Every entrepreneur knows they must file taxes when starting a new business. Even if they’re unsure about the details of spreadsheets, expenses, and taxable deductions, most business owners realize that a portion of their hard-earned money must go to the government. It goes with being a business owner.
But what happens if you don’t make any money that first year? In fact, what if you lose money instead? Do you still have to file a tax return?
The short answer is maybe. There are a few rules and restrictions to consider before moving forward, but filing a tax return when your business breaks even or loses money may be to your advantage.
Recognizing a Loss
If your business lost money during the year, you may be able to deduct a portion of the loss on your tax return. Much of how this works depends on your business’s legal setup. Is it a partnership, sole proprietorship, LLC, or full-blown corporation? The IRS has rules in place for each of these structures. The formula also depends on any other income you have. Perhaps you’re still working part-time while you get your new business up and running. In that case, your part-time earnings will figure into the picture.
Everything Has a Limit
When it comes to the IRS, everything good seems to have a limit. That’s true for deducting business losses, too. When your business operates in the red, you can’t just deduct the total loss amount on your tax return. It’s not that simple. The IRS limits the amount you can write off in a year based on several factors and has put guidelines in place to help business owners calculate how much of the loss they can deduct.
Here are a few rules and restrictions you should be aware of:
- Excess Loss Limits: The Tax Cuts and Jobs Act of 2017 limits the deductions you can make on your tax return. You can write off up to $250,000 in business losses on your individual return (or $500,000 if you file jointly). If your losses exceed those limits, you’re out of luck, at least for the current tax year.
- At-Risk Rules: For some business types, like S corporations and partnerships, the deduction depends on how much you’ve got “at risk” in the business. Some partners might carry more risk than others, which could mean a bigger deduction for them if sales take a nosedive. This rule doesn’t apply to sole proprietorships or single-member LLCs because, in those cases, you’re the only owner involved. Therefore, you assume all the risk.
- Passive Activity Restrictions: Your ability to write off a business loss may also be affected by how much you’re involved in running the business. If you only pop into the office once a week to check on things, you won’t be able to use those losses to reduce your personal tax bill. Instead, you can only use them to offset any income you’re making from the business.
Carrying Losses Forward
There’s another way to benefit from business losses, and that’s to carry them into the next tax year. You’re essentially deferring some of the deduction and claiming it in future years, thereby spreading out the impact of the loss. But there’s a catch: You can typically only use up to 80% of your taxable income to offset these losses. The good news is, there’s no limit on how many years you can do this.
What If You Break Even?
You may think that if your company breaks even, you don’t need to file a tax return. After all, you didn’t make any money, right?
That’s not necessarily the case. Even when your company breaks even, you may be required to file a tax return with zero revenue. Much of the decision depends on your business structure. For instance, if you’re a sole proprietor, you may have incurred business expenses during the year that are deductible. In that case, you’d want to file a Schedule C, even if you have no revenue to declare for the same time period.
Your accountant can help you sort through the options if you have no revenue in a tax year.
Adams Accounting Solutions Specializes in New Business Tax Preparation and Consulting
Still wondering whether you should file a tax return or not? Call Adams Accounting Solutions for a consultation. We’ll discuss your situation and help you determine the right course of action for your business needs. The sooner you know your options, the sooner you can let go of the worry and focus on running your new business. Call today!
