8 Common Tax Mistakes That Startups Make (And How to Avoid Them)

By Katherine Pendrill

When you’re a teeny, tiny startup, you’re more concerned with things like finding the right investors, than you are with preparing for tax season. The problem is, if you wait until the last minute, you’ll probably end up making some common tax mistakes. At best, these mistakes are a missed opportunity to lower your tax bill. At worse, these mistakes could saddle you with some expletive-inducing fines or even legal penalties.

Luckily, it doesn’t take an expert to avoid some of the most common tax mistakes. With a little bit of extra planning and the advice of a few trusted professionals, you can make sure you don’t repeat the kind of mistakes that landed your fellow entrepreneurs in hot water with the IRS.

1. Filing as the Wrong Legal Entity

When you first started your company, you probably didn’t give much thought to what type of business entity it would be. However, deciding on your business’ legal structure is one of the most important decisions you’ll make because it not only affects how you file your taxes, but also how much you pay.

In the US, businesses fall into one of five categories: limited liability companies (LLCs), partnerships, S corporations, C corporations, and sole proprietorships. Prior to 2017, filing as an LLC was often (though not always) seen as the best option for entrepreneurs because it held significant tax advantages. However, the Tax Cuts and Jobs Act (TCJA) has lessened the advantages of filling as an LLC. Moreover, the tax advantages of filing as an LLC come at the cost of additional tax reporting complexity.

To avoid filing as the wrong entity and creating more problems for yourself down the line, it’s important to carefully research the advantages and disadvantages of each legal structure. If you’re not very tax-savvy, it’s an even better idea to ask your accountant for their take.

2. Not Registering In Every State You Do Business In

The virtual nature of startups means these companies often have employees and customers across the country. But what many startups fail to realize is that having business in multiple states means they may need to file a return for each of those states.

On the one hand, the Supreme Court recently clarified that a company is legally obligated to pay taxes in every state in which it does business, even if the company has no actual property or employees located within the state. So if your startup shipped products or carried out services in multiple states, you may owe sales tax in each of those states.

Startups must also file returns for states in which their employees (full-time, not contractors) are located. So if your company has a couple of developers working in another state, you’ll need separate state forms. While the rules vary from state to state, the general rule is that if you have property, payroll, and sales in a given state, you probably need to file a return for that state.

3. Combining Business and Personal Finances

While the concept of …read more

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