Founders are driven to create the future, to disrupt a broken system, or to make something new out of whole cloth. It’s not surprising then that for most of them, tax season — with its archaic rules and tedious paperwork — is the worst part of the year. Luckily, we at neo.tax are tax guys through and through; we’ve spent decades obsessing over the minutia. And so, we’re here to help make tax season simple, streamlined, and even advantageous for your startup.
Our Co-Founder and Head of Tax Stephen Yarbrough has been a corporate tax CPA for over 20 years. He spent most of the 2000s working at PwC, followed by 6 years as a Senior IRS Auditor, before serving as Head of Tax at a startup-focused CPA firm. In 2020, he joined forces with Ahmad Ibrahim to help found neo.tax. These are his six essential tax tips for your tech startup.
- Incorporate in Delaware: If you’re expecting to raise money from venture capital firms or major investors, a Delaware C-Corp Structure is almost always a condition of funding. If you don’t expect to raise money for a long time, there may be other tax-advantageous structures (such as a partnership or LLC). However, be aware: conversion from an LLC/Partnership is more complex than you’d think and can trigger tax for the founders if executed incorrectly.
- Get your R&D Payroll Tax Credit: For tech startups (software, hardware, biomedical, SaaS), the R&D Payroll Tax Credit is the closest thing to “free money” that a company will ever get from the government. Startups with less than 5 years of revenue (or no sales at all!) can earn up to 10% of their R&D spend back in payroll tax credits. R&D spend includes wages to engineers, payments to U.S. contractors and cloud computing (AWS) costs used towards R&D. This payroll benefit (up to a max of $250k/yr) is eligible for startups for a max of 5 years and only eligible on originally filed tax returns (you can’t amend to get this payroll benefit retroactively), so don’t miss out! The credit can extend your runway by dropping your total payroll costs by 6+% each pay period until the credit is used up. With the help of neo.tax, you can file for your R&D Payroll Tax Credit in just 15 minutes.
- Get Compliant with Payroll Taxes: Big problems can pop up if founders draw funds as “loans” and neglect setting up and paying payroll taxes. Getting compliant doesn’t need to be a painful process; automated services like Gusto make this a breeze.
- Collect Forms W-9 and Issue Forms 1099: Make it a point to collect W-9s BEFORE making a single payment to an outside contractor and to issue Forms 1099 each January. If you fail to receive a vendor’s taxpayer ID, or SSN, with a Form W-9 (or a foreign tax exemption declaration with form W-8 BEN), your company may be liable for up to 24% backup withholding tax with respect to those payments. On top of that, the failure to file Forms 1099 has become costly — over the past few years, penalties have skyrocketed from $25 to $1000 for each Form 1099 you fail to file!
- Hire an Accountant with Tech Startup Experience: Startups are “small businesses,” but they often have multinational corporate tax challenges due to the nature of their work. This means a small-business accountant may not be the right choice for the complicated work: we can help with the R&D tax credits, but these accountants may not be familiar with forms related to foreign investments or investors. Startups are often penny wise and pound foolish when it comes to tax compliance. Saving a few hundred dollars on an accountant upfront isn’t worth the backend cost, especially if you have any business or owners outside the United States. Failure to file some international information returns can result in mandatory $25,000 penalties for EACH form missed! Also, small business accountants will likely keep your books on a “cash basis”, when future investors will want to see “Accrual basis” books. It’s easier to set it up right from the start than have to change this in a couple years.
- Don’t Make Tax an Afterthought: This is the hardest piece of advice, but it’s the one that will extend your runway and keep you safe from costly fines down the road. It also can prove essential when you’re negotiating an acquisition down the road. So, invest in an accountant or automated service that you trust. If you’re making a major R&D equipment purchase, your accountant can get you a 50% sales tax exemption in CA. If you’re hiring employees, you’ll need to make sure you’re registered in the state. If you start making sales, you should be verifying that you’re compliant with sales tax collection and remittance. Sales taxes are complicated, but services such as Avalara or TaxJar can link into your current systems and automate the process — thinking about taxes with each major transaction can save you money in the future by avoiding penalties and interest. Fine-avoidance often isn’t enough incentive for a funded startup to get compliant, but this fact should: tax compliance is often a MAJOR area of due diligence when a larger company is negotiating an acquisition. I’ve seen founders lose money or have long delays during an acquisition as they scramble to correct the tax issues they ignored. Believe me: it’s not worth the risk.