Are Tax Payments Really a Business Expense? – Avoid This Mistake + FAQs

Yes – certain taxes are deductible business expenses, but not all taxes you pay can be written off.

😱 Did you know? Up to 93% of business owners reportedly overpay on taxes due to missed deductions!

• 💡 Not All Taxes Are Equal: Federal vs. state taxes – one you cannot deduct, the other sometimes you can! (Learn which taxes are legit write-offs and which are off-limits.)

• 🚫 Common Tax Deduction Traps: New entrepreneurs often try to deduct wrong taxes (like federal income tax) – a costly mistake! (We’ll show how to avoid these audit magnets.)

• 💰 Maximize Write-Offs: From property tax to payroll tax, discover which tax payments slash your taxable income and keep more money in your business.

• ⚖️ What the IRS Says: The IRS tax code (think §162 & §164) spells out exactly which taxes count as “ordinary and necessary” business expenses – we break it down in plain English.

• 🏢 Entity Matters: Whether you’re Schedule C sole proprietor, S-corp, or C-corp, your business structure changes how taxes are deducted. (We compare who can deduct what!)

Immediate Answer: Yes (But Only Some Taxes Count!)

Yes – certain tax payments can be claimed as business expenses, but it depends on the type of tax and your business setup.

In U.S. federal law, many taxes paid “in the ordinary course of business” are deductible. However, taxes on your business’s profits (like income tax) are generally NOT deductible as business expenses.

Why the nuance? The IRS separates “business expenses” from “taxes on profit.” Business expenses are costs you incur to run your business (think rent, payroll, supplies, and some taxes).

These reduce your business’s taxable income. In contrast, income taxes (federal and state) are what you pay after earning profit – they’re considered a personal or entity-level obligation, not a cost of producing income.

Which Tax Payments ARE Deductible Business Expenses?

• ✅ Deductible Taxes: Taxes that are a normal part of doing business. For example, property taxes on your business property, sales tax you pay on supplies, payroll taxes (the employer’s share of Social Security/Medicare and unemployment), state or local business taxes (like business licenses or franchise taxes), and certain excise taxes.

• These are all incurred in operating the business and are ordinary & necessary expenses. You can deduct these on your business tax return (or Schedule C) and they directly reduce your business profit.

• ❌ Non-Deductible Taxes: Taxes that are levied on your profits or personal income. The big one here is federal income tax – you cannot deduct federal income taxes as a business expense. Similarly, state income taxes on your business earnings (for sole proprietors and pass-through entities) are not deducted on the business form (they’re handled on your personal return instead).

• Also, self-employment tax (the Social Security/Medicare tax for the self-employed) isn’t a business expense on Schedule C – it’s calculated on your personal 1040 (though you get to deduct half of it separately, more on that later).

In plain terms: If the tax is a cost directly related to running the business, it’s likely deductible. If it’s a tax on the income you or your business earned, it’s generally not deductible as a business expense.

Example: Suppose you run a small shop. You pay $1,000 in state business license fees, $500 in property taxes for your store, and $5,000 in federal income tax on your profits. Which are business expenses? The license fee and property tax are business expenses (deductible).

The $5,000 federal income tax is not – you can’t write that off as a cost of your business. Some tax payments reduce your taxable income, others come out of your profits after the fact.

Common Mistakes to Avoid 🚫 (Tax Deduction Traps)

Even seasoned business owners slip up on tax deductions. Here are common mistakes (and misconceptions) about treating taxes as business expenses – avoid these tax traps to save money and stay compliant:

❌ Mistake 1: Deducting Federal Income Tax as an Expense.
This is the #1 blunder. You cannot deduct federal income taxes on your business tax forms. For example, a sole proprietor might think the quarterly IRS payments or the balance due in April is a business cost – it’s not. Claiming your federal tax bill as an expense will be disallowed (and could trigger an audit).

Why not? Because deducting income tax would create a loop (you’d be deducting the tax on profit, which would lower profit, which changes the tax… an endless loop!). The tax code explicitly forbids it.

Avoidance Tip: Never list federal income taxes paid as a business expense in your bookkeeping; record them as personal withdrawals or distributions, not an expense.

❌ Mistake 2: Confusing Personal and Business Taxes (Mixing Accounts).
Many small biz owners pay all bills – including taxes – from one account. If you pay your personal income taxes from your business account, don’t categorize that payment as a “Tax Expense” in your books. It’s not a deductible expense; it’s an owner’s draw. Mixing personal taxes into business expenses skews your financials.

Avoidance Tip: Pay personal tax liabilities (like your Form 1040 balance due or state income tax) from a personal account when possible. If the business account is used, treat it as a personal draw. Keep the “Taxes & Licenses” expense category in your accounting software reserved only for deductible business taxes (like business property tax, license fees, employer payroll taxes, etc.). This clean separation will prevent accidental over-deductions and keep your CPA happy.

❌ Mistake 3: Deducting State Income Tax on Schedule C.
This is a close cousin to Mistake 1. If you’re a sole proprietor or single-member LLC, you report business income on Schedule C (which flows into your personal 1040). Schedule C has a line for “Taxes and Licenses,” but state income tax doesn’t go there. Only business-related state/local taxes (like state unemployment tax or city business tax) belong on Schedule C. State income tax on your earnings is a personal itemized deduction (Schedule A) subject to the $10,000 SALT cap – it never reduces your business profit on Schedule C.

Avoidance Tip: Don’t try to sneak state income taxes into your business expense list. Instead, if you itemize deductions, claim them on Schedule A. (An exception: if your business is a corporation or partnership paying tax at the entity level, that’s different – more on this later.)

❌ Mistake 4: Forgetting to Deduct Legitimate Taxes.
On the flip side, some owners miss out on deductions by not realizing certain taxes are write-offs!

Commonly overlooked: property taxes on business assets (e.g. the property tax on your office or even your business vehicle registration fee, which often includes a tax component) and state franchise or gross receipts taxes. Also, employer-paid payroll taxes (Social Security, Medicare, FUTA) – some entrepreneurs just expense net payroll and ignore the taxes they pay as an employer. These are valid business expenses.

Avoidance Tip: Review all taxes you paid in the course of business: did you pay a city fee, a state filing fee, a license renewal, inventory taxes, etc.? Make sure to include those on your business tax return. Every dollar counts!

❌ Mistake 5: Deducting Penalties or Fines as Taxes.
It’s tempting to write off that $100 IRS late-payment penalty or a fine from a government agency as a “tax,” but the IRS says no way.

Fines and penalties (even if imposed by a government) are never deductible. They’re considered punitive, not ordinary business expenses. Similarly, interest on federal or state tax underpayments is generally not deductible if the underlying tax isn’t deductible. (For instance, interest on your personal income tax debt is personal interest – not a business expense.)

Avoidance Tip: Don’t classify penalties or interest on tax debts as business interest or taxes. Eat that cost, learn the lesson, and move on – but don’t try to get a tax break for it.

❌ Mistake 6: Mismanaging Sales Tax Collected.
If your business collects sales tax from customers, that money isn’t revenue (and paying it to the state isn’t an expense). It’s effectively trust money you hold for the state. A mistake is to mingle sales tax with your sales income and then “expense” the payment. This inflates both income and expense incorrectly.

Avoidance Tip: Use proper accounting: exclude collected sales taxes from your income in the first place or record the same amount as a liability. When you remit it, clear the liability. You shouldn’t be deducting it on your income statement. (On the other hand, sales tax you pay on business purchases is usually deductible as part of the cost of the item – that’s legit, and we’ll clarify it below.)

By steering clear of these mistakes, you ensure you’re only deducting allowable taxes. This keeps your deductions solid in case of an IRS review and ensures you don’t overpay by missing any write-offs. Next, let’s look at some real-life examples to cement these concepts.

Detailed Examples 📝: 3 Real-World Scenarios

To illustrate how tax payments can or cannot be expensed, let’s walk through three common business scenarios. We’ll break down what taxes each business pays and how those taxes are treated for deduction purposes.

Scenario 1: Sole Proprietor (Schedule C) – The Freelance Consultant

Profile: Alice is a freelance graphic designer (sole proprietor) operating under her name (or through a single-member LLC). In 2024, she had a net business profit of $100,000 reported on Schedule C. During the year, Alice made the following tax payments:

• $15,000 in federal estimated taxes (for her federal income tax).

• $5,000 in state income tax (estimated payments to her state).

• $14,130 in self-employment tax (which gets calculated on her $100k profit – this covers Social Security & Medicare; we’ll assume roughly 14.13% of profit).

• $800 in state LLC franchise tax (her state charges an annual LLC fee/tax).

• $1,200 in local property tax on her business equipment and home office (she uses a room in her home for business, and that portion of property tax counts).

• $0 collected sales tax (her services aren’t subject to sales tax in her state).

How do these tax payments shake out as expenses? Let’s break it down:

Explanation: Alice’s deductible business expenses include the $800 state LLC tax and the $1,200 property tax attributable to her business. These reduce her Schedule C profit. Her federal income tax and state income tax payments do not reduce her business income – those will only potentially help her as personal itemized deductions. Half of her self-employment tax ($7,065) she can deduct on her Form 1040 (above-the-line), but that is not a business expense on Schedule C; it’s a personal deduction to arrive at adjusted gross income.

In summary, Alice can write off $2,000 of taxes on her Schedule C (property tax + franchise fee), plus get an additional $7,065 adjustment for half of self-employment tax on her 1040. The bulk of her tax payments (federal/state income taxes) remain her personal burden.

(If Alice also had, say, bought a computer for $2,000 + $160 sales tax, that $160 sales tax would be part of the deductible cost of the computer. And if she had collected sales taxes from clients for tangible goods, she wouldn’t count those as income or expense.)

Scenario 2: S Corporation with Employees – The Small Agency

Profile: BrandCo is an S-corporation marketing agency owned by Bob. The S-corp itself doesn’t pay federal income tax (it passes profits to Bob’s personal return), but it does have other tax obligations. In 2024, BrandCo had $100,000 in profit (which flows to Bob’s personal taxes via a K-1). BrandCo also paid Bob a salary and has one employee. Here are the taxes paid:

• $8,000 in state S-corp income tax (Some states levy tax or fees on S-corps. For instance, BrandCo operates in a state with an S-corp franchise tax of 1.5% of profits plus a fixed fee).

• $4,000 in employer payroll taxes (Social Security & Medicare for Bob’s and the other employee’s wages, plus federal unemployment; this is the employer’s share).

• $3,000 in state unemployment insurance taxes for employees.

• $800 in annual report/LLC fees (the state fee for the corporation).

• $0 federal income tax at the corporate level (by design, S-corps pass the income to Bob; Bob will pay federal tax on the $100k profit personally).

• $x sales tax collected: not applicable, assume their services aren’t taxable, or if they are, the company collected and remitted it (treated as pass-through).

Now, what can BrandCo deduct on its S-corp tax return (Form 1120-S)?

Explanation: BrandCo gets to deduct all the business taxes it paid: the state S-corp/franchise tax, employer payroll and employment taxes, and any fees. Those deductions mean the company’s reported profit on the K-1 to Bob is lower, effectively saving Bob some federal tax. For instance, if BrandCo had $110k profit before state tax, and paid $10k in deductible state taxes/fees, it would report $100k profit to Bob – so Bob only pays federal tax on $100k, not $110k. The federal income tax on the business profit is paid by Bob personally, so it doesn’t touch the S-corp’s books. If Bob estimated and paid $20k to the IRS personally for taxes on his S-corp income, that $20k isn’t an expense to BrandCo. It’s just Bob’s personal tax liability.

(Side note: Many states now have an elective Pass-Through Entity Tax (PTET). If BrandCo were in such a state, it could elect to pay state tax on the $100k income at the entity level – say $8k – and deduct that $8k. Bob would then get a credit on his state return. This effectively makes state income tax a business expense, bypassing the SALT limit. In our scenario, the $8,000 state tax is doing just that. So yes, S-corps and partnerships can often deduct state income-type taxes if structured properly.)

Scenario 3: C Corporation – The Retail Store Inc.

Profile: Acme Inc. is a C-corporation retail business. Unlike an S-corp, a C-corp pays its own income taxes to the IRS. Let’s say in 2024 Acme Inc. had $1,000,000 in taxable income before taxes. It owes corporate income tax on that profit. Assume:

• $210,000 in federal corporate income tax (21% corporate rate on $1M).

• $50,000 in state corporate income tax (state rate on the $1M; varies by state).

• $20,000 in local property tax on its store building and inventory.

• $5,000 in state sales tax paid on business purchases (supplies, etc., that weren’t for resale).

• $75,000 in sales tax collected from customers (which it remitted to the state; this isn’t part of income or expense, just collected and passed on).

• $60,000 in employer payroll taxes (it has many employees; this includes the company’s share of FICA and unemployment taxes).

• $??? (potential other taxes like franchise tax – but let’s keep it at that).

Here’s how these taxes are handled on Acme’s corporate tax return:

Explanation: A C-corp like Acme deducts most taxes related to its operations – property, state taxes, payroll, etc. – but not federal income tax. On Acme’s books, federal tax is an expense in an accounting sense, but when filing its tax return, taxable income is computed before federal taxes. For instance, Acme will report $1,000,000 income minus $50,000 state tax minus $20,000 property tax minus $60,000 payroll taxes (minus all other operating expenses) = say $870,000 taxable income. It then calculates 21% of $870k for federal tax. That federal tax is the final burden, not a deduction.

The state corporate tax ($50k) is deductible on the federal return, which helped lower the federal bill. (If the state allowed deduction of federal, sometimes rare, it could be vice versa – but generally states don’t allow deducting federal tax, some allow partial). The key takeaway: C-corps get to deduct state and local taxes fully (no SALT $10k cap issues since that cap is only for individuals), but they cannot deduct federal taxes or federal penalties.

These scenarios highlight how the type of business entity and tax determine deductibility. Sole proprietors and pass-throughs have to funnel some taxes to personal returns, whereas corporations handle taxes at the entity level differently.

Next, we’ll back up these practices with the actual IRS rules and laws that govern what’s deductible.

Evidence & Legal Basis ⚖️: IRS Rules, Tax Code, and Cases

Why are some taxes deductible and others not? The answers lie in the Internal Revenue Code (IRC) and IRS regulations, which provide the legal framework for deductions. Here’s a breakdown of the key provisions and guidance:

● IRC §162 – “Trade or Business Expenses”: This is the granddaddy of business deductions. It says you can deduct “ordinary and necessary” expenses paid or incurred in carrying on a trade or business. Most deductible taxes paid in running your business fall under this umbrella as ordinary and necessary expenses. For example, paying state sales tax on supplies or property tax on a store is ordinary and necessary for that business – so §162 allows it. However, §162 doesn’t explicitly list which taxes – it sets the general rule.

● IRC §164 – “Taxes” (Specific Deduction for Taxes): This section gets more specific about taxes. It allows a deduction for certain taxes, notably:

• State and local real property taxes (e.g. real estate taxes on business property).

• State and local personal property taxes (e.g. taxes on business equipment, car registration fees based on value).

• State, local, and foreign income taxes – but here’s the catch: for individuals, these are deductible on Schedule A (with the $10k cap). For corporations, state & local income taxes are deductible on the business return. §164 is basically why a corporation can deduct state income tax but you as an individual cannot deduct unlimited state tax on Schedule C.

• State and local sales taxes (if not deducting income tax, individuals can choose sales tax as itemized deduction; for businesses, sales tax on purchases is deducted via the expense for the item).

• Foreign income taxes (businesses or individuals can either deduct these or take a foreign tax credit – most opt for the credit, but deduction is an option, under §164).

• It also covers other generally allowed taxes like occupational taxes, franchise taxes, excise taxes, etc., as deductible when incurred in business.

Importantly, §164 and related regs clarify what you cannot deduct: for example, federal income taxes are explicitly excluded (see IRC §275, below).

● IRC §275 – No Deduction for Certain Taxes: This section is basically the “thou shalt not” list. And first on that list: federal income taxes (and federal excess profits taxes, etc.) are not deductible. In other words, the law explicitly forbids taking a deduction for U.S. federal income taxes. This applies to both individuals and corporations. It also disallows any taxes that you pay for which you also get a credit. For instance, the employee’s portion of Social Security tax (that’s withheld from pay) isn’t deductible by the employee because it’s covered by the standard deduction or itemized if at all, and the employer gets to deduct the employer portion. In short, §275 ensures no double-dipping or circular deductions.

● IRS Publication 535 (Business Expenses) & Publication 334 (Tax Guide for Small Business): These IRS guides distill the rules for everyday taxpayers. They plainly state: You cannot deduct federal income taxes. They also list what business taxes are deductible. For example, Pub 535 explains that:

• Employment taxes you pay as an employer (social security, Medicare, FUTA) are deductible.

• Self-employment tax – you can’t deduct it on Schedule C, but you can deduct half of it on Form 1040 (adjustment to income).

• State and local income taxes – not deductible on Schedule C for sole props (only on Schedule A subject to the cap), but deductible for C-corps.

• Sales taxes – deductible if paid on business purchases or assets (added to cost or expensed), but not deductible if it’s sales tax you just collected and passed on.

• Real estate and personal property taxes – deductible if they are on business property. (If you have a home office, the portion of real estate taxes allocable to the office can be deducted via home office deduction or on Schedule A).

• Franchise taxes, business license taxes, occupational taxes – all deductible.

• Fines and penalties – not deductible (this is a common question – IRS pubs make it clear).

• These publications are effectively the IRS’s interpretation of the law for practical use, and they align with the code sections above.

● Court Cases and IRS Rulings: Generally, the deductibility of taxes is well-established in law, so there aren’t a ton of court fights about someone trying to deduct federal income tax (it’s black-and-white illegal). However, one area of litigation has been penalties and public policy – courts have consistently disallowed deductions for fines (for example, a famous case denied a deduction to a trucking company for fines paid for violating weight limits; the court said allowing a deduction would frustrate the purpose of the penalty). This underscores that while taxes for business are fine, penalties are not, because they’re not considered necessary expenses – they’re punishment.

Another relevant development: IRS Notice 2020-75 – this wasn’t a court case but an IRS notice that gave the green light to the new Pass-Through Entity Taxes that states set up. The IRS essentially said if a state taxes an S-corp or partnership’s income at the entity level, that tax is deductible by the entity (not subject to the SALT cap for individuals). This was a direct response to confirm the legality of those SALT cap workarounds. It’s a modern example of how state law nuances (like creating an entity-level tax) interplay with federal rules to turn something (state tax on business income) into a business expense.

● State Laws & Nuances: State tax codes have their own rules for state income tax purposes. Some quirky examples:

• A few states (e.g., Alabama, Iowa, Louisiana, Missouri) actually allow individuals to deduct federal income tax on the state return. But no such luck federally – the feds don’t reciprocate by letting you deduct state tax fully.

• States like Texas or Washington don’t have personal income tax but have gross receipts taxes (Texas Franchise Tax, Washington B&O tax). These are fully deductible expenses on federal returns because they are taxes on business revenue. (From our scenarios: B&O was mentioned – a Washington business can deduct the B&O tax as a business expense on its federal return).

• If you operate in multiple states, each state might treat taxes differently in computing their taxable income. But from a purely federal standpoint, any state/local tax on your business that isn’t a tax on your personal income is likely deductible.

Bottom line: The IRS and law are pretty clear: Taxes that hit your business in the process of earning income are business deductions; taxes that hit your profits after you earn them are not. By following these rules (and heeding IRS guidance), you ensure you’re compliant. Next, we’ll summarize which taxes are deductible and which aren’t in a handy comparison, then explain some key terms you’ve seen (like Schedule C, SALT, etc.).

Deductible vs. Non-Deductible Taxes 🔎 (What’s Deductible and What’s Not)

Let’s compile a quick reference of various taxes and whether you can treat them as a business expense (deduction). This comparison will solidify your understanding:

As you can see, most operational taxes are deductible – when in doubt, ask: “Is this tax a cost I must pay to run my business, or is it a tax on my profit or a penalty?” If it’s to run the business, it’s likely a write-off. If it’s on your profit or a punishment for something, it’s not.

Next, let’s clarify some key terms we’ve mentioned, and how they relate to each other, to further solidify your understanding.

Key Terms Explained 🔑 (Entities, Schedules, and Concepts)

Understanding the jargon is half the battle. Here are some key tax terms and concepts that have come up, and how they interrelate in the context of deducting taxes:

• Internal Revenue Service (IRS): The U.S. government agency that administers federal tax laws. The IRS issues guidelines (like publications and notices) on how deductions work. When we say “the IRS doesn’t allow X,” it’s shorthand for “the tax law (enforced by the IRS) doesn’t allow X.” They are the final word on what’s acceptable on your tax return, so it’s crucial to follow IRS rules for deductions.

• Ordinary and Necessary: This phrase comes from IRC §162 and is the baseline for any business expense. Ordinary means common and accepted in your trade, necessary means helpful and appropriate for your business. Taxes that businesses commonly pay (property tax, payroll tax, etc.) are ordinary and necessary, so they qualify. A weird, one-off tax might need scrutiny, but generally taxes imposed on businesses meet this test.

• IRC §162: The section of tax code allowing deduction of trade or business expenses. It’s broad and doesn’t list every expense, but it’s the reason you can deduct your rent, utilities, salaries, AND yes, many taxes paid. When in doubt if something is a business expense, §162 is the guiding principle (subject to specific exceptions like §275).

• IRC §164 (SALT deduction): The tax code section specifically dealing with tax payments. It has been heavily discussed since the Tax Cuts and Jobs Act of 2017, which limited individuals to a $10,000 deduction for state and local taxes (SALT cap). Section 164 is why individuals face that cap, but it doesn’t apply to business entities. Key takeaway: businesses (C-corps) aren’t subject to the SALT cap, but individuals with pass-through business income are, unless using a workaround.

• SALT (State and Local Tax) Cap: This is the $10,000 yearly limit on deducting state and local taxes on an individual’s federal return (Schedule A). It includes state income taxes, property taxes, and sales taxes combined. This cap (effective 2018-2025 as of now) means many business owners who pay high state taxes can’t deduct the full amount personally. It’s why several states created Pass-Through Entity Taxes (so the business can deduct those taxes instead, circumventing the cap). SALT cap doesn’t affect corporate deductions – a corporation can deduct state taxes in full because that deduction isn’t taken on Schedule A.

• Schedule C (Form 1040): A form filed with individual tax returns by sole proprietors and single-member LLCs (who haven’t elected corporate status) to report business income and expenses. It has specific lines for different expense categories. Taxes that are deductible for a sole prop (like business property tax, licenses, employer taxes) would be included on Line 23 “Taxes and Licenses” of Schedule C. Non-deductible taxes (like your personal income tax) simply never appear on Schedule C. Knowing what goes on this form is key for one-person businesses.

• C-Corporation: A standard corporation (Form 1120 filer) that pays corporate income tax. It’s its own tax entity separate from the owners. Interrelationship: A C-corp can deduct a wide range of business expenses (including state/local taxes, salaries, etc.) on its own return. The owners then may get dividends (which have their own tax treatment). The concept of double taxation comes in: the profit is taxed at the corporate level, then again if distributed to shareholders. Deducting taxes at the corp level reduces the first layer of tax. Notably, a C-corp does not pass through any state tax payments to owners – everything happens within the corporation’s tax calculations.

• S-Corporation: A corporation that has elected to pass its income through to shareholders (avoiding corporate tax). It files Form 1120-S. It generally doesn’t pay federal income tax (with some exceptions for certain built-in gains or passive income tax), but it may pay state taxes in some states (either mandatory franchise taxes or elective PTE taxes). Interrelationship: The S-corp deducts any taxes it pays at the entity level (lowering the pass-through income). The remaining income is reported to owners, who pay personal tax. S-corps are often used by small businesses to save on self-employment taxes (owners take part of income as distributions not subject to FICA), but that’s separate from deducting taxes. Owners of S-corps need to remember their personal state taxes on S-corp income are subject to SALT cap (hence the value of any entity-level tax elections).

• Partnership/LLC (taxed as partnership): Similar to S-corp in that it’s a pass-through (Form 1065). The partnership itself doesn’t pay federal income tax, but might pay some state business taxes. It deducts those it pays, and passes through the rest. LLC (Limited Liability Company) is not a tax classification by itself – single-member LLCs default to sole prop taxation (Schedule C) and multi-member LLCs default to partnership taxation, unless they elect S or C corp status. So an LLC’s treatment follows whichever form it’s elected. LLC owners should apply the same rules: if it’s taxed as a disregarded entity or partnership, the income tax is on them personally (not a business expense), if taxed as C or S corp, follow those rules.

• Self-Employment Tax: This is the combination of Social Security and Medicare taxes for self-employed individuals (roughly 15.3% of net profit). It’s essentially equivalent to paying both employer and employee FICA. Interrelationship: While not a business expense on Schedule C, it’s intimately tied to your business profit. You calculate it on Schedule SE after deriving your profit. Because you pay both halves, the tax law gives you an above-the-line deduction for the “employer half.” This is why we keep saying you can deduct 50% of SE tax on your Form 1040. It’s not deducted on Schedule C because that would also reduce the SE tax itself (circular again). Instead, it’s a personal deduction that doesn’t affect business profit, but does reduce your overall taxable income.

• Pass-Through Entity Tax (PTET): A state-level tax election available in many states post-2018. Interrelationship: It lets S-corps or partnerships pay state income tax on their profits at the entity level. The business then deducts that tax on the federal return (since it’s a business expense now), and the owners get a credit or exclusion on their state return so they’re not double-taxed. This effectively shifts what would be a personal SALT-limited tax into a fully deductible business expense. It’s a workaround to the SALT cap and only exists because the IRS blessed it. If you’re in a high-tax state and run a pass-through, this is a key term to know – it could save you a lot in federal taxes.

• Schedule A (Itemized Deductions): Personal tax form for deductions like mortgage interest, charity, and state/local taxes. Interrelationship: If you can’t deduct a tax in your business, often it lands here (if at all). For example, sole prop owners deduct their state income tax, personal property tax on personal-use property, etc., on Schedule A subject to limits. If you take the standard deduction, those taxes provide no tax benefit at all. That’s why business owners try to get as much into the business deductible category as possible (e.g., home office portion of property tax can go on business instead of being stuck in SALT cap on Schedule A).

Understanding these terms and relationships helps you navigate tax rules in context. For instance, if you know you operate as an S-corp, you’ll focus on entity-level deductions (and possibly elect a PTET to maximize state tax deductions), whereas as a Schedule C filer, you know to separate business vs personal tax items carefully.

With the concepts explained, let’s address some frequently asked questions that real business owners have – chances are, these might answer any remaining doubts you have.

FAQs 🤔 – Real Questions from Business Owners

Q: Can I deduct my federal income tax payments as a business expense?
A: No. Federal income taxes on your business profits are not deductible business expenses. They are considered personal (or corporate) tax obligations – the IRS won’t let you write off paying the IRS.

Q: Are state quarterly tax payments (estimates) deductible for my sole proprietorship?
A: No – not on your Schedule C. State income taxes you pay for your business earnings are personal tax payments. You can only deduct them on Schedule A (itemized) up to the $10k SALT limit.

Q: Is self-employment tax considered a business expense?
A: No. You can’t deduct self-employment tax on your Schedule C. You can, however, deduct half of it on your personal 1040 (it reduces your adjusted gross income). It’s not a business expense, but you get partial credit for it.

Q: Are my payroll taxes for employees deductible?
A: Yes. The payroll taxes you, as an employer, pay – like the employer’s share of Social Security, Medicare, FUTA, and state unemployment – are deductible business expenses. They’re part of the cost of having employees.

Q: Can I write off sales tax that I collect and then pay to the state?
A: No. Sales tax you collect from customers is not your revenue (and remitting it isn’t an expense). It’s a wash. Only sales tax you pay on business purchases is deductible (as part of the purchase cost).

Q: Are business property taxes deductible even if the property is my home?
A: Yes, partially. If you have a home office, you can deduct the portion of property tax attributable to the office as a business expense (or through home office deduction). The remainder stays personal (itemized under SALT cap).

Q: My LLC paid a hefty state LLC franchise tax – can I deduct that?
A: Yes. State LLC franchise taxes or annual report fees are deductible business expenses. They’re considered the cost of doing business in that state (a tax for the privilege of operating or existing as an LLC).

Q: I incurred an IRS penalty for underpaying taxes – can I deduct it as an expense?
A: No. Unfortunately, fines and penalties paid to the IRS (or any government) are not deductible. The tax code forbids deducting penalties, to avoid softening the sting of the punishment.

Q: If my S-corp pays a new Pass-Through Entity Tax (PTET) to our state, is that deductible?
A: Yes. If your state has a PTET and your S-corp/partnership elects it, the state tax your entity pays is deductible on the business tax return. This reduces federal taxable income (and the owners get a state tax credit, circumventing the SALT cap).

Q: Do I deduct taxes in the year they’re paid or the year they’re for?
A: It depends on your accounting method. Cash basis taxpayers deduct taxes when paid. Accrual basis can accrue the expense in the year it relates to (if properly accrued). Most small businesses are cash basis – so if you paid a deductible tax in 2024, you deduct it in 2024.

Pro Tip: When in doubt about a specific tax, consult a tax professional or refer to IRS resources. The rules can change (for example, the SALT cap is set to expire after 2025 unless extended). Staying informed ensures you take every deduction allowed while avoiding those that aren’t. By understanding which tax payments are business expenses, you can strategically plan your payments (e.g., making a PTET election, or timing property tax payments) to maximize deductions and minimize your tax liability. Remember, the goal is to pay what you owe – but not a penny more than required by law! 🎉

Pros and Cons of Deducting Taxes as Business Expenses ⚖️

Every tax strategy has its advantages and drawbacks. Here’s a quick pros and cons overview of treating taxes as business expenses (and structuring your tax payments to be deductible):

In summary, leveraging deductible taxes is generally a positive – it’s part of smart tax planning to minimize your overall tax bill. But it comes with the responsibility to follow the rules carefully. Missteps can nullify the benefit or even cost you, so understand the limitations (or work with a tax advisor) when implementing these strategies.