Quick overview

Federal tax rules affect every small business, from sole proprietors and freelancers to multi‑member LLCs and corporations. They set standards for what income must be reported, which expenses can reduce taxable income, how and when payroll and self‑employment taxes are paid, and the records you must keep to support filings. Follow these rules to avoid penalties, retain access to tax credits, and improve cash‑flow planning.

Authoritative resources: IRS Small Business & Self‑Employed Tax Center (https://www.irs.gov/businesses/small-businesses-self-employed) and the U.S. Small Business Administration (https://www.sba.gov).

Core federal tax rules (what you must know and do)

  1. Income reporting: report all business receipts
  • Rule: All gross income from sales, services, rents, interest, and other business activity must be reported in the year you receive it unless you use a specific accounting method that changes timing.
  • Practice note: I require clients to reconcile bank deposits to invoice records monthly — this prevents missed sales and errant income reporting.
  • IRS reference: see IRS Publication 334, Tax Guide for Small Business (for accounting methods and income reporting basics).
  1. Business deductions: ordinary, necessary, and substantiated
  • Rule: Deduct only ordinary and necessary business expenses that are directly related to running your business. Common categories include supplies, rent, utilities, business insurance, depreciation, and employee wages.
  • Substantiation: Keep receipts, invoices, canceled checks, logbooks, or digital records. The IRS expects records that show amount, date, business purpose, and business relationship.
  • Internal link: For practical tips on capturing deductions, see our guide on Business Tax Deductions: What Small Businesses Often Miss.
  • IRS reference: see IRS Publication 535, Business Expenses.
  1. Payroll taxes and worker classification
  • Rule: If you have employees, you must withhold federal income tax, Social Security and Medicare (FICA), and pay the employer share of FICA. You must deposit taxes and file employment tax returns on the schedule required by the IRS.
  • Worker classification: Correctly classify workers as employees or independent contractors. Misclassification can trigger back payroll taxes, penalties, and interest.
  • Practical link: See our practical checklist on Payroll Taxes for Employers: Withholding, Deposits, and Forms.
  • IRS references: Employer tax obligations are summarized at the IRS Small Business pages and IRS Publication 15 (Circular E).
  1. Self‑employment tax (for sole proprietors and partners)
  • Rule: Self‑employed individuals (sole proprietors, partners, some LLC members) pay self‑employment tax to cover Social Security and Medicare contributions. This is separate from income tax and calculated on net earnings from self‑employment.
  • Planning tip: Estimate and pay quarterly to avoid penalties; use Schedule SE with Form 1040.
  • Internal link: Our explainer How to Calculate and Report Self‑Employment Taxes explains the math and timing.
  • IRS reference: IRS Self‑Employment Tax guidance.
  1. Estimated tax payments
  • Rule: If you expect to owe $1,000 or more in federal tax after withholding and refundable credits, you generally must make quarterly estimated payments using Form 1040‑ES (for individuals and sole proprietors) or the appropriate corporate estimated payment forms.
  • Cash management rule: Set aside a percentage of pretax income for federal and state taxes — many small business owners use 20–30% as a rule of thumb, but your rate depends on profit margins and credits.
  • IRS reference: Instructions in Form 1040‑ES and Publication 505, Tax Withholding and Estimated Tax.
  1. Filing deadlines and tax returns by entity
  • Sole proprietors: Report business income and expenses on Schedule C attached to Form 1040 — due with your personal return (generally April deadline unless extended).
  • Partnerships and S Corporations: Partnerships file Form 1065 and issue K‑1s; S Corporations file Form 1120‑S and issue K‑1s. These typically have March due dates for entity returns (calendar year filers).
  • C Corporations: File Form 1120; due dates depend on corporate tax year.
  • Practice tip: Use a tax calendar and software to track entity‑specific deadlines and K‑1 delivery dates.
  1. Recordkeeping and how long to keep records
  • Rule: Keep supporting tax records for at least three years from the date you file, but retain employment tax records for at least four years after the date the tax becomes due or is paid.
  • Practical tip: Keep documents longer if you claim depreciation, carrybacks, or if you have omitted income that could change the period for an audit.
  • IRS reference: Publication 552, Recordkeeping for Individuals.
  1. Tax credits and special provisions
  • Rule: Certain federal credits lower tax liability dollar‑for‑dollar (e.g., small business credits for research, energy property, and qualified family‑leave wages in specific circumstances). Credits often require pre‑planning, documentation, and sometimes advance filings.
  • Caution: Many pandemic‑era credits have expired or changed — verify current eligibility before applying.
  • IRS reference: Search the IRS credits pages for current programs.
  1. Depreciation, Section 179 and bonus depreciation
  • Rule: Long‑lived business property is depreciated over its useful life. Small businesses may elect to expense qualifying property under Section 179 up to business limits, and bonus depreciation may apply for certain assets.
  • Planning note: Decisions on expensing vs. depreciating affect taxable income now and in future years — discuss with a tax advisor before large purchases.
  • IRS reference: Publication 946, How To Depreciate Property.

Frequent compliance traps and how to avoid them

  • Misclassifying workers: Treating an employee as a contractor saves payroll taxes short‑term but can lead to heavy back taxes and penalties later. Use the IRS common law test and Form SS‑8 if classification is uncertain.

  • Poor recordkeeping: Lack of receipts or mixed personal/business accounts triggers disallowed deductions. Use separate business bank accounts and accounting software; document business purpose for travel and meals.

  • Underpaying estimated tax: Pay quarterly if required — penalties can exceed the interest you avoid by holding onto cash.

  • Ignoring sales tax nexus: Federal tax planning doesn’t replace state sales and income tax obligations. Confirm state filing rules where you operate or deliver goods.

Practical month‑by‑month checklist for small business owners

  • Monthly: Reconcile bank accounts, record receipts and expenses, run payroll deposits if you have employees.
  • Quarterly: File estimated tax payments; reconcile payroll tax deposits and payroll returns (Form 941 or state equivalents).
  • Annually: Prepare year‑end payroll summaries (W‑2s, 1099s), complete business tax returns, review depreciation schedules, and meet with a tax advisor for year‑end planning.

Real‑world examples

  • Example 1 — Employee misclassification: A bakery owner treated a long‑term baker as a contractor to avoid payroll taxes. An IRS examination reclassified the worker as an employee; the bakery faced unpaid FICA, penalties, and interest. Lesson: document job duties, schedule, training, and whether you control how the work is done.

  • Example 2 — Missing deductions: A freelance consultant failed to track mileage and home‑office use. Proper logs and a simplified home office worksheet earlier could have lowered taxable income materially. Lesson: routine recordkeeping produces real tax savings.

Professional tips I recommend

  • Start with clean books: invest in good accounting software and close your books monthly.
  • Meet your tax pro mid‑year: I tell clients that an October or November planning meeting often saves more than the cost of the session.
  • Use payroll providers: outsourcing payroll often reduces compliance error and missed deposits.
  • Keep an audit folder: one place (digital and physical) for receipts, contracts, and tax returns helps if you get a notice.

When to get professional help

Hire a CPA or tax attorney if you: hire employees, have multiple states of activity, plan to change entity type, or face an IRS notice. In my practice, early consultation on entity choice (LLC vs S‑Corp) and payroll setup prevents common, costly mistakes.

Limitations and disclaimer

This article is educational and summarizes common federal tax rules as of 2025. It does not replace personalized tax advice. For guidance specific to your business, consult a qualified CPA or tax attorney. Authoritative IRS resources include the Small Business & Self‑Employed Tax Center (https://www.irs.gov/businesses/small-businesses-self-employed) and IRS publications cited above.

Additional resources

If you’d like, I can tailor this checklist to your business type (sole proprietor, LLC, S‑Corp, or C‑Corp) and estimated revenue to show expected tax timing and suggested tax‑setaside percentages.