Here Is How To File Your Taxes When One Spouse Owns a Business – Expat Guide

Filing taxes can be overwhelming, especially for married couples when one spouse is a business owner. When tax season comes, couples must make a crucial decision to file their taxes jointly or separately. While most couples assume that filing jointly offers the most significant tax deduction, it’s important to weigh the pros and cons of each option before making a decision.

If you’re a business owner and married to a W-2 employee or vice versa, you may need to take additional factors into account when filing your taxes. In this article, we’ll explore factors to consider when deciding whether to file jointly or separately.

Understanding Business Structures

Before we dive into the details of filing taxes, it’s crucial to understand the various types of business structures. There are four main types: sole proprietorship, partnership, corporation, and limited liability company (LLC).

A sole proprietorship is the simplest business structure, owned by a single individual. Partnerships, on the other hand, are owned by two or more people, while corporations are separate legal entities from their owners. An LLC is a hybrid structure that offers the flexibility of a partnership and the liability protection of a corporation.

It’s important to note that each business structure has its own tax implications. For instance, a sole proprietorship and partnership are pass-through entities. This means that business income and expenses are reported on the individual tax returns of the owners. In contrast, a corporation pays taxes on its income, and the owners pay taxes on any dividends they receive.

Determining Your Filing Status: File Jointly

The first step to take when filing taxes with one spouse owning a business is figuring out your filing status. Generally, filing jointly is the best option, as it typically results in a lower tax bill. However, there are situations where it might be more beneficial to file separately.

It’s important to weigh the advantages and disadvantages of filing jointly when one spouse is a business owner.

Advantages of Filing Jointly When One Spouse Owns A Business

There are several advantages to filing taxes jointly including:

• Simplified tax preparation: When one spouse owns a business, filing jointly can simplify the tax preparation process. Instead of having to prepare two separate tax returns, the income and expenses from the business can be combined with the other spouse’s income and deductions on one joint tax return. This can help avoid errors on the tax return. This can also save you time and money by not having to file separate returns.

• Lower tax rates: Filing jointly can result in lower tax rates than filing separately, as certain tax brackets and deductions are only available to couples filing jointly. For example, the standard deduction for a married couple filing jointly is generally twice as high as for an individual. Additionally, married couples may be able to take advantage of certain tax credits and deductions that are not available to single filers.

• Eligibility for certain tax credits: Couples filing jointly may be eligible for tax credits that are not available to those filing separately, such as the Earned Income Tax Credit and the Child and Dependent Care Credit. These tax credits can help reduce the couple’s overall tax liability and increase their tax refund. 

• Business losses reduce taxable household income: When you file your taxes jointly as a business owner, any losses from your business can be used to offset your spouse’s income. This can result in a lower household income and a lower tax liability. If your business losses exceed your spouse’s income, you may owe no federal income tax. You could even receive a tax refund. However, if you file separately, you cannot reduce your spouse’s current year tax liability. Instead, you can carry the loss forward to future years when your business earns a profit.

Disadvantages of Filing Jointly When One Spouse Owns A Business

Filing taxes jointly with your spouse may not always be advantageous. You should consider filing separately if you don’t want to be in the following situations:

• Shared liability: When filing jointly, both spouses are equally responsible for any tax debt, penalties, or interest owed to the IRS, regardless of which spouse earned the income. This means that if one spouse owes taxes due to the business, the other spouse will be liable for the debt as well.

• Limited options for deductions: Some deductions and credits may be reduced or phased out for high-income taxpayers, and filing jointly could push a couple’s income into a higher tax bracket. Additionally, certain tax credits may not be available to couples filing jointly if one spouse’s income is too high.

• Financial disclosures: When filing jointly, both spouses need to disclose all of their financial information on the tax return. This can be problematic if one spouse does not want to disclose certain information to the other or if the couple is going through a divorce.

Reporting Business Income and Expenses

Once you have determined your filing status, it’s time to report the business income and expenses on your tax return. If the business is a sole proprietorship, you’ll need to file a Schedule C with your personal tax return. This form lists your business income and deductible business expenses.

If you’ve chosen to incorporate your business, you have a couple of options for filing your taxes. You can file as an S corporation (Form 1120S) or a C corporation (Form 1120). Each has its own set of rules and requirements. That is why it’s important to consult with a tax professional to determine which is right for you.

Reporting Self-Employment Tax

When one spouse owns a business, they are considered self-employed and, as such, are responsible for paying self-employment tax. Self-employment tax comprises both Social Security and Medicare taxes and applies to self-employed individuals earning more than $400 in net income.

The self-employment tax rate for 2022 is 15.3%, which includes 12.4% for Social Security and 2.9% for Medicare. However, self-employed individuals may deduct half of their self-employment tax on their tax return.

To report self-employment tax, you must complete Schedule SE (Form 1040). Schedule SE calculates the self-employment tax based on the net income reported on Schedule C.

Keeping Accurate Records

Regardless of the business structure or your filing status, it’s essential to keep accurate records of all income and expenses related to the business. This includes keeping receipts, invoices, bank statements, and other financial documents that support the income and expenses reported on the tax return.

If you’re unsure about what records to keep, the IRS provides guidelines on recordkeeping requirements for businesses. The general rule is to keep records for at least three years from the date you filed your tax return.

Seeking Professional Help

Filing taxes when one spouse owns a business can be complex. If you’re unsure about how to file your taxes or have questions about your specific situation, we recommend seeking help from a tax professional.

A tax professional can help you navigate the tax code and ensure that you’re taking advantage of all available deductions and credits. They can also help you avoid common mistakes and ensure that your tax return is accurate and filed on time.