Sole proprietor: How to separate tax payments for home and business

Question

Following the generally accepted standard that one should always keep their business and personal banking accounts separate, how can a sole proprietor make separate tax payments, when the IRS requires that only one return be filed?

To elaborate, the preparation software I use, TurboTax, merely shows a lump sum payment owed, which is a combination of both business and personal tax liabilities. This gets problematic with significant personal income such as capital gains from stocks or assets unrelated to the business.

I need to make two separate payments from their separate bank accounts.

What is a good way to go about this process? Are the business and personal tax liabilities distinguished on a completed return, and I can simply issue two separate checks, whose combined total is the total amount owed?

Answer 1

As a sole proprietor, the tax liability of your business is calculated based on combining your business income with your personal income together.

It is good advice to keep all personal and business financial matters separate. This makes it easier to prove to the IRS that all your business expenses are actually business related. In this case however, the two items [tax payment for personal income vs tax payment for business income] are inseparable.

What you can do, however, for your own personal records, is calculate how much of your tax payment relates to your business. I wouldn't get complicated about this; I would simply take the net income of your business as a % of your taxable income, and multiply that against your tax payment. ie: if your business net income is $10,000, and your total taxable income is $50,000, and you paid $6,000 in taxes, I would record that 20% of the $6k was related to business income. If you have a separate bank account for your sole proprietorship, you could make a transfer to your personal account of $1,200, and then make the $6k payment from your personal account.

Remember that tax payments for either your sole proprietorship and your personal income will be treated the same: federal tax payments are not tax deductible, and state tax payments are tax deductible, whether they were paid for your sole proprietorship or the rest of your personal income. So even though this method is simplistic [for example, it doesn't factor in that different investment income types earned personally will have a lower rate than your sole proprietorship income], any difference wouldn't have an impact on any future tax liability. This would only be for your own personal record keeping.

Answer 2

From the IRS perspective, there's no difference between "your taxes" and "your sole proprietorship's taxes", they're all just "your taxes".

While I could see it being very useful and wise to track your business's activities separately, and use separate bank accounts and the like, this is just a convenience to help you in your personal accounting, and not something that needs to relate directly to how tax forms are completed or taxes are paid.

When calculating your taxes, if you want to figure out how much "you" owe vs. how much "your business" owes, you'll have to do so yourself. One approach might be just to take the amount that your Schedule C puts as income on your return and multiply by your marginal tax rate. Another approach might be to have your tax software run the calculations as though you had no business income, and see what just "your personal" taxes would have been without the business. If you think of the business income as being "first" and should use up the lower brackets rather than your personal income, maybe do it the other way around and have your software run the calculations as though you had only the business income and no other personal/investment income, and see what the amount of taxes would be then.

Once you've figured out a good allocation, the actual mechanics of paying some "personal tax amount" from your personal bank account and some "business tax amount" from your business bank account are up to you. I'd probably just transfer the money from my business account to my personal account and pay all the taxes from the personal account. Writing two separate checks, one from each account, that total to the correct amount, I'm sure would work just fine as well. You can probably make separate payments from each account electronically through Direct Pay or EFTPS as well. As long as all taxes are paid by the deadline, I don't think the IRS is too picky about the details of how many payments are made.