The tale of two business myths

I recently saw a post in a Facebook group I’m in about starting a business and the author said, “We’re not yet generating enough revenue to form an LLC.” 

Last year, while speaking with someone who had just started their business, they told me they “didn’t make enough to report it on my taxes.” Aye yi yi!

So, this month, let’s discuss how to know if you have a business, when to report it on your taxes, and why this can be a tricky subject. 

How do I know I have started a business?

Let’s start with the basics. When you provide a product or service to someone, and they pay you for it, that’s a business. The income you earn from that business is taxable. There’s a lot more to it than that, but that is the foundation of business. 

Now, let’s talk about each myth in turn. 

“We’re not yet generating enough revenue to form an LLC.”

An LLC is a Limited Liability Company. It is a business structure that has nothing to do with how much revenue a business activity has generated. You can form an LLC before making even one penny from your business. 

Many states have taxes on businesses called “franchise taxes.” If you form a business in one of these states, you’ll owe those taxes whether your business makes money or not. Many legal and tax reasons go into the decision to form your business as an LLC. I think these reasons are where that particular sentiment comes from. A CPA or a lawyer probably told the original poster that it would not be in their best interest to form an LLC yet. 

“I didn’t make enough to report it on my taxes.”

Any income you earn from selling products or services is taxable and should be reported on your income tax return. 

Ah, now the tricky part. Before we get into this, you need to know that the self-employment tax is the Medicare and Social Security tax that self-employed people pay. It’s the same percentage that people with W-2 jobs pay, but the self-employed person pays the employee AND the employer portion of it. Its tax rate is 15.3%.

Here is a situation where it can seem like you “don’t make enough to report it.”

You don’t owe self-employment tax until you’ve made a profit of $400 or more. 

Let’s say your only business income this year is from a blanket you crocheted and sold for $100. Making the blanket costs $75 in materials. Your profit is $25. That $25 SHOULD be reported on your income tax return, but it is NOT subject to the 15.3% self-employment tax. Many people mistakenly think you can exclude income under $400 from INCOME taxes, but that is false. Income taxes are owed on all of your income. Self-employment taxes are only owed on business income of $400 or more. 

Whether you are trying to decide if you should form an LLC or decide what amounts to report on your taxes, you should consult a tax or legal professional to ensure you are making the right decision. 

When you start your business, regardless of your filing status or how much money you made, you'll need to record those first few transactions on the books. If you don't know what those entries are, give me a call. I’d love to help! Book a call through my website, and let’s discuss your needs.