 50% of their wages.
- Applies to leave for personal or family medical needs.
Credit Details:
- The credit ranges from 12.5% to 25% of wages paid during leave, depending on the percentage of wages covered.
Example: Provide $10,000 in paid leave at 70% of employees’ wages, and you could qualify for a 19% credit—$1,900 in savings.
Pro Tip: Paid leave isn’t just good for employees; it’s a great recruitment tool. Make sure your policy meets IRS standards, and keep thorough records.
9. COVID-19 Relief: Employer Credit for Paid Sick and Family Leave
This one’s not current, but it’s worth knowing. The Families First Coronavirus Response Act (FFCRA) gave tax credits to businesses that provided paid sick and family leave for COVID-related reasons.
Eligibility:
- Covered wages for illness, quarantine, or caregiving due to COVID-19 between April 1, 2020, and September 30, 2021.
Credit Details:
- Covered 100% of qualified leave wages plus related health plan expenses and Medicare taxes.
Example: Provide $5,000 in sick leave, and you could get a $5,000 credit, effectively covering those costs.
Pro Tip: Keep your eyes open for similar programs in the future. If we’ve learned anything, it’s that relief programs can pop up during tough times.
10. Best Practices for Maximizing Tax Credits
Tax credits can seriously boost your savings, but only if you handle them right. Here’s how to get the most out of them:
A. Keep Flawless Records: Document everything—expenses, certifications, employee records. If you’re claiming credits, the IRS will want proof.
B. Bring in the Pros: A good tax professional can help you navigate the maze of requirements and make sure you’re claiming everything you qualify for.
C. Plan Ahead: Some credits require you to act within a specific tax year. Planning allows you to time your expenses and hiring to get the biggest bang for your buck.
D. Bundle Your Efforts: Look for opportunities to qualify for multiple credits. For example, hiring from a target group might qualify you for WOTC and the Family and Medical Leave Credit if they take eligible leave.
Conclusion
Tax credits are a powerful way to lighten the tax load for small businesses and sole proprietors. From hiring incentives like the WOTC to green energy initiatives, there’s a credit for almost every type of investment. The trick is knowing what’s available and how to qualify. By staying informed, keeping good records, and consulting with a tax pro, you can use tax credits to put money back into your business and strengthen your financial position.
