Can a small business get a tax refund?

Individual Taxpayers, in general, receive a refund only when they have paid more tax than was due on their return. The same is essentially true of businesses. However, just like there are different types of taxpayers, there are different types of businesses, which impacts a small business’s tax refund eligibility. Generally, C-corporations are the only type of business entity eligible for a tax refund. Your business also might receive a tax refund if it overpays on payroll or sales taxes. Here are the factors to consider.

Business entity type

When you started your business, you decided what type of business entity to form, which in turn determined the way you’ll pay your small-business taxes to the IRS and state.

Many small businesses elect to form entities that pass their income through to the owners. The owners are then taxed on their individual income tax returns. Because these types of entities pass the taxable income to the owners, the businesses don’t pay tax directly to the IRS and therefore would never receive a business income tax refund.

Types of entities that pass their income through to their owners include:

• Sole proprietorship: Single-owner business that reports their income and expenses on the owner’s individual tax return (Form 1040), using a Form Schedule C.
• Partnership: An unincorporated business with two or more owners; files a Form 1065 and issues Forms K-1 to the partners, who include the income and pay tax on their individual tax returns.
• S-corporations: A corporation that has elected to pass the taxable income from the business through to its shareholders. The S-Corp files a Form 1120S and issues a Form K-1 to each shareholder, who then reports the income and pays tax on their individual tax returns.
• Limited liability company (LLC): Business owners who report income from pass-through companies include the income (along with income from other sources, like wages, interest and dividends, gains on the sale of property or rental income) on their individual 1040s. These individual owners would receive a refund only if their total payments and withholding exceed their total tax liability on the return.

The only type of business entity that can receive a tax refund is a C-corporation. What distinguishes a C-corporation from other business entity types is that its profits are taxed separately from its owners under subchapter C of the Internal Revenue Code. In other words, a C-corporation pays income tax directly to the taxing authorities (using Form 1120). Because of this, a C-corporation could receive an income tax refund if it pays more estimated tax during the year than is due on the final return.

Generally speaking, if you’ve paid more than your actual tax liability, you’re due a refund. But keep in mind that business taxes can be complicated. If you are unsure of how your business is being taxed or whether you should be getting a tax refund, contact TaxAssist Advisors.

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Last updated: 22nd July 2022