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If you’re running a startup, especially a Delaware C corp with venture capital funding, getting a handle on taxes is not just a good idea, it’s essential. But most founders are not experts in startup taxation! That’s where we come in, as one of the leading CPA firms serving VC-backed startups. We’ve helped thousands of founders get a handle on their startup’s taxes.
Let’s break down what you need to know - in plain English.
First of All - Pay The Founders Through a Payroll System
First time founders, or founders who have run LLCs, often try to take money out of the startup without thinking about payroll taxes. Unfortunately, if you are running a C-Corp, which pretty much all VC-backed startups are, you need to pay founders in a way where payroll taxes get taken out (and paid to the government).
Not paying payroll taxes is a huge issue that can cause serious legal problems. Don’t mess with the IRS; they take this seriously. All pay to founders (and employees, for that matter) should go through a payroll system. This isn’t that hard to do - we list out the best payroll systems for startups here - you can get a great one for less than $50 per month.
Next, Yes, Your Startup Needs to File a Tax Return
Short Answer: Yes. From the moment you get that EIN letter from Uncle Sam, you’re on the hook for filing a tax return. Got your EIN in December? You still need to file for that year. And remember, this rule applies even if your startup hasn’t kicked off any real business yet. It’s not that expensive to get a startup tax return done; see how much they cost here.
What If My Startup Isn’t Making Money Yet?
Same answer: still file those taxes! Even if you are losing money. Why? First off, it’s the law. Secondly, there’s a silver lining: those losses today can be your tax-saving grace in the future. You can use them to reduce your tax bill when those profits start rolling in.
Your tax accountant will already be capturing the “breaks” of your startup expenses and legal expenses. So the biggest takeaway I can give here is that Net Operating Losses (NOLs) carry forward. Be sure to capture ALL your expenses even when you’re running at a loss because they can be used as credits when you’re profitable.
What Happens if I Skip Filing My Startup’s Taxes?
Think skipping your tax filing might go unnoticed? The IRS doesn’t take kindly to skipped filings, and they’ve got penalties that can include fines and interest. And, VC backed startups are often asked to present their returns as part of VC diligence. And guess what - if you think a major tech company is going to acquire you if you haven’t filed tax returns, think again. Tax diligence in M&A transactions is a big, big deal. Trust us - we’ve helped companies get acquired by Apple, Cisco, Workday and JP Morgan. They all conducted serious tax diligence. So, it’s best to play it safe and file.
Making Sense of Taxes for Your Startup for Founders
Delaware C Corporations: The Tax Basics
- Corporate Income Tax: Yep, you need to pay this on your profits and you need to do a federal filing (Form 1120) even if you are losing money.
- State Taxes: If you have employees in a state, rent or property in a state, or revenue over certain thresholds, you likely need to file state returns. However, not every Delaware C-Corp needs to file a Delaware state return! Read if you need to file in Delaware.
- Delaware Franchise Tax: If you get a huge bill (or estimate from your tax person) they probably did the calculation wrong. There are 2 ways to calculate Delaware Franchise Taxes. Estimate it here.
- Other State Franchise Taxes: You probably owe in at least one state.
Smart Tax Moves: Credits and Deductions
- R&D Tax Credits: If you’re innovating, these can be a big help. Learn about the R&D tax credit. Starting in the fiscal year 2023, you can save up to $500,000, even if you are unprofitable.
- Other Tax Credits: Not likely as helpful, but we list out the top 20 business tax credits here.
- Startup Costs: The IRS lets you deduct some early expenses, so keep a good record of them.
What You Should Remember
First of all, tax rules change, so keep up to date. Also, remember to keep good records. We strongly recommend using an accounting software like QuickBooks Online to keep track of everything.
Finally, hire a good tax professional. It takes too much time to get this done right, and with the way rules are changing, you’ll want someone who knows what they are doing!
