Tax Guide for Small Business

The purpose of this publication is to provide general information about the federal tax laws that apply to small business owners who are sole proprietors and to statutory employees. This publication has information on business income, expenses, and tax credits that may help you file your income tax return.

You are self-employed if you carry on a trade or business as a sole proprietor or an independent contractor.

A sole proprietor is someone who owns an unincorporated business by himself or herself. However, if you are the sole member of a domestic limited liability company (LLC), you are not a sole proprietor if you elect to treat the LLC as a corporation.

A trade or business is generally an activity carried on to make a profit. The facts and circumstances of each case determine whether or not an activity is a trade or business. You do not need to actually make a profit to be in a trade or business as long as you have a profit motive. You do need to make ongoing efforts to further the interests of your business.

You do not have to carry on regular full-time business activities to be self-employed. Having a part-time business in addition to your regular job or business may be self-employment.

People such as doctors, dentists, veterinarians, lawyers, accountants, contractors, subcontractors, public stenographers, or auctioneers who are in an independent trade, business, or profession in which they offer their services to the general public are generally independent contractors. However, whether they are independent contractors or employees depends on the facts in each case. The general rule is that an individual is an independent contractor if the payer has the right to control or to direct only the result of the work and not how it will be done. The earnings of a person who is working as an independent contractor are subject to self-employment tax. For more information on determining whether you are an employee or independent contractor, see Publication 15-A, Employer's Supplemental Tax Guide.

A statutory employee has a checkmark in box 13 of his or her Form W-2, Wage and Tax Statement. Statutory employees use Schedule C or C-EZ to report their wages and expenses.

A limited liability company (LLC) is an entity formed under state law by filing articles of organization. Generally, a single-member LLC is disregarded as an entity separate from its owner and reports its income and deductions on its owner's federal income tax return. An owner who is an individual may use Schedule C or C-EZ.

If you and your spouse jointly own and operate an unincorporated business and share in the profits and losses, you are partners in a partnership, whether or not you have a formal partnership agreement. Do not use Schedule C or C-EZ. Instead, file Form 1065, U.S. Return of Partnership Income. For more information, see Publication 541, Partnerships.

Exception—Community income. If you and your spouse wholly own an unincorporated business as community property under the community property laws of a state, foreign country, or U.S. possession, you can treat the business either as a sole proprietorship or a partnership. The only states with community property laws are Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin. A change in your reporting position will be treated as a conversion of the entity.

Exception—Qualified joint venture. If you and your spouse each materially participate as the only members of a jointly owned and operated business, and you file a joint return for the tax year, you can make a joint election to be treated as a qualified joint venture instead of a partnership for the tax year. Making this election will allow you to avoid the complexity of Form 1065 but still give each spouse credit for social security earnings on which retirement benefits are based. For an explanation of "material participation," see the Instructions for Schedule C, line G.

To make this election, you must divide all items of income, gain, loss, deduction, and credit attributable to the business between you and your spouse in accordance with your respective interests in the venture. Each of you must file a separate Schedule C or C-EZ and a separate Schedule SE. For more information, see Qualified Joint Venture in the Instructions for Schedule SE.

IF you need information about:	THEN you should see:
Corporations	Publication 542
Farming	Publication 225
Fishermen (Capital Construction Fund)	Publication 595
Partnerships	Publication 541
Passive activities	Publication 925
Recordkeeping	Publication 583
Rental	Publication 527
S corporations	Instructions for Form 1120S

Table A (shown later) provides a list of questions you need to answer to help you meet your federal tax obligations. After each question is the location in this publication where you will find the related discussion.

Provide America's taxpayers top quality service by helping them understand and meet their tax responsibilities and by applying the tax law with integrity and fairness to all.

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Internal Revenue Service 
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If you have a tax question, check the information available on IRS.gov or call 1-800-829-1040. We cannot answer tax questions sent to either of the above addresses.

The following are some of the tax changes for 2010. For information on other changes, go to  
www.irs.gov/formspubs , and click on Highlights of Recent Tax Changes.

The maximum net self-employment earnings subject to the social security part of the self-employment tax remains $106,800 for 2010.

For tax years beginning in 2010, you can deduct any self-employed health insurance deduction you report on Form 1040, line 29, from self-employment earnings. See the Instructions for Schedule SE (Form 1040).

For tax years beginning in 2010, the maximum section 179 expense deduction is $500,000 (higher limits apply to certain property). For more information, see Depreciation in chapter 8.

For 2010, the standard mileage rate for the cost of operating your car, van, pickup, or panel truck for business miles is 50 cents per mile. For more information, see Car and Truck Expenses in chapter 8.

The following credits are new for 2010.

• Credit for small employer health insurance premiums (Form 8941).
• New hire retention credit (Form 5884-B).

For more information, see chapter 4.

The following are some of the tax changes for 2011. For information on other changes, go to  
www.irs.gov/formspubs, and click on Highlights of Recent Tax Changes.

The maximum net self-employment earnings subject to the social security part of the self-employment tax remains at $106,800 for 2011.

For 2011, the standard mileage rate for the cost of operating your car, van, pickup, or panel truck for business miles is 51 cents per mile. For more information, see Car and Truck Expenses in chapter 8.

Certain small business taxpayers may be eligible to adopt or change to the cash method of accounting and may not be required to account for inventories. For more information, see Inventories in chapter 2.

You must file Form 8886, Reportable Transaction Disclosure Statement, to report certain transactions. You may have to pay a penalty if you are required to file Form 8886 but do not do so. You may also have to pay interest and penalties on any reportable transaction understatements. Reportable transactions include:

1. Transactions the same as or substantially similar to tax avoidance transactions identified by the IRS,
2. Transactions offered to you under conditions of confidentiality for which you paid an advisor a minimum fee,
3. Transactions for which you have, or a related party has, contractual protection against disallowance of the tax benefits,
4. Transactions that result in losses of at least $2 million in any single tax year ($50,000 if from certain foreign currency transactions) or $4 million in any combination of tax years, and
5. Transactions the same or substantially similar to one of the types of transactions the IRS has identified as a transaction of interest.

For more information, see the Instructions for Form 8886.

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