Tax Compliance Mistakes That Can Hurt Your Small Business

Running a small business comes with countless responsibilities, and tax compliance sits high on that list. Unfortunately, even well-intentioned business owners can make costly mistakes that result in penalties, interest, and unnecessary stress. Here are the most common tax compliance mistakes to avoid.

Missed Filings: The Costliest Mistake

One of the most expensive errors small businesses make is missing filing deadlines entirely. When you’re unaware of filing requirements, you face penalties and interest that compound quickly. This applies to both income tax and payroll tax filings, making the financial impact even more significant.

The solution is straightforward: maintain regular contact with your tax preparer or CPA about upcoming deadlines. If you’re handling taxes yourself, ensure you have a system to track all required filings. When you can’t file on time, always file for an extension – but remember, extensions only apply to filing deadlines, not payment due dates. You must still pay any taxes owed by the original deadline to avoid penalties and interest.

S-Corp Shareholder Compensation Confusion

S-Corporation owners often struggle with determining reasonable compensation for themselves. This compensation must be “reasonable” – an admittedly open-ended requirement – but there are practical ways to stay compliant without being overly conservative.

Consider what you’d pay a new employee to handle specific responsibilities that you are currently handling, such as running payroll, setting appointments, or answering the phones. One approach is to set compensation at or above the FICA wage base. Remember, your compensation is subject to payroll taxes, whereas distributions are not; therefore, finding the right balance is crucial. Match your compensation to the actual roles you perform within your business – if you’re doing both executive work and basic administrative tasks, factor in appropriate rates for each function.

LLC Members and Partnership W-2 Issues

A common mistake occurs when LLC members or partners receive W-2s when they shouldn’t. If your entity files a partnership return and you’re an owner, you should not receive a W-2. Instead, you should be compensated through guaranteed payments. This distinction is critical for proper tax treatment and compliance.

S-Corp Health Insurance Premium Complications

S-Corporation shareholders owning more than 2% of the company face special rules regarding employee benefits. Health insurance premiums require careful handling – they can’t be deducted by the entity unless properly included in W-2 compensation and then deducted as self-employed health insurance on your personal return.

Additionally, if your spouse works and you’re eligible for health insurance through their employer, you cannot take the self-employed health insurance deduction. These 2% shareholder rules extend to other benefits as well, so consult a tax professional if you’re providing yourself with employee benefits.

The Importance of Buy-Sell Agreements

While not strictly a tax filing, buy-sell agreements are crucial for tax compliance when ownership changes occur. Ensure you have a current buy-sell agreement, and update it whenever ownership changes happen.

Understanding Basis in Pass-Through Entities

Basis represents the money you’ve invested in your entity plus income you’ve been taxed on but haven’t received. This matters because losses are only deductible to the extent of your basis. For pass-through entities like S-Corps and partnerships, basis changes continuously, making it essential to track from day one rather than trying to reconstruct years later.

State Compliance Complexity

Each state has unique requirements, including income tax nexus rules, sales tax filings, and various other taxes. Even filing zero sales tax returns can be necessary for establishing statute of limitations protection. Research your state’s specific requirements or work with a professional who understands your state’s tax landscape.

1099 Requirements

Always obtain a W-9 form when paying vendors, capturing their name, address, tax ID, and entity type. For 2025, amounts over $600 require a 1099 (increasing to $2,000 in 2026). Depending on your entity type, you may also receive 1099s and 1099-Ks, so ensure you’re reporting all income correctly.

Don’t Navigate Tax Compliance Alone

Tax compliance doesn’t have to be overwhelming when you understand these common pitfalls and work with qualified professionals to navigate them successfully. The complexity of business tax requirements continues to grow, and the cost of mistakes can be significant – both in penalties and lost opportunities for tax savings.

Ready to ensure your business stays compliant and optimizes its tax strategy? Contact CJG Partners today to discuss how our experienced team can help you avoid these costly mistakes while positioning your business for continued growth. Let us handle the complexity so you can focus on what you do best – running your business.