General tax overview for small-business startups

Many Washington startups are surprised by the number of federal, state taxes they must report and pay

The U.S. is currently in a period of strong economic activity and the state of Washington has the top ranked economy of all U.S. states, according to a 2017 study by the credit reporting site WalletHub. It follows that there would be an increase in the number of small-business startups during this period. Most small-business startups make some kind of provision for Federal Income Taxes in their budgets. However, more than a few are surprised by the number of other federal and state taxes that they must report and pay.

For purposes of this article, a Washington small-business startup has the following characteristics: (1) it is a service providing enterprise with one or two individual owners; (2) it was or will be organized in 2018 under Washington law as a sole proprietorship, a single member limited liability company (LLC) or a multi-member LLC; and (3) it employs and compensates its owners. In addition, this article assumes the owners of each Washington small business startup have an established relationship with a knowledgeable CPA and/or attorney from whom they obtain tax advice and tax compliance assistance.

Taxes

In addition to Federal Income Tax, small-business startup owners should review with their tax advisers the applicability of the following taxes:

  1. Federal Insurance Contributions Act Taxes
  2. Federal Unemployment Tax
  3. Washington Business and Occupations Tax
  4. Washington Unemployment Compensation Tax
  5. Industrial Insurance

Federal Insurance Contributions Act (FICA) Taxes

The Federal Insurance Contributions Act (FICA) imposes two taxes on employers, employees and self-employed workers. The first tax is for Old Age, Survivors and Disability Insurance (OASDI) and the second tax is for Hospital Insurance (HI). The OASDI tax is commonly known as the Social Security Tax and the HI tax is commonly known as the Medicare Tax.

For 2018, the FICA tax rate for an employer is 7.65 percent (6.2 percent for OASDI + 1.45 percent for HI) and for an employee is: (1) 6.2 percent for OASDI on the first $128,700 of wages (maximum tax is $7,960.80), plus (2) 1.45 percent for HI on the first $200,000 of wages ($250,000 for joint returns; $125,000 for married taxpayers filing a separate return), plus (3) 2.35 percent (regular HI of 1.45% + 0.9% additional HI) on all wages in excess of $200,000 ($250,000 for joint returns; $125,000 for married taxpayers filing a separate return).

For each employee, including the owners, a small-business startup must pay the employer’s portion of FICA taxes and it must withhold each employee’s portion of FICA taxes from his or her wages.

An employer reports its FICA taxes on Form 941, “Employer’s Quarterly Federal Tax Return” due on the last day of the month following the end of a calendar quarter. An employer files its initial Form 941 for the quarter in which it first pays wages that are subject to OASDI and HI taxes or subject to federal income tax withholding.

Federal Unemployment Tax

The Federal Unemployment Tax Act (FUTA) is a federal statute that imposes a tax on employers that is used to help fund state workforce agencies. For 2018, the FUTA tax rate is 6.0 percent, subject to a credit for state unemployment tax paid discussed in the following paragraph. The tax applies to the first $7,000 paid to each employee as wages during the year.

In general, an employer may receive a credit of up to 5.4 percent on its Federal Unemployment Tax if it pays wages subject to state unemployment tax. An employer must pay Federal Unemployment Tax if it paid wages of $1,500 or more to employees (excluding household and agricultural employees) in any calendar quarter during the current or prior year, or had one or more full-time, part-time, or temporary employees for at least some part of a day in any 20 or more different weeks in the current or prior year.

An employer reports the amount of its Federal Unemployment Tax due on Form 940, “Employer’s Annual Federal Unemployment Tax Return.” Form 940 is generally due on Jan. 31 of the following year. In general, tax reported on Forms 941 and 940, must be paid or deposited electronically.

Washington Business and Occupations Tax (RCW 82.04)

The Business and Occupation (B&O) Tax is a tax levied on the act or privilege of engaging in business activities in Washington. The phrase “business activities” is broadly defined as “all activities engaged in with object of gain, benefit or advantage to the taxpayer, or to another person or class, directly or indirectly.” B&O Tax applies to any entity engaged in a business activity, including individuals, corporations, receivers, trustees in bankruptcy, estates and trusts.

The classification of a taxable activity determines both the applicable tax rate and the tax base. The B&O Tax is a gross receipts tax that is applied to the value of products, gross proceeds of sale or gross income of the business. There are no deductions from the B&O Tax for labor, materials, taxes or other costs of doing business. However, certain tax credits are subtracted from the B&O Tax due on a taxpayer’s B&O Tax Return.

B&O Tax is reported on a “Combined Excise Tax Return.” Washington Department of Revenue will assign the frequency with which a business must file its Combined Excise Tax Returns. The frequency may be monthly, quarterly or annually. All quarterly and monthly Combined Excise Tax Returns are required to be filed, and the taxes paid, electronically.

Washington Unemployment Insurance Program (RCW 50.04.072)

Washington Unemployment Insurance Program (the Unemployment Tax Program) is administered by the Employment Security Department, which assesses and collects the taxes. The Unemployment Tax Program receives funding from and is closely regulated by the federal government in an effort to insure a uniform national unemployment compensation system. The Unemployment Tax Program is funded in two parts, employer contributions and reimbursements from the federal government for benefits paid and administrative expenses. Employer contribution rates are determined as a multiple of wages paid, and no part of the tax is chargeable to employees.

An employer reports Washington Unemployment Tax on two forms: (1) Form EMS 5208A, “Quarterly Unemployment Insurance – Tax Summary,” which is used to report total quarterly taxes (it may also be used to file a no-payroll report); and (2) Form EMS 5208B, “Quarterly Unemployment Insurance – Wage Detail,” which is used to itemize each employee’s quarterly wages. Washington Unemployment Tax returns may be filed electronically using one of two services: (1) Employer Account Management Services (EAMS) or (2) UIWebTax Quick-file.

An employer files and pays Washington Unemployment Tax on a quarterly basis. The due date for filing Washington Unemployment Tax Returns and paying any tax due is the last day of the month following the close of a calendar quarter.

Washington Industrial Insurance Tax (RCW Chapter 51)

Washington Industrial Insurance Tax (Workers Compensation Tax) funds the programs and benefits administered by the Department of Labor and Industries under the Workers Compensation Act. The Workers Compensation Act applies to virtually all employers and types of business activities. Workers Compensation Tax is assessed on the classification of the activity and number of hours worked. More dangerous activities bear a proportionately higher tax rate.

An owner of sole proprietorship, a partnership, a corporate officer or an LLC member or manager who meets the exemption requirements is not required to have workers’ compensation insurance, but may choose to purchase elective coverage.

An employer reports its Workers Compensation Tax on a quarterly basis. Quarterly reports and tax payments are due by the last day of the month following a quarter end. If the due date is on a weekend or state holiday, the report or tax is due on the following weekday.

Gregory J. Hall is an attorney with Landerholm in Vancouver. His practice emphasizes estate planning, trust and estate administration, assisting businesses and their owners with business formations and transactions, and coordinating estate and business planning.

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