Small business owners face a higher tax burden than employees — but they also have far more tools to reduce it. The right combination of entity structure, retirement contributions, and deductions can cut an effective tax rate meaningfully on the same income.
How Small Business Income Is Taxed
Tax Rates by Entity Type
| Structure | Taxes Paid | Key Filing Forms |
|---|---|---|
| Sole Proprietor | Income tax + 15.3% SE tax | Schedule C + Form 1040 |
| Single-Member LLC | Same as sole proprietor (default) | Schedule C + Form 1040 |
| Multi-Member LLC | Partners pay income tax + SE tax on share | Form 1065 + Schedule K-1 |
| S-Corporation | Income tax on all income; SE tax only on salary | Form 1120-S + Schedule K-1 |
| C-Corporation | 21% corporate tax; dividend tax on distributions | Form 1120 |
Total Tax on $100,000 Net Profit (Before Deductions)
| Structure | SE/Payroll Tax | Income Tax (22% bracket, illustrative) | Estimated Total |
|---|---|---|---|
| Sole proprietor / LLC | $14,130 | $13,200 | $27,330 |
| S-Corp ($60K salary, $40K distribution) | $9,180 | $13,200 | $22,380 |
| C-Corp | $21,000 (corporate) | Tax on any distributions | $21,000+ |
Before deductions. S-Corp saves ~$4,950 in SE/payroll tax in this example.
The S-Corporation Savings Strategy
Converting a sole proprietorship or LLC to S-corp status is one of the highest-ROI tax moves for profitable small businesses.
How it works: An S-corp must pay you a “reasonable salary” — which is subject to payroll taxes (FICA: 15.3%). Profit above your salary comes out as a distribution — not subject to self-employment or payroll tax.
S-Corp Savings at Different Profit Levels
| Annual Profit | Reasonable Salary | Distribution | SE Tax Saved | Annual S-Corp Cost | Net Saving |
|---|---|---|---|---|---|
| $80,000 | $55,000 | $25,000 | $3,825 | $2,000 | $1,825 |
| $120,000 | $65,000 | $55,000 | $8,415 | $2,500 | $5,915 |
| $150,000 | $70,000 | $80,000 | $12,240 | $3,000 | $9,240 |
| $200,000 | $85,000 | $115,000 | $17,595 | $3,500 | $14,095 |
| $300,000 | $100,000 | $200,000 | $30,600 | $4,000 | $26,600 |
SE tax saved = 15.3% × distribution amount. S-corp costs include payroll service + additional accounting.
When to make the switch: Generally worth it above $60,000-$80,000 in annual profit. Below that, the additional accounting costs (payroll service, separate corporate tax return) exceed the savings.
Top Tax Deductions for Small Businesses
The QBI Deduction: 20% Off the Top
The Qualified Business Income deduction (Section 199A) lets eligible sole proprietors, LLC owners, S-corp and partnership shareholders deduct 20% of qualified business income from taxable income — before calculating income tax.
| Net Business Profit | QBI Deduction (20%) | Tax Savings (22% bracket) | Tax Savings (24% bracket) |
|---|---|---|---|
| $60,000 | $12,000 | $2,640 | $2,880 |
| $100,000 | $20,000 | $4,400 | $4,800 |
| $150,000 | $30,000 | $6,600 | $7,200 |
| $200,000 | $40,000 | $8,800 | $9,600 |
Income phase-out (2026): Above $201,750 single/head of household or $403,500 married filing jointly, the deduction phases out for “specified service trade or business” (SSTB) owners — doctors, lawyers, consultants, accountants, financial advisors — over a $75,000 (single) or $150,000 (MFJ) range, per IRS Rev. Proc. 2025-32. For non-SSTB businesses, W-2 wage and property limits apply above these thresholds. See the QBI deduction guide for the full phase-out mechanics.
Retirement Plan Contributions
| Plan (2026 limits) | Employee Limit | Total Limit (Employee + Employer) | Best For |
|---|---|---|---|
| Solo 401(k) | $24,500 | $72,000 (higher for age 50+, with an enhanced “super catch-up” for ages 60-63 under SECURE 2.0) | Self-employed with no employees |
| SEP IRA | — | 25% of net SE income (max $72,000) | Simple to set up; high limits |
| SIMPLE IRA | $17,000 | Varies (plus employer match) | Businesses with a few employees |
Solo 401(k) worked example at $150,000 net profit:
- Employee elective deferral (2026 limit): $24,500
- Employer profit-sharing (25% of net SE income ~$136,500): $34,125
- Total deductible contribution: $58,625
- Tax savings (24% bracket, illustrative): roughly $16,000-$16,500
Health Insurance Premiums
Self-employed owners can deduct 100% of health, dental, and vision insurance premiums — for themselves, their spouse, and dependents — directly from gross income (not subject to the 7.5% AGI floor that applies to itemized medical deductions). This deduction reduces income tax; it does not reduce self-employment tax, since it’s claimed on Schedule 1, not Schedule C.
Section 179 and Bonus Depreciation (2026)
| Provision | 2026 Details |
|---|---|
| Section 179 limit | $2,560,000 (phases out above $4,090,000 in total purchases, fully eliminated at $6,650,000) |
| Bonus depreciation | 100% immediate expensing — made permanent by OBBBA for property acquired after January 19, 2025 |
| Qualifying property | Machinery, equipment, computers, software, some vehicles, qualified improvement property |
| Section 179 income limit | Cannot create a business loss (unused amount carries forward) |
| Bonus depreciation | Can create or increase a net operating loss |
Example: Buy $80,000 in new equipment. With bonus depreciation now permanently at 100%, you can deduct the full $80,000 in year one whether or not you separately elect Section 179 — the practical difference between the two now mainly comes down to the Section 179 income limitation and state tax conformity (many states don’t fully conform to 100% federal bonus depreciation). See the Section 179 guide and bonus depreciation guide for details.
Vehicle Expenses
| Method | How It Works | Best For |
|---|---|---|
| Standard mileage | 72.5¢/mile (Jan-Jun 2026), 76¢/mile (Jul-Dec 2026) for business miles | Low-cost vehicles, simpler |
| Actual expense | Prorate all vehicle costs by business % | High-cost or heavy vehicles |
| Section 179 on vehicle | Deduct purchase price (limits apply for passenger vehicles) | Heavy SUVs, trucks (>6,000 lb GVWR) |
Heavy vehicle advantage: Vehicles with GVWR over 6,000 lbs (many SUVs, pickups, vans) qualify for a $32,000 Section 179 deduction cap in 2026 — effectively deducting a large portion of the purchase price in year one. Standard passenger vehicles are subject to separate luxury-auto depreciation limits under Section 280F — confirm the current-year cap at irs.gov.
Other Common Business Deductions
| Deduction | Details |
|---|---|
| Employee wages and salaries | Fully deductible; include payroll tax employer portion |
| Independent contractor payments | Fully deductible; issue 1099-NEC for payments ≥ $600 |
| Business rent | Office, retail, warehouse space |
| Business insurance | Liability, E&O, property, workers’ comp, key-man life |
| Professional services | Accounting, legal, consulting fees |
| Marketing and advertising | Website, ads, social media management, trade shows |
| Software and subscriptions | Business software, CRM, cloud services |
| Business meals | 50% deductible; must have business purpose, document it |
| Home office | $5/sq ft simplified or actual expenses (exclusive use required) |
| Bank fees and merchant processing | Credit card processing fees, business account fees |
Tax Filing Calendar for Small Businesses
| Obligation | Due Date | Notes |
|---|---|---|
| Q1 estimated tax | April 15, 2026 | Jan-Mar income |
| Q2 estimated tax | June 15, 2026 | Apr-May income |
| Q3 estimated tax | September 15, 2026 | Jun-Aug income |
| Partnership / S-corp return | March 16, 2026 | Form 1065 / 1120-S (March 15 falls on a Sunday in 2026, so the deadline shifts to the next business day) |
| Sole proprietor / LLC return | April 15, 2026 | With Form 1040 |
| Q4 estimated tax | January 15, 2027 | Sep-Dec income |
| W-2s to employees | January 31 | No extension |
| 1099-NEC to contractors | January 31 | For payments ≥ $600 |
Payroll Tax Obligations (If You Have Employees)
When you hire W-2 employees, you take on payroll tax responsibilities:
| Tax | Employer’s Share | Employee’s Share | Deposit Frequency |
|---|---|---|---|
| Social Security | 6.2% | 6.2% | Monthly or semi-weekly |
| Medicare | 1.45% | 1.45% | Monthly or semi-weekly |
| Federal Unemployment (FUTA) | 6% on first $7,000 | — | Quarterly if > $500 |
| State Unemployment (SUTA) | Varies by state | — | Varies |
Payroll is typically handled via a payroll service (Gusto, QuickBooks Payroll, ADP) — the cost ($50-$150/month for a small team) is a business deduction and far less expensive than payroll tax penalties for errors.
Accountable Plans for S-Corp Owners
If you operate as an S-corp, you cannot deduct business expenses directly on your personal return. Instead, your S-corp needs an accountable plan — a reimbursement policy where the corporation reimburses you for documented business expenses, then deducts those reimbursements on the corporate return.
Common expenses covered by accountable plans:
- Home office (based on a square footage calculation)
- Cell phone (business percentage)
- Vehicle mileage
- Business supplies and equipment purchased personally
Without an accountable plan, these expenses may be lost deductions for S-corp owners.
For the full list of business expense deductions available to small business owners, see business tax deductions. The choice of entity structure — sole proprietorship, LLC, S-corp, or C-corp — has significant tax implications; see LLC vs. S-corp vs. C-corp for a direct tax comparison. Pass-through businesses may also qualify for the QBI deduction, reducing taxable income by up to 20% of net business income with no additional spending required.
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