There are plenty of exciting decisions that an entrepreneur gets to make when starting a business, such as naming the business, creating a logo, and pricing a product or service.
And then there are the mundane decisions, which are no less important for the long-term viability of the business.
One of those questions may center on which kind of tax year is right for your small business.
What is a tax year? It is an accounting period for which you must report your taxable income and business expenses. There are two types of accounting periods — the calendar year and the fiscal year, and there are advantages and disadvantages to each.
Consider the calendar year. The advantages are:
- It’s very simple. It matches the period you track for your personal return — from January 1 to December 31.
- It’s compliant with many designations. If your business is legally structured as a sole proprietorship, for example, you and your business must use the calendar year. Both S corporations and personal service corporations typically use the calendar year.
There are also advantages with the fiscal tax year, which encompasses a period of 12 consecutive months that ends on a date other than December 31. Among them are:
- It works well for a business that is seasonal in nature, such as an agricultural operation or a ski resort.
Typically, C corporations have the most choice about whether to follow a calendar year or fiscal year.
The Internal Revenue Service does note that “if any of the following apply, you must adopt the calendar year.”
- You keep no books or records;
- You have no annual accounting period;
- Your present tax year does not qualify as a fiscal year; or
- You are required to use a calendar year by a provision of the Internal Revenue Code or the Income Tax Regulations.
Businesses currently operating under a calendar year that become seasonal do have an opportunity to appeal to the IRS for a switch to fiscal year. To get approval, the company must file Form 1128, Application To Adopt, Change, or Retain a Tax Year.